| SILICON STORAGE TECHNOLOGY INC Item 1A Risk Factors Business Risks Risks Related to Our Business Our operating results fluctuate materially, and an unanticipated decline in revenues may disappoint securities analysts or investors and result in a decline in our stock price |
| Although we were profitable for the last quarter of 2005 and the year ended December 31, 2004, we incurred net losses for the years ended December 31, 2005 and 2003 |
| Our operating results have fluctuated significantly and our past financial performance should not be used to predict future operating results |
| Our recent quarterly and annual operating results have fluctuated, and may continue to fluctuate, due to the following factors, all of which are difficult to forecast and many of which are out of our control: · the availability, timely delivery and cost of wafers or other manufacturing and assembly services from our suppliers; · competitive pricing pressures and related changes in selling prices; · fluctuations in manufacturing yields and significant yield losses; · new product announcements and introductions of competing products by us or our competitors; · product obsolescence · lower of cost or market, obsolescence or other inventory adjustments; · changes in demand for, or in the mix of, our products; · the gain or loss of significant customers; · market acceptance of products utilizing our SuperFlash® technology; · changes in the channels through which our products are distributed and the timeliness of receipt of distributor resale information; · exchange rate fluctuations; · general economic, political and environmental-related conditions, such as natural disasters; · changes in our allowance for doubtful accounts; · valuation allowances on deferred tax assets based on changes in estimated future taxable income; · difficulties in forecasting, planning and management of inventory levels; · unanticipated research and development expenses associated with new product introductions; and · the timing of significant orders and of license and royalty revenue |
| As recent experience confirms, a downturn in the market for goods that incorporate our products can also harm our operating results |
| 13 ______________________________________________________________________ Our operating expenses are relatively fixed, and we order materials in advance of anticipated customer demand |
| Therefore, we have limited ability to reduce expenses quickly in response to any revenue shortfalls |
| Our operating expenses are relatively fixed, and we therefore have limited ability to reduce expenses quickly in response to any revenue shortfalls |
| Consequently, our operating results will be harmed if our revenues do not meet our projections |
| We may experience revenue shortfalls for the following reasons: · sudden drops in consumer demand which may cause customers to cancel backlog, push out shipment schedules, or reduce new orders, possibly due to a slowing economy or inventory corrections among our customers; · significant declines in selling prices that occur because of competitive price pressure during an over-supply market environment; · sudden shortages of raw materials for fabrication, test or assembly capacity constraints that lead our suppliers to allocate available supplies or capacity to other customers which, in turn, harm our ability to meet our sales obligations; and · the reduction, rescheduling or cancellation of customer orders |
| In addition, political or economic events beyond our control can suddenly result in increased operating costs |
| In addition, we are now required to record compensation expense on stock option grants and purchases under our employee stock purchase plan which will substantially increase our operating costs and impact our earnings (loss) per share |
| We incurred significant inventory valuation and adverse purchase commitment adjustments in 2003, 2004 and 2005 and we may incur additional significant inventory valuation adjustments in the future |
| We typically plan our production and inventory levels based on internal forecasts of customer demand, which are highly unpredictable and can fluctuate materially |
| The value of our inventory is dependent on our estimate of future average selling prices, and, if our projected average selling prices are over estimated, we may be required to adjust our inventory value to reflect the lower of cost or market |
| As of December 31, 2005, we had dlra108dtta3 million of net inventory on hand, a decrease of dlra48dtta3 million, or 31prca, from December 31, 2004 |
| Total valuation adjustments to inventory and adverse purchase commitments were dlra6dtta7 million in 2003, dlra35dtta9 million in 2004 and dlra37dtta3 million in 2005 |
| Due to the large number of units in our inventory, even a small change in average selling prices could result in a significant adjustment and could harm our financial results |
| Some of our customers have requested that we ship them product that has a finished goods date of manufacture that is less than one year old |
| As of December 31, 2005, our allowance for excess and obsolete inventories includes an allowance for our on hand finished goods inventory with a date of manufacture of greater than two years old and for certain products with a date of manufacture of greater than one year old |
| In the event that this becomes a common requirement, it may be necessary for us to provide for an additional allowance for our on hand finished goods inventory with a date of manufacture of greater than one year old, which could result in a significant adjustment and could harm our financial results |
| Due to possible customer changes in delivery schedules and cancellations of orders, our backlog at any particular date is not necessarily indicative of actual sales for any succeeding period |
| A reduction of backlog during any particular period, or the failure of our backlog to result in future revenue, could harm our business in the future |
| We experienced a decrease in the average selling prices of our products as a result of the industry-wide oversupply and excessive inventory in the market in the second half of 2004 and 14 ______________________________________________________________________ the first half of 2005 |
| Our business may suffer due to risks associated with international sales and operations |
| During 2003, 2004 and 2005, our export product and licensing revenues accounted for 92dtta9prca, 92dtta7prca and 95dtta1prca of our net revenues, respectively |
| Our international business activities are subject to a number of risks, each of which could impose unexpected costs on us that would harm our operating results |
| These risks include: · difficulties in complying with regulatory requirements and standards; · tariffs and other trade barriers; · costs and risks of localizing products for foreign countries; · reliance on third parties to distribute our products; · extended accounts receivable payment cycles; · potentially adverse tax consequences; · limits on repatriation of earnings; and · burdens of complying with a wide variety of foreign laws |
| The value of our investments is subject to the economic and political conditions particular to their industry, their countries and to foreign exchange rates and to the global economy |
| If we determine that a change in the recorded value of an investment is other than temporary, we will adjust the value of the investment |
| Additionally, substantially all of our wafer suppliers and packaging and testing subcontractors are located in Asia |
| Any kind of economic, political or environmental instability in this region of the world can have a severe negative impact on our operating results due to the large concentration of our production and sales activities in this region |
| If countries where we do business experience severe currency fluctuation and economic deflation, it can negatively impact our revenues and also negatively impact our ability to collect payments from customers |
| In this event, the lack of capital in the financial sectors of these countries may make it difficult for our customers to open letters of credit or other financial instruments that are guaranteed by foreign banks |
| Finally, the economic situation can exacerbate a decline in selling prices for our products as our competitors reduce product prices to generate needed cash |
| It should also be noted that we are greatly impacted by the political, economic and military conditions in Taiwan |
| Taiwan and China are continuously engaged in political disputes and both countries have continued to conduct military exercises in or near the other’s territorial waters and airspace |
| Such disputes may continue and even escalate, resulting in an economic embargo, a disruption in shipping or even military hostilities |
| Terrorist attacks and threats, and government responses thereto, could harm our business |
| Terrorist attacks in the United States or abroad against American interests or citizens, US retaliation for these attacks, threats of additional terrorist activity and the war in Iraq have caused our customer base 15 ______________________________________________________________________ to become more cautious |
| Any escalation in these events or similar future events may disrupt our operations or those of our customers, distributors and suppliers, affect the availability of materials needed to manufacture our products, or affect the means to transport those materials to manufacturing facilities and finished products to customers |
| In addition, these events have had and may continue to have an adverse impact on the US and world economy in general and consumer spending in particular, which could harm our business |
| We do not typically enter into long-term contracts with our customers, and the loss of a major customer could harm our business |
| We do not typically enter into long-term contracts with our customers |
| We depend on stocking representatives and distributors to generate a majority of our revenues |
| We rely on stocking representatives and distributors to establish and maintain customer relationships and to sell our products |
| These stocking representatives and distributors could discontinue their relationship with us or discontinue selling our products at any time |
| The loss of our relationship with any stocking representative or distributor could harm our operating results by impairing our ability to sell our products to our end customers |
| We depend on Silicon Professional Technology Ltd, or SPT, our logistics center, to support many of our customers in Asia |
| SPT provides forecasting, planning, warehousing, delivery, billing, collection and other logistic functions for us in these regions |
| As of December 31, 2003, 2004, and 2005, SPT accounted for 73dtta4prca, 55dtta1prca and 69dtta6prca, respectively, of our net accounts receivable |
| For further description of our relationships with PCT and SPT, please refer to “Item 7 |
| If SPT, PCT or SPAC were to terminate their relationship with us we would experience a delay in reestablishing warehousing, logistics and distribution functions, and it could impair our ability to collect accounts receivable from SPT and may harm our business |
| We depend on a limited number of foreign foundries to manufacture our products, and these foundries may not be able to satisfy our manufacturing requirements, which could cause our revenues to decline |
| We outsource substantially all of our manufacturing and testing activities |
| We have invested dlra83dtta2 million in GSMC, a Cayman Islands company, which owns a wafer foundry subsidiary, Grace, in Shanghai, China |
| If these suppliers fail to satisfy our requirements on a timely basis at competitive prices we could suffer manufacturing delays, a possible loss of revenues or higher than anticipated costs of revenues, any of which could harm our operating results |
| Our revenues may be impacted by our ability to obtain adequate wafer supplies from our foundries |
| The foundries with which we currently have arrangements, together with any additional foundry at which capacity might be obtained, may not be willing or able to satisfy all of our manufacturing requirements on a timely basis at favorable prices |
| Manufacturing capacity has in the past been difficult to secure and if capacity constraints arise in the future our revenues may decline |
| However, events that we have not foreseen could arise which would limit our capacity |
| Similar to our dlra83dtta2 million investment in GSMC, we may determine that it is necessary to invest substantial capital in order to secure appropriate production capacity commitments |
| To obtain additional manufacturing capacity, we may be required to make deposits, equipment purchases, loans, joint ventures, equity investments or technology licenses in or with wafer fabrication companies |
| These transactions could involve a commitment of substantial amounts of our capital and technology licenses in return for production capacity |
| We may be required to seek additional debt or equity financing if we need substantial capital in order to secure this capacity and we cannot assure you that we will be able to obtain such financing |
| If our foundries fail to achieve acceptable wafer manufacturing yields, we will experience higher costs of revenues and reduced product availability |
| The fabrication of our products requires wafers to be produced in a highly controlled and ultra-clean environment |
| Semiconductor companies that supply our wafers have, from time to time, experienced problems achieving acceptable wafer manufacturing yields |
| Semiconductor manufacturing yields are a function of both our design technology and the foundry’s manufacturing process technology |
| Yield problems may not be identified until the wafers are well into the production process, which often makes them difficult, time consuming and costly to correct |
| Furthermore, we rely on independent foundries for our wafers which increases the effort and time required to identify, communicate and resolve manufacturing yield problems |
| If our foundries fail to achieve acceptable manufacturing yields, we will experience higher costs of revenues and reduced product availability, which could harm our operating results |
| If our foundries discontinue the manufacturing processes needed to meet our demands, or fail to upgrade the technologies needed to manufacture our products, we may face production delays and lower revenues |
| Our wafer and product requirements typically represent a small portion of the total production of the foundries that manufacture our products |
| 17 ______________________________________________________________________ Additionally, we cannot be certain our foundries will continue to devote resources to advance the process technologies on which the manufacturing of our products is based |
| Either one of these events could increase our costs and harm our ability to deliver our products on time |
| Our dependence on third-party subcontractors to assemble and test our products subjects us to a number of risks, including an inadequate supply of products and higher costs of materials |
| Our reliance on these subcontractors involves the following significant risks: · reduced control over delivery schedules and quality; · the potential lack of adequate capacity during periods of strong demand; · difficulties selecting and integrating new subcontractors; · limited warranties on products supplied to us; · potential increases in prices due to capacity shortages and other factors; and · potential misappropriation of our intellectual property |
| These risks may lead to increased costs, delayed product delivery or loss of competitive advantage, which would harm our profitability and customer relationships |
| Because our flash memory products typically have lengthy sales cycles, we may experience substantial delays between incurring expenses related to research and development and the generation of revenues |
| Due to the flash memory product cycle we usually require more than nine months to realize volume shipments after we first contact a customer |
| We first work with customers to achieve a design win, which may take three months or longer |
| Our customers then complete the design, testing and evaluation process and begin to ramp up production, a period which typically lasts an additional six months or longer |
| As a result, a significant period of time may elapse between our research and development efforts and our realization of revenue, if any, from volume purchasing of our products by our customers |
| We face intense competition from companies with significantly greater financial, technical and marketing resources that could harm sales of our products |
| We compete with major domestic and international semiconductor companies, many of which have substantially greater financial, technical, marketing, distribution, and other resources than we do |
| Many of our competitors have their own facilities for the production of semiconductor memory components and have recently added significant capacity for such production |
| As noted under the section entitled Competition (see above), our low density memory products, medium density memory products, and high density memory products (if we are successful in developing these products) face substantial competition |
| In addition, we may in the future experience direct competition from our foundry partners |
| We have licensed to our foundry partners the right to fabricate products based on our technology and circuit design, and to sell such products worldwide, subject to our receipt of royalty payments |
| Competition may also come from alternative technologies such as ferroelectric random access memory devices, or FRAM, or other developing technologies |
| 18 ______________________________________________________________________ Our markets are subject to rapid technological change and, therefore, our success depends on our ability to develop and introduce new products |
| The markets for our products are characterized by: · rapidly changing technologies; · evolving and competing industry standards; · changing customer needs; · frequent new product introductions and enhancements; · increased integration with other functions; and · rapid product obsolescence |
| To develop new products for our target markets, we must develop, gain access to and use leading technologies in a cost-effective and timely manner and continue to expand our technical and design expertise |
| In addition, we must have our products designed into our customers’ future products and maintain close working relationships with key customers in order to develop new products that meet their changing needs |
| In addition, products for communications applications are based on continually evolving industry standards |
| Our ability to compete will depend on our ability to identify and ensure compliance with these industry standards |
| As a result, we could be required to invest significant time and effort and incur significant expense to redesign our products and ensure compliance with relevant standards |
| We believe that products for these applications will encounter intense competition and be highly price sensitive |
| While we are currently developing and introducing new products for these applications, we cannot assure you that these products will reach the market on time, will satisfactorily address customer needs, will be sold in high volume, or will be sold at profitable margins |
| We cannot assure you that we will be able to identify new product opportunities successfully, develop and bring to market new products, achieve design wins or respond effectively to new technological changes or product announcements by our competitors |
| In addition, we may not be successful in developing or using new technologies or in developing new products or product enhancements that achieve market acceptance |
| Our pursuit of necessary technological advances may require substantial time and expense |
| Failure in any of these areas could harm our operating results |
| Our future success depends in part on the continued service of our key design engineering, sales, marketing and executive personnel and our ability to identify, recruit and retain additional personnel |
| We are highly dependent on Bing Yeh, our President and Chief Executive Officer, as well as the other principal members of our management team and engineering staff |
| There is intense competition for qualified personnel in the semiconductor industry, in particular the highly skilled design, applications and test engineers involved in the development of flash memory technology |
| Competition is especially intense in Silicon Valley, where our corporate headquarters is located |
| We may not be able to continue to attract and retain engineers or other qualified personnel necessary for the development of our business or to replace engineers or other qualified personnel who may leave our employ in the future |
| Our anticipated growth is expected to place increased demands on our resources and will likely require the addition of new management and engineering personnel and the development of additional expertise by existing management personnel |
| The failure to recruit and retain key design engineers or other technical and management personnel could harm our business |
| 19 ______________________________________________________________________ Our ability to compete successfully depends, in part, on our ability to protect our intellectual property rights |
| We rely on a combination of patent, trade secrets, copyrights, mask work rights, nondisclosure agreements and other contractual provisions and technical measures to protect our intellectual property rights |
| Policing unauthorized use of our products, however, is difficult, especially in foreign countries |
| Litigation may continue to be necessary in the future to enforce our intellectual property rights, to protect our trade secrets, to determine the validity and scope of the proprietary rights of others, or to defend against claims of infringement or invalidity |
| Litigation could result in substantial costs and diversion of resources and could harm our business, operating results and financial condition regardless of the outcome of the litigation |
| We hold 168 patents in the United States relating to certain aspects of our products and processes, with expiration dates ranging from 2010 to 2024 and have filed for several more |
| In addition, we hold several patents in Europe, Japan, Korea, Taiwan, and China |
| We cannot assure you that any pending patent application will be granted |
| Our operating results could be harmed by the failure to protect our intellectual property |
| We are engaged in securities class action suits and derivative suits, which may become time consuming, costly and divert management resources and could impact our stock price |
| Securities class action law suits are often brought against companies, particularly technology companies, following periods of volatility in the market price of their securities |
| Irrespective of the validity or the successful assertion of such claims, we could incur significant costs and management resources in defending against such claims |
| In January and February 2005, multiple putative shareholder class action complaints were filed against SST and certain directors and officers, in the United States District Court for the Northern District of California, following our announcement of anticipated financial results for the fourth quarter of 2004 |
| On March 24, 2005, the putative class actions were consolidated under the caption In re Silicon Storage Technology, Inc, Securities Litigation, Case Nodtta C 05 00295 PJH (ND Cal |
| On May 3, 2005, the Honorable Phyllis J Hamilton appointed the “Louisiana Funds Group,” consisting of the Louisiana School Employees’ Retirement System and the Louisiana District Attorneys’ Retirement System, to serve as lead plaintiff and the law firms of Pomeranz Haudek Block Grossman & Gross LLP and Berman DeValerio Pease Tabacco Burt & Pucillo to serve as lead counsel and liason counsel, respectively, for the class |
| The lead plaintiff filed a Consolidated Amended Class Action Complaint on July 15, 2005 |
| The complaint seeks unspecified damages on alleged violations of federal securities laws during the period from April 21, 2004 to December 20, 2004 |
| We moved to dismiss the complaint on September 16, 2005 |
| Plaintiff served an opposition to the motion to dismiss on November 4, 2005 |
| Our reply in further support of the motion to dismiss was filed on December 19, 2005 |
| On January 18, 2006, the Court heard arguments on the motion to dismiss |
| On March 10, 2006, the Court granted our motion to dismiss the consolidated amended complaint, with leave to file an amended complaint |
| Pursuant to the Court’s Order, any amended complaint must be filed no later that April 14, 2006 |
| We intend to take all appropriate action in response to these lawsuits |
| The impact related to the outcome of these matters is undeterminable at this time |
| In January and February 2005, following the filing of the putative class actions, multiple shareholder derivative complaints were filed in California Superior Court for the County of Santa Clara, purportedly on behalf of SST against certain of our directors and officers |
| The factual allegations of these complaints are substantially identical to those contained in the putative shareholder class actions filed in federal court |
| The derivative complaints assert claims for, among other things, breach of fiduciary duty and violations of the California Corporations Code |
| These derivative actions have been consolidated under the caption In Re Silicon Storage Technology, Inc |
| Ct, Santa Clara Co |
| On April 28, 2005, the derivative action was stayed by court order |
| We intend to take all appropriate action in response to these lawsuits |
| 20 ______________________________________________________________________ Public announcements may hurt our stock price |
| During the course of these lawsuits there may be public announcements of the results of hearings, motions, and other interim proceedings or developments in the litigation |
| If securities analysts or investors perceive these results to be negative, it could harm the market price of our stock |
| Our litigation may be expensive, may be protracted and confidential information may be compromised |
| We have incurred certain costs associated with defending these matters, and at any time, additional claims may be filed against us, which could increase the risk, expense and duration of the litigation |
| Further, because of the amount of discovery required in connection with this type of litigation, there is a risk that some of our confidential information could be compromised by disclosure |
| For more information with respect to our litigation, please also see “Part I, Item 3—Legal Proceedings |
| ” If we are accused of infringing the intellectual property rights of other parties we may become subject to time consuming and costly litigation |
| If we lose, we could suffer a significant impact on our business and be forced to pay damages |
| Third parties may assert that our products infringe their proprietary rights, or may assert claims for indemnification resulting from infringement claims against us |
| Any such claims may cause us to delay or cancel shipment of our products or pay damages that could harm our business, financial condition and results of operations |
| In addition, irrespective of the validity or the successful assertion of such claims, we could incur significant costs in defending against such claims |
| In the past, we were sued by Atmel Corporation and Intel Corporation, among others, regarding patent infringement |
| Significant management time and financial resources were devoted to defending these lawsuits |
| We settled with Intel in May 1999 and with Atmel in June 2005 |
| In addition to the Atmel and Intel actions, we receive from time to time, letters or communications from other companies stating that such companies have patent rights that involve our products |
| Since the design of all of our products is based on SuperFlash technology, any legal finding that the use of our SuperFlash technology infringes the patent of another company would have a significantly negative effect on our entire product line and operating results |
| Furthermore, if such a finding were made, there can be no assurance that we could license the other company’s technology on commercially reasonable terms or that we could successfully operate without such technology |
| Moreover, if we are found to infringe, we could be required to pay damages to the owner of the protected technology and could be prohibited from making, using, selling, or importing into the United States any products that infringe the protected technology |
| In addition, the management attention consumed by and legal cost associated with any litigation could harm our operating results |
| During the course of these lawsuits there may be public announcements of the results of hearings, motions, and other interim proceedings or developments in the litigation |
| If an earthquake or other natural disaster strikes our manufacturing facility or those of our suppliers, we would be unable to manufacture our products for a substantial amount of time and we would experience lost revenues |
| Our corporate headquarters are located in California near major earthquake faults |
| In addition, some of our suppliers are located near fault lines |
| In the event of a major earthquake or other natural disaster near our headquarters, our operations could be harmed |
| Similarly, a major earthquake or other natural disaster such as typhoon near one or more of our major suppliers, like the earthquakes in September 1999 and March 2002 or the typhoons in September 2001and July 2005 that occurred in Taiwan, could potentially disrupt the operations of those suppliers, which could then limit the supply of our products and harm our business |
| 21 ______________________________________________________________________ A virus or viral outbreak in Asia could harm our business |
| We derive substantially all of our revenues from Asia and our logistics center is located in Taiwan |
| A virus or viral outbreak in Asia, such as the SARS outbreak in early 2003 or the current threat of the Avian flu, could harm the operations of our suppliers, distributors, logistics center and those of our end customers, which could harm our business |
| Prolonged electrical power outages, energy shortages, or increased costs of energy could harm our business |
| Our design and process research and development facilities and our corporate offices are located in California, which is susceptible to power outages and shortages as well as increased energy costs |
| To limit this exposure, all corporate computer systems at our main California facilities are on battery back-up |
| In addition, all of our engineering and back-up servers and selected corporate servers are on generator back-up |
| While the majority of our production facilities are not located in California, more extensive power shortages in the state could delay our design and process research and development as well as increase our operating costs |
| Our growth has in the past placed a significant strain on our management systems and resources and if we fail to manage our growth, our ability to market or sell our products or develop new products may be harmed |
| Our business has in the past experienced rapid growth which strained our internal systems and future growth will require us to continuously develop sophisticated information management systems in order to manage our business effectively |
| We have implemented a supply-chain management system and a vendor electronic data interface system |
| There is no guarantee that these measures, in themselves, will be adequate to address any growth, or that we will be able to foresee in a timely manner other infrastructure needs before they arise |
| Our success depends on the ability of our executive officers to effectively manage our growth |
| If we are unable to manage our growth effectively, our results of operations will be harmed |
| If we fail to successfully implement new management information systems, our business may suffer severe inefficiencies that may harm the results of our operations |
| Future changes in financial accounting standards or practices or existing taxation rules or practices may cause adverse unexpected revenue fluctuations and affect our reported results of operations |
| A change in accounting standards or practices or a change in existing taxation rules or practices can have a significant effect on our reported results and may even affect reporting of transactions completed before the change is effective |
| New accounting pronouncements and taxation rules and varying interpretations of accounting pronouncements and taxation practice have occurred and may occur in the future |
| Changes to existing rules or the questioning of current practices may adversely affect our reported financial results or the way we conduct our business |
| For example, the Financial Accounting Standards Board, or FASB, has issued changes to generally accepted accounting principles in the United States that, when implemented in the first quarter of 2006, will require us to record charges to earnings for the stock options we grant and purchases of our common stock under our employee stock purchase plan |
| Evolving regulation of corporate governance and public disclosure may result in additional expenses and continuing uncertainty Changing laws, regulations and standards relating to corporate governance and public disclosure, including the Sarbanes-Oxley Act of 2002, new SEC regulations and NASDAQ National Market rules are creating uncertainty for public companies |
| We continually evaluate and monitor developments with respect 22 ______________________________________________________________________ to new and proposed rules and cannot predict or estimate the amount of the additional costs we may incur or the timing of such costs |
| These new or changed laws, regulations and standards are subject to varying interpretations, in many cases due to their lack of specificity, and as a result, their application in practice may evolve over time as new guidance is provided by regulatory and governing bodies |
| This could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices |
| We are committed to maintaining high standards of corporate governance and public disclosure |
| As a result, we have invested resources to comply with evolving laws, regulations and standards, and this investment has resulted in increased general and administrative expenses and a diversion of management time and attention from revenue-generating activities to compliance activities |
| If our efforts to comply with new or changed laws, regulations and standards differ from the activities intended by regulatory or governing bodies due to ambiguities related to practice, regulatory authorities may initiate legal proceedings against us and we may be harmed |
| We, and our independent registered public accounting firm, determined that we had a material weakness in our internal controls over financial reporting in 2004 |
| In the future, such events could cause our current and potential stockholders to lose confidence in our financial reporting, which would harm our business and the trading price of our stock |
| Under Section 404 of the Sarbanes-Oxley Act of 2002, we are required to evaluate and determine the effectiveness of our internal controls over financial reporting |
| We have dedicated a significant amount of time and resources to ensure compliance with this legislation for the year ended December 31, 2005 and will continue to do so for future fiscal periods |
| We may encounter problems or delays in completing the review and evaluation, the implementation of improvements and the receipt of a positive attestation, or any attestation at all, by our independent regional accounting firm |
| Additionally, management’s assessment of our internal controls over financial reporting may identify deficiencies that need to be addressed in our internal controls over financial reporting or other matters that may raise concerns for investors |
| As of December 31, 2004, we did not maintain effective control over accounting for and review of the valuation of inventory, the income tax provision and related balance sheet accounts and licensing revenue because we lacked a sufficient complement of personnel with a level of accounting expertise that is commensurate with our financial reporting requirements |
| Because of this material weakness, our management concluded that, as of December 31, 2004, we did not maintain effective internal control over financial reporting based on those criteria |
| As a result, PricewaterhouseCoopers LLP, issued an adverse opinion with respect to our internal controls over financial reporting and their report is included in our Form 10-K for the year ended December 31, 2004 |
| As of December 31, 2005, these material weaknesses had been remediated |
| For further information, see Item 9A—“Controls and Procedures” on page 43 |
| Should we, or our independent registered public accounting firm, determine in future fiscal periods that we have additional material weaknesses in our internal controls over financial reporting, the reliability of our financial reports may be impacted, and our results of operations or financial condition may be harmed and the price of our common stock may decline |
| Acquisitions could result in operating difficulties, dilution and other harmful consequences |
| We expect to continue to evaluate and consider a wide array of potential strategic transactions, including business combinations, acquisitions and dispositions of businesses, technologies, services, products and other assets, including interests in our existing subsidiaries and joint ventures |
| At any given time we may be engaged in discussions or negotiations with respect to one or more of such transactions |
| Any of such transactions could be material to our financial condition and results of operations |
| There is no assurance that any such discussions or negotiations will result in the consummation of any transaction |
| The process of integrating 23 ______________________________________________________________________ any acquired business may create unforeseen operating difficulties and expenditures and is itself risky |
| The areas where we may face difficulties include: · diversion of management time, as well as a shift of focus from operating the businesses to issues of integration and future products; · declining employee morale and retention issues resulting from changes in compensation, reporting relationships, future prospects, or the direction of the business; · the need to integrate each company’s accounting, management information, human resource and other administrative systems to permit effective management, and the lack of control if such integration is delayed or not implemented; · the need to implement controls, procedures and policies appropriate for a public company at companies that prior to acquisition had lacked such controls, procedures and policies; and in some cases, the need to transition operations onto our platforms and · in some cases, the need to transition operations onto our technology platforms |
| International acquisitions involve additional risks, including those related to integration of operations across different cultures and languages, currency risks, and the particular economic, political, and regulatory risks associated with specific countries |
| Moreover, we may not realize the anticipated benefits of any or all of our acquisitions |
| As a result of future acquisitions or mergers, we might need to issue additional equity securities, spend our cash, or incur debt, contingent liabilities, or amortization expenses related to intangible assets, any of which could reduce our profitability and harm our business |
| Risks Related to Our Industry Our success is dependent on the growth and strength of the flash memory market |
| Substantially all of our products, as well as all new products currently under design, are stand-alone flash memory devices or devices embedded with flash memory |
| A memory technology other than SuperFlash may be adopted as an industry standard |
| Our competitors are generally in a better financial and marketing position than we are from which to influence industry acceptance of a particular memory technology |
| In particular, a primary source of competition may come from alternative technologies such as FRAM devices if such technology is commercialized for higher density applications |
| To the extent our competitors are able to promote a technology other than SuperFlash as an industry standard, our business will be seriously harmed |
| The selling prices for our products are extremely volatile and have historically declined during periods of over capacity or industry downturns |
| The semiconductor industry has historically been cyclical, characterized by periodic changes in business conditions caused by product supply and demand imbalance |
| When the industry experiences downturns, they often occur in connection with, or in anticipation of, maturing product cycles and declines in general economic conditions |
| These downturns are characterized by weak product demand, excessive inventory and accelerated declines of average selling prices |
| In some cases, downturns, such as the one we experienced from late 2000 through 2002, have lasted for more than a year |
| These downturns are characterized by weak product demand, excessive inventory and accelerated decline of selling prices |
| We experienced a decrease in the average selling prices of our products as a result of the industry-wide oversupply and excessive inventory in the market in the second half of 2004 and the first half of 2005 |
| Although we have seen strengthening of market demand in the second half of 2005, our business could be further harmed by industry-wide prolonged downturns in the future |
| 24 ______________________________________________________________________ There is seasonality in our business and if we fail to continue to introduce new products this seasonality may become more pronounced |
| Sales of our products in the consumer electronics applications market are subject to seasonality |
| As a result, sales of these products are impacted by seasonal purchasing patterns with higher sales generally occurring in the second half of each year |
| In the past we have been able to mitigate such seasonality with the introduction of new products throughout the year |
| If we fail to continue to introduce new products, our business may suffer and the seasonality of a portion of our sales may become more pronounced |