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NATIONAL INSTRUMENTS CORP - Quarter Report: 2012 September (Form 10-Q)

UNITED STATES  

SECURITIES AND EXCHANGE COMMISSION  

Washington, D.C. 20549  

  

FORM 10-Q  

  

T  Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934  

  

For the quarterly period ended:  September 30, 2012 or  

  

£  Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934  

  

For the transition period from ________________ to ________________  

  

Commission file number:  0-25426  

  

nati-20120630x10qg1.jpg  

NATIONAL INSTRUMENTS CORPORATION  

(Exact name of registrant as specified in its charter)  

 

 

 

 

Delaware  

(State or other jurisdiction of incorporation or organization)

 

74-1871327  

(I.R.S. Employer Identification Number)

 

 

 

11500 North MoPac Expressway  

Austin, Texas

 

  

78759

(address of principal executive offices)

 

(zip code)

  

Registrant's telephone number, including area code:  (512) 338-9119  

__________________________  

  

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 T  No £  

  

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

  

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

  

Large accelerated filer TAccelerated filer £Non-accelerated filer £Smaller reporting company £  

  

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

  

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

 

 

 

Class

Outstanding at November 2, 2012

Common Stock - $0.01 par value

122,815,363

 

1  


 

  

   

NATIONAL INSTRUMENTS CORPORATION  

  

INDEX  

 

 

 

 

 

 

 

 

 

 

PART I.  FINANCIAL INFORMATION 

Page No.

 

 

 

Item 1

Financial Statements:

 

 

 

 

 

Consolidated Balance Sheets

 

 

September 30, 2012 (unaudited) and December 31, 2011

3

 

 

 

 

Consolidated Statements of Income

 

 

(unaudited) for the three and nine month periods ended September 30, 2012 and 2011

4

 

 

 

 

Statements of Consolidated Comprehensive Income

 

 

(unaudited) for the three and nine month periods September 30, 2012 and 2011

5

 

 

 

 

Consolidated Statements of Cash Flows

 

 

(unaudited) for the nine month periods ended September 30, 2012 and 2011

6

 

 

 

 

Notes to Consolidated Financial Statements

7

 

 

 

Item 2

Management's Discussion and Analysis of Financial Condition and Results of Operations

23

 

 

 

Item 3

Quantitative and Qualitative Disclosures about Market Risk

32

 

 

 

Item 4

Controls and Procedures

36

 

 

 

 

 

 

PART II.  OTHER INFORMATION 

 

 

 

 

 

 

 

Item 1

Legal Proceedings

37

 

 

 

Item 1A

Risk Factors

37

 

 

 

Item 2

Unregistered Sales of Equity Securities and Use of Proceeds

45

 

 

 

Item 4

Mine Safety Disclosures

45

 

 

 

Item 5

Other Information

45

 

 

 

Item 6

Exhibits

46

 

 

 

 

Signatures and Certifications

47

 

  

   

2  


 

  

  

PART I - FINANCIAL INFORMATION  

  

ITEM 1.               Financial Statements  

  

NATIONAL INSTRUMENTS CORPORATION  

CONSOLIDATED BALANCE SHEETS  

(in thousands, except share data)  

  

  

  

  

 

 

 

 

 

 

 

 

September 30,

 

December 31,

 

 

2012

 

2011

Assets

 

(unaudited)

 

 

Current assets:

 

 

 

 

Cash and cash equivalents

$

311,536 

$

142,608 

Short-term investments

 

52,128 

 

223,504 

Accounts receivable, net

 

182,604 

 

157,056 

Inventories, net

 

155,273 

 

131,995 

Prepaid expenses and other current assets

 

49,668 

 

38,082 

Deferred income taxes, net

 

21,563 

 

26,304 

Total current assets

 

772,772 

 

719,549 

Property and equipment, net

 

223,144 

 

190,148 

Goodwill

 

129,092 

 

130,747 

Intangible assets, net

 

75,745 

 

83,866 

Other long-term assets

 

33,491 

 

29,984 

Total assets

$

1,234,244 

$

1,154,294 

Liabilities and stockholders' equity

 

 

 

 

Current liabilities:

 

 

 

 

Accounts payable

$

52,211 

$

41,111 

Accrued compensation

 

34,850 

 

29,616 

Deferred revenue - current

 

87,803 

 

80,059 

Accrued expenses and other liabilities

 

24,785 

 

37,612 

Other taxes payable

 

25,728 

 

24,507 

Total current liabilities

 

225,377 

 

212,905 

Deferred income taxes

 

42,030 

 

43,186 

Liability for uncertain tax positions

 

20,473 

 

19,494 

Deferred revenue - long-term

 

20,885 

 

10,015 

Other long-term liabilities

 

7,193 

 

16,683 

Total liabilities

 

315,958 

 

302,283 

Commitments and contingencies

 

 

 

 

Stockholders' equity:

 

 

 

 

Preferred stock:  par value $0.01; 5,000,000 shares authorized; none issued and outstanding

 

 -

 

Common stock:  par value $0.01; 180,000,000 shares authorized; 122,509,216 and 120,677,143 shares issued and outstanding, respectively

 

1,225 

 

1,207 

Additional paid-in capital

 

515,973 

 

471,830 

Retained earnings

 

400,694 

 

382,474 

Accumulated other comprehensive income (loss)

 

394 

 

(3,500)

Total stockholders’ equity

 

918,286 

 

852,011 

Total liabilities and stockholders’ equity

$

1,234,244 

$

1,154,294 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 The accompanying notes are an integral part of the financial statements. 

3  


 

  

NATIONAL INSTRUMENTS CORPORATION  

CONSOLIDATED STATEMENTS OF INCOME  

(in thousands, except per share data)  

(unaudited)  

  

  

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three Months Ended

 

Nine Months Ended

 

 

September 30,

 

September 30,

 

 

2012

 

2011

 

2012

 

2011

 

 

 

 

 

 

 

 

 

Net sales:

 

 

 

 

 

 

 

 

Product

$

267,894 

$

247,256 

$

776,208 

$

699,007 

Software maintenance

 

22,080 

 

20,839 

 

65,809 

 

60,222 

GSA accrual

 

 -

 

(13,107)

 

1,349 

 

(13,107)

Total net sales

 

289,974 

 

254,988 

 

843,366 

 

746,122 

 

 

 

 

 

 

 

 

 

Cost of sales:

 

 

 

 

 

 

 

 

Product

 

71,796 

 

63,579 

 

201,374 

 

169,340 

Software maintenance

 

1,698 

 

1,636 

 

4,319 

 

4,237 

Total cost of sales

 

73,494 

 

65,215 

 

205,693 

 

173,577 

 

 

 

 

 

 

 

 

 

Gross profit

 

216,480 

 

189,773 

 

637,673 

 

572,545 

 

 

 

 

 

 

 

 

 

Operating expenses:

 

 

 

 

 

 

 

 

Sales and marketing

 

109,213 

 

103,195 

 

320,021 

 

286,547 

Research and development

 

56,627 

 

54,674 

 

164,928 

 

144,569 

General and administrative

 

20,714 

 

21,148 

 

63,590 

 

61,219 

Total operating expenses

 

186,554 

 

179,017 

 

548,539 

 

492,335 

 

 

 

 

 

 

 

 

 

Operating income

 

29,926 

 

10,756 

 

89,134 

 

80,210 

 

 

 

 

 

 

 

 

 

Other income:

 

 

 

 

 

 

 

 

Interest income

 

133 

 

354 

 

495 

 

1,039 

Net foreign exchange (loss)

 

(235)

 

(708)

 

(2,139)

 

(1,417)

Other income (expense), net

 

(899)

 

(95)

 

(644)

 

(220)

Income before income taxes

 

28,925 

 

10,307 

 

86,846 

 

79,612 

Provision for (benefit from) income taxes

 

4,585 

 

(2,429)

 

17,423 

 

9,867 

 

 

 

 

 

 

 

 

 

Net income

$

24,340 

$

12,736 

$

69,423 

$

69,745 

 

 

 

 

 

 

 

 

 

Basic earnings per share

$

0.20 

$

0.11 

$

0.57 

$

0.58 

 

 

 

 

 

 

 

 

 

Weighted average shares outstanding - basic

 

122,402 

 

120,308 

 

121,710 

 

119,585 

 

 

 

 

 

 

 

 

 

Diluted earnings per share

$

0.20 

$

0.11 

$

0.57 

$

0.58 

 

 

 

 

 

 

 

 

 

Weighted average shares outstanding - diluted

 

123,074 

 

121,102 

 

122,726 

 

121,027 

 

 

 

 

 

 

 

 

 

Dividends declared per share

$

0.14 

$

0.10 

$

0.42 

$

0.30 

 

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

4  


 

  

  

NATIONAL INSTRUMENTS CORPORATION  

 STATEMENT OF CONSOLIDATED COMPREHENSIVE INCOME  

(in thousands)  

(unaudited)  

  

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three Months Ended

 

 

Nine Months Ended

 

 

September 30,

 

 

September 30,

 

 

2012

 

2011

 

 

2012

 

2011

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

$

24,340 

$

12,736 

 

$

69,423 

$

69,745 

Other comprehensive income, before tax and net of reclassification adjustments:

 

 

 

 

 

 

 

 

 

Foreign currency translation adjustment

 

2,278 

 

(8,589)

 

 

1,324 

 

(1,165)

Unrealized (loss) gain on securities available-for-sale, net

 

(609)

 

(281)

 

 

91 

 

(1,285)

Unrealized (loss) gain on derivative instruments, net

 

(1,646)

 

(4,195)

 

 

2,986 

 

(1,040)

Other comprehensive income  (loss), before tax

 

23 

 

(13,065)

 

 

4,401 

 

(3,490)

Tax provision related to items of other comprehensive income

 

652 

 

621 

 

 

(507)

 

97 

Other comprehensive income (loss), net of tax

 

675 

 

(12,444)

 

 

3,894 

 

(3,393)

Comprehensive income

$

25,015 

$

292 

 

$

73,317 

$

66,352 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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

 

5  


 

  

NATIONAL INSTRUMENTS CORPORATION 

CONSOLIDATED STATEMENTS OF CASH FLOWS  

(in thousands)  

(unaudited)  

  

  

 

 

 

 

 

 

 

 

 

 

 

 

 

Nine Months Ended

 

 

September 30,

 

 

2012

 

2011

Cash flow from operating activities:

 

 

 

 

Net income

$

69,423 

$

69,745 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

Depreciation and amortization

 

41,029 

 

35,745 

Stock-based compensation

 

20,506 

 

16,650 

Tax expense (benefit) from deferred income taxes

 

3,626 

 

(491)

Tax (benefit) from stock option plans

 

(2,353)

 

(5,047)

Changes in operating assets and liabilities:

 

 

 

 

Accounts receivable

 

(25,549)

 

(23,509)

Inventories

 

(23,278)

 

(12,376)

Prepaid expenses and other assets

 

(10,296)

 

(9,000)

Accounts payable

 

11,100 

 

4,112 

Deferred revenue

 

(2,271)

 

10,215 

Taxes, accrued expenses and other liabilities

 

8,325 

 

30,456 

Net cash provided by operating activities

 

90,262 

 

116,500 

 

 

 

 

 

Cash flow from investing activities:

 

 

 

 

Capital expenditures

 

(52,483)

 

(40,329)

Capitalization of internally developed software

 

(11,284)

 

(11,412)

Additions to other intangibles

 

(1,426)

 

(3,226)

Acquisition, net of cash received

 

 -

 

(73,558)

Purchases of short-term investments

 

(48,718)

 

(93,299)

Sales and maturities of short-term investments

 

220,094 

 

86,086 

Net cash provided/(used) by investing activities

 

106,183 

 

(135,738)

 

 

 

 

 

Cash flow from financing activities:

 

 

 

 

Proceeds from issuance of common stock

 

21,297 

 

27,152 

Dividends paid

 

(51,167)

 

(35,897)

Tax benefit from stock option plans

 

2,353 

 

5,047 

Net cash used by financing activities

 

(27,517)

 

(3,698)

 

 

 

 

 

Net change in cash and cash equivalents

 

168,928 

 

(22,936)

Cash and cash equivalents at beginning of period

 

142,608 

 

219,447 

Cash and cash equivalents at end of period

$

311,536 

$

196,511 

 

 

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

6  


 

  

NATIONAL INSTRUMENTS CORPORATION 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  

  

Note 1 – Basis of presentation  

  

The accompanying unaudited consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto for the year ended December 31, 2011, included in our annual report on Form 10-K, filed with the Securities and Exchange Commission. In our opinion, the accompanying consolidated financial statements reflect all adjustments (consisting only of normal recurring items) considered necessary to present fairly our financial position at September 30, 2012 and December 31, 2011, the results of our operations and comprehensive income for the three month and nine month periods ended September 30, 2012 and September 30, 2011, and our cash flows for the nine month periods ended September 30, 2012 and September 30, 2011. Operating results for the three month and nine month periods ended September 30, 2012 are not necessarily indicative of the results that may be expected for the year ending December 31, 2012. These financial statements have been prepared in accordance with accounting principles generally accepted in the United States.  

  

Beginning in the three month period ended June 30, 2012, we have separately reported our current and long-term deferred revenue. The separation has no impact on total reported deferred revenue, total liabilities, or total stockholder’s equity for any period on our Consolidated Balance Sheets. We assessed the materiality of this item on our previously reported periods and concluded the separation was not material. Certain prior year amounts have been reclassified to conform to the 2012 presentation as shown in the following table:

 

 

 

 

 

 

(In thousands)

 

December 31, 2011

 

 

 

Deferred revenue, as previously reported

$

90,074 

 

 

 

Balances as reported in this Form 10-Q:

 

 

Deferred revenue - current

 

80,059 

Deferred revenue - long-term

 

10,015 

 

 

 

 

 

 

 

  

   

Note 2 – Earnings per share  

  

Basic earnings per share (“EPS”) is computed by dividing net income by the weighted average number of common shares outstanding during each period. Diluted EPS is computed by dividing net income by the weighted average number of common shares and common share equivalents outstanding (if dilutive) during each period. The number of common share equivalents, which include stock options and restricted stock units (“RSUs”), is computed using the treasury stock method.  

  

The reconciliation of the denominators used to calculate basic EPS and diluted EPS for the three month and nine month periods ended September 30, 2012 and 2011, respectively, are as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended September 30,

 

Nine months ended September 30,

 

(In thousands)

 

(In thousands)

 

(Unaudited)

 

(Unaudited)

 

2012

 

2011

 

2012

 

2011

Weighted average shares outstanding-basic

122,402 

 

120,308 

 

121,710 

 

119,585 

Plus: Common share equivalents

 

 

 

 

 

 

 

Stock options, restricted stock units

672 

 

794 

 

1,016 

 

1,442 

Weighted average shares outstanding-diluted

123,074 

 

121,102 

 

122,726 

 

121,027 

  

Stock awards to acquire 1,201,000 and 1,400,000 shares for the three month periods ended September 30, 2012 and 2011, respectively, and 5,030 and 640,000 shares for the nine month periods ended September 30, 2012 and 2011, respectively, were excluded in the computations of diluted EPS because the effect of including the stock awards would have been anti-dilutive.

7  


 

 

  

 

Note 3 – Cash, cash equivalents and short-term investments  

  

The following tables summarize unrealized gains and losses related to our short-term investments designated as available-for-sale:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

As of September 30, 2012

(In thousands)

 

(Unaudited)

 

 

 

 

Gross

 

Gross

 

Cumulative

 

 

 

 

Adjusted Cost

 

Unrealized Gain

 

Unrealized Loss

 

Translation Adjustment

 

Fair Value

Cash

$

128,384 

$

 -

$

 -

$

 -

$

128,384 

Money Market Accounts

 

131,753 

 

 -

 

 -

 

 -

 

131,753 

Municipal bonds

 

1,463 

 

 

 -

 

 -

 

1,466 

Corporate bonds

 

5,100 

 

 

 -

 

 -

 

5,107 

U.S. treasuries and agencies

 

61,928 

 

 

(1)

 

 -

 

61,928 

Foreign government bonds

 

36,616 

 

98 

 

 -

 

(4,600)

 

32,114 

Time deposits

 

2,912 

 

 -

 

 -

 

 -

 

2,912 

Cash, cash equivalents, and short-term investments

$

368,156 

$

109 

$

(1)

$

(4,600)

$

363,664 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(In thousands)

 

As of December 31, 2011

 

 

 

 

Gross

 

Gross

 

Cumulative

 

 

 

 

Adjusted Cost

 

Unrealized Gain

 

Unrealized Loss

 

Translation Adjustment

 

Fair Value

Cash

$

106,431 

$

 -

$

 -

$

 -

$

106,431 

Money Market Accounts

 

22,677 

 

 -

 

 -

 

 -

 

22,677 

Municipal bonds

 

12,381 

 

11 

 

 -

 

 -

 

12,392 

Corporate bonds

 

18,631 

 

 -

 

(67)

 

 -

 

18,564 

U.S. treasuries and agencies

 

170,926 

 

 

(9)

 

 -

 

170,919 

Foreign government bonds

 

36,460 

 

240 

 

(1)

 

(4,482)

 

32,217 

Time deposits

 

2,912 

 

 -

 

 -

 

 -

 

2,912 

Cash, cash equivalents, and short-term investments

$

370,418 

$

253 

$

(77)

$

(4,482)

$

366,112 

  

  

The following tables summarize the contractual maturities of our short-term investments designated as available-for-sale:

 

 

 

 

 

 

 

 

 

 

 

 

As of September 30, 2012

(in thousands)

 

(Unaudited)

 

 

Adjusted Cost

 

Fair Value

Due in less than 1 year

$

92,306 

$

89,047 

Due in 1 to 5 years

 

15,713 

 

14,480 

Total available-for-sale debt securities

$

108,019 

$

103,527 

 

 

 

 

 

Due in less than 1 year

 

Adjusted Cost

 

Fair Value

Corporate bonds

$

5,100 

$

5,107 

U.S. treasuries and agencies

 

57,519 

 

57,520 

Foreign government bonds

 

26,775 

 

23,508 

Time deposits

 

2,912 

 

2,912 

Total available-for-sale debt securities

$

92,306 

$

89,047 

 

 

 

 

 

Due in 1 to 5 years

 

Adjusted Cost

 

Fair Value

Municipal bonds

$

1,463 

$

1,466 

U.S. treasuries and agencies

 

4,409 

 

4,408 

Foreign government bonds

 

9,841 

 

8,606 

Total available-for-sale debt securities

$

15,713 

$

14,480 

8  


 

  

 

  

   

Note 4 – Fair value measurements 

  

We define fair value to be the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. When determining the fair value measurements for assets and liabilities required or permitted to be recorded at fair value, we consider the principal or most advantageous market that market participants may use when pricing the asset or liability.   

We follow a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. Fair value measurement is determined based on the lowest level input that is significant to the fair value measurement. The three values of the fair value hierarchy are the following:   

Level 1 – Quoted prices in active markets for identical assets or liabilities   

Level 2 – Inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly   

Level 3 – Inputs that are not based on observable market data   

Assets and liabilities measured at fair value on a recurring basis are summarized below:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fair Value Measurements at Reporting Date Using

(In thousands)

 

(Unaudited)

Description

 

September 30, 2012

 

Quoted Prices in Active Markets for Identical Assets (Level 1)

 

Significant Other Observable Inputs (Level 2)

 

Significant Unobservable Inputs (Level 3)

Assets

 

 

 

 

 

 

 

 

Cash and cash equivalents available for sale:

 

 

 

 

 

 

 

 

Money Market Funds

$

131,753 

$

131,753 

$

 -

$

 -

U.S. treasuries and agencies

 

51,399 

 

 -

 

51,399 

 

 -

Short-term investments available for sale:

 

 

 

 

 

 

 

 

Municipal bonds

 

1,466 

 

 -

 

1,466 

 

 -

Corporate bonds

 

5,107 

 

 -

 

5,107 

 

 -

U.S. treasuries and agencies

 

10,529 

 

 -

 

10,529 

 

 -

Foreign government bonds

 

32,114 

 

 -

 

32,114 

 

 -

Time deposits

 

2,912 

 

2,912 

 

 -

 

 -

Derivatives

 

2,940 

 

 -

 

2,940 

 

 -

Total Assets 

$

238,220 

$

134,665 

$

103,555 

$

 -

 

 

 

 

 

 

 

 

 

Liabilities

 

 

 

 

 

 

 

 

Derivatives

$

(2,172)

$

 -

$

(2,172)

$

 -

Total Liabilities 

$

(2,172)

$

 -

$

(2,172)

$

 -

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(In thousands)

 

Fair Value Measurements at Reporting Date Using

Description

 

December 31, 2011

 

Quoted Prices in Active Markets for Identical Assets (Level 1)

 

Significant Other Observable Inputs (Level 2)

 

Significant Unobservable Inputs (Level 3)

Assets

 

 

 

 

 

 

 

 

Cash and cash equivalents available for sale:

 

 

 

 

 

 

 

 

Money Market Funds

$

22,677 

$

22,677 

$

                    - 

$

 -

U.S. Treasuries and Agencies

 

13,500 

 

 -

 

13,500 

 

 -

Short-term investments available for sale:

 

 

 

 

 

 

 

 

Municipal bonds

 

12,392 

 

 -

 

12,392 

 

 -

Corporate bonds

 

18,564 

 

 -

 

18,564 

 

 -

U.S. treasuries and agencies

 

157,419 

 

 -

 

157,419 

 

 -

Foreign government bonds

 

32,217 

 

 -

 

32,217 

 

 -

Time deposits

 

2,912 

 

2,912 

 

 -

 

 -

Derivatives

 

4,297 

 

 -

 

4,297 

 

 -

Total Assets 

$

263,978 

$

25,589 

$

238,389 

$

 -

 

 

 

 

 

 

 

 

 

Liabilities

 

 

 

 

 

 

 

 

Derivatives

$

(4,542)

$

 -

$

(4,542)

$

 -

Total Liabilities 

$

(4,542)

$

 -

$

(4,542)

$

 -

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

9  


 

  

We value our available-for-sale short-term investments based on pricing from third party pricing vendors, who may use quoted prices in active markets for identical assets (Level 1 inputs) or inputs other than quoted prices that are observable either directly or indirectly (Level 2 inputs) in determining fair value. We classify all of our fixed income available-for-sale securities as having Level 2 inputs. The valuation techniques used to measure the fair value of our financial instruments having Level 2 inputs were derived from non-binding market consensus prices that are corroborated by observable market data, quoted market prices for similar instruments, or pricing models, such as discounted cash flow techniques. We believe all of these sources reflect the credit risk associated with each of our available-for-sale short-term investments. Short-term investments available-for-sale consists of debt securities issued by states of the U.S. and political subdivisions of the U.S., corporate debt securities and debt securities issued by U.S. government corporations and agencies as well as debt securities issued by foreign governments. All short-term investments available-for-sale have contractual maturities of less than 24 months.  

  

Derivatives include foreign currency forward and option contracts. Our foreign currency forward contracts are valued using an income approach (Level 2) based on the spot rate less the contract rate multiplied by the notional amount. Our foreign currency option contracts are valued using a market approach based on the quoted market prices which are derived from observable inputs including current and future spot rates, interest rate spreads as well as quoted market prices of similar instruments. We consider counterparty credit risk in the valuation of our derivatives. However, counterparty credit risk did not impact the valuation of our derivatives during the nine month period ended September 30, 2012. There were not any transfers in or out of Level 1 or Level 2 during the nine month period ended September 30, 2012.  

  

Our foreign government bonds consist of German government sovereign debt denominated in Euro with maximum maturities of 24 months. Our short-term investments do not involve sovereign debt from any other country in Europe.  

  

We did not have any items that were measured at fair value on a nonrecurring basis at September 30, 2012 and December 31, 2011.  

  

The carrying value of net accounts receivable and accounts payable contained in the Consolidated Balance Sheets approximates fair value.

  

   

 Note 5 – Derivative instruments and hedging activities  

  

We recognize all of our derivative instruments as either assets or liabilities in our statement of financial position at fair value. The accounting for changes in the fair value (i.e., gains or losses) of a derivative instrument depends on whether it has been designated and qualifies as part of a hedging relationship and further, on the type of hedging relationship. For those derivative instruments that are designated and qualify as hedging instruments, we designate the hedging instrument, based upon the exposure being hedged, as a fair value hedge, cash flow hedge, or a hedge of a net investment in a foreign operation.  

  

We have operations in over 40 countries. Sales outside of the Americas accounted for approximately 59% and 61% of our revenues during each of the three month periods ended September 30, 2012 and 2011, respectively, and 60% of our revenues during each of the nine month periods ended September 30, 2012 and 2011. Our activities expose us to a variety of market risks, including the effects of changes in foreign currency exchange rates. These financial risks are monitored and managed by us as an integral part of our overall risk management program.  

  

We maintain a foreign currency risk management strategy that uses derivative instruments (foreign currency forward and purchased option contracts) to help protect our earnings and cash flows from fluctuations caused by the volatility in currency exchange rates. Movements in foreign currency exchange rates pose a risk to our operations and competitive position, since exchange rate changes may affect our profitability and cash flow, and the business or pricing strategies of our non-U.S. based competitors.  

  

The vast majority of our foreign sales are denominated in the customers’ local currency. We purchase foreign currency forward and option contracts as hedges of forecasted sales that are denominated in foreign currencies and as hedges of foreign currency denominated receivables. These contracts are entered into to help protect against the risk that the eventual dollar-net-cash inflows resulting from such sales or firm commitments will be adversely affected by changes in exchange rates. We also purchase foreign currency forward contracts as hedges of forecasted expenses that are denominated in foreign currencies. These contracts are entered into to help protect against the risk that the eventual dollar-net-cash outflows resulting from foreign currency operating and cost of revenue expenses will be adversely affected by changes in exchange rates.  

 

We designate foreign currency forward and purchased option contracts as cash flow hedges of forecasted revenues or forecasted expenses. In addition, we hedge our foreign currency denominated balance sheet exposures using foreign currency forward contracts that are not designated as hedging instruments. None of our derivative instruments contain a credit-risk-related contingent feature.  

  

10  


 

Cash flow hedges  

  

To help protect against the reduction in value caused by a fluctuation in foreign currency exchange rates of forecasted foreign currency cash flows resulting from international sales over the next one to two years, we have instituted a foreign currency cash flow hedging program. We hedge portions of our forecasted revenue and forecasted expenses denominated in foreign currencies with forward and purchased option contracts. For forward contracts, when the dollar strengthens significantly against the foreign currencies, the change in the present value of future foreign currency cash flows may be offset by the change in the fair value of the forward contracts designated as hedges. For option contracts, when the dollar strengthens significantly against the foreign currencies, the change in the present value of future foreign currency cash flows may be offset by the change in the fair value of the option contracts net of the premium paid designated as hedges. Our foreign currency purchased option contracts are purchased “at-the-money” or “out-of-the-money”. We purchase foreign currency forward and option contracts for up to 100% of our forecasted exposures in selected currencies (primarily in Euro, Japanese yen, Korean won and Hungarian forint) and limit the duration of these contracts to 40 months or less.  

  

For derivative instruments that are designated and qualify as a cash flow hedge, the effective portion of the gain or loss on the derivative is reported as a component of accumulated other comprehensive income (“OCI”) and reclassified into earnings in the same line item (net sales, operating expenses, or cost of sales) associated with the forecasted transaction and in the same period or periods during which the hedged transaction affects earnings. Gains and losses on the derivative representing either hedge ineffectiveness or hedge components excluded from the assessment of effectiveness are recognized in current earnings or expenses during the current period and are classified as a component of “net foreign exchange gain (loss)”. Hedge effectiveness of foreign currency forwards and purchased option contracts designated as cash flow hedges are measured by comparing the hedging instrument’s cumulative change in fair value from inception to maturity to the forecasted transaction’s terminal value.  

  

We held forward contracts with the following notional amounts:

 

 

 

 

 

 

 

 

 

 

(In thousands)

 

US Dollar Equivalent

 

 

As of September 30, 2012

 

As of December 31,

 

 

(Unaudited)

 

2011

Euro

$

58,443 

$

60,992 

Japanese yen

 

24,497 

 

43,569 

Korean won

 

 -

 

3,309 

Hungarian forint

 

21,229 

 

28,189 

Total forward contracts notional amount

$

104,169 

$

136,059 

  

The contracts in the foregoing table had contractual maturities of 24 months or less at September 30, 2012 and December 31, 2011, respectively.  

  

At September 30, 2012, we expect to reclassify $1.4 million of gains on derivative instruments from accumulated OCI to net sales during the next twelve months when the hedged international sales occur, $98,000 of gains on derivative instruments from accumulated OCI to cost of sales when the cost of sales are incurred and $85,000 of gains on derivative instruments from accumulated OCI to operating expenses during the next twelve months when the hedged operating expenses occur. Expected amounts are based on derivative valuations at September 30, 2012. Actual results may vary as a result of changes in the corresponding exchange rate subsequent to this date.  

  

We did not record any ineffectiveness from our hedges during the three and nine month periods ended September 30, 2012 and 2011.  

.  

Other Derivatives  

Other derivatives not designated as hedging instruments consist primarily of foreign currency forward contracts that we use to hedge our foreign denominated net receivable or net payable positions to protect against the change in value caused by a fluctuation in foreign currency exchange rates. We typically attempt to hedge up to 90% of our outstanding foreign denominated net receivables or net payables and typically limit the duration of these foreign currency forward contracts to approximately 120 days. The gain or loss on the derivatives as well as the offsetting gain or loss on the hedge item attributable to the hedged risk is recognized in current earnings under the line item “net foreign exchange gain (loss)”. As of September 30, 2012 and December 31, 2011, we held foreign currency forward contracts with a notional amount of $39.3 million and $53.8 million, respectively.   

The following tables present the fair value of derivative instruments on our Consolidated Balance Sheets and the effect of derivative instruments on our Consolidated Statements of Income.   

Fair Values of Derivative Instruments:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Asset Derivatives

 

September 30, 2012

December 31, 2011

(In thousands)

(Unaudited)

 

 

 

 

 

 

 

 

 

 

 

Balance Sheet Location

 

Fair Value

Balance Sheet Location

 

Fair Value

Derivatives designated as hedging instruments

 

 

 

 

 

 

Foreign exchange contracts - ST forwards

Prepaid expenses and other current assets

$

2,340 

Prepaid expenses and other current assets

$

2,500 

 

 

 

 

 

 

 

Foreign exchange contracts - LT forwards

Other long-term assets

 

461 

Other long-term assets

 

190 

Total derivatives designated as hedging instruments

 

$

2,801 

 

$

2,690 

 

 

 

 

 

 

 

Derivatives not designated as hedging instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts - ST forwards

Prepaid expenses and other current assets

$

139 

Prepaid expenses and other current assets

$

1,607 

Total derivatives not designated as hedging instruments

 

$

139 

 

$

1,607 

 

 

 

 

 

 

 

Total derivatives

 

$

2,940 

 

$

4,297 

11  


 

   

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Liability Derivatives

 

September 30, 2012

December 31, 2011

(In thousands)

(Unaudited)

 

 

 

 

 

 

 

 

 

 

 

Balance Sheet Location

 

Fair Value

Balance Sheet Location

 

Fair Value

Derivatives designated as hedging instruments

 

 

 

 

 

 

Foreign exchange contracts - ST forwards

Accrued expenses and other liabilities

$

(766)

Accrued expenses and other liabilities

$

(2,007)

 

 

 

 

 

 

 

Foreign exchange contracts - LT forwards

Other long-term liabilities

 

(272)

Other long-term liabilities

 

(1,770)

Total derivatives designated as hedging instruments

 

$

(1,038)

 

$

(3,777)

 

 

 

 

 

 

 

Derivatives not designated as hedging instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts - ST forwards

Accrued expenses and other liabilities

$

(1,134)

 

$

(765)

Total derivatives not designated as hedging instruments

 

$

(1,134)

 

$

(765)

 

 

 

 

 

 

 

Total derivatives

 

$

(2,172)

 

$

(4,542)

  

The following tables present the effect of derivative instruments on our Consolidated Statements of Income for the three month periods ended September 30, 2012 and 2011, respectively:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

September 30, 2012

(In thousands)

(Unaudited)

Derivatives in Cash Flow Hedging Relationship

 

Gain or (Loss) Recognized in OCI on Derivative (Effective Portion)

Location of Gain or (Loss) Reclassified from Accumulated OCI into Income (Effective Portion)

 

Gain or (Loss) Reclassified from Accumulated OCI into Income (Effective Portion)

Location of Gain or (Loss) Recognized in Income on Derivative (Ineffective Portion)

 

Gain or (Loss) Recognized in Income on Derivative (Ineffective Portion)

Foreign exchange contracts - forwards and options

$

(2,119)

Net sales

$

857 

Net foreign exchange gain (loss)

$

 -

 

 

 

 

 

 

 

 

 

Foreign exchange contracts - forwards and options

 

309 

Cost of sales

 

92 

Net foreign exchange gain (loss)

 

 -

 

 

 

 

 

 

 

 

 

Foreign exchange contracts - forwards and options

 

164 

Operating expenses

 

62 

Net foreign exchange gain (loss)

 

 -

Total

$

(1,646)

 

$

1,011 

 

$

 -

12  


 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

September 30, 2011

(In thousands)

(Unaudited)

Derivatives in Cash Flow Hedging Relationship

 

Gain or (Loss) Recognized in OCI on Derivative (Effective Portion)

Location of Gain or (Loss) Reclassified from Accumulated OCI into Income (Effective Portion)

 

Gain or (Loss) Reclassified from Accumulated OCI into Income (Effective Portion)

Location of Gain or (Loss) Recognized in Income on Derivative (Ineffective Portion)

 

Gain or (Loss) Recognized in Income on Derivative (Ineffective Portion)

Foreign exchange contracts - forwards and options

$

1,097 

Net sales

$

(1,124)

Net foreign exchange gain (loss)

$

 -

 

 

 

 

 

 

 

 

 

Foreign exchange contracts - forwards and options

 

(3,608)

Cost of sales

 

507 

Net foreign exchange gain (loss)

 

 -

 

 

 

 

 

 

 

 

 

Foreign exchange contracts - forwards and options

 

(1,684)

Operating expenses

 

190 

Net foreign exchange gain (loss)

 

 -

Total

$

(4,195)

 

$

(427)

 

$

 -

 

 

 

 

 

 

 

(In thousands)

 

 

 

 

 

Derivatives not Designated as Hedging Instruments

Location of Gain (Loss) Recognized in Income

 

Amount of Gain (Loss) Recognized in Income

 

Amount of Gain (Loss) Recognized in Income

 

 

 

September 30, 2012

 

September 30, 2011

 

 

 

(Unaudited)

 

(Unaudited)

Foreign exchange contracts - forwards

Net foreign exchange gain/(loss)

$

(1,164)

$

2,744 

 

 

 

 

 

 

Total

 

$

(1,164)

$

2,744 

  

 

The following tables present the effect of derivative instruments on our Consolidated Statements of Income for the nine month periods ended September 30, 2012 and 2011, respectively:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

September 30, 2012

(In thousands)

(Unaudited)

Derivatives in Cash Flow Hedging Relationship

 

Gain or (Loss) Recognized in OCI on Derivative (Effective Portion)

Location of Gain or (Loss) Reclassified from Accumulated OCI into Income (Effective Portion)

 

Gain or (Loss) Reclassified from Accumulated OCI into Income (Effective Portion)

Location of Gain or (Loss) Recognized in Income on Derivative (Ineffective Portion)

 

Gain or (Loss) Recognized in Income on Derivative (Ineffective Portion)

Foreign exchange contracts - forwards and options

$

(376)

Net sales

$

2,061 

Net foreign exchange gain (loss)

$

 -

 

 

 

 

 

 

 

 

 

Foreign exchange contracts - forwards and options

 

2,180 

Cost of sales

 

187 

Net foreign exchange gain (loss)

 

 -

 

 

 

 

 

 

 

 

 

Foreign exchange contracts - forwards and options

 

1,182 

Operating expenses

 

125 

Net foreign exchange gain (loss)

 

 -

Total

$

2,986 

 

$

2,373 

 

$

 -

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

September 30, 2011

(In thousands)

(Unaudited)

Derivatives in Cash Flow Hedging Relationship

 

Gain or (Loss) Recognized in OCI on Derivative (Effective Portion)

Location of Gain or (Loss) Reclassified from Accumulated OCI into Income (Effective Portion)

 

Gain or (Loss) Reclassified from Accumulated OCI into Income (Effective Portion)

Location of Gain or (Loss) Recognized in Income on Derivative (Ineffective Portion)

 

Gain or (Loss) Recognized in Income on Derivative (Ineffective Portion)

Foreign exchange contracts - forwards and options

$

630 

Net sales

$

(2,864)

Net foreign exchange gain (loss)

$

 -

 

 

 

 

 

 

 

 

 

Foreign exchange contracts - forwards and options

 

(1,128)

Cost of sales

 

1,257 

Net foreign exchange gain (loss)

 

 -

 

 

 

 

 

 

 

 

 

Foreign exchange contracts - forwards and options

 

(541)

Operating expenses

 

612 

Net foreign exchange gain (loss)

 

 -

Total

$

(1,039)

 

$

(995)

 

$

 -

13  


 

 

 

 

 

 

 

 

(In thousands)

 

 

 

 

 

Derivatives not Designated as Hedging Instruments

Location of Gain (Loss) Recognized in Income

 

Amount of Gain (Loss) Recognized in Income

 

Amount of Gain (Loss) Recognized in Income

 

 

 

September 30, 2012

 

September 30, 2011

 

 

 

(Unaudited)

 

(Unaudited)

Foreign exchange contracts - forwards

Net foreign exchange gain/(loss)

$

(1,400)

$

641 

 

 

 

 

 

 

Total

 

$

(1,400)

$

641 

 

  

   

Note 6 – Inventories  

  

Inventories, net consist of the following: 

 

 

 

 

 

 

 

September 30, 2012

 

December 31,

(In thousands)

 

(Unaudited)

 

2011

 

 

 

 

 

Raw materials  

$

68,728 

$

56,139 

Work-in-process

 

6,898 

 

5,708 

Finished goods

 

79,647 

 

70,148 

 

$

155,273 

$

131,995 

 

  

   

Note 7 – Intangibles  

  

Intangibles at September 30, 2012 and December 31, 2011 are as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

September 30, 2012

 

 

(In thousands)

 

(Unaudited)

 

December 31, 2011

 

 

Gross Carrying Amount

 

Accumulated Amortization

 

Net Carrying Amount

 

Gross Carrying Amount

 

Accumulated Amortization

 

Net Carrying Amount

Capitalized software development costs

$

64,858 

$

(40,208)

$

24,650 

$

53,086 

$

(29,606)

$

23,480 

Acquired technology

 

67,908 

 

(39,363)

 

28,545 

 

67,918 

 

(32,210)

 

35,708 

Patents

 

23,556 

 

(9,043)

 

14,513 

 

21,875 

 

(7,992)

 

13,883 

Other

 

24,098 

 

(16,061)

 

8,037 

 

24,614 

 

(13,819)

 

10,795 

 

$

180,420 

$

(104,675)

$

75,745 

$

167,493 

$

(83,627)

$

83,866 

  

  

14  


 

Software development costs capitalized for the three month periods ended September 30, 2012 and 2011 were $1.7 million and $2.1 million, respectively, and related amortization expense was $3.5 million and $3.3 million, respectively. For the nine month periods ended September 30, 2012 and 2011, capitalized software development costs were $11.8 million and $11.9 million, respectively, and related amortization expense was $10.6 million and $9.9 million, respectively. Capitalized software development costs for the three month periods ended September 30, 2012 and 2011 included costs related to stock based compensation of $89,000 and $96,000, respectively. For the nine month periods ended September 30, 2012 and 2011, capitalized software development costs included costs related to stock based compensation of $489,000 and $508,000, respectively.   

Amortization of capitalized software development costs is computed on an individual product basis for those products available for market and is recognized based on the product’s estimated economic life, generally three years. Acquired core technology and intangible assets are amortized over their useful lives, which range from three to eight years. Patents are amortized using the straight-line method over their estimated period of benefit, generally 10 to 17 years. Total intangible assets amortization expenses were $7.3 million and $6.8 million for the three months ended September 30, 2012 and 2011, respectively, and $21.0 million and $17.5 million for the nine month periods ended September 30, 2012 and 2011, respectively.

  

   

 Note 8 – Goodwill 

  

The carrying amount of goodwill as of September 30, 2012,  was as follows:

 

 

 

 

 

 

 

 

Amount

 

 

(In thousands)

Balance as of December 31, 2011

$

130,747 

Purchase price adjustments

 

(1,623)

Divestitures

 

 -

Foreign currency translation impact

 

(32)

Balance as of September 30, 2012 (unaudited)

$

129,092 

  

  

The excess purchase price over the fair value of assets acquired is recorded as goodwill. See Note 16 – Acquisitions, for discussion regarding the purchase price adjustment in the table above. As we have one operating segment, we allocate goodwill to one reporting unit for goodwill impairment testing. Goodwill is tested for impairment on an annual basis, and between annual tests if indicators of potential impairment exist, using a fair-value-based approach based on the market capitalization of the reporting unit. Our annual impairment test was performed as of February 29, 2012. No impairment of goodwill was identified during 2012 and 2011. Goodwill is deductible for tax purposes in certain jurisdictions.

  

   

  

Note 9 – Income taxes  

  

We account for income taxes under the asset and liability method. Deferred tax assets and liabilities are recognized for the expected tax consequences of temporary differences between the tax bases of assets and liabilities and their reported amounts. Valuation allowances are established when necessary to reduce deferred tax assets to amounts which are more likely than not to be realized.  

  

We account for uncertainty in income taxes recognized in our financial statements using prescribed recognition thresholds and measurement attributes for financial statement disclosure of tax positions taken or expected to be taken on our tax returns. We had $20.5 million and $19.5 million of unrecognized tax benefits at September 30, 2012 and December 31, 2011, respectively, all of which would affect our effective income tax rate if recognized. We recorded a gross increase in unrecognized tax benefits of $1.2 million and $2.9 million for the three and nine month periods ended September 30, 2012, respectively, as a result of tax positions taken during the period. We recorded a gross decrease in unrecognized tax benefits of $2.2 million and $2.5 million for the three and nine month periods ended September 30, 2012, respectively, as a result of settlements with taxing authorities and the closing of open years. As of September 30, 2012, it is deemed reasonable that we will recognize tax benefits in the amount of $937,000 in the next twelve months due to the closing of open tax years. The nature of the uncertainty with regard to the amount of the benefit we may recognize is related to deductions taken on returns that have not been examined by the applicable tax authority. Our continuing policy is to recognize interest and penalties related to income tax matters in income tax expense. As of September 30, 2012, we have approximately $1.0 million accrued for interest related to uncertain tax positions. The tax years 2005 through 2011 remain open to examination by the major taxing jurisdictions to which we are subject.  

  

15  


 

Our provision for income taxes reflected an effective tax rate of 16% and (24%) for the three month periods ended September 30, 2012 and 2011, respectively, and of 20% and 12% for the nine month periods ended September 30, 2012 and 2011, respectively. For the three and nine month periods ended September 30, 2012, our effective tax rate was lower than the U.S. federal statutory rate of 35% as a result of an enhanced deduction for certain research and development expenses, profits in foreign jurisdictions with reduced income tax rates, and a decrease in unrecognized tax benefits for uncertain tax positions. For the three and nine month periods ended September 30, 2011, our effective tax rate was lower than the U.S. federal statutory rate of 35% as a result of an enhanced deduction for certain research and development expenses, profits in foreign jurisdictions with reduced income tax rates, the U.S. federal research and development credit, a decrease in unrecognized tax benefits for uncertain tax provisions and the tax benefit from an accrual related to our terminated contract with the U.S. General Services Administration.   

  

Our earnings in Hungary are subject to a statutory tax rate of 19%. The difference between this rate and the statutory U.S. rate of 35% resulted in income tax benefits of $3.1 million and $1.4 million for the three month periods ended September 30, 2012 and 2011, respectively, and $8.3 million and $8.8 million for the nine month periods ended September 30, 2012 and 2011, respectively. No countries other than Hungary had a significant impact on our effective tax rate. We have not entered into any advanced pricing or other agreements with the Internal Revenue Service with regard to any foreign jurisdictions.  

  

The tax position of our Hungarian operation continues to benefit from assets created by the restructuring of our operations in Hungary. In addition, our research and development activities in Hungary continue to benefit from a tax law in Hungary that provides for an enhanced deduction for qualified research and development expenses. Partial release of the valuation allowance on assets from the restructuring and the enhanced tax deduction for research expenses resulted in income tax benefits of $4.1 million and $2.2 million for the three month periods ended September 30, 2012 and 2011, respectively, and $11.8 million and $12.2 million for the nine month periods ended September 30, 2012 and 2011, respectively

  

   

Note 10 – Comprehensive income  

  

Our comprehensive income is comprised of net income, foreign currency translation, unrealized gains and losses on forward and option contracts and securities classified as available-for-sale. The accumulated other comprehensive income/(loss), net of tax, as of September 30, 2012 and 2011, consisted of the following:    

 

 

 

 

 

 

 

 

 

 

 

 

September 30, 2012

 

 

(Unaudited)

(In thousands)

 

Currency translation adjustment

 

Investments

 

Derivative instruments

 

Accumulated other comprehensive income

Balance as of December 31, 2011

$

(1,543)

$

(664)

$

(1,293)

$

(3,500)

Current-period other comprehensive income

 

1,324 

 

91 

 

2,479 

 

3,894 

Balance as of September 30, 2012

$

(219)

$

(573)

$

1,186 

$

394 

 

 

 

 

 

 

 

 

 

 

 

 

September 30, 2011

 

 

(Unaudited)

(In thousands)

 

Currency translation adjustment

 

Investments

 

Derivative instruments

 

Accumulated other comprehensive income

Balance as of December 31, 2010

$

(496)

$

196 

$

(410)

$

(710)

Current-period other comprehensive (loss)

 

(1,165)

 

(1,285)

 

(943)

 

(3,393)

Balance as of September 30, 2011

$

(1,661)

$

(1,089)

$

(1,353)

$

(4,103)

 

  

   

Note 11 – Stock-based compensation plans  

  

Stock option plans  

  

Our stockholders approved the 1994 Incentive Stock Option Plan (the “1994 Plan”) in May 1994. At the time of approval, 13,668,750 shares of our common stock were reserved for issuance under this plan. In 1997, an additional 10,631,250 shares of our common stock were reserved for issuance under this plan, and an additional 1,125,000 shares were reserved for issuance under this plan in 2004. The 1994 Plan terminated in May 2005, except with respect to outstanding awards previously granted thereunder.  

  

16  


 

Awards under the plan were either incentive stock options within the meaning of Section 422 of the Internal Revenue Code or nonqualified options. The right to purchase shares under the options vests over a five to ten-year period, beginning on the date of grant. Vesting of ten year awards may accelerate based on the Company’s previous year’s earnings and revenue growth but shares cannot accelerate to vest over a period of less than five years. Stock options must be exercised within ten years from date of grant. Stock options were issued with an exercise price which was equal to the market price of our common stock at the grant date. We estimate potential forfeitures of stock grants and adjust compensation cost recorded accordingly. The estimate of forfeitures will be adjusted over the requisite service period to the extent that actual forfeitures differ, or are expected to differ, from such estimates. Changes in estimated forfeitures will be recognized through a cumulative catch-up adjustment in the period of change and will also impact the amount of stock compensation expense to be recognized in future periods. During the nine month period ended September 30, 2012, we did not make any changes in accounting principles or methods of estimates.  

 

Restricted stock plan  

  

Our stockholders approved our 2005 Incentive Plan (the “2005 Plan”) in May 2005. At the time of approval, 4,050,000 shares of our common stock were reserved for issuance under this plan, as well as the number of shares which had been reserved but not issued under the 1994 Plan (our incentive stock option plan which terminated in May 2005), and any shares that returned to the 1994 Plan as a result of termination of options or repurchase of shares issued under such plan. The 2005 Plan, administered by the Compensation Committee of the Board of Directors, provided for granting of incentive awards in the form of restricted stock and RSUs to directors, executive officers and employees of the Company and its subsidiaries. Awards vest over a three,  five or ten-year period, beginning on the date of grant. Vesting of ten year awards may accelerate based on the Company’s previous year’s earnings and growth but ten year awards cannot accelerate to vest over a period of less than five years. The 2005 Plan terminated on May 11, 2010, except with respect to outstanding awards previously granted thereunder. There were 3,362,304 shares of common stock that were reserved but not issued under the 1994 Plan and the 2005 Plan as of May 11, 2010.  

  

Our stockholders approved our 2010 Incentive Plan (the “2010 Plan”) on May 11, 2010. At the time of approval, 3,000,000 shares of our common stock were reserved for issuance under this plan, as well as the 3,362,304 shares of common stock that were reserved but not issued under the 1994 Plan and the 2005 Plan as of May 11, 2010, and any shares that are returned to the 1994 Plan and the 2005 Plan as a result of forfeiture or termination of options or RSUs or repurchase of shares issued under these plans. The 2010 Plan, administered by the Compensation Committee of the Board of Directors, provides for granting of incentive awards in the form of restricted stock and RSUs to employees, directors and consultants of the Company and employees and consultants of any parent or subsidiary of the Company. Awards vest over a three,  five or ten-year period, beginning on the date of grant. Vesting of ten year awards may accelerate based on the Company’s previous year’s earnings and growth but ten year awards cannot accelerate to vest over a period of less than five years. There were 3,854,515 shares available for grant under the 2010 Plan at September 30, 2012.  

  

We estimate potential forfeitures of RSUs and adjust compensation cost recorded accordingly. The estimate of forfeitures will be adjusted over the requisite service period to the extent that actual forfeitures differ, or are expected to differ, from such estimates. Changes in estimated forfeitures will be recognized through a cumulative catch-up adjustment in the period of change and will also impact the amount of stock compensation expense to be recognized in future periods. During the nine month period ended September 30, 2012, we did not make any changes in accounting principles or methods of estimates related to the 2010 Plan.  

  

Employee stock purchase plan  

  

Our employee stock purchase plan permits substantially all domestic employees and employees of designated subsidiaries to acquire our common stock at a purchase price of 85% of the lower of the market price at the beginning or the end of the purchase period. The plan has quarterly purchase periods generally beginning on February 1, May 1, August 1 and November 1 of each year. Employees may designate up to 15% of their compensation for the purchase of common stock under this plan. On May 10, 2011, our stockholders approved an additional 3,000,000 shares for issuance under our employee stock purchase plan, and at September 30, 2012, we had 2,859,480 shares of common stock reserved for future issuance under this plan. We issued 820,658 shares under this plan in the nine month period ended September 30, 2012. The weighted average fair value of the employees’ purchase rights was $22.50 per share and was estimated using the Black-Scholes model. During the nine months ended September 30, 2012, we did not make any changes in accounting principles or methods of estimates with respect to such plan.  

  

Authorized Preferred Stock and Preferred Stock Purchase Rights Plan  

  

We have 5,000,000 authorized shares of preferred stock. On January 21, 2004, our Board of Directors designated 750,000 of these shares as Series A Participating Preferred Stock in conjunction with its adoption of a Preferred Stock Rights Agreement (the “Rights Agreement”) and declaration of a dividend of one preferred share purchase right (a “Right”) for each share of common stock outstanding held as of May 10, 2004 or issued thereafter. Each Right will entitle its holder to purchase one one-thousandth of a share of National Instruments’ Series A Participating Preferred Stock at an exercise price of $200, subject to adjustment, under certain circumstances. The Rights Agreement was not adopted in response to any effort to acquire control of National Instruments.  

  

17  


 

The Rights only become exercisable in certain limited circumstances following the tenth day after a person or group announces acquisitions of or tender offers for 20% or more of our common stock. In addition, if an acquirer (subject to certain exclusions for certain current stockholders of National Instruments, an “Acquiring Person”) obtains 20% or more of our common stock, then each Right (other than the Rights owned by an Acquiring Person or its affiliates) will entitle the holder to purchase, for the exercise price, shares of our common stock having a value equal to two times the exercise price. Under certain circumstances, our Board of Directors may redeem the Rights, in whole, but not in part, at a purchase price of $0.01 per Right. The Rights have no voting privileges and are attached to and automatically traded with our common stock until the occurrence of specified trigger events. The Rights will expire on the earlier of May 10, 2014 or the exchange or redemption of the Rights.  

  

There were not any shares of preferred stock issued and outstanding at September 30, 2012.

  

   

  

Note 12 – Segment information  

  

We determine operating segments using the management approach. The management approach designates the internal organization that is used by management for making operating decisions and assessing performance as the source of our operating segments. It also requires disclosures about products and services, geographic areas and major customers.  

  

 

We have defined our operating segment based on geographic regions. We sell our products in three geographic regions. Our sales to these regions share similar economic characteristics, similar product mix, similar customers, and similar distribution methods. Accordingly, we have elected to aggregate these three geographic regions into a single operating segment. Revenue from the sale of our products which are similar in nature and software maintenance are reflected as total net sales in our Consolidated Statements of Income.  

  

Total net sales, operating income, interest income and long-lived assets, classified by the major geographic areas in which we operate, are as follows:

 

 

 

 

 

 

 

 

 

 

 

 

Three Months Ended

 

 

Nine Months Ended

(In thousands)

 

September 30,

 

 

September 30,

 

 

(Unaudited)

 

 

(Unaudited)

 

 

2012

 

2011

 

 

2012

 

2011

Net sales:

 

 

 

 

 

 

 

 

 

Americas:

$

117,542 

$

98,537 

 

$

337,601 

$

299,614 

Europe: 

 

69,820 

 

75,127 

 

 

218,491 

 

222,566 

Asia Pacific: 

 

102,612 

 

81,324 

 

 

287,274 

 

223,942 

 

$

289,974 

$

254,988 

 

$

843,366 

$

746,122 

 

 

 

 

 

 

 

 

 

 

 

 

Three Months Ended

 

 

Nine Months Ended

(In thousands)

 

September 30,

 

 

September 30,

 

 

(Unaudited)

 

 

(Unaudited)

 

 

2012

 

2011

 

 

2012

 

2011

Operating income:

 

 

 

 

 

 

 

 

 

Americas

$

11,503 

$

1,401 

 

$

33,721 

$

40,186 

Europe

 

32,066 

 

31,867 

 

 

99,850 

 

100,562 

Asia Pacific

 

42,984 

 

32,162 

 

 

120,491 

 

84,031 

Unallocated:

 

 

 

 

 

 

 

 

 

Research and development expenses

 

(56,627)

 

(54,674)

 

 

(164,928)

 

(144,569)

 

$

29,926 

$

10,756 

 

$

89,134 

$

80,210 

 

 

 

 

 

 

 

 

 

 

 

 

Three Months Ended

 

 

Nine Months Ended

(In thousands)

 

September 30,

 

 

September 30,

 

 

(Unaudited)

 

 

(Unaudited)

 

 

2012

 

2011

 

 

2012

 

2011

Interest income:

 

 

 

 

 

 

 

 

 

Americas

$

28 

$

82 

 

$

135 

$

352 

Europe

 

98 

 

238 

 

 

282 

 

591 

Asia Pacific

 

 

34 

 

 

78 

 

96 

 

$

133 

$

354 

 

$

495 

$

1,039 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

September 30,

 

December 31,

(In thousands)

 

 

 

 

 

 

2012

 

2011

 

 

 

 

 

 

 

(Unaudited)

 

 

Long-lived assets:

 

 

 

 

 

 

 

 

 

Americas

 

 

 

 

 

$

113,126 

$

110,153 

Europe

 

 

 

 

 

 

48,873 

 

47,000 

Asia Pacific

 

 

 

 

 

 

61,145 

 

32,995 

 

 

 

 

 

 

$

223,144 

$

190,148 

18  


 

  

Total sales outside the U.S. for the three month periods ended September 30, 2012 and 2011 were $178.9 million and $163.7 million, respectively, and $528.9 million and $470.2 million for the nine month periods ended September 30, 2012 and 2011, respectively.

  

  

Note 13 – Commitments and Contingencies  

  

We offer a one-year limited warranty on most hardware products, with a two or three-year warranty on a subset of our hardware products, which is included in the sales price of many of our products. Provision is made for estimated future warranty costs at the time of the sale for the estimated costs that may be incurred under the basic limited warranty. Our estimate is based on historical experience and product sales during the period.  

  

The warranty reserve for the nine month periods ended September 30, 2012 and 2011, respectively, was as follows:

 

 

 

 

 

 

 

 

 

 

 

 

Nine months ended September 30,

(In thousands)

 

(Unaudited)

 

 

2012

 

2011

Balance at the beginning of the period

$

1,271 

$

921 

Accruals for warranties issued during the period

 

1,634 

 

2,175 

Settlements made (in cash or in kind) during the period

 

(1,652)

 

(2,175)

Balance at the end of the period

$

1,253 

$

921 

  

As of September 30, 2012, we had non-cancelable purchase commitments with various suppliers of customized inventory and inventory components totaling approximately $7.2 million over the next twelve months.  

  

As of September 30, 2012, we had outstanding guarantees for payment of customs and foreign grants totaling approximately $5.0 million, which are generally payable over the next twelve months.  

  

From November 1999 to May 2011, we sold products to the U.S. government under a contract with the General Services Administration ("GSA"). Our previous contract with GSA contained a price reduction or "most favored customer" pricing provision. During 2011 and 2012, we had been in discussions with GSA regarding our compliance with this pricing provision and provided GSA with information regarding our pricing practices. In 2011, GSA conducted an on-site review of our GSA pricing practices and orally informed us that GSA did not agree with our previous determination of the potential non-compliance amount. GSA subsequently requested that we conduct a further analysis of the non-compliance amount based upon a methodology that GSA proposed. This analysis resulted in calculated overpayments (including added interest) by GSA to us of approximately $13.1 million. During the quarter ended September 30, 2011, we established an accrual for $13.1 million which represented the amount of the loss contingency that was reasonably estimable at that time. On June 6, 2012, we entered into a Settlement Agreement with GSA and paid approximately $11.8 million in settlement of the foregoing matters. Due to the complexities of conducting business with GSA, the relatively small amount of revenue we realized from our previous GSA contract, and our belief that we can continue to sell our products to U.S. government agencies through other contracting methods, we cancelled our contract with GSA in April 2011, effective May 2011. To date, we have not experienced any material adverse impact on our results of operations as a result of the cancellation of our previous GSA contract.

19  


 

  

Note 14 – Recently issued accounting pronouncements  

  

In January 2010, the FASB updated FASB ASC 820, Fair Value Measurements and Disclosures (FASB ASC 820) that requires additional disclosures and clarifies existing disclosures regarding fair value measurements. The additional disclosures include (i) transfers in and out of Levels 1 and 2 and (ii) activity in Level 3 fair value measurements. The update provides amendments that clarify existing disclosures on level of disaggregation and disclosures about inputs and valuation techniques. This update is effective for interim and annual reporting periods beginning after December 15, 2009, except for the disclosures about purchases, sales, issuances, and settlements in the roll forward of activity in Level 3 fair value measurements which were effective for fiscal years beginning after December 15, 2010, and for interim periods within those fiscal years. We adopted the update on January 1, 2010 as required and subsequently adopted on January 1, 2011, the update surrounding disclosures on Level 3 fair value measurements and concluded it did not have a material impact on our consolidated financial position or results of operations. In May 2011, the FASB updated FASB ASC 820 that resulted in common fair value measurement and disclosure requirements in U.S. GAAP and International Financial Reporting Standards (IFRSs). Some of the amendments clarify the FASB’s intent about the application of existing fair value measurement requirements. Other amendments change a particular principle or requirement for measuring fair value or for disclosing information about fair value measurements. The amendments are to be applied prospectively and are effective during interim and annual periods beginning after December 15, 2011. We adopted the update as required in the first quarter of 2012 and concluded it did not have a material impact on our consolidated financial position or results of operations.   

  

In June 2011, the FASB updated FASB ASC 220, Comprehensive Income (FASB ASC 220) that gives an entity the option to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. In both choices, an entity is required to present each component of net income along with total net income, each component of other comprehensive income along with a total for other comprehensive income, and a total amount for comprehensive income. The update does not change the items that must be reported in other comprehensive income or when an item of other comprehensive income must be reclassified to net income. The update does not change the option for an entity to present components of other comprehensive income either net of related tax effects or before related tax effects, with one amount shown for the aggregate income tax expense or benefit related to the total of other comprehensive income items. The update does not affect how earnings per share is calculated or presented. The update should be applied retrospectively and is effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. We adopted the update as required in the first quarter of 2012, and concluded that the adoption did not have a material impact on our financial position or results of operations; however, the adoption resulted in an additional statement of other comprehensive income. In December 2011, the FASB deferred the effective date for the amendment issued in June 2011 regarding the presentation of reclassifications of items out of accumulated other comprehensive income. This update deferred the implementation requirement to present on the face of the financial statements the effects of reclassifications out of accumulated other comprehensive income on the components of net income and other comprehensive income. The amended guidance specifies that entities should continue to report reclassifications out of accumulated other comprehensive income consistent with presentation requirements in effect before the update in June 2011.   

  

In September 2011, the FASB updated FASB ASC 350, Goodwill and Other (FASB ASC 350) that gives an entity the option to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If, after assessing the totality of events or circumstances, an entity determines it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then performing the two-step impairment test is unnecessary. The amendments are effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011. We adopted the update as required in the first quarter of 2012 and concluded it did not have a material impact on our consolidated financial position or results of operations.

  

   

  

Note 15 – Litigation  

  

We are not currently a party to any material litigation. However, in the ordinary course of our business, we are involved in a limited number of legal actions, both as plaintiff and defendant, and could incur uninsured liability in any one or more of them. No assurances can be given with respect to the extent or outcome of any future litigation or dispute.

20  


 

  

Note 16 – Acquisitions  

  

AWR Corporation  

  

On June 30, 2011, we acquired all of the outstanding shares of AWR Corporation (AWR), a privately held company that is a leading supplier of electronic design automation software for designing radio frequency and high-frequency components and systems for the semiconductor, aerospace and defense, communications and test equipment industries. The acquisition is expected to improve customer productivity through increased interoperability between upfront design and validation and production test functions. The purchase price of the acquisition was $66 million consisting of $54 million in cash and a three-year earn-out arrangement. We funded the purchase price from existing cash balances. The range of potential undiscounted payments that we could be required to make under the earn-out arrangement is between $0 and $29 million and are payable if AWR achieves certain revenue and operating income targets. The fair value of the earn-out arrangement was estimated at $12 million using the income approach, the key assumptions of which included probability-weighted revenue and operating expense growth projections. In July 2012, the Company paid the amount due to the former AWR shareholders based on the first earn-out year performance of AWR. The amount paid was $3.3 million, and it is being recorded as a reduction of the earn-out liability. We re-measure the fair value of the earn-out liability each quarter and no other adjustments have been recorded to date.    

  

The allocation of the purchase price was determined using the fair value of assets and liabilities acquired as of June 30, 2011. The finalization of our purchase price allocation during the three months ended June 30, 2012 resulted in an increase in acquired deferred tax assets and a decrease in goodwill of approximately $1.6 million. Our consolidated financial statements include the operating results from the date of acquisition.  Pro-forma results of operations have not been presented because the effects of those operations were not material. The following table summarizes the allocation of the purchase price of AWR: 

 

 

 

 

 

 

 

Amount

 

 

(in thousands)

Net tangible assets acquired

$

10,718 

Amortizable intangible assets

 

31,685 

Deferred tax liability

 

(8,387)

Goodwill

 

32,379 

Total

$

66,395 

  

Goodwill is not deductible for tax purposes. Amortizable intangible assets have useful lives of 5 years from the date of acquisition.   

  

Phase Matrix Inc.  

  

On May 20, 2011, we acquired all of the outstanding shares of Phase Matrix, Inc. (PMI), a privately held company that designs and manufactures radio frequency and microwave test and measurement instruments, subsystems and components.  The acquisition is expected to speed our deployment of high-performance RF and wireless technologies to our production test and R&D customers. The purchase price of the acquisition was $40.7 million consisting of $38.9 million in cash and $1.8 million in shares of our common stock.  We funded the cash portion of the purchase price from existing cash balances.  

  

The allocation of the purchase price was determined using the fair value of assets and liabilities acquired as of May 20, 2011.  Our consolidated financial statements include the operating results from the date of acquisition. Pro-forma results of operations have not been presented because the effects of those operations were not material.  The following table summarizes the allocation of the purchase price of Phase Matrix, Inc.:

 

 

 

 

 

Amount

 

 

(in thousands)

Net tangible assets acquired

$

5,624 

Amortizable intangible assets

 

8,331 

Goodwill

 

26,725 

Total

$

40,680 

  

Goodwill is deductible for tax purposes. Amortizable intangible assets have useful lives which range from 9 months to 8 years from the date of acquisition. These assets are also deductible for tax purposes.

  

   

  

 

21  


 

Note 17 – Subsequent events  

  

We have evaluated subsequent events through the date the financial statements were issued.  

  

On October 25, 2012, our Board of Directors declared a quarterly cash dividend of $0.14 per common share, payable December 3, 2012, to shareholders of record on November 12, 2012.

  

   

  

22  


 

  

Item 2.Management’s Discussion and Analysis of Financial Condition and Results of Operations  

  

This Quarterly Report on Form 10-Q 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. Any statements contained herein regarding our future financial performance or operations (including, without limitation, statements to the effect that we “believe,” "expect," "plan," "may," "will," "project," "continue," or "estimate" or other variations thereof or comparable terminology or the negative thereof) should be considered forward-looking statements. Actual results could differ materially from those projected in the forward-looking statements as a result of a number of important factors, including those set forth under the heading “Risk Factors” beginning on page 33, and the discussion below. Readers are also encouraged to refer to the documents regularly filed by us with the Securities and Exchange Commission, including our Annual Report on Form 10-K for further discussion of our business and the risks attendant thereto.  

  

Overview  

  

National Instruments Corporation (“we”, “us” or “our”) designs, manufactures and sells tools to engineers and scientists that accelerate productivity, innovation and discovery. Our graphical system design approach to engineering provides an integrated software and hardware platform that speeds the development of systems needing measurement and control. We believe our long-term vision and focus on technology supports the success of our customers, employees, suppliers and stockholders. We sell to a large number of customers in a wide variety of industries. We have been profitable in every year since 1990.  

  

The key strategies that we focus on in running our business are the following:  

  

Expanding our broad customer base  

  

We strive to increase our already broad customer base by serving a large market on many computer platforms, through a global marketing and distribution network. We also seek to acquire new technologies and expertise from time to time to open new opportunities for our existing product portfolio.  

  

Maintaining a high level of customer satisfaction  

  

To maintain a high level of customer satisfaction we strive to offer innovative, modular and integrated products through a global sales and support network. We strive to maintain a high degree of backwards compatibility across different platforms to preserve the customer’s investment in our products. In this time of intense global competition, we believe it is crucial that we continue to offer products with quality and reliability, and that our products provide cost-effective solutions for our customers.  

  

Leveraging external and internal technology  

  

Our product strategy is to provide superior products by leveraging generally available technology, supporting open architectures on multiple platforms and by leveraging our core technologies such as custom application specific integrated circuits (“ASICs”) across multiple products.  

  

We sell into test and measurement (“T&M”) and industrial/embedded applications in a broad range of industries and as such are subject to the economic and industry forces which drive those markets. It has been our experience that the performance of these industries and our performance is impacted by general trends in industrial production for the global economy and by the specific performance of certain vertical markets that are intensive consumers of measurement technologies. Examples of these markets are semiconductor capital equipment, telecom and mobile devices, consumer electronics, defense, aerospace and automotive.  

  

In assessing our business, we consider the trends in the Global Purchasing Managers Index (“PMI”) published by JP Morgan, global industrial production as well as industry reports on the specific vertical industries that we target. A PMI reading above 50 is indicative of expansion in the global industrial economy. Our business is sensitive to fluctuations in general economic conditions, both in the U.S. and globally. Historically, our business cycles have generally followed the expansion and contraction cycles in the global industrial economy as measured by the PMI. The most recent reading for September 2012, showed the PMI had decreased to 48.5 down from a reading of 48.9 for June 2012. This marks the fourth consecutive month where the PMI reading has been below 50. Of ongoing concern is the new order element of the PMI which was 48.1 in September of 2012 and also represents the fourth consecutive month of readings below 50 for this component of the PMI. We are unable to predict whether the industrial economy, as measured by the PMI, will strengthen or continue to contract during the remainder of 2012 and in 2013. If the industrial economy, as measured by the PMI, continues to contract or remains at or near a neutral reading of around 50, indicating general weakness, it could have an adverse effect on the spending patterns of businesses, including our current and potential customers, which could adversely affect our revenues and result of operations.  

  

23  


 

We distribute our software and hardware products primarily through a direct sales organization. We also use independent distributors, OEMs, VARs, system integrators and consultants to market our products. We have sales offices in the U.S. and sales offices and distributors in key international markets. Sales outside of the Americas accounted for approximately 59% and 61% of our revenues during the three month periods ended September 30, 2012 and 2011, respectively, and 60% of our revenues for each of the nine month periods ended September 30, 2012 and 2011. The vast majority of our foreign sales are denominated in the customers’ local currency, which exposes us to the effects of changes in foreign currency exchange rates. We expect that a significant portion of our total revenues will continue to be derived from international sales. (See Note 12 - Segment information of Notes to Consolidated Financial Statements for details concerning the geographic breakdown of our net sales, operating income, interest income and long-lived assets).  

  

We manufacture a substantial majority of our products at our facility in Debrecen, Hungary. Additional production primarily of low volume or newly introduced products is done in Austin, Texas. Our product manufacturing operations can be divided into four areas: electronic circuit card and module assembly; chassis and cable assembly; technical manuals and product support documentation; and software duplication. We manufacture most of the electronic circuit card assemblies, modules and chassis in-house, although subcontractors are used from time to time. We manufacture some of our electronic cable assemblies in-house, but many assemblies are produced by subcontractors. We primarily subcontract our software duplication, our technical manuals and product support documentation.  

  

We believe that our long-term growth and success depend on delivering high quality software and hardware products on a timely basis. Accordingly, we focus significant efforts on research and development. We focus our research and development efforts on enhancing existing products and developing new products that incorporate appropriate features and functionality to be competitive with respect to technology, price and performance. Our success also is dependent on our ability to obtain and maintain patents and other proprietary rights related to technologies used in our products. We have engaged in litigation and, where necessary, will likely engage in future litigation to protect our intellectual property rights. In monitoring and policing our intellectual property rights, we have been and may be required to spend significant resources.  

  

Our operating results fluctuate from period to period due to changes in global economic conditions and a number of other factors. As a result, we believe our historical results of operations should not be relied upon as indications of future performance. There can be no assurance that our net sales will grow or that we will remain profitable in future periods.  

  

Current business outlook  

  

Many of the industries we serve have historically been cyclical and have experienced periodic downturns. In assessing our business, we consider the trends in the PMI, global industrial production as well as industry reports on the specific vertical industries that we target. We remain very concerned by the continued weakness of the Global PMI in the three month period ended September 30, 2012. with the average for the quarter of 48.5, the lowest average since the second quarter of  2009. Of ongoing concern is the level of the new order element of the index at 48.1 in September. This suggests that the overall index may remain well below 50 in the fourth quarter of 2012 and into 2013. We believe this trend will restrain growth in the test and measurement industry in the near term. In the past, we have seen this sort of deterioration in the industrial economy have a negative impact on larger orders at year end. This may also have a negative impact on our normal seasonal surge in orders toward the end of the quarter. These trends could have an adverse effect on the spending patterns of businesses, including our current and potential customers, which could adversely affect our revenues and result of operations. Our key strategies are to maintain a stable gross margin and to optimize our operating cost structure while maintaining strong employee productivity.  

  

 

Results of Operations  

  

The following table sets forth, for the periods indicated, the percentage of net sales represented by certain items reflected in our Consolidated Statements of Income:  

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three Months Ended

 

 

Nine Months Ended

 

 

September 30,

 

 

September 30,

 

 

(Unaudited)

 

 

(Unaudited)

 

 

2012

 

2011

 

 

2012

 

2011

 

Net sales:

 

 

 

 

 

 

 

 

 

Americas

40.5 

%

38.6 

%

 

40.0 

%

40.2 

%

Europe

24.1 

 

29.5 

 

 

25.9 

 

29.8 

 

Asia Pacific

35.4 

 

31.9 

 

 

34.1 

 

30.0 

 

Consolidated net sales

100.0 

 

100.0 

 

 

100.0 

 

100.0 

 

Cost of sales

25.3 

 

25.6 

 

 

24.4 

 

23.3 

 

Gross profit

74.7 

 

74.4 

 

 

75.6 

 

76.7 

 

Operating expenses:

 

 

 

 

 

 

 

 

 

Sales and marketing

37.8 

 

40.5 

 

 

37.9 

 

38.4 

 

Research and development

19.5 

 

21.4 

 

 

19.6 

 

19.4 

 

General and administrative

7.1 

 

8.3 

 

 

7.5 

 

8.2 

 

Total operating expenses

64.4 

 

70.2 

 

 

65.0 

 

66.0 

 

Operating income

10.3 

 

4.2 

 

 

10.6 

 

10.7 

 

Other income (expense):

 

 

 

 

 

 

 

 

 

Interest income

0.0 

 

0.1 

 

 

0.1 

 

0.2 

 

Net foreign exchange gain (loss)

(0.1)

 

(0.3)

 

 

(0.3)

 

(0.2)

 

Other income, net

(0.2)

 

-

 

 

(0.1)

 

 -

 

Income before income taxes

10.0 

 

4.0 

 

 

10.3 

 

10.7 

 

Provision for (benefit from) income taxes

1.6 

 

(1.0)

 

 

2.1 

 

1.4 

 

Net income

8.4 

%

5.0 

%

 

8.2 

%

9.3 

%

24  


 

  

Results of Operations for the Three and Nine Month Periods ended September 30, 2012 and 2011  

Despite difficult economic conditions, we were pleased with our disciplined execution which allowed us to deliver record revenue for a third quarter. While we remain cautious in the short-term due to uncertain economic conditions, we are optimistic about our long-term position in the industry from the sustained differentiation we deliver to customers through graphical system design. We believe this approach to measurement and control systems provide higher performance, better integration and lower cost, while enabling unique testing approaches not possible with traditional equipment.  

Net Sales.  Our consolidated net sales were $290 million and $255 million for the three month periods ended September 30, 2012 and 2011, respectively, an increase of 14%. For the same periods, product sales were $268 million and $247 million, an increase of 8%, and software maintenance sales were $22 million and $21 million, an increase of 6%. For the three month period ended September 30, 2011 our consolidated net sales were negatively impacted by the $13 million accrual related to our GSA contract. There was no impact from our GSA contract in the three month period ended September 30, 2012 as our Settlement Agreement with GSA was executed in the second quarter of 2012. See Note 13 – Commitments and Contingencies in the Notes to our Consolidated Financial Statements for further discussion of our GSA Settlement Agreement. Products in the areas of virtual instrumentation and graphical system design, which comprised approximately 95% of our revenue in the three months ended September 30, 2012, saw a year-over-year revenue increase of 8%. Instrument control products, which comprised approximately 5% of our revenue in the three months ended September 30, 2012, saw a year-over-year revenue decrease of 8%. Products in the areas of virtual instrumentation and graphical system design comprised approximately 94% of our revenue in the three months ended September 30, 2011 and instrument control products comprised approximately 6% of our revenues in the three months ended September 30, 2011.  

For the nine month periods ended September 30, 2012 and 2011, our consolidated net sales were $843 million and $746 million, respectively, an increase of 13%. For the same periods, product sales were $776 million and $699 million, respectively, an increase of 11%, and software maintenance sales were $66 million and $60 million, respectively, an increase of 9%. For the nine month period ended September 30, 2012, our consolidated net sales were positively impacted by our Settlement Agreement with GSA which was $1.3 million less than the amount previously accrued, and for the nine month period ended September 30, 2011 our consolidated net sales were negatively impacted by the $13 million accrual related to our GSA contract. Products in the areas of virtual instrumentation and graphical system design, which comprised approximately 95% of our revenue in the nine month period ended September 30, 2012, saw a year-over-year revenue increase of 12%. Instrument control products, which comprised approximately 5% of our revenues in the nine month period ended September 30, 2012, saw a year-over-year revenue decrease of 12%. In the nine month period ended September 30, 2011, products in the areas of virtual instrumentation and graphical system design comprised approximately 94% of our revenue while instrument control products comprised approximately 6% of our revenues.  

We did not take any significant action with regard to pricing during the three and nine month periods ended September 30, 2012 and 2011.   

Large orders, defined as orders with a value greater than $20,000, grew by 11%, year over year, during the three month period ended September 30, 2012 and grew by 25%, year over year, during the nine month period ended September 30, 2012. During the three and nine month periods ended September 30, 2012, these large orders were 51% of our total sales for each of the periods. During the three and nine month periods ended September 30, 2011, these large orders were 48% and 45%, respectively, of our total sales. During the nine month period ended September 30, 2012, we received a $53 million order for a large graphical system design application from one customer of which $41 million was recognized in revenue during the nine month period ended September 30, 2012. Including this order, we received a total of $17 million and $67 million in orders from this customer in the three and nine month periods ended September 30, 2012, respectively, of which $29 million or 10% of total net sales and $56 million or 7% of total net sales was recognized as revenue in the three and nine month periods ended September 30, 2012, respectively. Larger orders may be more sensitive to changes in the global industrial economy, may be subject to greater discount variability, may contract at a faster pace during an economic downturn, may expose us to greater business and legal risks and may impose product acceptance clauses that could impact the timing of when the associated revenue can be recognized.  

25  


 

For the three month periods ended September 30, 2012 and 2011, net sales in the Americas were $117 million and $98 million, respectively, an increase of 19%. Sales in the Americas, as a percentage of consolidated sales were 41% and 39% in the three month periods ended September 30, 2012 and 2011, respectively. In Europe, net sales were $70 million and $75 million in the three month periods ended September 30, 2012 and 2011, respectively, a decrease of 7%. Sales in Europe, as a percentage of consolidated sales were 24% and 30% in the three month periods ended September 30, 2012 and 2011, respectively. In Asia, net sales were $103 million and $81 million in the three month periods ended September 30, 2012 and 2011 periods, respectively, an increase of 26%. Sales in Asia, as a percentage of consolidated sales were 35% and 32% in the three month periods ended September 30, 2012 and 2011, respectively.   

For the nine month periods ended September 30, 2012 and 2011, net sales in the Americas were $338 million and $300 million, respectively, an increase of 13%. For these same periods, sales in the Americas, as a percentage of consolidated sales were 40% and 40%, respectively. In Europe, net sales were $218 million and $223 million in the nine month periods ended September 30, 2012 and 2011, respectively, a decrease of 2%. For these same periods, sales in Europe, as a percentage of consolidated sales were 26% and 30%, respectively. In Asia, net sales were $287 million and $224 million, in the nine month periods ended September 30, 2012 and 2011 respectively, an increase of 28%. For these same periods, sales in Asia, as a percentage of consolidated sales were 34% and 30%, respectively.  

We expect sales outside of the Americas to continue to represent a significant portion of our revenue. We intend to continue to expand our international operations by increasing our presence in existing markets, adding a presence in some new geographical markets and continuing the use of distributors to sell our products in some countries. We anticipate that sales growth in Asia will continue to outpace growth in the Americas and Europe and continue to grow as a percent of our total net sales.  

Almost all of the sales made by our direct sales offices in the Americas, outside of the U.S., in Europe and in Asia are denominated in local currencies, and accordingly, the U.S. dollar equivalent of these sales is affected by changes in foreign currency exchange rates. For the three month period ended September 30, 2012, in local currency terms, our consolidated net sales increased by $30 million or 11%, Americas sales increased by $3.6 million or 3%, European sales increased by $3.1 million or 4%, and sales in Asia increased by $23 million or 29%, compared to the three month period ended September 30, 2011. During this same period, the change in exchange rates had the effect of decreasing our consolidated sales by $12 million or 4%, decreasing Americas sales by $440,000 or 0.4%, decreasing European sales by $9 million or 12%, and decreasing sales in Asia by $2.1 million or 3%.  

For the three month period ended September 30, 2011, in local currency terms, our consolidated sales increased by $18 million or 9%, Americas sales increased by $626,000 or 1%, European sales increased by $5 million or 14%, and sales in Asia Pacific increased by $12 million or 19%. During this same period, the change in exchange rates had the effect of increasing our consolidated sales by $18 million or 9%, increasing Americas sales by $879,000 or 1%, increasing European sales by $11 million or 30%, and increasing sales in Asia Pacific by $6 million or 10%.  

For the nine month period ended September 30, 2012, in local currency terms, our consolidated net sales increased by $96 million or 12%, Americas sales increased by $25 million or 8%, European sales increased by $6 million or 2%, and sales in Asia Pacific increased by $65 million or 29%, compared to the nine month period ended September 30, 2011. During this same period, the change in exchange rates had the effect of decreasing our consolidated sales by $16 million or 2%, decreasing Americas sales by $2.0 million or 0.6%, decreasing European sales by $12 million or 5%, and decreasing sales in Asia Pacific by $2.6 million or 1%.  

For the nine month period ended September 30, 2011, in local currency terms, our consolidated net sales increased by $99 million or 17%, Americas sales increased by $32 million or 12%, European sales increased by $33 million or 23%, and sales in Asia Pacific increased by $35 million or 20%, compared to the nine month period ended September 30, 2010. During this same period, the change in exchange rates had the effect of increasing our consolidated sales by $26 million or 4%, increasing Americas sales by $1.7 million or 1%, increasing European sales by $14 million or 9%, and increasing sales in Asia Pacific by $11 million or 6%.  

   

To help protect against a reduction in value caused by a fluctuation in foreign currency exchange rates of forecasted foreign currency cash flows resulting from international sales, we have instituted a foreign currency cash flow hedging program. We hedge portions of our forecasted revenue denominated in foreign currencies with forward and purchased option contracts. During the three month periods ended September 30, 2012 and 2011, these hedges had the effect of increasing our consolidated sales by $857,000 and decreasing our consolidated sales by $1.1 million, respectively. During the nine month periods ended September 30, 2012 and 2011, these hedges had the effect of increasing our consolidated sales by $2.1 million and decreasing our consolidated sales by $2.9 million, respectively. (See Note 5 - Derivative instruments and hedging activities of Notes to Consolidated Financial Statements for further discussion regarding our cash flow hedging program and its related impacted on our consolidated sales for 2012 and 2011).  

26  


 

Gross Profit. For the three month periods ended September 30, 2012 and 2011, gross profit was $216 million and $190 million, respectively, an increase of 14%. As a percentage of sales, gross profit was 75% and 74% for the three month periods ended September 30, 2012 and 2011, respectively. For the nine month periods ended September 30, 2012 and 2011, gross profit was $638 million and $573 million, respectively, an increase of 11%. For these same periods, as a percentage of sales, gross profit was 76% and 77%, respectively. During the three and nine month periods ended September 30, 2012, gross margin was negatively impacted by the decline in our European business as a result of the weakness of the European industrial economy and the weaker Euro as well as the lower than average gross margin on our largest order. We continued to focus on cost control and cost reduction measures throughout our manufacturing cycle. These cost control and cost reduction measures along with sales growth have allowed us to maintain stability in our gross margin percentage.   

For three month periods ended September 30, 2012 and 2011, the change in exchange rates had the effect of decreasing our cost of sales by $779,000 or (1)% and increasing our cost of sales by $1.9 million or 4%, respectively. For the nine month periods ended September 30, 2012 and 2011, the change in exchange rates had the effect of decreasing our cost of sales by $1.4 million or (1)% and increasing our cost of sales by $4.5 million or 3%, respectively. To help protect against changes in our cost of sales caused by a fluctuation in foreign currency exchange rates of forecasted foreign currency cash flows, we have a foreign currency cash flow hedging program. We hedge portions of our forecasted costs of sales denominated in foreign currencies with forward contracts. During the three month periods ended September 30, 2012 and 2011, these hedges had the effect of decreasing our cost of sales by $92,000 and $507,000, respectively. During the nine month periods ended September 30, 2012 and 2011, these hedges had the effect of decreasing our cost of sales by $187,000 and $1.3 million, respectively. (See Note 5 - Derivative instruments and hedging activities of Notes to Consolidated Financial Statements for further discussion regarding our cash flow hedging program and its related impacted on our consolidated sales for 2012 and 2011).  

Operating Expenses. For the three month periods ended September 30, 2012 and 2011, operating expenses were $187 million and $179 million, respectively, an increase of 4%. This increase in our operating expenses was due to higher personnel related expenses of $6 million which included commissions, variable compensation and benefits. The increase in personnel expenses is related to a net increase in our overall headcount of 523 employees. The majority of these personnel additions occurred during the second and third quarter of 2011 resulting in a more significant impact on our September 30, 2012 year over year comparison. In addition, this increase is attributed to higher expenses for building and equipment of $2.0 million, higher expenses related to marketing and outside services of $2.1 million, and higher travel related expenses of $1.9 million. Over the same period, the net impact of changes in foreign currency exchange rates decreased our operating expense by $6.8 million.   

For the nine month periods ended September 30, 2012 and 2011, operating expenses were $549 million and $492 million respectively, an increase of 11%. This increase in our operating expenses was due to higher personnel related expenses of $41 million which included commissions, variable compensation and benefits, higher expenses related to marketing and outside services of $8 million, higher expenses for building and equipment of $8 million, and higher travel related expenses of $5.5 million. Over the same period, the net impact of changes in foreign currency exchange rates decreased our operating expense by $11 million. The increase in personnel expenses is related to a net increase in our average headcount of 523 employees.  

As a percentage of net sales, operating expenses in the three month periods ended September 30, 2012 and 2011 were 64% and 70%, respectively. The year over year decrease in our operating expenses as a percent of sales is attributed to the fact that our net sales grew by 14% while operating expenses only increased by 4% based on the factors above. For the nine month periods ended September 30, 2012 and 2011, operating expenses as a percentage of net sales were 65% and 66%, respectively. This year over year increase in our operating expenses as a percentage of net sales is attributed to the fact that we grew our overall operating expenses by 11% while our net sales grew by 13%.  

 

We believe that our long-term growth and success depends on developing high quality software and hardware products on a timely basis. To that end, we have made investments in research and development and our field sales force a priority. For the three month periods ended September 30, 2012 and 2011, our research and development expenses were $57 million and $55 million, respectively. For the nine month periods ended September 30, 2012 and 2011, our research and development expenses were $165 million and $145 million, respectively. From a regional perspective, the increase in research and development in the nine month period ended September 30, 2012, had a larger impact on the operating income of the Americas as the Americas absorbed $18 million of the overall $20 million increase. The overall increase in research and development expense was due to an increase in our research and development headcount to 1,942 at September 30, 2012 from 1,873 at September 30, 2011. This increase in headcount is consistent with our stated plan to make investment in research and development a priority in order to support our long-term growth.   

Operating Income.  For the three month periods ended September 30, 2012 and 2011, operating income was $30 million and $11 million, respectively, an increase of 178%. As a percent of net sales, operating income was 10% and 4%, respectively in these same periods. For the three month period ended September 30, 2011, our operating income was negatively impacted by the $13 million accrual related to our GSA contract. There was no impact from our GSA contract in the three month period ended September 30, 2012, as our Settlement Agreement with GSA was executed in the second quarter of 2012. For the nine month periods ended September 30, 2012 and 2011, operating income was $89 million and $80 million, respectively, an increase of 11%. As a percentage of net sales, operating income was 11% for each of the nine month periods ended September 30, 2012 and 2011.   

 

27  


 

Interest Income.    For the three month periods ended September 30, 2012 and 2011, interest income was $133,000 and $354,000, respectively. For the nine month periods ended September 30, 2012 and 2011, interest income was $495,000 and $1.0 million, respectively. We continue to see low yields for high quality investment alternatives that comply with our corporate investment policy. We do not expect yields in these types of investments to increase during the remainder of 2012.   

Net Foreign Exchange (Loss).    For the three month periods ended September 30, 2012 and 2011, net foreign exchange (loss) was $(235,000) and $(708,000), respectively. During the nine month periods ended September 30, 2012 and 2011, net foreign exchange (loss) was $(2.1) million and $(1.4) million, respectively. These results are attributable to movements in the foreign currency exchange rates between the U.S. dollar and foreign currencies in subsidiaries for which our functional currency is not the U.S. dollar. During the three and nine month periods ended September 30, 2012, there was mixed volatility in the exchange rates between the U.S. dollar and most of the major currencies in the markets in which we do business. We cannot predict the direction or degree of future volatility in these exchange rates. In the past, we have noted that significant volatility in foreign currency exchange rates in the markets in which we do business has had a significant impact on the revaluation of our foreign currency denominated firm commitments, on our ability to forecast our U.S. dollar equivalent revenues and expenses and on the effectiveness of our hedging programs. In the past, these dynamics have also adversely affected our revenue growth in international markets and may pose similar challenges in the future. We recognize the local currency as the functional currency in virtually all of our international subsidiaries.   

We utilize foreign currency forward contracts to hedge our foreign denominated net foreign currency balance sheet positions to help protect against the change in value caused by a fluctuation in foreign currency exchange rates. We typically hedge up to 90% of our outstanding foreign denominated net receivable or payable positions and typically limit the duration of these foreign currency forward contracts to approximately 90 days. The gain or loss on these derivatives as well as the offsetting gain or loss on the hedged item attributable to the hedged risk is recognized in current earnings under the line item “Net foreign exchange gain (loss)”. Our hedging strategy decreased our foreign exchange gains by $1.2 million in the three month period ended September 30, 2012 and reduced our foreign exchange losses by $2.7 million in the three month period ended September 30, 2011. Our hedging strategy increased our foreign exchange losses by $1.4 million in the nine month period ended September 30, 2012 and reduced our foreign exchange losses by $641,000 in nine month period ended September 30, 2011.   

 

 

Provision for Income Taxes.    For the three month periods ended September 30, 2012 and 2011, our provision for income taxes reflected an effective tax rate of 16%  and (24)%, respectively. For the nine month periods ended September 30, 2012 and 2011, our provision for income taxes reflected an effective tax rate of 20% and 12%, respectively. The factors that caused our effective tax rate to change year-over-year are detailed in the table below:

 

 

 

 

 

 

 

 

 

 

 

Three Months Ended

 

Nine Months Ended

 

 

September 30, 2012

 

September 30, 2012

 

 

(Unaudited)

 

Effective tax rate at September 30, 2011

(24)

%

12 

%

Change in unrecognized tax benefits for uncertain tax positions

 

 

Change in percentage of profits in foreign jurisdictions with reduced income tax rates

(2)

 

(1)

 

Decrease in the partial release of a deferred tax asset valuation allowance

 

 

Change in tax benefit from equity awards

(2)

 

 

Change in research and development tax credit

 

 

GSA accrual

33 

 

 

Other

 

 

Effective tax rate at September 30, 2012

16 

%

20 

%

  

(See Note 9 – Income taxes of Notes to Consolidated Financial Statements for further discussion regarding changes in our effective tax rate and a reconciliation of income taxes at the U.S. federal statutory income tax rate of 35% to our effective tax rate).  

  

Other operational metrics  

  

We believe that the following additional unaudited operational metrics assist investors in assessing our operational performance relative to our peers and to our historical results.  

  

Acquisition related deferred revenue excluded from revenue and GSA accrual adjustment. For the three and nine month periods ended September 30, 2012 and 2011, our excluded acquisition related deferred revenue was as follows: 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three Months Ended September 30,

 

 

Nine Months Ended September 30,

(In thousands)

 

(Unaudited)

 

 

(Unaudited)

 

 

2012

 

2011

 

 

2012

 

2011

Revenue

 

 

 

 

 

 

 

 

 

Acquisition related deferred revenue

$

 -

$

2,818 

 

$

2,156 

$

2,818 

GSA accrual

 

 -

 

13,107 

 

 

(1,349)

 

13,107 

Provision for income taxes

 

 -

 

(5,573)

 

 

(282)

 

(5,573)

Total

$

 -

$

10,352 

 

$

525 

$

10,352 

28  


 

 

 Charges related to stock-based compensation, amortization of acquired intangibles and acquisition related transaction costs. For the three and nine month periods ended September 30, 2012 and 2011, the gross charges related to stock-based compensation as a component of cost of sales, sales and marketing, research and development, and general and administrative expenses and the total charges were as follows: 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three Months Ended September 30,

 

 

Nine Months Ended September 30,

(In thousands)

 

(Unaudited)

 

 

(Unaudited)

 

 

2012

 

2011

 

 

2012

 

2011

Stock-based compensation

 

 

 

 

 

 

 

 

 

Cost of sales

$

436 

$

401 

 

$

1,289 

$

1,116 

Sales and marketing

 

2,994 

 

2,630 

 

 

8,579 

 

7,009 

Research and development

 

2,862 

 

2,489 

 

 

7,990 

 

6,245 

General and administrative

 

928 

 

834 

 

 

2,648 

 

2,280 

Provision for income taxes

 

(1,999)

 

(826)

 

 

(5,386)

 

(4,786)

Total

$

5,221 

$

5,528 

 

$

15,120 

$

11,864 

 

For the three and nine month periods ended September 30, 2012 and 2011, the gross charges related to the amortization of acquisition related intangibles as a component of cost of sales, sales and marketing and other income (expense), net and the total charges were as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three Months Ended September 30,

 

 

Nine Months Ended September 30,

(In thousands)

 

(Unaudited)

 

 

(Unaudited)

 

 

2012

 

2011

 

 

2012

 

2011

Amortization of acquired intangibles

 

 

 

 

 

 

 

 

 

Cost of sales

$

2,165 

$

2,586 

 

$

6,761 

$

4,595 

Sales and marketing

 

448 

 

447 

 

 

1,343 

 

624 

Other income, net

 

189 

 

198 

 

 

571 

 

765 

Provision for income taxes

 

(887)

 

(1,034)

 

 

(2,753)

 

(1,743)

Total

$

1,915 

$

2,197 

 

$

5,922 

$

4,241 

 

For the three and nine month periods ended September 30, 2012 and 2011, the gross charges related to acquisition related transaction costs as a component of cost of sales, sales and marketing, research and development and general and administrative expenses and the total charges were as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three Months Ended September 30,

 

 

Nine Months Ended September 30,

(In thousands)

 

(Unaudited)

 

 

(Unaudited)

 

 

2012

 

2011

 

 

2012

 

2011

Acquisition related transaction costs

 

 

 

 

 

 

 

 

 

Cost of sales

$

 -

$

22 

 

$

32 

$

22 

Sales and marketing

 

190 

 

147 

 

 

429 

 

1,129 

Research and development

 

33 

 

70 

 

 

195 

 

70 

General and administrative

 

(18)

 

31 

 

 

38 

 

458 

Provision for income taxes

 

(72)

 

(95)

 

 

(243)

 

(146)

Total

$

133 

$

175 

 

$

451 

$

1,533 

  

Liquidity and Capital Resources  

  

Working Capital, Cash and Cash Equivalents and Short-term Investments.  The following table presents our working capital, cash and cash equivalents and short-term investments:  

  

 

 

 

 

 

 

 

 

 

 

September 30, 2012

 

December 31, 2011

 

Increase/

(In thousands)

 

(unaudited)

 

(unaudited)

 

(Decrease)

 

 

 

 

 

 

 

Working capital

$

547,395 

$

506,644 

$

40,751 

Cash and cash equivalents (1)

 

311,536 

 

142,608 

 

168,928 

Short-term investments (1)

 

52,128 

 

223,504 

 

(171,376)

Total cash, cash equivalents and short-term investments

$

363,664 

$

366,112 

$

(2,448)

 

 

 

 

 

 

 

(1) Included in working capital

 

 

 

 

 

 

29  


 

  

During the nine month period ended September 30, 2012, our working capital increased by $41 million. Overall, current assets increased by $53 million while current liabilities increased by $12 million. The increase in our current assets was the result of a $26 million increase in accounts receivable, a $23 million increase in inventory and a $6.8 million increase in prepaid expenses and other current assets, offset by a $2.4 million decrease in our cash, cash equivalents and short-term investments. These overall increases in working capital can be attributed to our overall business growth during the nine month period ended September 30, 2012.  

  

Our cash and cash equivalent balances are held in numerous financial institutions throughout the world, including substantial amounts held outside of the U.S., however, the majority of our cash and investments that are located outside of the U.S. are denominated in the U.S. dollar with the exception of $32 million U.S. dollar equivalent of German government sovereign debt that is denominated in Euro. Our short-term investments do not include sovereign debt from any other countries in Europe. At September 30, 2012, we had $364 million in cash, cash equivalents and short-term investments. Approximately $67 million or 18% of these amounts were held in domestic accounts with various financial institutions and $297 million or 82% was held in accounts outside of the U.S. with various financial institutions. At September 30, 2012, we had cash and cash equivalents of $312 million of which $60 million or 19% was held in domestic accounts and $252 million or 81% was held in various accounts of our foreign subsidiaries.  At September 30, 2012, we had short-term investments of $52 million of which $7 million or 13% was held in our investment accounts in the U.S. and $45 million or 87% was held in investment accounts of our foreign subsidiaries. Most of the amounts held outside of the U.S. could be repatriated to the U.S., but under current law, would be subject to U.S. federal income taxes, less applicable foreign tax credits. We have provided for the U.S. federal tax liability on some of these amounts for financial statement purposes, except for foreign earnings that are considered indefinitely reinvested outside of the U.S. If we chose to repatriate earnings that are considered indefinitely reinvested outside of the U.S., we would incur additional U.S. federal income tax payments in future years. We utilize a variety of tax planning and financing strategies with the objective of having our worldwide cash available in the locations in which it is needed; however, we may chose to repatriate earnings in the future.  

  

Cash Provided and (Used) in the Nine Month Periods ended September 30, 2012 and 2011.  Cash, cash equivalents and short-term investments decreased to $364 million at September 30, 2012 from $366 million at December 31, 2011. The following table summarizes the proceeds and (uses) of cash:  

  

 

 

 

 

 

 

 

 

Nine Months Ended September 30,

(In thousands)

 

(unaudited)

 

 

2012

 

2011

Cash provided by operating activities

$

90,262 

$

116,500 

Cash provided/(used) by investing activities

 

106,183 

 

(135,738)

Cash used by financing activities

 

(27,517)

 

(3,698)

Net change in cash equivalents

 

168,928 

 

(22,936)

Cash and cash equivalents at beginning of year

 

142,608 

 

219,447 

Cash and cash equivalents at end of period

$

311,536 

$

196,511 

  

 

For the nine month periods ended September 30, 2012 and 2011, cash provided by operating activities was $90 million and $117 million, respectively. Year over year, we had a decrease in cash provided by operating assets and liabilities of $26 million.  

  

Accounts receivable increased to $183 million at September 30, 2012 compared to $157 million at December 31, 2011. Days sales outstanding was 55 days at September 30, 2012, compared to 51 days at December 31, 2011. The increase in accounts receivable was the result of a large volume of sales shipped toward the end of our three month period ended September 30, 2012. We typically bill customers on an open account basis subject to our standard net 30 day payment terms. If, in the longer term, our revenue increases, it is likely that our accounts receivable balance will also increase. Our accounts receivable could also increase if customers delay their payments or if we grant extended payment terms to customers, both of which are more likely to occur during challenging economic times when our customers may face issues gaining access to sufficient funding or credit.  

  

Consolidated inventory balances increased to $155 million at September 30, 2012 from $132 million at December 31, 2011. Inventory turns were 1.9 at both September 30, 2012 and December 31, 2011. Inventory increased by $23 million during the nine month period ended September 30, 2012, in order to support the overall growth of our sales, our large complex orders and the opening of our manufacturing facility in Penang, Malaysia. Our inventory levels will continue to be determined based upon our anticipated demand for products and our need to keep sufficient inventory on hand to meet our customers’ demands. Such considerations are balanced against the risk of obsolescence or potentially excess inventory levels. Rapid decreases or increases in customer demand could have a significant impact on our inventory balances in future periods.  

  

30  


 

Investing activities provided cash of $106 million during the nine months ended September 30, 2012, as the result of the net sale of $171 million of short-term investments offset by the purchase of property and equipment of $52 million and capitalization of internally developed software of $11 million. Investing activities used cash of $136 million during the nine months ended September 30, 2011, as the result of our acquisitions of AWR Corporation (AWR) and Phase Matrix Inc. (PMI) for $45 million, net of cash received, and $28 million, net of cash received, respectively, as well as the purchase of property and equipment of $40 million, capitalization of internally developed software of $11 million, and the net purchase of $7 million of short-term investments.  

  

Financing activities used cash of $28 million during the nine months ended September 30, 2012, which was the result of $21 million received from the issuance of our common stock from the exercise of stock options and under our employee stock purchase plan, offset by $51 million used to pay dividends to our stockholders. Financing activities used cash of $3.7 million during the nine months ended September 30, 2011, which was the result of $36 million used to pay dividends to our stockholders offset by $27 million received from the issuance of our common stock from the exercise of stock options and under our employee stock purchase plan as well as a tax benefit of $5 million.  

  

From time to time, our Board of Directors has authorized various programs to repurchase shares of our common stock depending on market conditions and other factors. On April 21, 2010, our Board of Directors approved a share repurchase program that increased the aggregate number of shares of common stock that we are authorized to repurchase from approximately 1.0 million to 4.5 million. We did not make any purchases under this plan during the nine month period ended September 30, 2012. At September 30, 2012, there were 3,932,245 shares remaining available for repurchase under this plan. This repurchase plan does not have an expiration date.  

  

During the nine month period ended September 30, 2012, we received less proceeds from the exercise of stock options compared to the nine months ended September 30, 2011. The timing and number of stock option exercises and the amount of cash proceeds we receive through those exercises are not within our control and in the future, we may not generate as much cash from the exercise of stock options as we have in the past. Moreover, since 2005, it has been our practice to issue restricted stock units and not stock options to eligible employees which has reduced the number of stock options available for exercise in the future. Unlike the exercise of stock options, the issuance of shares upon vesting of restricted stock units does not result in any cash proceeds to us.  

  

Contractual Cash Obligations.  Purchase obligations primarily represent purchase commitments for customized inventory and inventory components. At September 30, 2012, we had non-cancelable purchase commitments with various suppliers of customized inventory and inventory components totaling approximately $7 million. At December 31, 2011, we had non-cancelable purchase commitments with various suppliers of customized inventory and inventory components totaling approximately $14 million.  

  

Guarantees are related to payments of customs and foreign grants. At September 30, 2012, we had outstanding guarantees for payment of customs and foreign grants totaling approximately $5.0 million. At December 31, 2011, we had outstanding guarantees for payment of customs, foreign grants and potential customer disputes totaling approximately $5 million.  

  

Off-Balance Sheet Arrangements.    We do not have any debt or off-balance sheet debt. At September 30, 2012, we did not have any relationships with any unconsolidated entities or financial partnerships, such as entities often referred to as structured finance entities, which would have been established for the purpose of facilitating off-balance sheet arrangements. As such, we are not exposed to any financing, liquidity, market or credit risk that could arise if we were engaged in such relationships.  

  

Prospective Capital Needs.    We believe that our existing cash, cash equivalents and short-term investments, together with cash generated from operations as well as from the exercise of employee stock options and the purchase of common stock through our employee stock purchase plan, will be sufficient to cover our consolidated working capital needs, capital expenditures, investment requirements and commitments for at least the next 12 months. Over the next twelve months, we may need to seek external financing or repatriate foreign earnings in order to continue payment of dividends to our stockholders or to pursue acquisitions or other domestic corporate activities. We may also choose to raise additional funds by selling equity or debt securities to the public or to selected investors. Historically, we have not had to rely on debt, public or private, to fund our operating, financing or investing activities. We could also choose to reduce certain expenditures or payments of dividends or suspend our program to repurchase shares of our common stock. In addition, even though we may not need additional funds, we may still elect to sell additional equity or debt securities or obtain credit facilities for other reasons. If we elect to raise additional funds, we may not be able to obtain such funds on a timely basis on acceptable terms, if at all. If we raise additional funds by issuing additional equity or convertible debt securities, the ownership percentages of our existing stockholders would be reduced. In addition, the equity or debt securities that we issue may have rights, preferences or privileges senior to those of our common stock.  

  

31  


 

Although we believe that we have sufficient capital to fund our operating activities for at least the next 12 months, our future capital requirements may vary materially from those now planned. We anticipate that the amount of capital we will need in the future will depend on many factors, including:  

  

·

general economic and political uncertainty and specific conditions in the markets we address, including any volatility in the industrial economy in the various geographic regions in which we do business; 

·

difficulties and the high tax costs associated with the repatriation of earnings;  

·

payment of dividends to our stockholders; 

·

the inability of certain of our customers who depend on credit to have access to their traditional sources of credit to finance the purchase of products from us, which may lead them to reduce their level of purchases or to seek credit or other accommodations from us; 

·

acquisitions of other businesses, assets, products or technologies; 

·

required levels of research and development and other operating costs; 

·

capital improvements for existing facilities; 

·

the overall levels of sales of our products and gross profit margins; 

·

our business, product, capital expenditure and research and development plans, and product and technology roadmaps; 

·

the levels of inventory and accounts receivable that we maintain; 

·

repurchases of our common stock; 

·

our relationships with suppliers and customers; and 

·

the level of exercises of stock options and stock purchases under our employee stock purchase plan.  

  

Recently Issued Accounting Pronouncements  

  

See Note 14 – Recently Issued Accounting Pronouncements in Notes to Consolidated Financial Statements.  

  

Item 3.            Quantitative and Qualitative Disclosures About Market Risk  

  

Response to this item is included in Item 2 - Management's Discussion and Analysis of Financial Conditions and Results of Operations above.  

  

Financial Risk Management  

  

Our international sales are subject to inherent risks, including fluctuations in local economies; fluctuations in foreign currencies relative to the U.S. dollar; difficulties in staffing and managing foreign operations; greater difficulty in accounts receivable collection; costs and risks of localizing products for foreign countries; unexpected changes in regulatory requirements, tariffs and other trade barriers; difficulties in the repatriation of earnings and burdens of complying with a wide variety of foreign laws.  

   

The vast majority of our sales outside of North America are denominated in local currencies, and accordingly, the U.S. dollar equivalent of these sales is affected by changes in the foreign currency exchange rates. The change in exchange rates had the effect decreasing our consolidated sales by $12 million or 4% in the three month period ended September 30, 2012, and increasing our consolidated sales by $18 million or 9% in the three month period ended September 30, 2011. The change in exchange rates had the effect of decreasing our consolidated sales by $16 million or 2% in the nine month period ended September 30, 2012, and increasing our consolidated sales by $26 million or 4% in the nine month period ended September 30, 2011. Since most of our international operating expenses are also incurred in local currencies, the change in exchange rates had the effect of decreasing our consolidated operating expenses by $6.8 million or 4% in the three month period ended September 30, 2012, and increasing our consolidated operating expenses by $9 million or 7% in the three month period ended September 30, 2011. The change in exchange rates had the effect of decreasing our consolidated operating expenses by $11 million or 2% in the nine month period ended September 30, 2012, and increasing our consolidated operating expenses by $17 million or 4% in the nine month period ended September 30, 2011.  

  

During nine month period ended September 30, 2012, there was an overall appreciation of the U.S. dollar against the major currencies we do business in and a high level of volatility in the broader foreign exchange markets. The majority of the appreciation and the highest level of volatility occurred during the three month period ended June 30, 2012. We cannot predict the direction or degree of future volatility in exchange rates. In the past, we have noted that significant volatility in foreign currency exchange rates in the markets in which we do business has had a significant impact on the revaluation of our foreign currency denominated firm commitments, on our ability to forecast our U.S. dollar equivalent revenues and expenses and on the effectiveness of our hedging programs. In the past, these dynamics have also adversely affected our revenue growth in international markets and may pose similar challenges in the future. We recognize the local currency as the functional currency in virtually all of our international subsidiaries.  

  

 

 

32  


 

If the local currencies in which we sell our products strengthen against the U.S. dollar, we may need to lower our prices in the local currency to remain competitive in our international markets which could have a material adverse effect on our gross and net profit margins. If the local currencies in which we sell our products weaken against the U.S. dollar and if the local sales prices cannot be raised due to competitive pressures, we will experience a deterioration of our gross and net profit margins. To help protect against the change in the value caused by a fluctuation in foreign currency exchange rates of forecasted foreign currency cash flows resulting from international sales and expenses over the next one to two years, we have a foreign currency cash flow hedging program. We hedge portions of our forecasted revenue, cost of sales and operating expenses denominated in foreign currencies with foreign currency forward contracts. For forward contracts, when the dollar strengthens significantly against the foreign currencies, the change in the present value of future foreign currency cash flows may be offset by the change in the fair value of the forward contracts designated as hedges. For purchased option contracts, when the dollar strengthens significantly against the foreign currencies, the change in the present value of future foreign currency cash flows may be offset by the change in the fair value of the option contracts designated as hedges, net of the premium paid. Our foreign currency purchased option contracts are purchased “at-the-money” or “out-of-the-money.” We purchase foreign currency forward and option contracts for up to 100% of our forecasted exposures in selected currencies (primarily in Euro, Japanese yen, Korean won and Hungarian forint) and limit the duration of these contracts to 40 months or less. As a result, our hedging activities only partially address our risks from foreign currency transactions, and there can be no assurance that this strategy will be successful. We do not invest in contracts for speculative purposes.   

  

During the three month period ended September 30, 2012, our hedges had the effect of increasing our consolidated sales by $857,000, decreasing our cost of sales by $92,000, and decreasing our operating expenses by $62,000. During the nine month period ended September 30, 2012, our hedges had the effect of increasing our consolidated sales by $2.1 million, decreasing our cost of sales by $187,000, and decreasing our operating expenses by $125,000. During the three month period ended September 30, 2011, our hedges had the effect of decreasing our consolidated sales by $1.1 million, decreasing our cost of sales by $507,000, and decreasing our operating expenses by $190,000. During the nine month period ended September 30, 2011, our hedges had the effect of decreasing our consolidated sales by $2.9 million, decreasing our cost of sales by $1.3 million, and decreasing our operating expenses by $612,000. (See Note 5 - Derivative instruments and hedging activities of Notes to Consolidated Financial Statements for further discussion regarding our cash flow hedging program and its related impacted on our consolidated sales, cost of sales and operating expenses for the three and nine month periods ended September 30, 2012 and 2011).  

  

Inventory Management  

  

The marketplace for our products dictates that many of our products be shipped very quickly after an order is received. As a result, we are required to maintain significant inventories. Therefore, inventory obsolescence is a risk for us due to frequent engineering changes, shifting customer demand, the emergence of new industry standards and rapid technological advances including the introduction by us or our competitors of products embodying new technology. However, our risk of obsolescence is mitigated as many of our products have interchangeable parts and many have long lives. While we adjust for excess and obsolete inventories and we monitor the valuation of our inventories, there can be no assurance that our valuation adjustments will be sufficient.  

  

 

Market Risk  

  

We are exposed to a variety of risks, including foreign currency fluctuations and changes in the market value of our investments. In the normal course of business, we employ established policies and procedures to manage our exposure to fluctuations in foreign currency values and changes in the market value of our investments.  

33  


 

  

Cash, Cash Equivalents and Short-Term Investments  

  

At September 30, 2012, we had $364 million in cash, cash equivalents and short-term investments of which $67 million or 18% is held in domestic accounts and $297 million or 82% is held in international accounts. We maintain cash and cash equivalents and short-term investments with various financial institutions located in many countries throughout the world. At September 30, 2012, we had cash and cash equivalents of $312 million of which $128 million or 41% was held in cash in various operating accounts throughout the world and $132 million or 42% was held in money market accounts and $51 million was held in U.S. Treasuries with original maturities of 90 days or less. The most significant of our operating accounts was our domestic operating account which held approximately $21 million or 7% of our total cash and cash equivalents at a bank that carried A+/A2/AA- ratings. At September 30, 2012, we had short-term investments of $52 million of which $7 million or 13% was held in our investment accounts in the U.S. and $45 million or 87% was held in investment accounts of our foreign subsidiaries. Our short-term investments include $32 million U.S. dollar equivalent of German government sovereign debt that is denominated in Euro. Our German government sovereign debt holdings have a maximum maturity of 24 months and carry Aaa/AAA ratings. Our short-term investments do not include sovereign debt from any other countries in Europe.  

  

We value our available-for-sale short term investments based on pricing from third party pricing vendors, who may use quoted prices in active markets for identical assets (Level 1 inputs) or inputs other than quoted prices that are observable either directly or indirectly (Level 2 inputs) in determining fair value. We classify all of our fixed income available-for-sale securities as having Level 2 inputs. The valuation techniques used to measure the fair value of our financial instruments having Level 2 inputs were derived from non-binding market consensus prices that are corroborated by observable market data, quoted market prices for similar instruments, or pricing models, such as discounted cash flow techniques. We believe all of these sources reflect the credit risk associated with each of our available for sale short term investments.  

  

The goal of our investment policy is to manage our investment portfolio to preserve principal and liquidity while maximizing the return on our investment portfolio through the full investment of available funds. We place our cash investments in instruments that meet credit quality standards, as specified in our corporate investment policy guidelines. These guidelines also limit the amount of credit exposure to any one issue, issuer or type of instrument. Our cash equivalents and short-term investments carried ratings from the major credit rating agencies that were in accordance with our corporate investment policy. Our investment policy allows investments in the following: government and federal agency obligations, repurchase agreements (“Repos”), certificates of deposit and time deposits, corporate obligations, medium term notes and deposit notes, commercial paper including asset-backed commercial paper (“ABCP”), puttable bonds, general obligation and revenue bonds, money market funds, taxable commercial paper, corporate notes/bonds, municipal notes, municipal obligations, variable rate demand notes and tax exempt commercial paper. All such instruments must carry minimum ratings of A1/P1/F1, MIG1/VMIG1/SP1 and A2/A/A, as applicable, all of which are considered “investment grade”. Our investment policy for marketable securities requires that all securities mature in three years or less, with a weighted average maturity of no longer than 18 months with at least 10% maturing in 90 days or less.  

  

We account for our investments in debt and equity instruments under FASB ASC 320 Investments – Debt and Equity Securities (FASB ASC 320). Our investments are classified as available-for-sale and accordingly are reported at fair value, with unrealized gains and losses reported as other comprehensive income, a component of shareholders’ equity. Unrealized losses are charged against income when a decline in fair value is determined to be other than temporary. Investments with maturities beyond one year are classified as short-term based on their highly liquid nature and because such marketable securities represent the investment of cash that is available for current operations. The fair value of our short-term investments at September 30, 2012 and December 31, 2011 was $52 million and $224 million, respectively. The decrease was due to the net sale of $171 million of short-term investments of which approximately $51 million were reinvested in financial instruments with original maturities of less than 90 days and are therefore classified as cash equivalents at September 30, 2012.   

  

We follow the guidance provided by FASB ASC 320 to assess whether our investments with unrealized loss positions are other than temporarily impaired. Realized gains and losses and declines in value judged to be other than temporary are determined based on the specific identification method and are reported in other income (expense), net, in our Consolidated Statements of Income. There were not any other than temporary impairments recognized in other expense during the three and nine month periods ended September 30, 2012.  

 

34  


 

  

Interest Rate Risk  

  

Investments in both fixed rate and floating rate instruments carry a degree of interest rate risk. Fixed rate securities may have their market value adversely impacted due to an increase in interest rates, while floating rate securities may produce less income than expected if interest rates fall. Due to these factors, our future investment income may fall short of expectations due to changes in interest rates or if the decline in the fair value of our publicly traded debt investments is judged to be other-than-temporary. We may suffer losses in principal if we are forced to sell securities that have declined in market value due to changes in interest rates. However, because any debt securities we hold are classified as available-for-sale, no gains or losses are realized in our income statement due to changes in interest rates unless such securities are sold prior to maturity or unless declines in value are determined to be other-than-temporary. These securities are reported at fair value with the related unrealized gains and losses included in accumulated other comprehensive income (loss), a component of stockholders’ equity, net of tax.  

  

In a declining interest rate environment, as short-term investments mature, reinvestment occurs at less favorable market rates. Given the short-term nature of certain investments, the current interest rate environment of low rates has negatively impacted our investment income.  

  

In order to assess the interest rate risk associated with our investment portfolio, we performed a sensitivity analysis to determine the impact a change in interest rates would have on the value of our investment portfolio assuming a 100 basis point parallel shift in the yield curve. Based on our investment positions as of September 30, 2012, a 100 basis point increase or decrease in interest rates across all maturities would result in a $815,000 increase or decrease in the fair market value of our portfolio. As of December 31, 2011, a similar 100 basis point increase or decrease in interest rates across all maturities would result in a $1.9 million increase or decrease in the fair market value of our portfolio. Such losses would only be realized if we sold the investments prior to maturity or if there is an other than temporary impairment. Actual future gains and losses associated with our investments may differ from the sensitivity analyses performed as of September 30, 2012, due to the inherent limitations associated with predicting the changes in the timing and level of interest rates and our actual exposures and positions.  

  

We continue to monitor the stability of the financial markets, particularly those in the European region and have taken steps to limit our direct and indirect exposure to these markets; however, we can give no assurance that we will not be negatively impacted by any adverse outcomes in those markets. We also continue to weigh the benefit of the higher yields associated with longer maturities against the interest rate risk and credit rating risk, also associated with these longer maturities when making these decisions. We cannot predict when or if interest rates and investment yields will rise. If yields continue to stay at these low levels, our investment income will continue to be negatively impacted.  

  

Exchange Rate Risk  

  

Our objective in managing our exposure to foreign currency exchange rate fluctuations is to reduce the impact of adverse fluctuations in such exchange rates on our earnings and cash flow. Accordingly, we utilize purchased foreign currency option and forward contracts to hedge our exposure on anticipated transactions and firm commitments. The principal currencies hedged are the Euro, Japanese yen, Korean won and Hungarian forint. We monitor our foreign exchange exposures regularly to help ensure the overall effectiveness of our foreign currency hedge positions. There can be no assurance that our foreign currency hedging activities will substantially offset the impact of fluctuations in currency exchanges rates on our results of operations and financial position. Based on the foreign exchange instruments outstanding at September 30, 2012 and December 31, 2011, an adverse change (defined as 20% in the Asian currencies and 10% in all other currencies) in exchange rates would result in a decline in the aggregate settlement value of all of our instruments outstanding of approximately $16 million and $23 million, respectively. However, as we utilize foreign currency instruments for hedging anticipated and firmly committed transactions, we believe that a loss in settlement value for those instruments will be substantially offset by increases in the value of the underlying exposure. (See Note 5 - Derivative instruments and hedging activities of Notes to Consolidated Financial Statements for a further description of our derivative instruments and hedging activities).  

   

35  


 

Item 4.            Controls and Procedures  

  

Evaluation of Disclosure Controls and Procedures  

  

As of the end of the period covered by this Quarterly Report on Form 10-Q, our Chief Executive Officer, Dr. James Truchard, and our EVP, Chief Operating Officer and Chief Financial Officer, Alex Davern, based on their evaluation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended), required by paragraph (b) of Rule 13a – 15 or Rule 15d – 15, have concluded that our disclosure controls and procedures were effective at the reasonable assurance level, to ensure the timely collection, evaluation and disclosure of information relating to us that would potentially be subject to disclosure under the Securities Exchange Act of 1934, as amended, and the rules and regulations promulgated thereunder, and that such information is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. These disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by us in the reports we file or submit is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure. Our disclosure controls and procedures include components of our internal control over financial reporting. Our assessment of the effectiveness of our internal control over financial reporting is expressed at the level of reasonable assurance because a control system, no matter how well designed and operated, can provide only reasonable, but not absolute assurance that the control system’s objectives will be met.      

  

Changes in Internal Control Over Financial Reporting  

  

We continue to enhance our internal control over financial reporting in key functional areas with the goal of monitoring our operations at the level of documentation, segregation of duties, and systems security necessary, as well as transactional control procedures required, under Auditing Standard No. 5 issued by the Public Company Accounting Oversight Board. We discuss and disclose these matters to the audit committee of our board of directors and to our auditors.  

  

During the three month period ended September 30, 2012, there were no changes in our internal control over financial reporting identified in connection with the evaluation required by paragraph (d) of the Rule 13a – 15 or Rule 15d – 15 that have materially affected, or are likely to materially affect, our internal control over financial reporting.  

  

36  


 

  

PART II - OTHER INFORMATION  

  

ITEM 1.       LEGAL PROCEEDINGS  

  

We are not currently a party to any material litigation. However, in the ordinary course of our business, we are involved in a limited number of legal actions, both as plaintiff and defendant, and could incur uninsured liability in any one or more of them. No assurances can be given with respect to the extent or outcome of any future litigation or dispute.  

  

ITEM 1A.   RISK FACTORS  

  

Uncertain Economic Conditions Could Materially Adversely Affect Our Business and Results of Operations.  Our business is sensitive to fluctuations in general economic conditions, both in the U.S. and globally. The uncertain economic climate, uncertain budget and tax policies, particularly in the U.S. and Europe, negative financial news, volatile foreign currency markets, natural disasters, energy costs, , employment levels, labor costs, healthcare costs, declining income or asset values and credit availability, could continue to negatively impact and cause further deterioration in the global industrial economy. Historically, our business cycles have generally followed the expansion and contraction cycles in the global industrial economy as measured by the PMI. The most recent reading for September 2012, showed the PMI had decreased to 48.5 down from a reading of 48.9 for June 2012. This marks the fourth consecutive month where the PMI reading has been below 50. Of ongoing concern is the new order element of the PMI which was 48.1 in September 2012 and also represents the fourth consecutive month of readings below 50 for this component of the PMI. A PMI reading above 50 indicates an expanding industrial economy while a reading below 50 indicates a contracting industrial economy. We are unable to predict whether the industrial economy, as measured by the PMI, will strengthen or continue to contract during the remainder of 2012 and in 2013. If the industrial economy, as measured by the PMI, continues to contract or remains at or near a neutral reading of around 50, indicating general weakness, it could have an adverse effect on the spending patterns of businesses including our current and potential customers which could adversely affect our revenues and result of operations.  

  

Our Current Domestic Cash Position May Not Be Sufficient to Fund Certain of our Domestic Cash Needs in the Next Twelve Months and We May Need to Seek Funding from External Sources or Repatriate Foreign Earnings.  At September 30, 2012, we had $364 million in cash, cash equivalents and short-term investments of which $297 million was held in operating and investment accounts of our foreign subsidiaries. Over the next twelve months, we may need to seek external financing or repatriate foreign earnings to continue payment of dividends to our stockholders or to pursue acquisitions or other domestic corporate activities. We may also choose to raise additional funds by selling equity or debt securities to the public or to selected investors. We may also seek to obtain a line of credit or other bank financing. If we elect to raise additional funds, we may not be able to obtain such funds on a timely basis on acceptable terms, if at all. If we raise additional funds by issuing additional equity or convertible debt securities, the ownership percentages of our existing stockholders would be reduced. In addition, the equity or debt securities that we issue may have rights, preferences or privileges senior to those of our common stock and bank financing may have covenants or impose other restrictions on our business. If we choose to repatriate foreign earnings, those earnings would be subject to U.S. federal statutory tax rate of 35% and therefore, repatriation of foreign earnings would likely have a material adverse effect on our effective tax rate and on our net income and earnings per share. We could also choose to reduce certain expenditures or payments of dividends or suspend our program to repurchase shares of our common stock. Historically, we have not had to rely on debt, public or private, to fund our operating, financing or investing activities.  

  

Our Recently Expanded Manufacturing Capacity in Penang, Malaysia Could Adversely Affect Our Gross Margin and Result of Operations if Our Business Does Not Grow or if it Contracts in Future Periods. Construction of our manufacturing and warehousing facility in Penang, Malaysia was substantially completed during the three month period ended September 30, 2012. We believe this new facility will support our long term manufacturing and warehousing capacity needs. However, if demand for our products does not grow as expected or if it contracts in future periods, we will have excess warehousing and manufacturing capacity which will cause an increase in overhead that will likely negatively impact our gross margins and results of operations in future periods.  

 

Our Very Large Order Business Exposes Us to Significant Additional Business and Legal Risks that Could Have a Material Adverse Impact on our Business, Results of Operations and Financial Condition. In recent years, we have made a concentrated effort to increase our revenue through the pursuit of very large orders which we define as those with a value greater than $1,000,000.  As a result of such efforts, this business continues to grow as a percent of our overall business.  This business exposes us to significant additional business and legal risks compared to smaller orders.  These customers frequently require contract terms that vary substantially from our standard terms of sale.  These orders can be accompanied by critical delivery commitments and severe contractual liabilities can be imposed on us if we fail to provide the quantity of product at the required delivery times. These customers may also impose product acceptance requirements and product performance evaluations which create uncertainty with respect to the timing of our ability to recognize revenue from such orders. These contracts may have supply constraint requirements which mandate that we allocate large product inventories for a specific contract. These inventory requirements expose us to higher risks of inventory obsolescence and can adversely impact our ability to provide adequate product supply to other customers.     

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Fulfillment of these contracts can severely challenge our supply chain capabilities at the component acquisition, assembly and delivery stages.  Although very large volume customers expose us to significant additional risks, our contracts with such customers may allow the customer to cancel or delay orders without liability which exposes our business and financial results to significant risk. These contracts can require us to develop specific product mitigation plans for product delivery constraints caused by unexpected or catastrophic situations to help assure quick production recovery.  We can attempt to manage this risk but there can be no assurance that we will be successful in our efforts. These customers may demand most favored customer pricing, significant discounts, extended payment terms and volume rebates and such terms can adversely impact our revenues, margins, financial results and may also cause our days sales outstanding to increase as these orders become a larger proportion of our overall revenue. These customers may request broad indemnity obligations and large direct and consequential damage provisions in the event their contracts with us are breached, and these provisions expose us to risk and liabilities far in excess of our standard terms and conditions of sale. While we attempt to limit the number of contracts that contain the non-standard terms of sale described above and attempt to contractually limit our potential liability under such contracts, we have been and expect to be forced to agree to some or all of such provisions to secure these customers and to continue to grow our business.  Such actions expose us to significant additional risks which could result in a material adverse impact on our business, results of operations and financial condition.  

  

Increases in the Amount of Revenue Derived from Large Orders Could Adversely Affect our Gross Margin and Could Lead to Greater Variability in our Quarterly Results.  Our large order business, defined as orders with a value greater than $20,000, continues to grow as a percent of our overall business. As a percent of our overall business, larger orders reached a new high during the three and nine month periods ended September 30, 2012, increasing to 51% our total business for each period, from 47% and 45% of our total business in the three and nine month periods ended September 30, 2011, respectively. Larger orders may be more sensitive to changes in the global industrial economy, may be subject to greater discount variability and may contract at a faster pace during an economic downturn. Historically, our gross margins have been stable from period to period. To the extent that the amount of our revenue derived from larger orders increases in future periods, both in absolute dollars and as a percent of our overall business, our gross margins could experience greater volatility and we could see a greater negative impact on our business from future downturns in the global industrial economy. This dynamic may also have an adverse effect on the historical seasonal pattern of our revenues and our results of operations.  

  

We Have Established a Budget and Variations From Our Budget Will Affect Our Financial Results.  We established an operating budget for 2012 in 2011. Our budget was established based on the estimated revenue from sales of our products which are based on economic conditions in the markets in which we do business as well as the timing and volume of our new products and the expected penetration of both new and existing products in the marketplace. In 2011, we increased our overall headcount by 955. During 2012, we will see the full year impact of these headcount additions on our operating expenses. If demand for our products in 2012 is less than the demand we anticipated in setting our 2012 budget, our operating results could be negatively impacted. If we exceed the level of expenses established in our 2012 operating budget or if we cannot reduce budgeted expenditures in response to a decrease in revenue, our operating results could be adversely affected. Our spending could exceed our budget due to a number of factors, including:  

 

·

increased costs from hiring more product development engineers or other personnel; 

·

increased costs from hiring more field sales personnel; 

·

increased manufacturing costs resulting from component supply shortages or component price fluctuations; 

·

additional marketing costs for new product introductions or for conferences and tradeshows; 

·

the timing cost or outcome of any future intellectual property litigation or commercial disputes;  

·

increased component costs resulting from vendors increasing prices in response to increased economic activity; or 

·

additional costs related to acquisitions, if any.  

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Our Quarterly Results are Subject to Fluctuations Due to Various Factors that May Adversely Affect Our Business and Result of Operations.  Our quarterly operating results have fluctuated in the past and may fluctuate significantly in the future due to a number of factors, including: 

 

·

changes in the global economy or global credit markets, particularly in the Euro zone; 

·

changes in the amount of revenue derived from large or very large orders and the pricing and terms of such orders; 

·

increasing concentration of our revenue from large or very large customers; 

·

adjustments to acquisition earn-out accruals; 

·

fluctuations in foreign currency exchange rates; 

·

changes in the mix of products sold; 

·

the availability and pricing of components from third parties (especially limited sources); 

·

the difficulty in maintaining margins, including the higher margins traditionally achieved in international sales; 

·

changes in pricing policies by us, our competitors or suppliers; 

·

the timing, cost or outcome of any future intellectual property litigation or commercial disputes; 

·

delays in product shipments caused by human error or other factors; and, 

·

disruptions in transportation channels.  

  

We Operate in Intensely Competitive Markets.  The markets in which we operate are characterized by intense competition from numerous competitors, some of which are divisions of large corporations having far greater resources than we have, and we may face further competition from new market entrants in the future. A key competitor is Agilent Technologies Inc. (“Agilent”). Agilent offers hardware and software products that provide solutions that directly compete with our virtual instrumentation products and Agilent has released its own line of PXI based hardware. Agilent is aggressively advertising and marketing products that are competitive with our products. Because of Agilent’s strong position in the instrumentation business, changes in its marketing strategy or product offerings could have a material adverse effect on our operating results. 

 

We believe our ability to compete successfully depends on a number of factors both within and outside our control, including: 

 

·

general market and economic conditions; 

·

the impact of foreign exchange rates on product pricing; 

·

industry consolidation, including acquisitions by our competitors; 

·

success in developing new products; 

·

timing of our new product introductions; 

·

new product introductions by competitors; 

·

the ability of competitors to more fully leverage low cost geographies; 

·

product pricing; 

·

effectiveness of sales and marketing resources and strategies; 

·

adequate manufacturing capacity and supply of components and materials; 

·

efficiency of manufacturing operations; 

·

strategic relationships with our suppliers; 

·

product quality and performance; 

·

protection of our products by effective use of intellectual property laws; 

·

the financial strength of our competitors; 

·

the outcome of any future litigation or commercial dispute; 

·

barriers to entry imposed by competitors with significant market power in new markets; and, 

·

government actions throughout the world. 

 

There can be no assurance that we will be able to compete successfully in the future.   

 

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Our Income Tax Rate is Affected by our Tax Benefits in Hungary.  The profit from our Hungarian operation benefits from the fact that it is subject to an effective income tax rate that is lower than the U.S. federal statutory tax rate of 35%. Our earnings in Hungary are subject to a statutory tax rate of 19%. The difference between this rate and the statutory U.S. rate of 35% resulted in income tax benefits of $3.1 million and $1.4 million for the three month periods ended September 30, 2012 and 2011, respectively, and income tax benefits of $8.3 million and $8.8 million for the nine month periods ended September 30, 2012 and 2011, respectively. In addition, effective January 1, 2010, certain qualified research and development expenses became eligible for an enhanced tax deduction. The enhanced tax deduction for research and development expenses resulted in income tax benefits of $4.1 million and $3.8 million for the three month periods ended September 30, 2012 and 2011, respectively, and income tax benefits of $11.8 million and $10.7 million for the nine month periods ended September 30, 2012 and 2011, respectively. This tax benefit may not be available in future years due to changes in political conditions in Hungary or changes in tax laws in Hungary and in the U.S. The reduction or elimination of these benefits in Hungary or future changes in U.S. law pertaining to the taxation of foreign earnings could result in an increase in our future effective income tax rate which could have a material adverse effect on our operating results. No countries other than Hungary had a significant impact on our effective tax rate. We have not entered into any advanced pricing or other agreements with the Internal Revenue Service with regard to any foreign jurisdictions.   

  

Our Success Depends on New Product Introductions and Market Acceptance of Our Products.  The market for our products is characterized by rapid technological change, evolving industry standards, changes in customer needs and frequent new product introductions, and is therefore highly dependent upon timely product innovation. Our success is dependent on our ability to successfully develop and introduce new and enhanced products on a timely basis to replace declining revenues from older products, and on increasing penetration in domestic and international markets. As has occurred in the past and as may be expected to occur in the future, we have experienced significant delays between the announcement and the commercial availability of new products. Any significant delay in releasing new products could have a material adverse effect on the ultimate success of a product and other related products and could impede continued sales of predecessor products, any of which could have a material adverse effect on our operating results. There can be no assurance that we will be able to introduce new products in accordance with announced release dates, that our new products will achieve market acceptance or that any such acceptance will be sustained for any significant period. Failure of our new products to achieve or sustain market acceptance could have a material adverse effect on our operating results. Moreover, there can be no assurance that our international sales will continue at existing levels or grow in accordance with our efforts to increase foreign market penetration.  

  

Our Revenues are Subject to Seasonal Variations.  In previous years, our revenues have been characterized by seasonality, with revenues typically growing from the first quarter to the second quarter, being relatively constant from the second quarter to the third quarter, growing in the fourth quarter compared to the third quarter and declining in the first quarter of the following year from the fourth quarter of the preceding year. This historical trend has been affected and may continue to be affected in the future by broad fluctuations in the global industrial economy, the economic impact of larger orders as well as the timing of new product introductions or acquisitions, if any. The ongoing economic contraction in the Euro zone could persist or worsen in the remainder of 2012. If this instability in the Euro zone continues, worsens or negatively affects other economic regions in 2012, it may have a material adverse effect on the seasonal patterns described above as well as on our overall results of operations and profitability. Our total operating expenses have in the past tended to increase in each successive quarter and have fluctuated as a percentage of revenue based on the seasonality of our revenue.   

  

Concentrations of Credit Risk and Uncertain Conditions in the Global Financial Markets May Adversely Affect Our Business and Result of Operations.  By virtue of our holdings of cash, investment securities and foreign currency derivatives, we have exposure to many different counterparties, and routinely execute transactions with counterparties in the financial services industry, including commercial banks and investment banks. Many of these transactions expose us to credit risk in the event of a default of our counterparties. We continue to monitor the stability of the financial markets, particularly those in the European region and have taken steps to limit our direct and indirect exposure to these markets; however, we can give no assurance that we will not be negatively impacted by any adverse outcomes in those markets. There can be no assurance that any losses or impairments to the carrying value of our financial assets as a result of defaults by our counterparties, would not materially and adversely affect our business, financial position and results of operations.   

 

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Our Acquisitions are Subject to a Number of Related Costs and Challenges that Could Have a Material Adverse Effect on Our Business and Results of Operations.  During the second quarter of 2011, we completed the acquisitions of AWR Corporation (AWR) and Phase Matrix Inc. (PMI). We may in the future acquire additional complementary businesses, products or technologies. Achieving the anticipated benefits of an acquisition depends upon whether the integration of the acquired business, products or technology is accomplished efficiently and effectively. In addition, successful acquisitions generally require, among other things, integration of product offerings, manufacturing operations and coordination of sales and marketing and R&D efforts. These actions can become more challenging due to the need to coordinate geographically separated organizations, the complexities of the technologies being integrated, and the necessities of integrating personnel with disparate business backgrounds and combining different corporate cultures. The integration of operations following an acquisition also requires the dedication of management resources, which may distract attention from our day-to-day business and may disrupt key R&D, marketing or sales efforts. Our inability to successfully integrate AWR and PMI or any future acquisitions could harm our business. The existing products previously sold by entities we have acquired may be of a lesser quality than our products and/or could contain errors that produce incorrect results on which users rely or cause failure or interruption of systems or processes that could subject us to liability claims that could have a material adverse effect on our operating results or financial position. Furthermore, products acquired in connection with acquisitions may not gain acceptance in our markets, and we may not achieve the anticipated or desired benefits of such transactions.  

  

Our Business is Dependent on Key Suppliers and Distributors and Disruptions in these Businesses Could Adversely Affect our Business and Results of Operations. Our manufacturing processes use large volumes of high-quality components and subassemblies supplied by outside sources. Several of these components are available through limited sources. Limited source components purchased include custom application specific integrated circuits (“ASICs”), chassis and other components. We have in the past experienced delays and quality problems in connection with limited source components, and there can be no assurance that these problems will not recur in the future. Accordingly, our failure to receive components from limited suppliers could result in a material adverse effect on our revenues and operating results. In the event that any of our limited suppliers experience significant financial or operational difficulties due to adverse global economic conditions or otherwise, our business and operating results would likely be adversely impacted until we are able to secure another source for the required materials. 

 

In some countries, we use distributors to support our sales channels. In the event that any of our distributors experience significant financial or operational difficulties due to adverse global economic conditions or we experience disruptions in the use of these distributors, our business and operating results would likely be adversely impacted until we are able to secure another distributor or establish our direct sales capabilities in the affected market.  

  

A Substantial Amount of Our Manufacturing Capacity is Located in Hungary. Our Hungarian manufacturing and warehouse facility sources a substantial majority of our sales. In order to enable timely shipment of products to our customers we also maintain the vast majority of our inventory at our Hungary warehouse facility. In addition to being subject to the risks of maintaining such a concentration of manufacturing capacity and global inventory, this facility and its operation are also subject to risks associated with doing business internationally, including: 

 

·

a changing political environment; 

·

significant and frequent changes in the corporate tax law; 

·

the volatility of the Hungarian forint relative to the U.S. dollar; 

·

difficulty in managing manufacturing operations in a foreign country; 

·

challenges in expanding capacity to meet increased demand; 

·

difficulty in achieving or maintaining product quality; 

·

interruption to transportation flows for delivery of components to us and finished goods to our customers; 

·

a restrictive labor code; and, 

·

increasing labor costs. 

 

No assurance can be given that our efforts to mitigate these risks will be successful. We are currently operating our manufacturing facility in Hungary at a high level of capacity utilization and may selectively increase our capacity to meet anticipated demand for our products. Any failure to effectively deal with the risks above could result in an interruption in the facility’s operation or delays in expanding its capacity, either of which could have a material adverse effect on our operating results and limit our revenue growth opportunities.  

  

We May Experience Component Shortages that May Adversely Affect Our Business and Result of Operations.  As has occurred in the past and as may be expected to occur in the future, supply shortages of components used in our products, including limited source components, can result in significant additional costs and inefficiencies in manufacturing. If we are unsuccessful in resolving any such component shortages in a timely manner, we will experience a significant impact on the timing of revenue, a possible loss of revenue, and/or an increase in manufacturing costs, any of which would have a material adverse impact on our operating results.  

  

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We are Subject to Risks Associated with Our Centralization of Inventory and Distribution.  Currently, shipments to our customers worldwide are primarily sourced from our warehouse facility in Debrecen, Hungary. Shipments to some of our customers in Asia are currently made either out of local inventory managed by our branch operations in various Asian countries or from a centralized distribution point in Penang, Malaysia. We plan to continue to devote resources to centralizing our distribution to a limited number of shipping points. Our centralization of inventory and distribution from a limited number of shipping points is subject to inherent risks, including: 

 

·

burdens of complying with additional and/or more complex VAT and customs regulations; and, 

·

severe concentration of inventory increasing the risks associated with fire, natural disasters and logistics disruptions to customer order fulfillment. 

 

Any difficulties with the centralization of our distribution or delays in the implementation of the systems or processes to support this centralized distribution could result in an interruption of our normal operations, including our ability to process orders and ship products to our customers. Any failure or delay in distribution from our facilities in Hungary and Malaysia could have a material adverse effect on our operating results.  

  

We Rely on Management Information Systems and Interruptions in our Information Technology Systems Could Adversely Affect our Business.  We rely on the efficient and uninterrupted operation of complex information technology systems and networks to operate our business. We rely on a primary global center for our management information systems and on multiple systems in branches not covered by our global center. As with any information system, unforeseen issues may arise that could affect our ability to receive adequate, accurate and timely financial information, which in turn could inhibit effective and timely decisions. Furthermore, it is possible that our global center for information systems or our branch operations could experience a complete or partial shutdown. Significant system or network disruption could be the result of new system implementations, computer viruses, security breaches, facility issues or energy blackouts. If such a shutdown or disruption occurred, it would impact our product shipments and revenues, as order processing and product distribution are heavily dependent on our management information systems. Such an interruption could also result in a loss of our intellectual property or the release of sensitive competitive information or vendor, supplier, customer or employee personal data. Any loss of such information could harm our competitive position, result in a loss of customer confidence, and cause us to incur significant costs to remedy the damages caused by the disruptions or security breaches. Accordingly, our operating results in such periods would be adversely impacted.  

 

We are continually working to maintain reliable systems to control costs and improve our ability to deliver our products in our markets worldwide. Our efforts include, but are not limited to the following: firewalls, antivirus, patches, log monitors, routine backups with offsite retention of storage media, system audits, data partitioning and routine password modifications. No assurance can be given that our efforts will be successful. 

 

During 2010, we devoted significant resources to completing the upgrade of our Americas business application suite to Oracle’s version R12. During 2011, we devoted significant resources to completing the upgrade of our business application suite used primarily by our European, Japanese, and global manufacturing operations to Oracle’s version R12 and completing an upgrade to the underlying infrastructure of our website, ni.com. We continue to devote resources to the development of our web offerings.There can be no assurance that we will not experience difficulties with these systems.  Difficulties with these systems may interrupt normal operations, including our ability to provide quotes, process orders, ship products, provide services and support to our customers, bill and track our customers, fulfill contractual obligations and otherwise run our business.  Any disruptions of these systems may have a material adverse effect on our results of operations.  

  

Adoption of Complex Health Care Legislation and Related Regulations and Financial Reform Could Increase our Operating Costs and Adversely Affect Our Result of Operations. The adoption of the Patient Protection and Affordable Care Act and the related reconciliation measure, the Health Care and Education Reconciliation Act of 2010, and the regulations resulting from such legislation could increase the costs of providing health care to our employees. Due to the complexity of the legislation and the uncertain timing and content of the related regulations, we are unable to predict the amount and timing of any such increased costs. In addition, it is likely that we will incur additional administrative costs to comply with certain provisions of this legislation. Due to the fact that many of the rules and regulations have not yet been defined, we are unable to predict the amount of these costs or to what extent we may need to divert other resources to comply with various provisions of this legislation. Additionally, the Dodd-Frank Wall Street Reform and Consumer Protection Act could result in increased costs to us either as a result of our efforts to comply with the corporate governance provisions which may be applicable to us or due to the impact of such legislation on the derivative contracts or other financial instruments or financial markets that we utilize in the normal course of our business.  

  

Our Product Revenues are Dependent on Certain Industries.  Sales of our products are dependent on customers in certain industries, particularly the telecommunications, semiconductor, consumer electronics, automotive, automated test equipment, defense and aerospace industries. As we have experienced in the past, and as we may continue to experience in the future, downturns characterized by diminished product demand in any one or more of these industries may result in decreased sales, and a material adverse effect on our operating results.  

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We are Subject to Risks Associated with Our Website.  We devote resources to maintain our Website as a key marketing, sales and support tool and expect to continue to do so in the future. However, there can be no assurance that we will be successful in our attempt to leverage the Web to increase sales. We host our Website internally. Any failure to successfully maintain our Website or any significant downtime or outages affecting our Website could have a material adverse impact on our operating results.  

  

Our Products are Complex and May Contain Bugs or Errors.  As has occurred in the past and as may be expected to occur in the future, our new software products or new operating systems of third parties on which our products are based often contain bugs or errors that can result in reduced sales or cause our support costs to increase, either of which could have a material adverse impact on our operating results.  

  

We are Subject to Various Risks Associated with International Operations and Foreign Economies. Our international sales are subject to inherent risks, including:  

  

·

difficulties and the high tax costs associated with the repatriation of earnings;  

·

fluctuations in local economies;  

·

fluctuations in foreign currencies relative to the U.S. dollar;  

·

difficulties in staffing and managing foreign operations;  

·

greater difficulty in accounts receivable collection;  

·

costs and risks of localizing products for foreign countries;  

·

unexpected changes in regulatory requirements;  

·

tariffs and other trade barriers; and,  

·

the burdens of complying with a wide variety of foreign laws.  

  

In many foreign countries, particularly in those with developing economies, it is common to engage in business practices that are prohibited by U.S. regulations applicable to us such as the Foreign Corrupt Practices Act. Although we have policies and procedures designed to ensure compliance with these laws, there can be no assurance that all of our employees, contractors and agents, including those based in or from countries where practices which violate such U.S. laws may be customary, will not take actions in violation of our policies. Any violation of foreign or U.S. laws by our employees, contractors or agents, even if such violation is prohibited by our policies, could have a material adverse effect on our business. We must also comply with various import and export regulations. The application of these various regulations depends on the classification of our products which can change over time as such regulations are modified or interpreted. As a result, even if we are currently in compliance with applicable regulations, there can be no assurance that we will not have to incur additional costs or take additional compliance actions in the future. Failure to comply with these regulations could result in fines or termination of import and export privileges, which could have a material adverse effect on our operating results. Additionally, the regulatory environment in some countries is very restrictive as their governments try to protect their local economy and value of their local currency against the U.S. dollar.  

 

The vast majority of our sales outside of North America are denominated in local currencies, and accordingly, the U.S. dollar equivalent of these sales is affected by changes in the foreign currency exchange rates. The change in exchange rates had the effect decreasing our consolidated sales by $12 million or 4% in the three month period ended September 30, 2012, and increasing our consolidated sales by $18 million or 9% in the three month period ended September 30, 2011. The change in exchange rates had the effect of decreasing our consolidated sales by $16 million or 2% in the nine month period ended September 30, 2012, and increasing our consolidated sales by $26 million or 4% in the nine month period ended September 30, 2011. Since most of our international operating expenses are also incurred in local currencies, the change in exchange rates had the effect of decreasing our consolidated operating expenses by $6.8 million or 4% in the three month period ended September 30, 2012, and increasing our consolidated operating expenses by $9 million or 7% in the three month period ended September 30, 2011. The change in exchange rates had the effect decreasing our consolidated operating expenses by $11 million or 2% in the nine month period ended September 30, 2012, and increasing our consolidated operating expenses by $17 million or 4% in the nine month period ended September 30, 2011.  

  

During the nine month period ended September 30, 2012, there was an overall appreciation of the U.S. dollar against the major currencies we do business in and a high level of volatility in the broader foreign exchange markets. The majority of the appreciation and the highest level of volatility occurred during the three month period ended June 30, 2012. We cannot predict to what degree or how long this recent volatility in the foreign currency exchange markets will continue.  In the past, we have noted that significant volatility in foreign currency exchange rates in the markets in which we do business has had a significant impact on the revaluation of our foreign currency denominated firm commitments, on our ability to forecast our U.S. dollar equivalent revenues and expenses and on the effectiveness of our hedging programs. In the past, these dynamics have also adversely affected our revenue growth in international markets and may pose similar challenges in the future. We recognize the local currency as the functional currency in virtually all of our international subsidiaries.

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Our Business Depends on Our Proprietary Rights and We Have Been Subject to Intellectual Property Litigation. Our success depends on our ability to obtain and maintain patents and other proprietary rights relative to the technologies used in our principal products. Despite our efforts to protect our proprietary rights, unauthorized parties may have in the past infringed or violated certain of our intellectual property rights. We from time to time engage in litigation to protect our intellectual property rights. In monitoring and policing our intellectual property rights, we have been and may be required to spend significant resources. We from time to time may be notified that we are infringing certain patent or intellectual property rights of others. There can be no assurance that any future intellectual property litigation will not result in significant expense, liability, injunction against the sale of some of our products, and a diversion of management’s attention, any of which may have a material adverse effect on our operating results.  

  

Our Reported Financial Results May be Adversely Affected by Changes in Accounting Principles Generally Accepted in the United States. We prepare our financial statements in conformity with accounting principles generally accepted in the U.S. These accounting principles are subject to interpretation by the Financial Accounting Standards Board and the Securities and Exchange Commission. A change in these policies or interpretations could have a significant effect on our reported financial results, and could affect the reporting of transactions completed before the announcement of a change.  

  

Our Business Depends on the Continued Service of Key Management and Technical Personnel.  Our success depends upon the continued contributions of our key management, sales, marketing, research and development and operational personnel, including Dr. Truchard, our Chairman and Chief Executive Officer, and other members of our senior management and key technical personnel. We have no agreements providing for the employment of any of our key employees for any fixed term and our key employees may voluntarily terminate their employment with us at any time. The loss of the services of one or more of our key employees in the future could have a material adverse effect on our operating results. We also believe our future success will depend upon our ability to attract and retain additional highly skilled management, technical, marketing, research and development, and operational personnel with experience in managing large and rapidly changing companies, as well as training, motivating and supervising employees. Our failure to attract or retain key technical or managerial talent could have an adverse effect on our operating results. We also recruit and employ foreign nationals to achieve our hiring goals primarily for engineering and software positions. There can be no guarantee that we will continue to be able to recruit foreign nationals at the current rate. There can be no assurance that we will be successful in retaining our existing key personnel or attracting and retaining additional key personnel. Failure to attract and retain a sufficient number of our key personnel could have a material adverse effect on our operating results.  

 

Our Manufacturing Operations are Subject to a Variety of Environmental Regulations and Costs that May Have a Material Adverse Effect on our Business and Results of our Operations.  We must comply with many different governmental regulations related to the use, storage, discharge and disposal of toxic, volatile or otherwise hazardous chemicals used in our manufacturing operations in the U.S. and in Hungary. Although we believe that our activities conform to presently applicable environmental regulations, our failure to comply with present or future regulations could result in the imposition of fines, suspension of production or a cessation of operations. Any such environmental regulations could require us to acquire costly equipment or to incur other significant expenses to comply with such regulations. Any failure by us to control the use of or adequately restrict the discharge of hazardous substances could subject us to future liabilities.  

  

We Are Subject to the Risk of Product Liability Claims.  Our products are designed to provide information upon which users may rely. Our products are also used in “real time” applications requiring extremely rapid and continuous processing and constant feedback. Such applications give rise to the risk that a failure or interruption of the system or application could result in economic damage or bodily harm. We attempt to assure the quality and accuracy of the processes contained in our products, and to limit our product liability exposure through contractual limitations on liability, limited warranties, express disclaimers and warnings as well as disclaimers contained in our “shrink wrap” license agreements with end-users. If our products contain errors that produce incorrect results on which users rely or cause failure or interruption of systems or processes, customer acceptance of our products could be adversely affected. Further, we could be subject to liability claims that could have a material adverse effect on our operating results or financial position. Although we maintain liability insurance for product liability matters, there can be no assurance that such insurance or the contractual limitations used by us to limit our liability will be sufficient to cover or limit any claims which may occur.  

   

44  


 

Provisions in Our Charter Documents and Delaware Law and Our Stockholder Rights Plan May Delay or Prevent an Acquisition of Us. Our certificate of incorporation and bylaws and Delaware law contain provisions that could make it more difficult for a third party to acquire us without the consent of our Board of Directors. These provisions include a classified Board of Directors, prohibition of stockholder action by written consent, prohibition of stockholders to call special meetings and the requirement that the holders of at least 80% of our shares approve any business combination not otherwise approved by two-thirds of our Board of Directors. Delaware law also imposes some restrictions on mergers and other business combinations between us and any holder of 15% or more of our outstanding common stock. In addition, our Board of Directors has the right to issue preferred stock without stockholder approval, which could be used to dilute the stock ownership of a potential hostile acquirer. Our Board of Directors adopted a stockholders rights plan on January 21, 2004, pursuant to which we declared a dividend of one right for each share of our common stock outstanding as of May 10, 2004. This rights plan replaced a similar rights plan that had been in effect since our initial public offering in 1995. Unless redeemed by us prior to the time the rights are exercised, upon the occurrence of certain events, the rights will entitle the holders to receive upon exercise thereof shares of our preferred stock, or shares of an acquiring entity, having a value equal to twice the then-current exercise price of the right. The issuance of the rights could have the effect of delaying or preventing a change of control of us.  

  

Compliance With Sections 302 and 404 of the Sarbanes-Oxley Act of 2002 is Costly and Challenging.  As required by Section 302 of the Sarbanes-Oxley Act of 2002, this Form 10-Q contains our management’s certification of adequate disclosure controls and procedures as of September 30, 2012. Our most recent annual report on Form 10-K also contains a report by our management on our internal control over financial reporting including an assessment of the effectiveness of our internal control over financial reporting as of December 31, 2011. Our most recent annual report on Form 10-K also contains an attestation and report by our external auditors with respect to the effectiveness of our internal control over financial reporting under Section 404. While these assessments and reports did not reveal any material weaknesses in our internal control over financial reporting, compliance with Sections 302 and 404 is required for each future fiscal year end. We expect that the ongoing compliance with Sections 302 and 404 will continue to be both very costly and very challenging and there can be no assurance that material weaknesses will not be identified in future periods. Any adverse results from such ongoing compliance efforts could result in a loss of investor confidence in our financial reports and have an adverse effect on our stock price.  

  

 

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

  

The following table provides information as of September 30, 2012 with respect to the shares of common stock that we repurchased during the third quarter of 2012. 

 

 

 

 

 

 

 

 

 

Period

 

Total number of shares purchased

 

Average price paid per share

 

Total number of shares purchased as part of publicly announced plans or programs

 

Maximum number of shares that may yet be purchased under the plans or programs (1)

 

 

 

 

 

 

 

 

 

July 1, 2012 to July 31, 2012

 

 -

 

 -

 

 -

 

3,932,245 

 

 

 

 

 

 

 

 

 

August 1, 2012 to August 31, 2012

 

 -

 

 -

 

 -

 

3,932,245 

 

 

 

 

 

 

 

 

 

September 1, 2012 to September 30, 2012

 

 -

 

 -

 

 -

 

3,932,245 

Total

 

 -

 

 -

 

 -

 

 

 

(1)

For the past several years, we have maintained various stock repurchase programs. At September 30, 2012, there were 3,932,245 shares available for repurchase under the plan approved on April 21, 2010. This repurchase plan does not have an expiration date.  

  

ITEM 4.            MINE SAFETY DISCLOSURES  

  

            Not applicable  

  

ITEM 5.            OTHER INFORMATION  

  

From time to time our directors, executive officers and other insiders may adopt stock trading plans pursuant to Rule 10b5-1(c) promulgated by the Securities and Exchange Commission under the Securities Exchange Act of 1934, as amended. Jeffrey L. Kodosky and James J. Truchard have made periodic sales of our stock pursuant to such plans. 

45  


 

 

 

 

ITEM 6

 

EXHIBITS

3.1(1)

 

Certificate of Incorporation, as amended, of the Company.

3.2(2)

 

Amended and Restated Bylaws of the Company.

3.3(3)

 

Certificate of Designation of Rights, Preferences and Privileges of Series A Participating Preferred Stock of the Company.

4.1(4)

 

Specimen of Common Stock certificate of the Company.

4.2(5)

 

Rights Agreement dated as of January 21, 2004, between the Company and EquiServe Trust Company, N.A.

10.1(4)

 

Form of Indemnification Agreement.

10.2(6)

 

1994 Incentive Plan, as amended.*

10.3(7)

 

1994 Employee Stock Purchase Plan, as amended.*

10.5(8)

 

National Instruments Corporation Annual Incentive Program, as amended.*

10.6(9)

 

2005 Incentive Plan.*

10.7(10)

 

2005 Form of Restricted Stock Unit Award Agreement (Non-Employee Director).*

10.8(11)

 

2005 Form of Restricted Stock Unit Award Agreement (Performance Vesting).*

10.9(12)

 

2005 Form of Restricted Stock Unit Award Agreement (Current Employee).*

10.10(13)

 

2005 Form of Restricted Stock Unit Award Agreement (Newly Hired Employee).*

10.11(14)

 

2010 Incentive Plan.*

10.12(15)

 

2010 Form of Restricted Stock Unit Award Agreement (Non-Employee Director).*

10.13(16)

 

2010 Form of Restricted Stock Unit Award Agreement (Performance Vesting).*

10.14(17)

 

2010 Form of Restricted Stock Unit Award Agreement (Current Employee).*

10.15(18)

 

2010 Form of Restricted Stock Unit Award Agreement (Newly Hired Employee).*

31.1

 

Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.2

 

Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32.1

 

Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

101.INS

 

XBRL Instance Document **

101.SCH

 

XBRL Taxonomy Extension Schema Document **

101.CAL

 

XBRL Taxonomy Extension Calculation Linkbase Document **

101.LAB

 

XBRL Taxonomy Extension Label Linkbase Document **

101.PRE

 

XBRL Taxonomy Extension Presentation Linkbase Document **

 

 

 

(1)

 

Incorporated by reference to the same-numbered exhibit filed with the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2003.

(2)

 

Incorporated by reference to the same-numbered exhibit filed with the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2007.

(3)

 

Incorporated by reference to the same-numbered exhibit filed with the Company’s Registration Statement on Form 8-A on April 27, 2004.

(4)

 

Incorporated by reference to the Company’s Registration Statement on Form S-1 (Reg. No. 33-88386) declared effective March 13, 1995.

(5)

 

Incorporated by reference to exhibit 4.1 filed with the Company’s Current Report on Form 8-K filed on January 28, 2004.

(6)

 

Incorporated by reference to the same-numbered exhibit filed with the Company’s Form 10-Q on August 5, 2004.

(7)

 

Incorporated by reference to exhibit 10.1 filed with the Company’s Current Report on Form 8-K filed on May 16, 2011.

(8)

 

Incorporated by reference to exhibit 99.1 filed with the Company’s Current Report on Form 8-K filed on February 24, 2012.

(9)

 

Incorporated by reference to exhibit A of the Company’s Proxy Statement dated and filed on April 4, 2005.

(10)

 

Incorporated by reference to exhibit 10.8 filed with the Company’s Form 10-Q on August 2, 2006.

(11)

 

Incorporated by reference to exhibit 10.9 filed with the Company’s Form 10-Q on August 2, 2006.

(12)

 

Incorporated by reference to exhibit 10.10 filed with the Company’s Form 10-Q on August 2, 2006.

(13)

 

Incorporated by reference to exhibit 10.11 filed with the Company’s Form 10-Q on August 2, 2006.

(14)

 

Incorporated by reference to exhibit 10.1 filed with the Company’s Current Report on Form 8-K filed on May 17, 2010.

(15)

 

Incorporated by reference to exhibit 10.2 filed with the Company’s Current Report on Form 8-K filed on June 24, 2010.

(16)

 

Incorporated by reference to exhibit 10.3 filed with the Company’s Current Report on Form 8-K filed on June 24, 2010.

(17)

 

Incorporated by reference to exhibit 10.4 filed with the Company’s Current Report on Form 8-K filed on June 24, 2010.

(18)

 

Incorporated by reference to exhibit 10.5 filed with the Company’s Current Report on Form 8-K filed on June 24, 2010.

*

 

Management Contract or Compensatory Plan or Arrangement

**

 

In accordance with Rule 406T of Regulation S-T, these interactive data files are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933 or Section 18 of the Securities Exchange Act of 1934 and otherwise are not subject to liability. 

46  


 

  

 

SIGNATURE  

  

  

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.  

  

Dated:  November 6, 2012  

  

  

NATIONAL INSTRUMENTS CORPORATION  

 

  

BY:  /s/ Alex M. Davern                                         

Alex M. Davern

EVP, Chief Operating Officer,

Chief Financial Officer and Treasurer

(Principal Financial and Accounting Officer)

 

47