UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
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þ
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
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For the quarterly period ended September 30, 2008.
or
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o
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
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For the transition period from
to
.
Commission File Number: 000-30269
PIXELWORKS, INC.
(Exact name of registrant as specified in its charter)
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OREGON
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91-1761992
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(State or other jurisdiction of incorporation)
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(I.R.S. Employer Identification No.)
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8100 SW Nyberg Road
Tualatin, Oregon 97062
(503) 454-1750
(Address of principal executive offices, including zip code,
and Registrants telephone number, including area code)
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 last 90 days. Yes
þ
No
o
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):
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Large accelerated filer
o
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Accelerated filer
þ
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Non-accelerated filer
o
(Do not check if a smaller reporting company)
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Smaller Reporting Company
þ
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Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act). Yes
o
No
þ
Number of shares of Common Stock outstanding as of October 31, 2008: 13,729,127
PIXELWORKS, INC.
FORM 10-Q
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2008
TABLE OF CONTENTS
PART I FINANCIAL INFORMATION
Item 1. Financial Statements.
PIXELWORKS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)
(Unaudited)
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September 30,
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December 31,
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2008
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2007
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ASSETS
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Current assets:
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Cash and cash equivalents
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$
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42,780
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$
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74,572
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Short-term marketable securities
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18,560
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34,581
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Accounts receivable, net
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5,948
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6,223
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Inventories, net
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5,257
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11,265
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Prepaid expenses and other current assets
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3,771
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3,791
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Total current assets
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76,316
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130,432
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Long-term marketable securities
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1,490
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9,804
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Property and equipment, net
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4,839
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6,148
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Other assets, net
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5,387
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6,902
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Debt issuance costs, net
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764
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2,260
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Acquired intangible assets, net
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4,091
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6,370
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Total assets
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$
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92,887
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$
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161,916
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LIABILITIES AND SHAREHOLDERS EQUITY
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Current liabilities:
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Accounts payable
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$
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4,541
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$
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3,992
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Accrued liabilities and current portion of long-term liabilities
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7,396
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13,848
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Current portion of income taxes payable
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232
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Total current liabilities
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11,937
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18,072
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Long-term liabilities, net of current portion
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1,501
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1,236
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Income taxes payable, net of current portion
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10,866
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10,635
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Long-term debt
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60,634
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140,000
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Total liabilities
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84,938
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169,943
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Commitments and contingencies
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Shareholders equity (deficit):
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Preferred stock
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Common stock
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334,127
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333,934
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Shares exchangeable into common stock
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113
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Accumulated other comprehensive loss
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(1,984
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)
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(4,778
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)
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Accumulated deficit
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(324,194
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)
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(337,296
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)
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Total shareholders equity (deficit)
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7,949
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(8,027
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)
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Total liabilities and shareholders equity
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$
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92,887
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$
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161,916
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See accompanying notes to condensed consolidated financial statements.
3
PIXELWORKS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
(Unaudited)
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Three Months Ended
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Nine Months Ended
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September 30,
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September 30,
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2008
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2007
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2008
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2007
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Revenue, net
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$
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21,479
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$
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28,133
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$
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66,248
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$
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79,010
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Cost of revenue (1)
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10,028
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16,025
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32,628
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45,447
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Gross profit
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11,451
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12,108
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33,620
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33,563
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Operating expenses:
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Research and development (2)
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6,476
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8,962
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20,391
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30,612
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Selling, general and administrative (3)
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4,413
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5,697
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13,590
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20,235
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Restructuring
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121
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1,645
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971
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7,048
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Amortization of acquired intangible assets
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89
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164
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269
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Total operating expenses
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11,010
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16,393
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35,116
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58,164
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Income (loss) from operations
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441
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(4,285
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)
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(1,496
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)
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(24,601
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)
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Gain on repurchase of long-term debt, net
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8,113
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19,670
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Interest income
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405
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1,454
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1,941
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4,425
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Interest expense
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(343
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)
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(658
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)
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(1,335
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)
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(2,003
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)
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Amortization of debt issuance costs
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(83
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)
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(165
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)
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(354
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)
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(496
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)
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Other income
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218
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Other-than-temporary impairment of marketable security
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(6,490
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)
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Interest and other income, net
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8,092
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631
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13,650
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1,926
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Income (loss) before income taxes
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8,533
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(3,654
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)
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12,154
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(22,675
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)
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Provision (benefit) for income taxes
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314
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775
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(948
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)
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1,796
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Net income (loss)
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$
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8,219
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$
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(4,429
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)
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$
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13,102
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$
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(24,471
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)
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Net income (loss) per share:
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Basic
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$
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0.57
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$
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(0.27
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)
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$
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0.90
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$
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(1.50
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)
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Diluted
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$
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0.56
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$
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(0.27
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)
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$
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0.89
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$
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(1.50
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)
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Weighted average shares outstanding:
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Basic
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14,383
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16,307
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14,629
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16,284
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Diluted
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15,399
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16,307
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14,640
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16,284
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(1) Includes:
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Amortization of
acquired developed
technology
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$
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705
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$
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705
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$
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2,115
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$
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2,115
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Stock-based
compensation
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8
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|
22
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|
46
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|
70
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Restructuring
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11
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|
147
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|
(2) Includes stock-based compensation
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|
177
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|
|
|
538
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|
1,075
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|
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|
1,718
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(3) Includes stock-based compensation
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|
227
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|
|
|
684
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|
965
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|
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2,633
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See accompanying notes to condensed consolidated financial statements.
4
PIXELWORKS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
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Nine Months Ended
|
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September 30,
|
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2008
|
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|
2007
|
|
Cash flows from operating activities:
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Net income (loss)
|
|
$
|
13,102
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$
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(24,471
|
)
|
Adjustments to reconcile net income (loss) to net cash provided by (used in)
operating activities:
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|
|
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Gain on repurchase of long-term debt, net
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|
(19,670
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)
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Other-than-temporary impairment of marketable security
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6,490
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Depreciation and amortization
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5,007
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10,982
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Amortization of acquired intangible assets
|
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|
2,279
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|
|
|
2,384
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Stock-based compensation
|
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|
2,086
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|
|
|
4,421
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|
Deferred income tax expense (benefit)
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|
|
(476
|
)
|
|
|
420
|
|
Amortization of debt issuance costs
|
|
|
354
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|
|
|
496
|
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Accretion on short- and long-term marketable securities
|
|
|
(325
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)
|
|
|
(320
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)
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Loss on asset disposals
|
|
|
93
|
|
|
|
210
|
|
Write-off of certain assets related to restructuring
|
|
|
14
|
|
|
|
679
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Other
|
|
|
40
|
|
|
|
41
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|
Changes in operating assets and liabilities:
|
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|
|
|
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Accounts receivable, net
|
|
|
275
|
|
|
|
646
|
|
Inventories, net
|
|
|
6,008
|
|
|
|
(1,703
|
)
|
Prepaid expenses and other current and long-term assets, net
|
|
|
759
|
|
|
|
3,326
|
|
Accounts payable
|
|
|
(390
|
)
|
|
|
(934
|
)
|
Accrued current and long-term liabilities
|
|
|
(2,459
|
)
|
|
|
(1,822
|
)
|
Income taxes payable
|
|
|
(1
|
)
|
|
|
(412
|
)
|
|
|
|
|
|
|
|
Net cash provided by (used in) operating activities
|
|
|
13,186
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|
|
|
(6,057
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from investing activities:
|
|
|
|
|
|
|
|
|
Proceeds from sales and maturities of marketable securities
|
|
|
43,964
|
|
|
|
52,221
|
|
Purchases of marketable securities
|
|
|
(22,999
|
)
|
|
|
(27,837
|
)
|
Purchases of property and equipment
|
|
|
(1,478
|
)
|
|
|
(2,027
|
)
|
Proceeds from sales of property and equipment
|
|
|
20
|
|
|
|
26
|
|
|
|
|
|
|
|
|
Net cash provided by investing activities
|
|
|
19,507
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|
|
|
22,383
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|
|
|
|
|
|
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|
|
|
|
|
|
|
|
|
|
Cash flows from financing activities:
|
|
|
|
|
|
|
|
|
Repurchase of long-term debt
|
|
|
(58,554
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)
|
|
|
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|
Payments on asset financings
|
|
|
(3,925
|
)
|
|
|
(6,130
|
)
|
Repurchase of common stock
|
|
|
(2,053
|
)
|
|
|
|
|
Proceeds from issuances of common stock
|
|
|
47
|
|
|
|
352
|
|
|
|
|
|
|
|
|
Net cash
used in financing activities
|
|
|
(64,485
|
)
|
|
|
(5,778
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net change in cash and cash equivalents
|
|
|
(31,792
|
)
|
|
|
10,548
|
|
Cash and cash equivalents, beginning of period
|
|
|
74,572
|
|
|
|
63,095
|
|
|
|
|
|
|
|
|
Cash and cash equivalents, end of period
|
|
$
|
42,780
|
|
|
$
|
73,643
|
|
|
|
|
|
|
|
|
See accompanying notes to condensed consolidated financial statements.
5
PIXELWORKS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In thousands, except share and per share data)
(Unaudited)
NOTE 1: BASIS OF PRESENTATION
Nature of Business
We are an innovative designer, developer and marketer of video and pixel processing technology
semiconductors and software for high-end digital video applications. Our solutions enable
manufacturers of digital display and projection devices, such as multimedia projectors and
large-screen liquid crystal display (LCD) televisions to differentiate their products with a
consistently high level of video quality.
Condensed Consolidated Financial Statements
These condensed consolidated financial statements have been prepared pursuant to the rules and
regulations of the Securities and Exchange Commission (SEC). Certain information and footnote
disclosures normally included in financial statements prepared in accordance with U.S. generally
accepted accounting principles (GAAP) have been condensed or omitted pursuant to such
regulations, although we believe that the disclosures provided are adequate to prevent the
information presented from being misleading.
The financial information included herein for the three and nine month periods ended September 30,
2008 and 2007 is unaudited; however, such information reflects all adjustments, consisting only of
normal recurring adjustments, that are, in the opinion of management, necessary for a fair
presentation of the financial position, results of operations and cash flows of the Company for
these interim periods. The financial information as of December 31, 2007 is derived from our
audited consolidated financial statements and notes thereto for the fiscal year ended December 31,
2007, included in Item 8 of our Annual Report on Form 10-K, filed with the SEC on March 12, 2008,
and should be read in conjunction with such consolidated financial statements.
The results of operations for the three and nine month periods ended September 30, 2008 are not
necessarily indicative of the results expected for the entire fiscal year ending December 31, 2008.
Use of Estimates
The preparation of consolidated financial statements in conformity with GAAP requires us to make
estimates and judgments that affect amounts reported in the financial statements and accompanying
notes. Our significant estimates and judgments include those related to valuation of short- and
long-term marketable securities, product returns, warranty obligations, bad debts, inventories,
property and equipment, intangible assets, valuation of share-based payments, income taxes,
litigation and other contingencies. The actual results experienced could differ materially from
our estimates.
Reclassifications
Certain reclassifications have been made to the 2007 condensed consolidated financial statements to
conform with the 2008 presentation, including the reclassification of payments on asset financing
as financing activities on the condensed consolidated statements of
cash flow. Similar amounts will be reclassified in future filings for
prior periods.
6
NOTE 2: BALANCE SHEET COMPONENTS
Marketable Securities
As of September 30, 2008 and December 31, 2007, all of our short- and long-term marketable
securities are available-for-sale.
Unrealized holding gains (losses) on short- and long-term available-for-sale securities, net of
tax, were $78 and $(2,019), respectively, as of September 30, 2008 and $(22) and $(4,713),
respectively, as of December 31, 2007. These unrealized holding gains and losses are recorded in
accumulated other comprehensive loss, a component of shareholders equity (deficit), in the
condensed consolidated balance sheets. We determined that as of September 30, 2008, gross
unrealized losses on our marketable securities were temporary based on our intent and ability to
hold the investments until recovery.
Accounts Receivable, Net
Accounts receivable are recorded at invoiced amount and do not bear interest when recorded or
accrue interest when past due. We do not have any off balance sheet exposure risk related to
customers. Accounts receivable are stated net of an allowance for doubtful accounts, which is
maintained for estimated losses that may result from the inability of our customers to make
required payments. Accounts receivable, net consists of the following:
|
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
|
December 31,
|
|
|
|
2008
|
|
|
2007
|
|
Accounts receivable, gross
|
|
$
|
6,490
|
|
|
$
|
6,765
|
|
Less: allowance for doubtful accounts
|
|
|
(542
|
)
|
|
|
(542
|
)
|
|
|
|
|
|
|
|
Accounts receivable, net
|
|
$
|
5,948
|
|
|
$
|
6,223
|
|
|
|
|
|
|
|
|
The following is the change in our allowance for doubtful accounts:
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended
|
|
|
|
September 30,
|
|
|
|
2008
|
|
|
2007
|
|
Balance at beginning of period
|
|
$
|
542
|
|
|
$
|
200
|
|
Provision
|
|
|
|
|
|
|
483
|
|
Recoveries
|
|
|
|
|
|
|
(96
|
)
|
|
|
|
|
|
|
|
Balance at end of period
|
|
$
|
542
|
|
|
$
|
587
|
|
|
|
|
|
|
|
|
Inventories, Net
Inventories consist of finished goods and work-in-process, and are stated at the lower of standard
cost (which approximates actual cost on a first-in, first-out basis) or market (net realizable
value), net of a reserve for slow-moving and obsolete items.
Inventories, net consists of the following:
7
|
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
|
December 31,
|
|
|
|
2008
|
|
|
2007
|
|
Finished goods
|
|
$
|
4,928
|
|
|
$
|
12,733
|
|
Work-in-process
|
|
|
5,412
|
|
|
|
4,482
|
|
|
|
|
|
|
|
|
|
|
|
10,340
|
|
|
|
17,215
|
|
Less: reserve for slow-moving and obsolete items
|
|
|
(5,083
|
)
|
|
|
(5,950
|
)
|
|
|
|
|
|
|
|
Inventories, net
|
|
$
|
5,257
|
|
|
$
|
11,265
|
|
|
|
|
|
|
|
|
The following is the change in our reserve for slow-moving and obsolete items:
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended
|
|
|
|
September 30,
|
|
|
|
2008
|
|
|
2007
|
|
Balance at beginning of period
|
|
$
|
5,950
|
|
|
$
|
5,950
|
|
Provision
|
|
|
1,361
|
|
|
|
3,834
|
|
Usage:
|
|
|
|
|
|
|
|
|
Sales
|
|
|
(836
|
)
|
|
|
(1,408
|
)
|
Scrap
|
|
|
(1,392
|
)
|
|
|
(1,551
|
)
|
|
|
|
|
|
|
|
Total usage
|
|
|
(2,228
|
)
|
|
|
(2,959
|
)
|
|
|
|
|
|
|
|
Balance at end of period
|
|
$
|
5,083
|
|
|
$
|
6,825
|
|
|
|
|
|
|
|
|
Based upon our forecast and backlog, we do not currently expect to be able to sell or otherwise use
the reserved inventory we have on hand at September 30, 2008. However, it is possible that a
customer will decide in the future to purchase a portion of the reserved inventory. It is not
possible for us to predict if or when this may happen, or how much we may sell. If such sales
occur, we do not expect that they will have a material effect on gross profit margin.
Prepaid Expenses and Other Current Assets
Prepaid expenses and other current assets consist of current prepaid expenses, deposits, income
taxes receivable, other receivables and deferred tax assets. In the third quarter of 2008 we
increased the estimated amortization rate of a certain prepaid royalty due to a change in future
product design. The revision will be made prospectively and had no impact on our condensed
statements of operations, balance sheets or cash flows as of September 30, 2008.
Property and Equipment, Net
Property and equipment, net consists of the following:
|
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
|
December 31,
|
|
|
|
2008
|
|
|
2007
|
|
Gross carrying amount
|
|
$
|
18,685
|
|
|
$
|
17,109
|
|
Less: accumulated depreciation and amortization
|
|
|
(13,846
|
)
|
|
|
(10,961
|
)
|
|
|
|
|
|
|
|
Property and equipment, net
|
|
$
|
4,839
|
|
|
$
|
6,148
|
|
|
|
|
|
|
|
|
8
Acquired Intangible Assets, Net
Acquired intangible assets, net consists of the following:
|
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
|
December 31,
|
|
|
|
2008
|
|
|
2007
|
|
Gross carrying amount:
|
|
|
|
|
|
|
|
|
Developed technology
|
|
$
|
19,170
|
|
|
$
|
19,170
|
|
Customer relationships
|
|
|
1,689
|
|
|
|
1,689
|
|
|
|
|
|
|
|
|
|
|
|
20,859
|
|
|
|
20,859
|
|
|
|
|
|
|
|
|
|
|
Less accumulated amortization:
|
|
|
|
|
|
|
|
|
Developed technology
|
|
|
(15,079
|
)
|
|
|
(12,964
|
)
|
Customer relationships
|
|
|
(1,689
|
)
|
|
|
(1,525
|
)
|
|
|
|
|
|
|
|
|
|
|
(16,768
|
)
|
|
|
(14,489
|
)
|
|
|
|
|
|
|
|
Acquired intangible assets, net
|
|
$
|
4,091
|
|
|
$
|
6,370
|
|
|
|
|
|
|
|
|
Estimated future amortization of acquired developed technology is as follows:
|
|
|
|
|
Three Months Ending December 31:
|
|
|
|
|
2008
|
|
$
|
705
|
|
Year Ending December 31:
|
|
|
|
|
2009
|
|
|
2,336
|
|
2010
|
|
|
1,050
|
|
|
|
|
|
|
|
$
|
4,091
|
|
|
|
|
|
Accrued Liabilities and Current Portion of Long-Term Liabilities
Accrued liabilities and current portion of long-term liabilities consists of the following:
|
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
|
December 31,
|
|
|
|
2008
|
|
|
2007
|
|
Accrued payroll and related liabilities
|
|
$
|
3,535
|
|
|
$
|
3,366
|
|
Reserve for warranty returns
|
|
|
678
|
|
|
|
932
|
|
Accrued costs related to restructuring
|
|
|
487
|
|
|
|
2,918
|
|
Current portion of accrued liabilities for asset financings
|
|
|
428
|
|
|
|
4,150
|
|
Accrued interest payable
|
|
|
416
|
|
|
|
405
|
|
Accrued commissions and royalties
|
|
|
249
|
|
|
|
381
|
|
Reserve for sales returns and allowances
|
|
|
175
|
|
|
|
175
|
|
Other
|
|
|
1,428
|
|
|
|
1,521
|
|
|
|
|
|
|
|
|
|
|
$
|
7,396
|
|
|
$
|
13,848
|
|
|
|
|
|
|
|
|
The following is the change in our reserves for warranty returns and sales returns and allowances:
9
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended
|
|
|
|
September 30,
|
|
|
|
2008
|
|
|
2007
|
|
Reserve for warranty returns:
|
|
|
|
|
|
|
|
|
Balance at beginning of period
|
|
$
|
932
|
|
|
$
|
662
|
|
Provision
|
|
|
(73
|
)
|
|
|
1,203
|
|
Charge offs
|
|
|
(181
|
)
|
|
|
(959
|
)
|
|
|
|
|
|
|
|
Balance at end of period
|
|
$
|
678
|
|
|
$
|
906
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Reserve for sales returns and allowances:
|
|
|
|
|
|
|
|
|
Balance at beginning of period
|
|
$
|
175
|
|
|
$
|
479
|
|
Provision
|
|
|
74
|
|
|
|
111
|
|
Charge offs
|
|
|
(74
|
)
|
|
|
(415
|
)
|
|
|
|
|
|
|
|
Balance at end of period
|
|
$
|
175
|
|
|
$
|
175
|
|
|
|
|
|
|
|
|
Long-Term Debt
In 2004, we issued $150,000 of 1.75% convertible subordinated debentures (the debentures) due
2024. In February 2006, we repurchased and retired $10,000 of the debentures. In February 2008,
we repurchased and retired $50,248 of the debentures in a modified dutch auction tender offer for
$37,939 in cash. We recognized a net gain of $11,557 on the repurchase, which included a $13,064
discount, offset by legal and professional fees of $755 and a write-off of debt issuance costs of
$752. In August 2008, we repurchased and retired $29,118 of the debentures for $20,615 in a
combination of open market and private transactions. We recognized a net gain of $8,113 on the
repurchases, which included an $8,503 discount, offset by a write-off of debt issuance costs of
$390.
The remaining $60,634 of debentures are convertible, under certain circumstances, into our common
stock at a conversion rate of 13.6876 shares of common stock per $1 principal amount of debentures
for a total of 829,934 shares. This is equivalent to a conversion price of approximately $73.06
per share. The debentures are convertible if (a) our stock trades above 130% of the conversion
price for 20 out of 30 consecutive trading days during any calendar quarter, (b) the debentures
trade at an amount less than or equal to 98% of the if-converted value of the debentures for five
consecutive trading days, (c) a call for redemption occurs, or (d) in the event of certain other
specified corporate transactions.
We may redeem some or all of the debentures for cash on or after May 15, 2011 at a price equal to
100% of the principal amount of the debentures plus accrued and unpaid interest. The holders of
the debentures have the right to require us to purchase all or a portion of the $60,634 debentures
outstanding at each of the following dates: May 15, 2011, May 15, 2014, and May 15, 2019, at a
purchase price equal to 100% of the principal amount plus accrued and unpaid interest. The
debentures are unsecured obligations and are subordinated in right of payment to all our existing
and future senior debt.
Shareholders Equity (Deficit)
Reverse Stock Split
On June 4, 2008, we effected a one-for-three reverse split of our common stock. The exercise price
and number of shares of common stock issuable under our stock incentive plans, as well as the
conversion price and number of shares issuable upon conversion of our long-term debt were
proportionately adjusted
10
to reflect the reverse stock split. Basic and diluted weighted average shares outstanding and
earnings per share have been calculated to reflect the reverse stock split in all periods
presented.
Share Repurchase Program
In September 2007, the Board of Directors authorized the repurchase of up to $10,000 of our common
stock over the next twelve months. In August 2008, the Board of Directors approved an extension to
the program for an additional twelve months, through September 2009. The program does not obligate
us to acquire any particular amount of common stock and may be modified or suspended at any time at
our discretion. Share repurchases under the program may be made through open market and privately
negotiated transactions at our discretion, subject to market conditions and other factors. During
2007, we repurchased 1,260,833 common shares at a cost of $4,269. During the first nine months of
2008, we repurchased 1,031,437 shares for $2,053. As of September 30, 2008, $3,678 remained
available for repurchase under the plan. The above numbers reflect the June 4, 2008 one-for-three
reverse stock split of our common stock.
NOTE 3: FAIR VALUE MEASUREMENT
On January 1, 2008, we adopted FASB Statement of Financial Accounting Standard No. (SFAS) 157,
Fair Value Measurement
(SFAS 157) for our financial assets and liabilities. SFAS 157 defines fair
value and describes three levels of inputs that may be used to measure fair value:
|
|
|
Level 1:
|
|
Valuations based on quoted prices in active markets for identical assets and liabilities.
|
|
|
|
Level 2:
|
|
Valuations based on observable inputs other than quoted prices in active markets for identical assets and liabilities.
|
|
|
|
Level 3:
|
|
Valuations based on unobservable inputs in which there is little or no market data available, which require the
reporting entity to develop its own assumptions.
|
The table below presents information about our financial assets and liabilities measured at fair
value at September 30, 2008:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Level 1
|
|
|
Level 2
|
|
|
Level 3
|
|
|
Total
|
|
Cash equivalents
|
|
$
|
29,026
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
29,026
|
|
Short-term marketable securities
|
|
|
|
|
|
|
18,560
|
|
|
|
|
|
|
|
18,560
|
|
Long-term marketable securities
|
|
|
1,490
|
|
|
|
|
|
|
|
|
|
|
|
1,490
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
30,516
|
|
|
$
|
18,560
|
|
|
$
|
|
|
|
$
|
49,076
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Level 1 financial assets include money market funds and a long-term equity security. Level two
financial assets include commercial paper, corporate debt securities and U.S. government agencies
debt securities. We primarily use the market approach to determine the fair value of our financial
assets.
The adoption of SFAS 157 for financial assets and financial liabilities did not have a material
impact on our consolidated financial statements. FSP 157-2
Partial Deferral of the Effective Date
of Statement 157
(FSP 157-2) deferred the effective date of SFAS 157 for all nonfinancial assets
and nonfinancial liabilities to fiscal years beginning after November 15, 2008. We will adopt FSP
157-2 on January 1, 2009, and do not expect the adoption to have a material impact on our
consolidated financial statements.
11
On January 1, 2008, we adopted SFAS 159,
The Fair Value Option for Financial Assets and Financial
Liabilities
(SFAS 159). SFAS 159 allows us to measure many financial instruments and certain
other items at fair value. We have currently chosen not to elect the fair value option for any
items that are not already required to be measured at fair value in accordance with GAAP.
NOTE 4: RESTRUCTURING PLANS
In 2006, we initiated restructuring plans aimed at returning the Company to profitability. We
continued to implement these plans throughout 2007 and 2008. Restructuring expense related to
these plans was as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cumulative
|
|
|
|
Nine Months
|
|
|
Amount
|
|
|
|
Ended
|
|
|
Incurred To
|
|
|
|
September 30,
|
|
|
September 30,
|
|
|
|
2008
|
|
|
2008
|
|
Cost of revenue restructuring:
|
|
|
|
|
|
|
|
|
Termination and retention benefits
|
|
$
|
|
|
|
$
|
219
|
|
Licensed technology and tooling write-offs
|
|
|
|
|
|
|
2,072
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,291
|
|
|
|
|
|
|
|
|
|
|
Operating expenses restructuring:
|
|
|
|
|
|
|
|
|
Consolidation of leased space
|
|
|
508
|
|
|
|
3,068
|
|
Termination and retention benefits
|
|
|
463
|
|
|
|
8,445
|
|
Net write-off of assets and reversal of related liabilities
|
|
|
|
|
|
|
13,451
|
|
Contract termination fee
|
|
|
|
|
|
|
1,693
|
|
Payments, non-cancelable contracts
|
|
|
|
|
|
|
827
|
|
Other
|
|
|
|
|
|
|
88
|
|
|
|
|
|
|
|
|
|
|
|
971
|
|
|
|
27,572
|
|
|
|
|
|
|
|
|
Total restructuring expense
|
|
$
|
971
|
|
|
$
|
29,863
|
|
|
|
|
|
|
|
|
The following is a summary of the change in accrued liabilities related to our restructuring plans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance as of
|
|
|
|
|
|
|
|
|
|
|
Balance as of
|
|
|
|
December 31,
|
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
|
|
2007
|
|
|
Expensed
|
|
|
Payments
|
|
|
2008
|
|
Termination and retention benefits
|
|
$
|
1,758
|
|
|
$
|
463
|
|
|
$
|
(2,130
|
)
|
|
$
|
91
|
|
Lease termination costs
|
|
|
999
|
|
|
|
508
|
|
|
|
(827
|
)
|
|
|
680
|
|
Contract termination and other costs
|
|
|
514
|
|
|
|
|
|
|
|
(514
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
3,271
|
|
|
$
|
971
|
|
|
$
|
(3,471
|
)
|
|
$
|
771
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NOTE 5: INCOME TAXES
The provision (benefit) for income taxes recorded for the three and nine month periods ended
September 30, 2008 and 2007 includes current and deferred tax expense in profitable cost-plus
foreign jurisdictions and accruals for tax contingencies in foreign jurisdictions. Additionally,
during the first quarter of 2008,
12
we recorded a benefit of $1,000 for refundable research and experimentation credits, a benefit of
$559 for the reversal of a previously recorded tax contingency due to the expiration of the
applicable statute of limitations, and a deferred tax benefit of $446 which resulted from an
increase in the tax rate of a single foreign jurisdiction.
As of September 30, 2008, we continued to provide a full valuation allowance against essentially
all of our U.S. and Canadian net deferred tax assets as we do not believe that it is more likely
than not that we will realize a benefit from those assets. We have not recorded a valuation
allowance against our other foreign net deferred tax assets as we believe that it is more likely
than not that we will realize a benefit from those assets.
As of September 30, 2008 and December 31, 2007, the amount of our uncertain tax positions was a
liability of $10,866 and $10,635, respectively. A number of years may elapse before an uncertain
tax position is resolved by settlement or statute of limitations. Settlement of any particular
position could require the use of cash. If the uncertain tax positions we have accrued for are
sustained by the taxing authorities in our favor, the reduction of the liability will reduce our
effective tax rate. We reasonably expect reductions in the liability for unrecognized tax benefits
of approximately $2,149 within the next twelve months due to the expiration of the statute of
limitations in foreign jurisdictions. We recognize interest and penalties related to uncertain tax
positions in income tax expense in our consolidated statement of operations.
NOTE 6: COMPREHENSIVE INCOME (LOSS)
The components of comprehensive income (loss), net of tax, were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Nine Months Ended
|
|
|
|
September 30,
|
|
|
September 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
2008
|
|
|
2007
|
|
Net income (loss)
|
|
$
|
8,219
|
|
|
$
|
(4,429
|
)
|
|
$
|
13,102
|
|
|
$
|
(24,471
|
)
|
Reclassification adjustment from accumulated other
comprehensive income for other-than-temporary
loss on marketable security included in net income
|
|
|
|
|
|
|
|
|
|
|
4,810
|
|
|
|
|
|
Unrealized loss on available-for-sale investments
|
|
|
(1,469
|
)
|
|
|
(797
|
)
|
|
|
(2,016
|
)
|
|
|
(346
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total comprehensive income (loss)
|
|
$
|
6,750
|
|
|
$
|
(5,226
|
)
|
|
$
|
15,896
|
|
|
$
|
(24,817
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NOTE 7: EARNINGS PER SHARE
We calculate earnings per share in accordance with SFAS 128,
Earnings per Share
. Basic earnings
per share amounts are computed based on the weighted average number of common shares outstanding,
and include exchangeable shares. These exchangeable shares, which were issued on September 6, 2002
by Jaldi, our Canadian subsidiary, to its shareholders in connection with the Jaldi asset
acquisition, have characteristics essentially equivalent to Pixelworks common stock. As of
January 31, 2008 all exchangeable shares had been exchanged for shares of Pixelworks, Inc. common
stock. Basic and diluted weighted average shares outstanding have been calculated to reflect the
June 4, 2008 one-for three reverse stock split in all periods presented.
Diluted weighted average shares outstanding includes the incremental number of common shares that
would be outstanding assuming the exercise of certain stock options, when such exercise would have
the effect of reducing earnings per share, and the conversion of our convertible debentures, using
the
13
if-converted method, when such conversion is dilutive. If our convertible debentures are dilutive,
interest expense and amortization of debt issuance costs, net of tax, are added to net income used
in calculating basic net income per share to arrive at net income used in calculating diluted net
income per share.
The following schedule reconciles the computation of basic net income per share and diluted net
income per share for periods presented in which basic weighted average shares outstanding were not
equal to diluted weighted average shares outstanding (in thousands, except per share data):
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Nine Months Ended
|
|
|
|
September 30,
|
|
|
September 30,
|
|
|
|
2008
|
|
|
2008
|
|
Net income used in basic net income per share
|
|
$
|
8,219
|
|
|
$
|
13,102
|
|
Interest expense on long-term debt, net of tax and
amortization of debt issuance costs, net of tax
|
|
|
408
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income used in diluted net income per share
|
|
$
|
8,627
|
|
|
$
|
13,102
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic weighted average shares outstanding
|
|
|
14,383
|
|
|
|
14,629
|
|
Common share equivalents:
|
|
|
|
|
|
|
|
|
Dilutive effect of stock options
|
|
|
9
|
|
|
|
11
|
|
Dilutive effect of conversion of long-term debt
|
|
|
1,007
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted weighted average shares outstanding
|
|
|
15,399
|
|
|
|
14,640
|
|
|
|
|
|
|
|
|
Basic net income per common share
|
|
$
|
0.57
|
|
|
$
|
0.90
|
|
|
|
|
|
|
|
|
Diluted net income per common share
|
|
$
|
0.56
|
|
|
$
|
0.89
|
|
|
|
|
|
|
|
|
The following weighted average shares were excluded from the calculation of diluted weighted
average shares outstanding as their effect would have been anti-dilutive (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Nine Months Ended
|
|
|
|
September 30,
|
|
|
September 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
2008
|
|
|
2007
|
|
Stock options
|
|
|
1,828
|
|
|
|
1,909
|
|
|
|
1,753
|
|
|
|
2,045
|
|
Conversion of debentures
|
|
|
|
|
|
|
1,916
|
|
|
|
1,312
|
|
|
|
1,916
|
|
Unvested stock awards
|
|
|
|
|
|
|
47
|
|
|
|
|
|
|
|
27
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1,828
|
|
|
|
3,872
|
|
|
|
3,065
|
|
|
|
3,988
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NOTE 8: SUPPLEMENTAL CASH FLOW INFORMATION
Supplemental disclosure of cash flow information is as follows:
14
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended
|
|
|
September 30,
|
|
|
2008
|
|
2007
|
Cash paid during the period for:
|
|
|
|
|
|
|
|
|
Interest
|
|
$
|
1,341
|
|
|
$
|
1,388
|
|
Income taxes
|
|
|
46
|
|
|
|
101
|
|
|
|
|
|
|
|
|
|
|
Non-cash investing and financing activities:
|
|
|
|
|
|
|
|
|
Acquisitions of property and equipment and other assets under
extended payment terms
|
|
$
|
1,138
|
|
|
$
|
395
|
|
NOTE 9: SEGMENT INFORMATION
In accordance with SFAS 131,
Disclosures about Segments of an Enterprise and Related Information
,
we have identified a single operating segment: the design and development of integrated circuits
for use in electronic display devices. A majority of our assets are located in the U.S.
Geographic Information
Revenue by geographic region, attributed to countries based on the domicile of the customer, was as
follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Nine Months Ended
|
|
|
|
September 30,
|
|
|
September 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
2008
|
|
|
2007
|
|
Japan
|
|
$
|
12,728
|
|
|
$
|
15,490
|
|
|
$
|
38,974
|
|
|
$
|
43,684
|
|
Taiwan
|
|
|
3,745
|
|
|
|
3,653
|
|
|
|
7,809
|
|
|
|
9,476
|
|
Europe
|
|
|
1,254
|
|
|
|
1,583
|
|
|
|
5,596
|
|
|
|
4,650
|
|
U.S.
|
|
|
1,047
|
|
|
|
1,178
|
|
|
|
2,902
|
|
|
|
3,700
|
|
Korea
|
|
|
829
|
|
|
|
2,108
|
|
|
|
4,438
|
|
|
|
6,386
|
|
China
|
|
|
305
|
|
|
|
2,014
|
|
|
|
1,415
|
|
|
|
4,837
|
|
Other
|
|
|
1,571
|
|
|
|
2,107
|
|
|
|
5,114
|
|
|
|
6,277
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
21,479
|
|
|
$
|
28,133
|
|
|
$
|
66,248
|
|
|
$
|
79,010
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Significant Customers
The percentage of revenue attributable to our distributors, top five end customers, and individual
distributors or end customers that represented more than 10% of revenue in at least one of the
periods presented, is as follows:
15
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
Nine Months Ended
|
|
|
September 30,
|
|
September 30,
|
|
|
2008
|
|
2007
|
|
2008
|
|
2007
|
Distributors:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
All distributors
|
|
|
54
|
%
|
|
|
52
|
%
|
|
|
51
|
%
|
|
|
57
|
%
|
Distributor A
|
|
|
35
|
%
|
|
|
29
|
%
|
|
|
31
|
%
|
|
|
32
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
End Customers:
(1)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Top five end customers
|
|
|
55
|
%
|
|
|
53
|
%
|
|
|
55
|
%
|
|
|
47
|
%
|
End customer A
|
|
|
22
|
%
|
|
|
25
|
%
|
|
|
25
|
%
|
|
|
21
|
%
|
End customer B
|
|
|
12
|
%
|
|
|
4
|
%
|
|
|
8
|
%
|
|
|
5
|
%
|
|
|
|
(1)
:
|
|
End customers include customers who purchase directly from us, as well as
customers who purchase our products indirectly through distributors and manufacturers
representatives.
|
The following accounts represented 10% or more of gross accounts receivable in at least one of the
periods presented:
|
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
December 31,
|
|
|
2008
|
|
2007
|
Account A
|
|
|
25
|
%
|
|
|
21
|
%
|
Account B
|
|
|
22
|
%
|
|
|
27
|
%
|
Account C
|
|
|
11
|
%
|
|
|
7
|
%
|
NOTE 10: RISKS AND UNCERTAINTIES
Concentration of Suppliers
We do not own or operate a semiconductor fabrication facility and do not have the resources to
manufacture our products internally. We rely on three third-party foundries to produce all of our
wafers and three assembly and test vendors for completion of finished products. We do not have any
long-term agreements with any of these suppliers. In light of these dependencies, it is reasonably
possible that failure to perform by one of these suppliers could have a severe impact on our
results of operations.
Risk of Technological Change
The markets in which we compete, or seek to compete, are subject to rapid technological change,
frequent new product introductions, changing customer requirements for new products and features
and evolving industry standards. The introduction of new technologies and the emergence of new
industry standards could render our products less desirable or obsolete, which could harm our
business.
Concentrations of Credit Risk
Financial instruments that potentially subject us to concentrations of credit risk consist of cash
equivalents, short- and long-term marketable securities and accounts receivable. We limit our
exposure to credit risk associated with cash equivalent and marketable security balances by placing
our funds in various high-quality securities and limiting concentrations of issuers and maturity
dates. We limit our
16
exposure to credit risk associated with accounts receivable by carefully evaluating
creditworthiness before offering terms to customers.
NOTE 11: COMMITMENTS AND CONTINGENCIES
Indemnifications
Certain of our agreements include limited indemnification provisions for claims from third-parties
relating to our intellectual property. Such indemnification provisions are accounted for in
accordance with FASB Summary of Interpretation No. 45,
Guarantors Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others-an
interpretation of FASB Statements No. 5, 57, and 107 and rescission of FASB Interpretation No.34
.
The indemnification is limited to the amount paid by the customer. As of September 30, 2008, we
have not incurred any material liabilities arising from these indemnification obligations.
However, in the future such obligations could immediately impact our
results of operations and could materially affect our business.
Legal Proceedings
We are subject to legal matters that arise from time to time in the ordinary course of our
business. Although we currently believe that resolving such matters, individually or in the
aggregate, will not have a material adverse effect on our financial position, our results of
operations, or our cash flows, these matters are subject to inherent uncertainties and our view of
these matters may change in the future.
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations.
Forward-looking Statements
This Managements Discussion and Analysis of Financial Condition and Results of Operations contains
forward-looking statements that are based on current expectations, estimates, beliefs,
assumptions and projections about our business. Words such as expects, anticipates, intends,
plans, believes, seeks, estimates and variations of such words and similar expressions are
intended to identify such forward-looking statements. Such forward-looking statements include the
disclosure contained under the caption Results of OperationsBusiness Outlook below. These
statements are not guarantees of future performance and involve certain risks and uncertainties
that are difficult to predict and which may cause actual outcomes and results to differ materially
from what is expressed or forecasted in such forward-looking statements. A detailed discussion of
risks and uncertainties that could cause actual results and events to differ materially from such
forward-looking statements is included in Part II, Item 1A of this Quarterly Report on Form 10-Q.
These forward-looking statements speak only as of the date on which they are made, and we do not
undertake any obligation to update any forward-looking statement to reflect events or circumstances
after the date of this Quarterly Report on Form 10-Q. If we do update or correct one or more
forward-looking statements, you should not conclude that we will make additional updates or
corrections with respect thereto or with respect to other forward-looking statements. Except where
the context otherwise requires, in this Quarterly Report on Form 10-Q, the Company, Pixelworks,
we, us and our refer to Pixelworks, Inc., an Oregon corporation, and, where appropriate, its
subsidiaries.
Overview
We are an innovative designer, developer and marketer of video and pixel processing technology
semiconductors and software for high-end digital video applications. Our solutions enable
manufacturers of digital display and projection devices, such as multimedia projectors and
large-screen LCD televisions to differentiate their products with a consistently high level of
video quality.
17
Results of Operations
Revenue, net
Net revenue was comprised of the following amounts (dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended September 30,
|
|
|
2008 v 2007
|
|
|
% of net revenue
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
%
|
|
|
|
|
|
|
|
|
|
2008
|
|
|
2007
|
|
|
$ change
|
|
|
change
|
|
|
2008
|
|
|
2007
|
|
Multimedia projector
|
|
$
|
14,336
|
|
|
$
|
16,466
|
|
|
$
|
(2,130
|
)
|
|
|
(13
|
)%
|
|
|
67
|
%
|
|
|
59
|
%
|
Advanced television
|
|
|
2,762
|
|
|
|
5,515
|
|
|
|
(2,753
|
)
|
|
|
(50
|
)
|
|
|
13
|
|
|
|
20
|
|
Advanced media processor
|
|
|
2,595
|
|
|
|
3,790
|
|
|
|
(1,195
|
)
|
|
|
(32
|
)
|
|
|
12
|
|
|
|
13
|
|
LCD monitor, panel and other
|
|
|
1,786
|
|
|
|
2,362
|
|
|
|
(576
|
)
|
|
|
(24
|
)
|
|
|
8
|
|
|
|
8
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenue
|
|
$
|
21,479
|
|
|
$
|
28,133
|
|
|
$
|
(6,654
|
)
|
|
|
(24
|
)%
|
|
|
100
|
%
|
|
|
100
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine months ended September 30,
|
|
|
2008 v 2007
|
|
|
% of net revenue
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
%
|
|
|
|
|
|
|
|
|
|
2008
|
|
|
2007
|
|
|
$ change
|
|
|
change
|
|
|
2008
|
|
|
2007
|
|
Multimedia projector
|
|
$
|
41,251
|
|
|
$
|
42,686
|
|
|
$
|
(1,435
|
)
|
|
|
(3
|
)%
|
|
|
62
|
%
|
|
|
54
|
%
|
Advanced television
|
|
|
8,759
|
|
|
|
15,738
|
|
|
|
(6,979
|
)
|
|
|
(44
|
)
|
|
|
13
|
|
|
|
20
|
|
Advanced media processor
|
|
|
9,016
|
|
|
|
12,373
|
|
|
|
(3,357
|
)
|
|
|
(27
|
)
|
|
|
14
|
|
|
|
16
|
|
LCD monitor, panel and other
|
|
|
7,222
|
|
|
|
8,213
|
|
|
|
(991
|
)
|
|
|
(12
|
)
|
|
|
11
|
|
|
|
10
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenue
|
|
$
|
66,248
|
|
|
$
|
79,010
|
|
|
$
|
(12,762
|
)
|
|
|
(16
|
)%
|
|
|
100
|
%
|
|
|
100
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Multimedia Projector
Revenue from the multimedia projector market decreased 13% in the third quarter of 2008 compared to
the third quarter of 2007. This decrease is due to an 11% decrease in units sold and a 2% decrease
in average selling price (ASP). Multimedia projector revenue in the first nine months of 2008
decreased 3% compared to the first nine months of 2007. This decline is due to a 2% decrease in
units sold and a 1% decrease in ASP.
Advanced Television
Revenue from the advanced television market decreased 50% in the third quarter of 2008 compared to
the third quarter of 2007. This decrease is due to a 62% decrease in units sold partially off-set
by a 33% increase in ASP. Revenue from the advanced television market decreased 44% in the first
nine months of 2008 compared to the first nine months of 2007. This decrease is due to a 51%
decrease in units sold, partially off-set by a 14% increase in ASP. Revenue decreases in the 2008
periods are primarily due to our decision to shift focus away from the commoditized System on Chip
segment of the advanced television market. With our new strategy we are developing co-processor
ICs designed to improve the video performance of any image processor in the large screen, high
resolution, high quality segment of the advanced television market. The increase in ASP during the
2008 periods is primarily attributable to a shift in the mix of products sold.
Advanced Media Processor
Revenue in the advanced media processor market is attributable to products we obtained in
connection with our acquisition of Equator Technologies, Inc. (Equator) in June 2005. Revenue
from this market
18
decreased 32% in the third quarter of 2008 compared to the third quarter of 2007. This decrease
resulted from a 52% decrease in units sold, partially off-set by a 43% increase in ASP. Revenue
from this market decreased 27% in the first nine months of 2008 compared to the first nine months
of 2007. This decrease resulted from a 35% decrease in units sold, partially offset by a 13%
increase in ASP.
As a result of our April 2006 restructuring plan we are no longer pursuing stand-alone digital
media streaming markets that are not core to our business. We expect to see revenue from this
market continue to decrease over time as customers switch to next generation designs from other
suppliers. The increase in ASP during the 2008 periods is primarily attributable to a change in
our customer mix.
LCD Monitor, Panel and Other
LCD
monitor, panel and other revenue decreased $576,000, or 24% in the third quarter of 2008
compared to the third quarter of 2007, and decreased $991,000, or 12% in the first nine months of
2008 compared to the first nine months of 2007. The decrease is primarily attributable to our
decision to stop focusing our development efforts on these markets.
Cost of revenue and gross profit
Cost of revenue and gross profit were as follows (dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended September 30,
|
|
|
|
|
|
|
|
% of
|
|
|
|
|
|
|
% of
|
|
|
|
2008
|
|
|
revenue
|
|
|
2007
|
|
|
revenue
|
|
Direct product costs and related overhead
1
|
|
$
|
9,450
|
|
|
|
44
|
%
|
|
$
|
14,283
|
|
|
|
51
|
%
|
Provision for obsolete inventory, net of usage
|
|
|
(135
|
)
|
|
|
(1
|
)
|
|
|
1,004
|
|
|
|
4
|
|
Amortization of acquired developed technology
|
|
|
705
|
|
|
|
3
|
|
|
|
705
|
|
|
|
3
|
|
Restructuring
|
|
|
|
|
|
|
|
|
|
|
11
|
|
|
|
0
|
|
Stock-based compensation
|
|
|
8
|
|
|
|
0
|
|
|
|
22
|
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cost of revenue
|
|
$
|
10,028
|
|
|
|
47
|
%
|
|
$
|
16,025
|
|
|
|
57
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
$
|
11,451
|
|
|
|
53
|
%
|
|
$
|
12,108
|
|
|
|
43
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine months ended September 30,
|
|
|
|
|
|
|
|
% of
|
|
|
|
|
|
|
% of
|
|
|
|
2008
|
|
|
revenue
|
|
|
2007
|
|
|
revenue
|
|
Direct product costs and related overhead
1
|
|
$
|
29,942
|
|
|
|
45
|
%
|
|
$
|
40,689
|
|
|
|
51
|
%
|
Provision for obsolete inventory, net of usage
|
|
|
525
|
|
|
|
1
|
|
|
|
2,426
|
|
|
|
3
|
|
Amortization of acquired developed technology
|
|
|
2,115
|
|
|
|
3
|
|
|
|
2,115
|
|
|
|
3
|
|
Restructuring
|
|
|
|
|
|
|
|
|
|
|
147
|
|
|
|
0
|
|
Stock-based compensation
|
|
|
46
|
|
|
|
0
|
|
|
|
70
|
|
|
|
0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cost of revenue
|
|
$
|
32,628
|
|
|
|
49
|
%
|
|
$
|
45,447
|
|
|
|
58
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
$
|
33,620
|
|
|
|
51
|
%
|
|
$
|
33,563
|
|
|
|
42
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1
|
|
Includes purchased materials, assembly, test, labor, employee benefits, warranty
expense and royalties.
|
Direct product costs and related overhead decreased to 44% and 45% of revenue in the third quarter
and first nine months of 2008, respectively, down from 51% in the third quarter and first nine
months of 2007.
19
The decrease in direct product costs and related overhead as a percentage of revenue in the 2008
periods compared to the 2007 periods resulted primarily from a more favorable mix of products sold
and also from lower pricing obtained from vendors and increases in production yields. The net
provision for obsolete inventory decreased to (1)% of revenue in the third quarter of 2008 from 4%
in the third quarter of 2007, and to 1% of revenue in the first nine months of 2008 from 3% in the
first nine months of 2007. The decrease in the net provision for obsolete inventory as a
percentage of revenue in the 2008 periods compared to 2007 periods is attributable to our increased
focus on inventory management.
Research and development
Research and development expense includes compensation and related costs for personnel,
development-related expenses including non-recurring engineering and fees for outside services,
depreciation and amortization, expensed equipment, facilities and information technology expense
allocations and travel and related expenses.
Research and development expense for the three month periods ended September 30, 2008 and 2007 was
as follows (dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
|
|
|
September 30,
|
|
2008 v 2007
|
|
|
2008
|
|
2007
|
|
$ change
|
|
% change
|
Research and development
1
|
|
$
|
6,476
|
|
|
$
|
8,962
|
|
|
$
|
(2,486
|
)
|
|
|
(28
|
)%
|
|
|
|
|
|
|
|
|
|
1
Includes stock-based compensation expense of:
|
|
|
177
|
|
|
|
538
|
|
Research and development expense decreased 28% in the third quarter of 2008 compared with the third
quarter of 2007. The decrease in research and development expense is directly attributable to the
restructuring efforts that we initiated in 2006. These efforts resulted in the following expense
reductions:
|
|
Depreciation and amortization expense decreased $1.4 million. This decrease is primarily
due to the December 31, 2007 write-off of engineering software tools, which we are no longer
using due to reductions in research and development personnel and changes in product
development strategy.
|
|
|
Compensation expense decreased $543,000. At September 30, 2008, we had 130 research and
development employees compared to 188 at September 30, 2007.
|
|
|
Stock-based compensation expense decreased $361,000 due to personnel reductions and reduced
valuation of our stock options.
|
|
|
Facilities and information technology expense allocations decreased $294,000, primarily due
to decreases in equipment depreciation and compensation expense.
|
Research and development expense for the nine month periods ended September 30, 2008 and 2007 was
as follows (dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine months ended
|
|
|
|
|
September 30,
|
|
2008 v 2007
|
|
|
2008
|
|
2007
|
|
$ change
|
|
% change
|
Research and development
1
|
|
$
|
20,391
|
|
|
$
|
30,612
|
|
|
$
|
(10,221
|
)
|
|
|
(33
|
)%
|
|
|
|
|
|
|
|
|
|
1
Includes stock-based compensation expense of:
|
|
|
1,075
|
|
|
|
1,718
|
|
20
Research and development expense decreased 33% in the first nine months of 2008 compared with the
first nine months of 2007. The decrease in research and development expense is directly
attributable to the restructuring efforts that we initiated in 2006. These efforts resulted in the
following expense reductions:
|
|
Depreciation and amortization expense decreased $5.2 million. This decrease is primarily
due to the December 31, 2007 write-off of engineering software tools.
|
|
|
Compensation expense decreased $2.3 million due to fewer research and development
personnel.
|
|
|
Facilities and information technology expense allocations decreased $1.4 million, primarily
due to reductions in outsourced IT support, lower rent and decreased equipment depreciation.
|
|
|
Stock-based compensation expense decreased $643,000 due to personnel reductions and reduced
valuation of our stock options.
|
|
|
Travel and related expenses decreased $571,000.
|
Selling, general and administrative
Selling, general and administrative expense includes compensation and related costs for personnel,
sales commissions, allocations for facilities and information technology expenses, travel, outside
services and other general expenses incurred in our sales, marketing, customer support, management,
legal and other professional and administrative support functions.
Selling, general and administrative expense for the three month periods ended September 30, 2008
and 2007 was as follows (dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
|
|
|
September 30,
|
|
2008 v 2007
|
|
|
2008
|
|
2007
|
|
$ change
|
|
% change
|
Selling, general and administrative
1
|
|
$
|
4,413
|
|
|
$
|
5,697
|
|
|
$
|
(1,284
|
)
|
|
|
(23
|
)%
|
|
|
|
|
|
|
|
|
|
1
Includes stock-based compensation expense of:
|
|
|
227
|
|
|
|
684
|
|
Selling, general and administrative expense decreased 23% in the third quarter of 2008 compared
with the third quarter of 2007. The decrease in selling, general and administrative expense is
directly attributable to the restructuring efforts that we initiated in 2006. These efforts
resulted in the following expense reductions:
|
|
Compensation expense decreased $586,000. As of September 30, 2008, we had 73 employees in
selling, general and administrative functions, compared to 85 as of September 30, 2007.
|
|
|
Stock-based compensation expense decreased $457,000 due to personnel reductions and reduced
valuation of our stock options.
|
Selling, general and administrative expense for the nine month periods ended September 30, 2008 and
2007 was as follows (dollars in thousands):
21
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine months ended
|
|
|
|
|
September 30,
|
|
2008 v 2007
|
|
|
2008
|
|
2007
|
|
$ change
|
|
% change
|
Selling, general and administrative
1
|
|
$
|
13,590
|
|
|
$
|
20,235
|
|
|
$
|
(6,645
|
)
|
|
|
(33
|
)%
|
|
|
|
|
|
|
|
|
|
1
Includes stock-based compensation expense of:
|
|
|
965
|
|
|
|
2,633
|
|
Selling, general and administrative expense decreased 33% in the first nine months of 2008 compared
with the first nine months of 2007. The decrease in selling, general and administrative expense is
directly attributable to the restructuring efforts that we initiated in 2006. These efforts
resulted in the following expense reductions:
|
|
Compensation expense decreased $3.1 million due to fewer selling, general and
administrative personnel.
|
|
|
Stock-based compensation expense decreased $1.7 million due to personnel reductions and
reduced valuation of our stock options.
|
|
|
Facilities and information technology allocations decreased $725,000.
|
|
|
Travel and related expenses decreased $524,000.
|
Restructuring
Restructuring expense was comprised of the following amounts (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
|
Nine months ended
|
|
|
|
September 30,
|
|
|
September 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
2008
|
|
|
2007
|
|
Termination and retention benefits
1
|
|
$
|
107
|
|
|
$
|
1,116
|
|
|
$
|
463
|
|
|
$
|
4,766
|
|
Consolidation of leased space
2
|
|
|
14
|
|
|
|
475
|
|
|
|
508
|
|
|
|
1,366
|
|
Net write-off of assets and reversal of related liabilities
|
|
|
|
|
|
|
107
|
|
|
|
|
|
|
|
662
|
|
Payments, non-cancelable contracts
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
313
|
|
Other
|
|
|
|
|
|
|
(42
|
)
|
|
|
|
|
|
|
88
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total restructuring expenses
|
|
$
|
121
|
|
|
$
|
1,656
|
|
|
$
|
971
|
|
|
$
|
7,195
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Included in cost of revenue
|
|
$
|
|
|
|
$
|
11
|
|
|
$
|
|
|
|
$
|
147
|
|
Included in operating expenses
|
|
|
121
|
|
|
|
1,645
|
|
|
|
971
|
|
|
|
7,048
|
|
|
|
|
1
|
|
Termination and retention benefits related to our restructuring plans included
severance and retention payments for terminated employees and retention payments for certain
continuing employees.
|
|
2
|
|
Expenses related to the consolidation of leased space included future non-cancelable
rent payments due for vacated space (net of estimated sublease income) and moving expenses.
|
Amortization of acquired intangible assets
Amortization of acquired intangible assets relates to a customer relationship asset that we
recorded in connection with our June 2005 Equator acquisition. The asset was fully amortized as of
June 30, 2008 and there was no amortization expense during the third quarter of 2008. Amortization
of the customer
22
relationship asset was $89,000 for the third quarter of 2007 and $164,000 and $269,000 for the
first nine months of 2008 and 2007, respectively.
Interest and other income, net
Interest and other income, net consisted of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended
|
|
|
|
|
|
|
Nine months ended
|
|
|
|
|
|
|
September 30,
|
|
|
|
|
|
|
September 30,
|
|
|
|
|
|
|
2008
|
|
|
2007
|
|
|
$ change
|
|
|
2008
|
|
|
2007
|
|
|
$ change
|
|
Gain on repurchase of long-term debt, net
1
|
|
$
|
8,113
|
|
|
$
|
|
|
|
$
|
8,113
|
|
|
$
|
19,670
|
|
|
$
|
|
|
|
$
|
19,670
|
|
Interest income
2
|
|
|
405
|
|
|
|
1,454
|
|
|
|
(1,049
|
)
|
|
|
1,941
|
|
|
|
4,425
|
|
|
|
(2,484
|
)
|
Interest expense
3
|
|
|
(343
|
)
|
|
|
(658
|
)
|
|
|
315
|
|
|
|
(1,335
|
)
|
|
|
(2,003
|
)
|
|
|
668
|
|
Amortization of debt issuance costs
4
|
|
|
(83
|
)
|
|
|
(165
|
)
|
|
|
82
|
|
|
|
(354
|
)
|
|
|
(496
|
)
|
|
|
142
|
|
Other-than-temporary impairment
of marketable security, net
5
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(6,490
|
)
|
|
|
|
|
|
|
(6,490
|
)
|
Other income
6
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
218
|
|
|
|
|
|
|
|
218
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total interest and other income, net
|
|
$
|
8,092
|
|
|
$
|
631
|
|
|
$
|
7,461
|
|
|
$
|
13,650
|
|
|
$
|
1,926
|
|
|
$
|
11,724
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1
|
|
In August 2008, we repurchased and retired $29.1 million of our outstanding debt for
$20.6 million in cash. We recognized a gain on this repurchase of $8.1 million, net of a
write-off of debt issuance costs of $390,000. In February 2008, we repurchased and retired
$50.2 million of our outstanding debt for $37.9 million in cash, including legal and other
professional fees of $755,000. We recognized a gain on this repurchase of $11.6 million, net
of a write-off of debt issuance costs of $752,000.
|
|
2
|
|
Interest income is earned on cash equivalents and short- and long-term marketable
securities. The decrease in the 2008 periods is due to lower balances of marketable
securities, which resulted from our 2008 repurchases of long-term debt and decreased yields on
our invested funds.
|
|
3
|
|
Interest expense primarily relates to interest payable on our long-term debt. The
decrease in the 2008 periods is due to the reduced outstanding principal balance which
resulted from our 2008 repurchases of long-term debt.
|
|
4
|
|
The fees associated with the 2004 issuance of our long-term debt have been capitalized
and are being amortized over a period of seven years. The remaining amortization period is
approximately three years as of September 30, 2008. The decrease in the 2008 periods is due
to the write-off of fees associated with the portion of long-term debt repurchased in 2008.
|
|
5
|
|
In the first quarter of 2008, we recognized an other-than-temporary impairment of $6.5
million on a publicly-traded equity security, due to the duration of time that the investment
had been below cost and the decline in the public stock price during the quarter.
|
|
6
|
|
In the second quarter of 2008, we recognized a gain of $218,000 on the sale of a
non-marketable equity security.
|
Provision (benefit) for income taxes
The provision (benefit) for income taxes recorded for the third quarter of 2008 and 2007 was
$314,000 and $775,000, respectively and $(948,000) and $1.8 million for the first nine months of
2008 and 2007, respectively. The provision (benefit) includes current and deferred tax expense in
profitable cost-plus foreign jurisdictions and accruals for tax contingencies in foreign
jurisdictions. Additionally, during the first quarter of 2008, we recorded a benefit of $1.0
million for refundable research and experimentation
23
credits, a benefit of $559,000 for the reversal of a previously recorded tax contingency due to the
expiration of the applicable statute of limitations, and a deferred tax benefit of $446,000 which
resulted from an increase in the tax rate of a single foreign jurisdiction.
Business Outlook
On October 23, 2008, we provided an outlook for the fourth quarter of 2008 in our earnings release,
which was furnished on a current report on Form 8-K. The outlook provided the following
anticipated financial results prepared in accordance with U.S. generally accepted accounting
principles:
We expect to record net loss per share in the fourth quarter of 2008 of $(0.13) to $(0.32), based
on the following estimates:
|
|
|
Fourth quarter revenue of $18.5 million to $20.5 million.
|
|
|
|
|
Gross profit margin of approximately 45% to 48%.
|
|
|
|
|
Operating expenses of $11.0 million to $12.0 million.
|
|
|
|
|
Nominal interest and other income, net.
|
|
|
|
|
Tax provision of approximately $750,000.
|
Liquidity and Capital Resources
Cash and short- and long-term marketable securities
Our cash and cash equivalent and short- and long-term marketable securities were as follows
(dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30,
|
|
|
December 31,
|
|
|
|
|
|
|
%
|
|
|
|
2008
|
|
|
2007
|
|
|
$ change
|
|
|
change
|
|
Cash and cash equivalents
|
|
$
|
42,780
|
|
|
$
|
74,572
|
|
|
$
|
(31,792
|
)
|
|
|
(43
|
)%
|
Short-term marketable securities
|
|
|
18,560
|
|
|
|
34,581
|
|
|
|
(16,021
|
)
|
|
|
(46
|
)
|
Long-term marketable securities
|
|
|
1,490
|
|
|
|
9,804
|
|
|
|
(8,314
|
)
|
|
|
(85
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cash and marketable securities
|
|
$
|
62,830
|
|
|
$
|
118,957
|
|
|
$
|
(56,127
|
)
|
|
|
(47
|
)%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cash and marketable securities decreased 47% during the first nine months of 2008. The
decrease resulted primarily from $58.6 million for the repurchase of long-term debt, $3.9 million
in payments on property and equipment and other asset financing, $2.1 million for the repurchase of
our common stock and $1.5 million for purchases of property and equipment and other long-term
assets. The decreases were partially offset by $13.2 million positive cash flow from operations.
We anticipate that our existing cash and investment balances will be adequate to fund our operating
and investing needs for the next twelve months and the foreseeable future. From time to time, we
may evaluate acquisitions of businesses, products or technologies that complement our business. We
also may repurchase additional amounts of our long-term debt or repurchase shares of our common
stock, as authorized under our share repurchase program. Any such transactions, if consummated,
may consume a material portion of our working capital or require the issuance of equity securities
that may result in dilution to existing shareholders.
24
Accounts receivable, net
Accounts receivable, net decreased to $5.9 million at September 30, 2008 from $6.2 million at
December 31, 2007. The average number of days sales outstanding increased to 25 days at September
30, 2008 from 21 days at December 31, 2007.
Inventories, net
Inventories, net decreased to $5.3 million at September 30, 2008 from $11.3 million at December 31,
2007. Inventory turnover on an annualized basis increased to 6.5 at September 30, 2008 from 3.9 at
December 31, 2007. As of September 30, 2008, this represented approximately eight weeks of
inventory on hand.
Capital resources
In 2004, we issued $150.0 million of 1.75% convertible subordinated debentures (the debentures)
due 2024. In February 2006, we repurchased and retired $10.0 million of the debentures. In
February 2008, we repurchased and retired $50.2 million principal amount of the debentures through
a modified dutch auction tender offer for $37.9 million in cash. We recognized a net gain of $11.6
million on the repurchase, which included a $13.1 million discount, offset by legal and
professional fees of $755,000 and a write-off of debt issuance costs of $752,000. In August 2008,
we repurchased and retired $29.2 million of the debentures for $20.6 million in cash. We
recognized a net gain of $8.1 million on the repurchase, which included an $8.5 million discount,
offset by a write-off of debt issuance costs of $390,000.
We may redeem some or all of the debentures for cash on or after May 15, 2011 at a price equal to
100% of the principal amount of the debentures plus accrued and unpaid interest. The holders of
the debentures have the right to require us to purchase all or a portion of the $60.6 million
debentures outstanding at each of the following dates: May 15, 2011, May 15, 2014, and May 15,
2019, at a purchase price equal to 100% of the principal amount plus accrued and unpaid interest.
The debentures are unsecured obligations and are subordinated in right of payment to all our
existing and future senior debt.
In September 2007, the Board of Directors authorized the repurchase of up to $10.0 million of our
common stock over the next twelve months. In August 2008, the Board of Directors approved an
extension to the program for an additional twelve months, through September 2009. The program does
not obligate us to acquire any particular amount of common stock and may be modified or suspended
at any time at our discretion. Share repurchases under the program may be made through open market
and privately negotiated transactions at our discretion, subject to market conditions and other
factors. During 2007, we repurchased 1,260,833 common shares at a cost of $4.3 million. During
the first nine months of 2008, we repurchased 1,031,437 shares for $2.0 million. As of September
30, 2008, $3.7 million remained available for repurchase under the plan. The above numbers reflect
the June 4, 2008 one-for-three reverse stock split of our common stock.
25
Contractual Payment Obligations
A summary of our contractual obligations as of September 30, 2008 is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Payments Due By Period
|
|
|
|
|
|
|
|
Less than 1
|
|
|
|
|
|
|
|
|
|
|
More than 5
|
|
Contractual Obligation
|
|
Total
|
|
|
year
|
|
|
1-3 years
|
|
|
3-5 years
|
|
|
years
|
|
Long-term debt
1
|
|
$
|
60,634
|
|
|
$
|
|
|
|
$
|
60,634
|
|
|
$
|
|
|
|
$
|
|
|
Interest on long-term debt
|
|
|
3,183
|
|
|
|
1,061
|
|
|
|
2,122
|
|
|
|
|
|
|
|
|
|
Operating leases
2
|
|
|
6,739
|
|
|
|
2,198
|
|
|
|
2,667
|
|
|
|
1,850
|
|
|
|
24
|
|
Payments on accrued balances related to
asset purchases
|
|
|
920
|
|
|
|
428
|
|
|
|
492
|
|
|
|
|
|
|
|
|
|
Estimated Q4 2008 purchase commitments
to contract manufacturers
|
|
|
7,308
|
|
|
|
7,308
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other purchase obligations and
commitments
|
|
|
1,750
|
|
|
|
1,000
|
|
|
|
750
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
3
|
|
$
|
80,534
|
|
|
$
|
11,995
|
|
|
$
|
66,665
|
|
|
$
|
1,850
|
|
|
$
|
24
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1
|
|
The earliest date on which the remaining holders of our 1.75% convertible
subordinated debentures due 2024 have the right to require us to purchase all or a portion
of the outstanding debentures is May 15, 2011. We expect holders of the debentures to
require us to purchase all of the outstanding debentures on that date.
|
|
2
|
|
The operating lease payments above are net of sublease rental income of $542,000,
$276,000, $57,000 and $5,000 expected for the 12 month periods ending September 30, 2009,
2010, 2011 and 2012, respectively.
|
|
3
|
|
We are unable to reliably estimate the timing of future payments related to
uncertain tax positions; therefore, $10.9 million of income taxes payable has been
excluded from the table above.
|
Off-Balance Sheet Arrangements
We do not have any off-balance sheet arrangements that have, or are reasonably likely to have, a
material current or future effect on our financial condition, revenue or expenses, results of
operations, liquidity, capital expenditures or capital resources.
Item 3. Quantitative and Qualitative Disclosures about Market Risk.
Our primary market risk exposure is the impact of interest rate fluctuations on interest income
earned on our investment portfolio. We mitigate risks associated with such fluctuations, as well
as the risk of loss of principal, by investing in high-credit quality securities and limiting
concentrations of issuers and maturity dates. Derivative financial instruments are not part of our
investment portfolio.
As of September 30, 2008, we had convertible subordinated debentures of $60.6 million outstanding
with a fixed interest rate of 1.75%. Interest rate changes affect the fair value of the
debentures, but do not affect our earnings or cash flow.
All of our sales are denominated in U.S. dollars and as a result, we have relatively little
exposure to foreign currency exchange risk with respect to our sales. We have employees located in
offices in the
26
Peoples Republic of China, Taiwan and Japan and as such, a portion of our operating expenses are
denominated in foreign currencies. Accordingly, our operating results are affected by changes in
the exchange rate between the U.S. dollar and those currencies. Any future strengthening of those
currencies against the U.S. dollar could negatively impact our operating results by increasing our
operating expenses as measured in U.S. dollars. We do not currently hedge against foreign currency
rate fluctuations.
Item 4. Controls and Procedures.
Our management, under the supervision and with the participation of our Chief Executive Officer and
Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures
as required by Exchange Act Rule 13a-15(d) as of the end of the period covered by this report.
Based on that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded
that, as of the end of the period covered by this Quarterly Report on Form 10-Q, these disclosure
controls and procedures were effective to ensure that information required to be disclosed by us in
the reports that we file or submit under the Exchange Act is (i) recorded, processed, summarized
and reported within the time periods specified in the SECs rules and forms and (ii) accumulated
and communicated to our management, including our Chief Executive Officer and Chief Financial
Officer, as appropriate to allow timely decisions regarding required disclosure.
There were no changes in our internal control over financial reporting which were identified in
connection with managements evaluation required by Rules 13a-15(d) and 15d-15(d) under the
Exchange Act, that occurred during the period covered by this quarterly report that have materially
affected, or are reasonably likely to materially affect, our internal control over financial
reporting.
PART II OTHER INFORMATION
Item 1A. Risk Factors.
Investing in our shares of common stock involves a high degree of risk, and investors should
carefully consider the risks described below before making an investment decision. If any of the
following risks occur, the market price of our shares of common stock could decline and investors
could lose all or part of their investment. Additional risks that we currently believe are
immaterial may also impair our business operations. In assessing these risks, investors should
also refer to the other information contained or incorporated by reference in this Quarterly Report
on
Form 10-Q
and our Annual Report on
Form 10-K
for the year ended December 31, 2007, including our
consolidated financial statements and related notes, and our other filings made from time to time
with the Securities and Exchange Commission.
The June 4, 2008 one-for-three reverse split of outstanding shares of our common stock may not
result in a long-term or permanent increase in the bid price of our common stock and we may be
unable to maintain compliance with NASDAQ Marketplace Rules without taking additional action, which
could include effecting an additional reverse stock split. If we are delisted from the NASDAQ
Global Market, there may not be a market for our common stock, which could cause a decrease in the
value of an investment in us and adversely affect our business, financial condition and results of
operations.
On June 4, 2008, we effected a one-for-three reverse split of our common stock. We effected the
reverse split to attempt to regain compliance with NASDAQ Marketplace Rules, particularly the
minimum $1.00 per share requirement for continued inclusion on the NASDAQ Global Market. Though
the per share price of our common stock increased to over $2.00 per share immediately following the
reverse split, the price has since closed below $1.00 per share and we cannot guarantee that it
will remain at or above $1.00
27
per share. If the price again drops below $1.00 per share, the stock could become subject to
delisting again, and we may seek shareholder approval for an additional reverse split. Although
NASDAQ has implemented a temporary suspension of the $1.00 minimum bid price requirement, this
requirement is scheduled for reinstatement on January 19, 2009.
A second reverse split could produce negative effects. We could not guarantee that an additional
reverse split would result in a long-term or permanent increase in the price of our common stock.
The market might perceive a decision to effect an additional reverse split as a negative indicator
of our future prospects, and as a result, the price of our common stock might decline after such a
reverse split (perhaps by an even greater percentage than would have occurred in the absence of
such a reverse split). An additional reverse split could also make it more difficult for us to
meet certain other requirements for continued listing on the NASDAQ Global Market, including rules
related to the minimum number of shares that must be in the public float, the minimum market value
of the public float and the minimum number of round lot holders. Investors might consider the
increased proportion of unissued authorized shares to issued shares to have an anti-takeover effect
under certain circumstances by allowing for dilutive issuances which could prevent certain
shareholders from changing the composition of the board, or could render tender offers for a
combination with another entity more difficult to complete successfully. Additionally, customers,
suppliers or employees might consider a company with low trading volume risky and might be less
likely to transact business with us.
If our common stock is delisted, trading of the stock will most likely take place on an
over-the-counter market established for unlisted securities, such as the Pink Sheets or the OTC
Bulletin Board. An investor is likely to find it less convenient to sell, or to obtain accurate
quotations in seeking to buy, our common stock on an over-the-counter market, and many investors
may not buy or sell our common stock due to difficulty in accessing over-the-counter markets, or
due to policies preventing them from trading in securities not listed on a national exchange or
other reasons. In addition, as a delisted security, our common stock would be subject to SEC rules
regarding penny stock, which impose additional disclosure requirements on broker-dealers. The
regulations relating to penny stocks, coupled with the typically higher cost per trade to investors
in penny stocks due to factors such as broker commissions generally representing a higher
percentage of the price of a penny stock than of a higher priced stock, would further limit the
ability and willingness of investors to trade in our common stock. For these reasons and others,
delisting would adversely affect the liquidity, trading volume and price of our common stock,
causing the value of an investment in us to decrease and having an adverse effect on our business,
financial condition and results of operations, including our ability to attract and retain
qualified executives and employees and to raise capital.
Fluctuations in our quarterly operating results make it difficult to predict our future performance
and may result in volatility in the market price of our common stock.
Our quarterly operating results have varied significantly from quarter to quarter and are likely to
vary in the future based on a number of factors related to our industry and the markets for our
products that are difficult or impossible to predict. Some of these factors are not in our control
and any of them may cause our quarterly operating results or the price of our common stock to
fluctuate.
As widely reported, financial markets in the United States, Europe and Asia have been experiencing
extreme disruption in recent months, including, among other things, extreme volatility in security
prices, severely diminished liquidity and credit availability, rating downgrades of certain
investments and declining valuations of others. Governments have taken unprecedented actions
intended to address extreme market conditions that include severely restricted credit and declines
in real estate values. While we do not currently require access to credit markets to finance our
operations, these economic developments affect businesses in a number of ways. The current
tightening of credit in financial markets adversely affects the
28
ability of our customers and suppliers to obtain financing for significant purchases and operations
and could result in a decrease in or cancellation of orders for our products or reduced ability to
finance operations to supply products to us. We are unable to predict the likely duration and
severity of the current disruption in financial markets and adverse economic conditions in the
U.S. and other countries. As a result of the worldwide economic slowdown, it is extremely
difficult for us and our customers to forecast future sales levels based on historical information
and trends. Portions of our expenses are fixed and other expenses are tied to expected levels of
sales activities. To the extent that we do not achieve our anticipated level of sales, our gross
profit and net income could be adversely affected until such expenses are reduced to an appropriate
level.
Fluctuations in our operating results may also be the result of:
|
|
|
economic conditions specific to the projector, advanced display and semiconductor
markets;
|
|
|
|
|
the loss of one or more of our key distributors or customers;
|
|
|
|
|
the deferral of customer orders in anticipation of new products or product enhancements
from us or our competitors;
|
|
|
|
|
the announcement or introduction of products and technologies by our competitors;
|
|
|
|
|
changes in the available production capacity at the semiconductor fabrication foundries
that manufacture our products and our ability to provide adequate supplies of our products
to customers; and
|
|
|
|
|
changes in the costs of manufacturing.
|
Fluctuations in our quarterly results could adversely affect the price of our common stock in a
manner unrelated to our long-term operating performance. Because our operating results are
volatile and difficult to predict, you should not rely on the results of one quarter as an
indication of our future performance. Additionally, it is possible that in any future quarter our
operating results will fall below the expectations of securities analysts and investors. In this
event, the price of our common stock may decline significantly.
Our new product strategy, which is targeted at markets demanding superior video and image quality,
may not significantly lead to increased revenue or gross profit in a timely manner or at all, which
could materially adversely affect our results of operations.
We have adopted a new product strategy that focuses on our core competencies in pixel processing
and delivering high levels of video and image quality. With this strategy, we continue to make
further investments in development of our ImageProcessor architecture for the multimedia projector
market, with particular focus on adding increased performance and functionality. For the advanced
television market, we are shifting away from our previous approach of implementing our intellectual
property (IP) exclusively in system-on-chip integrated circuits (ICs), to an approach designed
to improve video performance of our customers image processors through the use of a co-processor
IC. This strategy is designed to address the needs of the large-screen, high-resolution,
high-quality segment of the advanced television market. Additionally, we are focusing our research
and development efforts on new areas beyond our traditional applications, which may not result in
increased revenue or gross profit.
We have designed our new strategy to help us take advantage of expected market trends. While we
have secured design wins with our new products, our expectations may not be accurate and these
markets may not develop or they may take longer to develop than we expect. We cannot assure you
that the products we are developing to address our new strategy will adequately address the needs
of our target customers or that our customers or potential customers will accept our products
quickly enough or in sufficient volume to grow revenue and gross profit. A lack of market
acceptance or insufficient market acceptance would materially and adversely affect our results of
operations.
29
If we do not achieve additional design wins in the future, our ability to grow will be seriously
limited. Even if we achieve additional design wins in the future, we may not realize significant
revenue from the design wins.
Our future success depends on developers of advanced display products designing our products into
their systems. To achieve design wins, we must define and deliver cost-effective, innovative and
integrated semiconductors. Once a suppliers products have been designed into a system, the
developer may be reluctant to change its source of components due to the significant costs
associated with qualifying a new supplier. Accordingly, it may be difficult for us to achieve
additional design wins. The failure on our part to obtain additional design wins with leading
branded manufacturers or integrators, and to successfully design, develop and introduce new
products and product enhancements could seriously limit our ability to grow.
Additionally, achieving a design win does not necessarily mean that a developer will order large
volumes of our products. A design win is not a binding commitment by a developer to purchase our
products. Rather, it is a decision by a developer to use our products in the design process of
that developers products. Developers can choose at any time to discontinue using our products in
their designs or product development efforts. If our products are chosen to be incorporated into a
developers products, we may still not realize significant revenue from that developer if that
developers products are not commercially successful or if that developer chooses to qualify, or
incorporate the products of, a second source, and any of those circumstances might cause our
revenue to decline.
We have incurred substantial indebtedness as a result of the sale of convertible debentures.
As of September 30, 2008, $60.6 million of our 1.75% convertible subordinated debentures due 2024
were outstanding. Although the debt obligations are due in 2024, the holders of debentures have
the right to require us to purchase all or a portion of the $60.6 million outstanding debentures at
each of the following dates: May 15, 2011, May 15, 2014 and May 15, 2019. Since the market price
of our common stock is significantly below the conversion price of the debentures, the holders of
our outstanding debentures are unlikely to convert the debentures into common stock in accordance
with the existing terms of the debentures. Accordingly, we expect holders of the debentures to
require us to purchase all of the outstanding debentures on May 15, 2011, the earliest date
allowed. Our ability to meet our debt service obligations will be dependent upon our future
performance, which will be subject to financial, business and other factors affecting our
operations, some of which are beyond our control. Additionally, due to recent turmoil in the
credit markets and the continued decline in the economy, we may not be able to refinance the
debentures at terms that are as favorable as those from which we previously benefited, or at terms
that are acceptable to us at all. These debentures could materially and adversely affect our
ability to obtain additional debt or equity financing for working capital, acquisitions or other
purposes, limit our flexibility in planning for or reacting to changes in our business, reduce
funds available for use in our operations and make us more vulnerable to industry downturns and
competitive pressures.
Additionally, one of the covenants of the indenture governing the debentures can be interpreted
such that if we are late with any of our required filings under the Securities Exchange Act of
1934, as amended (1934 Act), and if we fail to affect a cure within 60 days, the holders of the
debentures can put the debentures back to the Company, whereby the debentures become immediately
due and payable. As a result of our restructuring efforts, we have fewer employees to perform
day-to-day controls, processes and activities and additionally, certain functions have been
transferred to new employees who are not as familiar with our procedures. These changes increase
the risk that we will be unable to make timely filings in accordance with the 1934 Act. Any
resulting default under our debentures would have a material adverse effect on our cash position
and operating results.
30
We may not be able to respond to the rapid technological changes in the markets in which we
compete, or seek to compete, or we may not be able to comply with industry standards in the future,
making our products less desirable or obsolete.
The markets in which we compete or seek to compete are subject to rapid technological change,
frequent new product introductions, changing customer requirements for new products and features
and evolving industry standards. The introduction of new technologies and emergence of new
industry standards could render our products less desirable or obsolete, which could harm our
business. Examples of changing industry standards include the growing use of broadband to deliver
video content, the transition from 720 High Definition to 1080P Full High Definition resolution
video, faster screen refresh rates, the proliferation of new display devices and the drive to
network display devices together. Our failure to adequately respond to such technological changes
could render our products obsolete or significantly decrease our revenue.
Because of the complex nature of our semiconductor designs and associated manufacturing processes
and the rapid evolution of our customers product designs, we may not be able to develop new
products or product enhancements in a timely manner, which could decrease customer demand for our
products and reduce our revenue.
The development of our semiconductors is highly complex. These complexities require us to employ
advanced designs and manufacturing processes that are unproven. The result can be longer and less
predictable development cycles. Timely introduction of new or enhanced products depends on a
number of other factors, including, but not limited to:
|
|
|
accurate prediction of customer requirements and evolving industry standards;
|
|
|
|
|
development of advanced display technologies and capabilities;
|
|
|
|
|
use of advanced foundry processes and achievement of high manufacturing yields; and
|
|
|
|
|
market acceptance of new products.
|
If we are unable to successfully develop and introduce products in a timely manner, our business
and results of operations will be adversely affected. We have experienced increased development
time and delays in introducing new products that have resulted in significantly less revenue than
originally expected for those products. Our international structure has significantly added to the
complexity of our product development efforts as we must now coordinate very complex product
development programs between multiple geographically dispersed locations. Our restructuring plans
have also significantly affected our product development efforts. We may not be successful in
timely delivery of new products with reduced numbers of employees. Any such failure could cause us
to lose customers or potential customers, which would decrease our revenue.
Because of our long product development process and sales cycles, we may incur substantial costs
before we earn associated revenue and ultimately may not sell as many units of our products as we
originally anticipated.
We develop products based on anticipated market and customer requirements and incur substantial
product development expenditures, which can include the payment of large up-front, third-party
license fees and royalties, prior to generating associated revenue. Our work under these projects
is technically challenging and places considerable demands on our limited resources, particularly
on our most senior engineering talent.
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Because the development of our products incorporates not only our complex and evolving technology
but also our customers specific requirements, a lengthy sales process is often required before
potential customers begin the technical evaluation of our products. Our customers typically
perform numerous tests and extensively evaluate our products before incorporating them into their
systems. The time required for testing, evaluation and design of our products into a customers
system can take up to nine months or more. It can take an additional nine months or longer before
a customer commences volume shipments of systems that incorporate our products. We cannot assure
you that the time required for the testing, evaluation and design of our products by our customers
would not be significantly longer than nine months.
Because of the lengthy development and sales cycles, we will experience delays between the time we
incur expenditures for research and development, sales and marketing and inventory and the time we
generate revenue, if any, from these expenditures. Additionally, if actual sales volumes for a
particular product are substantially less than originally anticipated, we may experience large
write-offs of capitalized license fees, software development tools, product masks, inventories or
other capitalized or deferred product-related costs that would negatively affect our operating
results. For example, in 2006 and 2007 our provisions for obsolete inventory were $6.2 million and
$4.4 million, respectively. Additionally, in 2007, we wrote-off assets with a net book value of
$6.9 million due to reductions in research and development personnel and changes in product
development strategy.
The year ended December 31, 2004 was our only year of profitability since inception and we may be
unable to achieve profitability in future periods.
The year ended December 31, 2004 was our first and only year of profitability since inception.
Since then, we have incurred annual net losses. In addition, the profitability we achieved during
the first and third quarters of 2008 were primarily the result of gains we recognized on the
repurchase of a portion of our convertible subordinated debentures. In 2006, we initiated
restructuring plans, which we implemented throughout 2007 and the first nine months of 2008, aimed
at returning the Company to profitability. We cannot be certain that these plans will be
successful or that future restructuring efforts will not be necessary. We may not achieve
profitability in the future and, if we do, we may not be able to sustain or increase profitability
on a quarterly or annual basis. If we are not profitable in the future, we may be unable to
continue our operations.
Our products are characterized by average selling prices that decline over relatively short periods
of time, which will negatively affect financial results unless we are able to reduce our product
costs or introduce new products with higher average selling prices.
Average selling prices for our products decline over relatively short periods of time, while many
of our product costs are fixed. When our average selling prices decline, our gross profit declines
unless we are able to sell more units or reduce the cost to manufacture our products. Our
operating results are negatively affected when revenue or gross profit declines. We have
experienced declines in our average selling prices and expect that we will continue to experience
them in the future, although we cannot predict when they may occur or how severe they will be. Our
financial results will suffer if we are unable to offset any reductions in our average selling
prices by increasing our sales volumes, reducing our costs, adding new features to our existing
products or developing new or enhanced products in a timely basis with higher selling prices or
gross profits.
Because we do not have long-term commitments from our customers and plan inventory purchases based
on estimates of customer demand which may be inaccurate, we contract for the manufacture of our
products based on potentially inaccurate estimates.
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Our sales are made on the basis of customer purchase orders rather than long-term purchase
commitments. Our customers may cancel or defer purchase orders at any time. This process requires
us to make numerous forecast assumptions concerning demand, each of which may introduce error into
our estimates of inventory requirements. If our customers or we overestimate demand, we may
purchase components or have products manufactured that we may not be able to use or sell. As a
result, we would have excess inventory, which would negatively affect our operating results. For
example, we overestimated demand for certain of our products which led to significant charges for
obsolete inventory in 2006 and 2007. Conversely, if our customers or we underestimate demand, or
if sufficient manufacturing capacity is not available, we would forego revenue opportunities, lose
market share and damage our customer relationships.
A significant amount of our revenue comes from a limited number of customers and distributors. Any
decrease in revenue from, or loss of, any of these customers or distributors could significantly
reduce our revenue.
The display manufacturing market is highly concentrated and we are, and will continue to be,
dependent on a limited number of customers and distributors for a substantial portion of our
revenue. Sales to distributors represented 54%, 57% and 52% of revenue for the first nine months
of 2008 and the years ended December 31, 2007 and 2006, respectively. Sales to Tokyo Electron
Device, or TED, our Japanese distributor, represented 35%, 33% and 26% of revenue for the first
nine months of 2008 and years ended December 31, 2007 and 2006, respectively. Revenue attributable
to our top five end customers represented 55%, 47% and 39% of revenue for the first nine months of
2008 and years ended December 31, 2007 and 2006, respectively. Sales to Seiko Epson Corporation,
our top end customer, represented 22%, 21% and 15% of revenue for the first nine months of 2008 and
years ended December 31, 2007 and 2006, respectively. A reduction, delay or cancellation of orders
from one or more of our significant customers, or a decision by one or more of our significant
customers to select products manufactured by a competitor or to use its own internally-developed
semiconductors, would significantly impact our revenue. For example, our loss of a key OEM
customer in Europe contributed to a $45.5 million, or 51%, decrease in advanced television revenue
from 2005 to 2006.
The concentration of our accounts receivable with a limited number of customers exposes us to
increased credit risk and could harm our operating results and cash flows.
As of September 30, 2008 and December 31, 2007, we had three and two customers, respectively, that
each represented 10% or more of accounts receivable. The concentration of our accounts receivable
with a limited number of customers increases our credit risk. The failure of these customers to
pay their balances, or any other customer to pay future outstanding balances, would result in an
operating expense and reduce our cash flows.
Our dependence on selling to distributors and integrators increases the complexity of managing our
supply chain and may result in excess inventory or inventory shortages.
Selling to distributors and integrators reduces our ability to forecast sales accurately and
increases the complexity of our business. Since our distributors act as intermediaries between us
and the companies using our products, we must rely on our distributors to accurately report
inventory levels and production forecasts. We must similarly rely on our integrators. Our
integrators are original equipment manufacturers (OEMs) that build display devices based on
specifications provided by branded suppliers. Selling to distributors and OEMs adds another layer
between us and the ultimate source of demand for our products, the consumer. These arrangements
require us to manage a complex supply chain and to monitor the financial condition and
creditworthiness of our distributors, integrators and customers. They also make it more difficult
for us to predict demand for our products. Our failure to manage one or more of these challenges
could result in
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excess inventory or inventory shortages that could materially impact our operating results or limit
the ability of companies using our semiconductors to deliver their products.
Failure to manage any future expansion efforts effectively could adversely affect our business and
results of operations.
To manage any future expansion efforts effectively in a rapidly evolving market, we must be able to
maintain and improve our operational and financial systems, train and manage our employee base and
attract and retain qualified personnel with relevant experience. We must also manage multiple
relationships with customers, business partners, contract manufacturers, suppliers and other third
parties. We could spend substantial amounts of time and money in connection with expansion efforts
for which we may not realize any profit. Our systems, procedures or controls may not be adequate
to support our operations and we may not be able to expand quickly enough to exploit potential
market opportunities. If we do not manage any future expansion efforts effectively, our operating
expenses could increase more rapidly than our revenue, adversely affecting our financial condition
and results of operations.
International sales account for almost all of our revenue, and if we do not successfully address
the risks associated with international sales, our revenue could decrease.
Sales outside the U.S. accounted for approximately 95% of revenue for the first nine months of 2008
and 96% of revenue for the years ended December 31, 2007 and 2006. We anticipate that sales
outside the U.S. will continue to account for a substantial portion of our revenue in future
periods. In addition, customers who incorporate our products into their products sell a
substantial portion of their products outside of the U.S., and all of our products are manufactured
outside of the U.S. We are, therefore, subject to many international risks, including, but not
limited to:
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increased difficulties in managing international distributors and manufacturers due to
varying time zones, languages and business customs;
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foreign currency exchange fluctuations in the currencies of Japan, the Peoples Republic
of China (PRC), Taiwan or Korea;
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potentially adverse tax consequences;
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difficulties regarding timing and availability of export and import licenses;
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political and economic instability, particularly in the PRC, Japan, Taiwan, or Korea;
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reduced or limited protection of our IP, particularly in software, which is more prone
to design piracy;
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increased transaction costs related to sales transactions conducted outside of the U.S.,
such as charges to secure letters of credit;
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difficulties in maintaining sales representatives outside of the U.S. that are
knowledgeable about our industry and products;
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changes in the regulatory environment in the PRC, Japan, Taiwan and Korea that may
significantly impact purchases of our products by our customers;
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outbreaks of SARS, bird flu or other pandemics in the PRC or other parts of Asia; and
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difficulties in collecting outstanding accounts receivable balances.
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Our presence and investment within the Peoples Republic of China subjects us to risks of economic
and political instability in the area, which could adversely impact our results of operations.
A substantial, and potentially increasing, portion of our products are manufactured by foundries
located in the PRC. In addition, a significant percentage of our employees are located in this
area. Disruptions from natural disasters, health epidemics (including new outbreaks of SARS or
bird flu) and political, social and
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economic instability may affect the region and would have a negative impact on our results of
operations. In addition, the economy of the PRC differs from the economies of many countries in
respects such as structure, government involvement, level of development, growth rate, capital
reinvestment, allocation of resources, self-sufficiency, rate of inflation and balance of payments
position, among others. In the past, the economy of the PRC has been primarily a planned economy
subject to state plans. Since the entry of the PRC into the World Trade Organization in 2002, the
PRC government has been reforming its economic and political systems. These reforms have resulted
in significant economic growth and social change. We cannot be assured that the PRCs policies for
economic reforms will be consistent or effective. Our results of operations and financial position
may be harmed by changes in the PRCs political, economic or social conditions.
The concentration of our manufacturers and customers in the same geographic region increases our
risk that a natural disaster, labor strike or political unrest could disrupt our operations.
Most of our current manufacturers and customers are located in the PRC, Japan, Korea or Taiwan.
The risk of earthquakes in the Pacific Rim region is significant due to the proximity of major
earthquake fault lines in the area. Common consequences of earthquakes include power outages and
disruption or impairment of production capacity. Earthquakes, fire, flooding, power outages and
other natural disasters in the Pacific Rim region, or political unrest, labor strikes or work
stoppages in countries where our manufacturers and customers are located, would likely result in
the disruption of our manufacturers and customers operations. Any disruption resulting from
extraordinary events could cause significant delays in shipments of our products until we are able
to shift our manufacturing from the affected contractor to another third-party vendor. There can
be no assurance that alternative capacity could be obtained on favorable terms, or in a timely
manner, if at all.
The competitiveness and viability of our products could be harmed if necessary licenses of
third-party technology are not available to us or are only available on terms that are not
commercially viable.
We license technology from third parties that is incorporated into our products or product
enhancements. We currently have access to certain key technologies owned by independent third
parties, through license agreements typically granted on a product-by-product basis. Future
products or product enhancements may require additional third-party licenses that may not be
available to us or may not be available on terms that are commercially reasonable. In addition, in
the event of a change in control of one of our licensors, it may become difficult to maintain
access to its licensed technology. If we are unable to obtain or maintain any third-party license
required to develop new products and product enhancements, we may have to obtain substitute
technology with lower quality or performance standards or at greater cost, either of which could
seriously harm the competitiveness of our products.
Our limited ability to protect our IP and proprietary rights could harm our competitive position by
allowing our competitors to access our proprietary technology and to introduce similar products.
Our ability to compete effectively with other companies will depend, in part, on our ability to
maintain the proprietary nature of our technology, including our semiconductor designs and
software. We provide the computer programming code for our software to customers in connection
with their product development efforts, thereby increasing the risk that customers will
misappropriate our proprietary software. We rely on a combination of patent, copyright, trademark
and trade secret laws, as well as nondisclosure agreements and other methods, to help protect our
proprietary technologies. As of September 30, 2008 we held 88 patents and had 65 patent
applications pending for protection of our significant technologies. Competitors in both the U.S.
and foreign countries, many of whom have substantially greater resources than we do, may apply for
and obtain patents that will prevent, limit or interfere with our ability to make and sell our
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products, or they may develop similar technology independently or design around our patents.
Effective copyright, trademark and trade secret protection may be unavailable or limited in foreign
countries.
We cannot assure you that the degree of protection offered by patent or trade secret laws will be
sufficient. Furthermore, we cannot assure you that any patents will be issued as a result of any
pending applications or that any claims allowed under issued patents will be sufficiently broad to
protect our technology. In addition, it is possible that existing or future patents may be
challenged, invalidated or circumvented.
Others may bring infringement actions against us that could be time consuming and expensive to
defend.
We may become subject to claims involving patents or other IP rights. IP claims could subject us
to significant liability for damages and invalidate our proprietary rights. In addition, IP claims
may be brought against customers that incorporate our products in the design of their own products.
These claims, regardless of their success or merit and regardless of whether we are named as
defendants in a lawsuit, would likely be time consuming and expensive to resolve and would divert
the time and attention of management and technical personnel. Any IP litigation or claims also
could force us to do one or more of the following:
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stop selling products using technology that contains the allegedly infringing IP;
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attempt to obtain a license to the relevant IP, which may not be available on reasonable
terms or at all;
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attempt to redesign those products that contain the allegedly infringing IP; or
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pay damages for past infringement claims that are determined to be valid or which are
arrived at in settlement of such litigation or threatened litigation.
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If we are forced to take any of the foregoing actions, we may incur significant additional costs or
be unable to manufacture and sell our products, which could seriously harm our business. In
addition, we may not be able to develop, license or acquire non-infringing technology under
reasonable terms. These developments could result in an inability to compete for customers or
otherwise adversely affect our results of operations.
Our future success depends upon the continued services of key personnel, many of whom would be
difficult to replace, and the loss of one or more of these employees could seriously harm our
business by delaying product development.
We believe our success depends, in large part, upon our ability to identify, attract and retain
qualified hardware and software engineers, sales, marketing, finance and managerial personnel.
Competition for talented personnel is intense and we may not be able to retain our key personnel or
identify, attract or retain other highly qualified personnel in the future. Because of the highly
technical nature of our business, the loss of key engineering personnel could delay product
introductions and significantly impair our ability to successfully create future products. If we
do not succeed in hiring and retaining employees with appropriate qualifications, our product
development efforts, revenue and business could be seriously harmed.
We have experienced, and may continue to experience, difficulty in hiring and retaining employees
with appropriate qualifications. In the last two years a significant portion of our executive
management team has turned over, including the Chief Executive Officer, Chief Financial Officer,
Chief Technology Officer, Vice President of Sales, Vice President of Business Operations and Vice
President, General Manager of China. During 2006 and 2007, we also experienced difficulties hiring
and retaining qualified engineers in our Shanghai design center.
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Dependence on a limited number of sole-source, third-party manufacturers for our products exposes
us to shortages based on capacity allocation or low manufacturing yield, errors in manufacturing,
price increases with little notice, volatile inventory levels and delays in product delivery, which
could result in delays in satisfying customer demand, increased costs and loss of revenue.
We contract with third-party foundries for wafer fabrication and other manufacturers for packaging,
assembly and testing of our products. We do not own or operate a semiconductor fabrication
facility and do not have the resources to manufacture our products internally. Our wafers are
fabricated by Semiconductor Manufacturing International Corporation, Taiwan Semiconductor
Manufacturing Corporation and Toshiba Corporation. The wafers used in each of our products are
fabricated by only one of these manufacturers.
Sole sourcing each product increases our dependence on our suppliers. We have limited control over
delivery schedules, quality assurance, manufacturing yields, potential errors in manufacturing and
production costs. We do not have long-term supply contracts with our third-party manufacturers or
packaging, assembly and testing contractors, so they are not obligated to supply us with products
for any specific period of time, quantity or price, except as may be provided in a particular
purchase order. From time to time, our suppliers increase prices charged to produce our products
with little notice. If the prices charged by our contract manufacturers increase we may increase
our prices, which could harm our competitiveness.
Our requirements represent only a small portion of the total production capacity of our contract
manufacturers, who have in the past re-allocated capacity to other customers even during periods of
high demand for our products. We expect this may occur again in the future. If we are unable to
obtain our products from our contract manufacturers on schedule, our ability to satisfy customer
demand will be harmed and revenue from the sale of products may be lost or delayed. If orders for
our products are cancelled, expected revenue would not be realized. For example, in the fourth
quarter of 2005, one of our contract manufacturers experienced temporary manufacturing delays due
to unexpected manufacturing process problems, which caused delays in delivery of our products and
made it difficult for us to satisfy our customer demand.
If we have to qualify a new foundry or packaging, assembly and testing supplier for any of our
products, we may experience delays that result in lost revenue and damaged customer relationships.
Our products require manufacturing with state-of-the-art fabrication equipment and techniques. The
lead-time needed to establish a relationship with a new contract manufacturer is at least nine
months, and the estimated time for us to adapt a products design to a particular contract
manufacturers process is at least four months. If we have to qualify a new foundry or packaging,
assembly and testing supplier for any of our products, we could incur significant delays in
shipping products, which may result in lost revenue and damaged customer relationships.
Manufacturers of our semiconductor products periodically discontinue older manufacturing processes,
which could make our products unavailable from our current suppliers.
Semiconductor manufacturing technologies change rapidly and manufacturers typically discontinue
older manufacturing processes in favor of newer ones. For instance, a portion of our products use
embedded dynamic random access memory, (DRAM) technology, which requires manufacturing processes
that are being phased out. We also utilize 0.18um, 0.15um and 0.13um standard logic processes,
which may only be available for the next five to seven years. Once a manufacturer makes the
decision to retire a manufacturing process, notice is generally given to its customers. Customers
will then either retire the affected part or develop a new version of the part that can be
manufactured with a newer process. In the event that a
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manufacturing process is discontinued, our current suppliers may be unwilling or unable to
manufacture our current products. Additionally, migrating to a new, more advanced process requires
significant expenditures for research and development and takes significant time. For example in
the third quarter of 2006, one of our third-party foundries discontinued the manufacturing process
used to produce one of our products. While we were able to place last time buy orders, we
underestimated demand for this part. As a result, we had to pay additional amounts to the foundry
to restart production and we were unable to fulfill customer orders in a timely manner. We cannot
assure you that we will be able to place last time buy orders in the future or that we will find
alternate manufacturers of our products.
We are dependent on our foundries to implement complex semiconductor technologies and our
operations could be adversely affected if those technologies are unavailable, delayed or
inefficiently implemented.
In order to increase performance and functionality and reduce the size of our products, we are
continuously developing new products using advanced technologies that further miniaturize
semiconductors. However, we are dependent on our foundries to develop and provide access to the
advanced processes that enable such miniaturization. We cannot be certain that future advanced
manufacturing processes will be implemented without difficulties, delays or increased expenses.
Our business, financial condition and results of operations could be materially adversely affected
if advanced manufacturing processes are unavailable to us, substantially delayed or inefficiently
implemented.
Our highly integrated products and high-speed mixed signal products are difficult to manufacture
without defects and the existence of defects could result in increased costs, delays in the
availability of our products, reduced sales of products or claims against us.
The manufacture of semiconductors is a complex process and it is often difficult for semiconductor
foundries to produce semiconductors free of defects. Because many of our products are more highly
integrated than other semiconductors and incorporate mixed analog and digital signal processing and
embedded memory technology, they are even more difficult to produce without defects. Defective
products can be caused by design or manufacturing difficulties. Therefore, identifying quality
problems can occur only by analyzing and testing our semiconductors in a system after they have
been manufactured. The difficulty in identifying defects is compounded because the process
technology is unique to each of the multiple semiconductor foundries we contract with to
manufacture our products.
Despite testing by both our customers and us, errors or performance problems may be found in
existing or new semiconductors. Failure to achieve defect-free products may result in increased
costs and delays in the availability of our products. Additionally, customers could seek damages
from us for their losses and shipments of defective products may harm our reputation with our
customers.
We have experienced field failures of our semiconductors in certain customer system applications
that required us to institute additional testing. As a result of these field failures, we incurred
warranty costs due to customers returning potentially affected products. Our customers have also
experienced delays in receiving product shipments from us that resulted in the loss of revenue and
profits. Shipments of defective products could cause us to lose customers or incur significant
replacement costs, either of which would harm our business.
We use a customer owned tooling process for manufacturing most of our products which exposes us to
the possibility of poor yields and unacceptably high product costs.
We are building most of our products on a customer owned tooling basis, also known in the
semiconductor industry as COT, where we directly contract the manufacture of wafers and assume the
responsibility for the
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assembly and testing of our products. As a result, we are subject to increased risks arising from
wafer manufacturing yields and risks associated with coordination of the manufacturing, assembly
and testing process. Poor product yields result in higher product costs, which could make our
products uncompetitive if we increased our prices or could result in low gross profit margins if we
did not increase our prices.
Shortages of materials used in the manufacturing of our products may increase our costs or limit
our revenue and impair our ability to ship our products on time.
From time to time, shortages of materials that are used in our products may occur. In particular,
we may experience shortages of semiconductor wafers and packages. If material shortages occur, we
may incur additional costs or be unable to ship our products to our customers in a timely fashion,
both of which could harm our business and adversely affect our results of operations.
Shortages of other key components for our customers products could delay our ability to sell our
products.
Shortages of components and other materials that are critical to the design and manufacture of our
customers products could limit our sales. These components include display components,
analog-to-digital converters, digital receivers and video decoders.
Integration of software with our products adds complexity and cost that may affect our ability to
achieve design wins and may affect our profitability.
The integration of software with our products adds complexity, may extend our internal development
programs and could impact our customers development schedules. This complexity requires increased
coordination between hardware and software development schedules and may increase our operating
expenses without a corresponding increase in product revenue. This additional level of complexity
lengthens the sales cycle and may result in customers selecting competitive products requiring less
software integration.
Our software development tools may be incompatible with industry standards and challenging to
implement, which could slow product development or cause us to lose customers and design wins.
We provide software development tools to help customers evaluate our products and bring them into
production. Software development is a complex process and we are dependent on software development
languages and operating systems from vendors that may compromise our ability to design software in
a timely manner. Also, as software tools and interfaces change rapidly, new software languages
introduced to the market may be incompatible with our existing systems and tools. New software
development languages may not be compatible with our own, requiring significant engineering efforts
to migrate our existing systems in order to be compatible with those new languages. Existing or
new software development tools could make our current products obsolete or hard to use. Software
development disruptions could slow our product development or cause us to lose customers and design
wins.
Decreased effectiveness of share-based payment awards could adversely affect our ability to attract
and retain employees, officers and directors.
We have historically used stock options and other forms of share-based payment awards as key
components of our total compensation program in order to retain employees, officers and directors
and to provide competitive compensation and benefit packages. In accordance with Statement of
Financial Accounting Standards No. 123 (revised 2004),
Share-Based Payment
, (SFAS 123R), we began
recording stock-based compensation expense for share-based awards in the first quarter of 2006. As
a
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result, we have incurred and will continue to incur significant compensation costs associated with
our share-based programs, making it more expensive for us to grant share-based payment awards to
employees, officers and directors. To the extent that SFAS 123R makes it more expensive to grant
stock options or to continue to have an employee stock purchase plan, we may decide to incur cash
compensation costs in the future. Actions that we take to reduce stock-based compensation expense
that might be more aggressive than actions implemented by our competitors could make it difficult
to attract, retain and motivate employees, officers, or directors, which could adversely affect our
competitive position as well as our business and results of operations. As a result of reviewing
our equity compensation strategy, in 2006 we reduced the total number of options granted to
employees and the number of employees who receive share-based payment awards.
We may be unable to successfully integrate any future acquisition or equity investment we make,
which could disrupt our business and severely harm our financial condition.
We may not be able to successfully integrate businesses, products, technologies or personnel of any
entity that we might acquire in the future, and any failure to do so could disrupt our business and
seriously harm our financial condition. In addition, if we acquire any company with weak internal
controls, it will take time to get the acquired company up to a level of operating effectiveness
acceptable to us and to implement adequate internal control, management, financial and operating
reporting systems. Our inability to address these risks could negatively affect our operating
results.
To date, we have acquired Panstera, Inc. (Panstera) in January 2001, nDSP Corporation (nDSP) in
January 2002, Jaldi Semiconductor Corporation (Jaldi) in September 2002 and Equator Technologies,
Inc. (Equator) in June 2005. In March 2003, we announced the execution of a definitive merger
agreement with Genesis Microchip, Inc.; however, the merger was terminated in August 2003, and we
incurred $8.9 million of expenses related to the transaction.
The acquisitions of Panstera, nDSP, Jaldi and Equator contained a very high level of risk primarily
because the decisions to acquire these companies were made based on unproven technological
developments and, at the time of the acquisitions, we did not know if we would complete the
unproven technologies or, if we did complete the technologies, if they would be commercially
viable.
These and any future acquisitions and investments could result in any of the following negative
events, among others:
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issuance of stock that dilutes current shareholders percentage ownership;
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incurrence of debt;
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assumption of liabilities;
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amortization expenses related to acquired intangible assets;
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impairment of goodwill;
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large and immediate write-offs; or
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decreases in cash and marketable securities that could otherwise serve as working
capital.
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Our operation of any acquired business will also involve numerous risks, including, but not limited
to:
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problems combining the acquired operations, technologies or products;
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unanticipated costs;
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diversion of managements attention from our core business;
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adverse effects on existing business relationships with customers;
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risks associated with entering markets in which we have no or limited prior experience;
and
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potential loss of key employees, particularly those of the acquired organizations.
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Our acquisition of Equator has not been as successful as we anticipated. We acquired Equator for
an aggregate purchase price of $118.1 million and recorded, among other assets, $57.5 million in
goodwill, $36.8 million in acquired developed technology and $4.2 million in other acquired
intangible assets. However, the Equator technology has not proven as useful as we had hoped, and
thus we have recorded impairment losses on goodwill and intangible assets acquired from Equator.
Only $3.9 million of the developed technology acquired from Equator remains on our consolidated
balance sheet as of September 30, 2008 and only a few of the Equator employees remain employed by
us. Additionally, while we are continuing to provide customers with existing products, we are no
longer pursuing stand-alone advanced media processor markets that are not core to our business.
Environmental laws and regulations have caused us to incur, and may cause us to continue to incur,
significant expenditures to comply with applicable laws and regulations, and may cause us to incur
significant penalties for noncompliance.
We are subject to numerous environmental laws and regulations. Compliance with current or future
environmental laws and regulations could require us to incur substantial expenses which could harm
our business, financial condition and results of operations. For example, during 2006 the European
Parliament enacted the Restriction of Hazardous Substances Directive, or RoHS, which restricts the
sale of new electrical and electronic equipment containing certain hazardous substances, including
lead. In 2006, we incurred increased inventory provisions as a result of the enactment of RoHS,
which adversely affected our gross profit margin. Additionally during 2006, the European
Parliament enacted the Waste Electrical and Electronic Equipment Directive, or WEEE Directive,
which makes producers of electrical and electronic equipment financially responsible for specified
collection, recycling, treatment and disposal of past and future covered products. Additionally,
some jurisdictions have begun to require various levels of Electronic Product Environmental
Assessment Tool (EPEAT) certification, which are based on the Institute of Electrical and
Electronics Engineers 1680 standard. The highest levels of EPEAT certification restrict the usage
of halogen. Although our older generation products, many of which are still shipping to customers,
do contain halogen, our next generation designs do not. We have worked, and will continue to work,
with our suppliers and customers to ensure that our products are compliant with enacted laws and
regulations. Failure by us or our contract manufacturers to comply with such legislation could
result in customers refusing to purchase our products and could subject us to significant monetary
penalties in connection with a violation, either of which would have a material adverse effect on
our business, financial condition and results of operations. These environmental laws and
regulations could become more stringent over time, imposing even greater compliance costs and
increasing risks and penalties associated with violations, which could seriously harm our business,
financial condition and results of operations. There can be no assurance that violations of
environmental laws or regulations will not occur in the future as a result of our inability to
obtain permits, human error, equipment failure or other causes.
Risks Related to Our Industry
Insufficient supplies of advanced display components or failure of consumer demand for advanced
displays and other digital display technologies to increase would impede our growth and adversely
affect our business.
Our product development strategies anticipate that consumer demand for projectors, advanced
televisions and other emerging display technologies will increase in the future. The success of
our products is dependent on increased demand for these display technologies. The potential size
of the market for products incorporating these display technologies and the timing the markets
development are uncertain and will
41
depend upon a number of factors, all of which are beyond our control. In order for the market in
which we participate to grow, advanced display products must be widely available and affordable to
consumers.
Intense competition in our markets may reduce sales of our products, reduce our market share,
decrease our gross profit and result in large losses.
Rapid technological change, evolving industry standards, compressed product life cycles and
declining average selling prices are characteristics of our market and could have a material
adverse effect on our business, financial condition and results of operations. As the overall
price of advanced flat panel displays continues to fall, we may be required to offer our products
to manufacturers at discounted prices due to increased price competition. At the same time, new
alternative technologies and industry standards may emerge that directly compete with technologies
we offer. We may be required to increase our investment in research and development at the same
time that product prices are falling. In addition, even after making this investment, we cannot
assure you that our technologies will be superior to those of our competitors or that our products
will achieve market acceptance, whether for performance or price reasons. Failure to effectively
respond to these trends could reduce the demand for our products.
We compete with specialized and diversified electronics and semiconductor companies that offer
display processors or scaling components. Some of these include Broadcom Corporation, i-Chips
Technologies Inc., Integrated Device Technology, Inc., Jepico Corp., MediaTek Inc., Micronas
Semiconductor Holding AG, MStar Semiconductor, Inc., Realtek Semiconductor Corp., Renesas
Technology Corp., Sigma Designs, Inc., Silicon Image, Inc., STMicroelectronics N.V., Sunplus
Technology Co., Ltd., Techwell, Inc., Topro Technology Inc., Trident Microsystems, Inc., Weltrend
Semiconductor, Inc., Zoran Corporation and other companies. Potential and current competitors may
include diversified semiconductor manufacturers and the semiconductor divisions or affiliates of
some of our customers, including Intel Corporation, LG Electronics, Inc., Matsushita Electric
Industrial Co., Ltd., Mitsubishi Digital Electronics America, Inc., National Semiconductor
Corporation, NEC Corporation, NVIDIA Corporation, NXP Semiconductors, Samsung Electronics Co.,
Ltd., SANYO Electric Co., Ltd., Seiko Epson Corporation, Sharp Electronics Corporation, Sony
Corporation, Texas Instruments Incorporated and Toshiba America, Inc. In addition, start-up
companies may seek to compete in our markets.
Many of our competitors have longer operating histories and greater resources to support
development and marketing efforts than we do. Some of our competitors operate their own
fabrication facilities. These competitors may be able to react more quickly and devote more
resources to efforts that compete directly with our own. In the future, our current or potential
customers may also develop their own proprietary technologies and become our competitors. Our
competitors may develop advanced technologies enabling them to offer more cost-effective products.
Increased competition could harm our business, financial condition and results of operations by,
for example, increasing pressure on our profit margin or causing us to lose sales opportunities.
We cannot assure you that we can compete successfully against current or potential competitors.
The cyclical nature of the semiconductor industry may lead to significant variances in the demand
for our products and could harm our operations.
In the past, the semiconductor industry has been characterized by significant downturns and wide
fluctuations in supply and demand. Also, the industry has experienced significant fluctuations in
anticipation of changes in general economic conditions, including economic conditions in Asia and
North America. The cyclical nature of the semiconductor industry has led to significant variances
in product demand and production capacity. We may experience periodic fluctuations in our future
financial results because of changes in industry-wide conditions.
42
If products incorporating our semiconductors are not compatible with computer display protocols,
video standards and other devices, the market for our products will be reduced and our business
prospects could be significantly limited.
Our products are incorporated into our customers products, which have different parts and
specifications and utilize multiple protocols that allow them to be compatible with specific
computers, video standards and other devices. If our customers products are not compatible with
these protocols and standards, consumers will return, or not purchase, these products and the
markets for our customers products could be significantly reduced. As a result, a portion of our
market would be eliminated, and our business would be harmed.
Other Risks
The price of our common stock has and may continue to fluctuate substantially.
On June 4, 2008, we effected a one-for-three reverse split of our common stock. We effected the
reverse split to attempt to regain compliance with NASDAQ Marketplace Rules, particularly the
minimum $1.00 per share requirement for continued inclusion on the NASDAQ Global Market. Though
the per share price of our common stock increased to over $2.00 per share immediately following the
reverse split, the price has since closed below $1.00 per share and we cannot guarantee that it
will remain at or above $1.00 per share. If the price again drops below $1.00 per share, the stock
could become subject to delisting again, and we may seek shareholder approval for an additional
reverse split. Although NASDAQ has implemented a temporary suspension of the $1.00 minimum bid
price requirement, this requirement is scheduled for reinstatement on January 19, 2009. Even if
the per share price of our common stock remains above $1.00, investors may not be able to sell
shares of our common stock at or above the price they paid due to a number of factors, including,
but not limited to:
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actual or anticipated fluctuations in our operating results;
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changes in expectations as to our future financial performance;
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changes in financial estimates of securities analysts;
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announcements by us or our competitors of technological innovations, design wins,
contracts, standards or acquisitions;
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the operating and stock price performance of other comparable companies;
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announcements of future expectations by our customers;
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changes in market valuations of other technology companies; and
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inconsistent trading volume levels of our common stock.
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The stock prices of technology companies similar to Pixelworks have been highly volatile. Market
fluctuations, particularly over the past several months, as well as general economic and political
conditions, including recessions, interest rate changes or international currency fluctuations, may
negatively impact the market price of our common stock. Therefore, the price of our common stock
may decline, and the value of your investment may be reduced regardless of our performance. Any
scenario in which investors may not be able to realize a gain when they sell our common stock would
have an adverse effect on our business, financial condition and results of operations, by
potentially limiting our ability to attract and retain qualified employees and to raise capital.
The anti-takeover provisions of Oregon law and in our articles of incorporation could adversely
affect the rights of the holders of our common stock by preventing a sale or takeover of us at a
price or prices favorable to the holders of our common stock.
43
Provisions of our articles of incorporation and bylaws and provisions of Oregon law may have the
effect of delaying or preventing a merger or acquisition of us, making a merger or acquisition of
us less desirable to a potential acquirer or preventing a change in our management, even if our
shareholders consider the merger, acquisition or change in management favorable or if doing so
would benefit our shareholders. In addition, these provisions could limit the price that investors
would be willing to pay in the future for shares of our common stock. The following are examples
of such provisions in our articles of incorporation or bylaws:
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our board of directors is authorized, without prior shareholder approval, to change the
size of the board. Our articles of incorporation provide that if the board is increased to
eight or more members, the board will be divided into three classes serving staggered
terms, which would make it more difficult for a group of shareholders to quickly change the
composition of our board;
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our board of directors is authorized, without prior shareholder approval, to create and
issue preferred stock with voting or other rights or preferences that could impede the
success of any attempt to acquire us or to effect a change of control, commonly referred to
as blank check preferred stock;
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members of our board of directors can only be removed for cause and at a meeting of
shareholders called expressly for that purpose, by the vote of 75 percent of the votes then
entitled to be cast for the election of directors;
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the board of directors may alter our bylaws without obtaining shareholder approval; and
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shareholders are required to provide advance notice for nominations for election to the
board of directors or for proposing matters to be acted upon at a shareholder meeting.
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We may be unable to meet our future capital requirements, which would limit our ability to grow.
As of September 30, 2008, we had $60.6 million of unsecured convertible debentures due 2024
outstanding. Although the obligations are due in 2024, the holders of debentures have the right to
require us to purchase all or a portion of the $60.6 million debentures outstanding as of each of
the following dates: May 15, 2011, May 15, 2014, and May 15, 2019. Since the market price of our
common stock is significantly below the conversion price of the debentures, the holders of our
outstanding debentures are unlikely to convert the debentures to common stock in accordance with
the existing terms of the debentures. Accordingly, we expect holders of the debentures to require
us to purchase all of the outstanding debentures on May 15, 2011. The purchase of our outstanding
debentures at face value would require the use of substantially all of our cash and marketable
securities.
On September 25, 2007, we announced a share repurchase program under which the board of directors
authorized the repurchase of up to $10.0 million of our common stock over the following twelve
months. During 2007, we repurchased 1,260,833 common shares at a cost of $4.3 million. During the
first nine months of 2008 we repurchased 1,031,437 shares for $2.0 million. As of September 30,
2008, $3.7 million remained available for repurchase under the plan.
While we believe that our current cash and marketable securities balances will be sufficient to
meet our capital requirements for the next twelve months, we cannot assure you that we will be able
to maintain sufficient cash and marketable security balances to refinance or service the potential
exercise of the put option on the convertible debentures. We may need, or could elect to seek,
additional funding prior to that time through public or private equity or debt financing.
Additional funds may not be available on terms favorable to us or our shareholders. Furthermore,
if we issue equity securities, our shareholders may experience additional dilution or the new
equity securities may have rights, preferences or privileges senior to those of our common stock.
If we cannot raise funds on acceptable terms, we may not be able to develop or enhance our
products, take advantage of future opportunities or respond to competitive pressures or
unanticipated requirements.
44
Continued compliance with regulatory and accounting requirements will be challenging and will
require significant resources.
We are spending a significant amount of management time and external resources to comply with
changing laws, regulations and standards relating to corporate governance and public disclosure,
including the Sarbanes-Oxley Act of 2002, new Securities and Exchange Commission rules and
regulations and NASDAQ Global Market rules. In particular, Section 404 of the Sarbanes-Oxley Act
of 2002 requires managements annual review and evaluation of internal control over financial
reporting. While we invested significant time and money in our effort to evaluate and test our
internal control over financial reporting, a material weakness was identified in our internal
control over financial reporting in 2004. Although the material weakness was remediated in the
first quarter of 2005, there are inherent limitations to the effectiveness of any system of
internal controls and procedures, including cost limitations, the possibility of human error,
judgments and assumptions regarding the likelihood of future events, and the circumvention or
overriding of the controls and procedures. Accordingly, even effective controls and procedures can
provide only reasonable assurance of achieving their control objectives.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
The following table sets forth information about shares repurchased during the third quarter of
2008 under the share repurchase program initiated in September 2007 (in thousands except share and
per share data). These numbers reflect the one-for-three reverse split of our common stock
effected on June 4, 2008.
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Total number
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Approximate
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of shares
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dollar value of
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purchased as
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shares that
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part of
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may yet be
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publicly
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purchased
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Total number
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announced
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under the
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of shares
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Average price
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plans or
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plans or
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Period
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purchased
(1)
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paid per share
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programs
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programs
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July 1, 2008 - July 31, 2008
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9,600
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$
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1.62
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9,600
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$
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4,345
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August 1, 2007 - August 31, 2008
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226,500
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1.76
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226,500
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3,946
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September 1, 2008 - September
30, 2008
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187,600
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1.43
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187,600
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3,678
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Total
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423,700
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$
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1.61
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423,700
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(1)
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All purchases made on the open market pursuant to the share repurchase program
announced in September 2007, under which the board of directors authorized the repurchase of up to
$10.0 million of our common stock over the next twelve months. In August 2008, the Board of
Directors approved an extension to the program for an additional twelve months, through
September 2009. The program does not obligate us to acquire any particular amount of common stock
and may be modified or suspended at any time at our discretion. Share repurchases under the
program may be made through open market or privately negotiated transactions at our discretion,
subject to market conditions and other factors.
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45
Item 6. Exhibits.
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10.1
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Summary of Pixelworks Non-Employee Director Compensation.+
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10.2
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Amendment to Office Lease dated October 2, 2007 and commencing November 1, 2007 by and
between Pixelworks, Inc. and Union Bank of California as Trustee for Quest Group Trust IV.
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10.3
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Office Lease Agreement dated September 10, 2008 and commencing December 1, 2008 by and
between Pixelworks, Inc. and Durham Plaza, LLC.
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21
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Subsidiaries of Pixelworks, Inc.
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31.1
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Certification of Chief Executive Officer.
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31.2
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Certification of Chief Financial Officer.
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32.1*
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Certification of Chief Executive Officer.
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32.2*
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Certification of Chief Financial Officer.
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+
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Indicates a management contract or compensation arrangement.
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*
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Exhibits 32.1 and 32.2 are being furnished and shall not be deemed to be filed for purposes
of Section 18 of the Securities Exchange Act of 1934, as amended (the Exchange Act), or
otherwise subject to the liability of that section, nor shall such exhibits be deemed to be
incorporated by reference in any registration statement or other document filed under the
Securities Act of 1933, as amended, or the Exchange Act, except as otherwise stated in such
filing.
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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.
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PIXELWORKS, INC.
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Dated: November 7, 2008
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/s/ Steven L. Moore
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Steven L. Moore
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Vice President, Chief Financial
Officer, Secretary and Treasurer
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47
Exhibit 10.3
Standard Form of OFFICE LEASE
© 2004 PORTLAND METROPOLITAN ASSOCIATION OF BUILDING OWNERS AND MANAGERS
1.1 Basic Lease Terms.
A. REFERENCE DATE OF LEASE
September 10, 2008
B. TENANT:
Pixelworks, Inc.
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Trade Name:
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Address (Leased Premises):
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16760 Upper Boones Ferry Road, Suite 101
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Durham, Oregon 97224
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Address (For Notices):
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Same as above.
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C. LANDLORD:
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Durham Plaza, LLC
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Address (For Notices):
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c/o NAI Norris, Beggs & Simpson
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121 SW Morrison Street, Suite 200
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Portland, OR 97004
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D. PREMISES:
Suite
101
in the
Durham Plaza Office
Building (the Building) at
16760 Upper Boones Ferry Road
in
Durham
, Oregon, as generally shown on Exhibit A
hereto.
E. PREMISES AREA:
Approximately
4,875
Rentable Square Feet (See Exhibit A)
F. BUILDING AREA:
Approximately
43,024
Rentable Square Feet
G. TENANTS PROPORTIONATE SHARE:
11.33
%. The percentage is obtained by dividing the
rentable square feet of the Premises by the total number of rentable square feet of the Building.
Landlord may modify Tenants Proportionate Share if the Building size is increased or decreased, as
the case may be.
H. TENANTS PERMITTED USE OF PREMISES:
General office use.
I. TERM OF LEASE:
Commencement Date:
Upon substantial completion of Tenant Improvements
performed by landlord (which is anticipated to be December 1, 2008). The actual Commencement Date
shall be memorialized by a commencement memorandum issued by Landlord during punch list
completion.
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Expiration Date:
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Sixty (60) full calendar months after the
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Commencement Date.
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Number of Full Calendar Months:
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Sixty (60)
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J. INITIAL BASE MONTHLY RENT:
$
10,562.50 (months 1 through 12).
K. BASE RENT ADJUSTMENT:
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Effective Date of Rent Increase
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New Base Monthly Rent
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Months
1 12
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$
10,562.50
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Months 13 24
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$
10,879.38
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Months 25 36
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$
11,205.76
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Months 37 48
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$
11,541.93
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Months 49 60
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$
11,888.19
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Page 1
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Please Initial
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Landlord
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Tenant
JAM/kmm
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L. BASE YEAR:
REAL PROPERTY TAXES
2008
2009
EXPENSES
2009
M. PARKING:
19
Spaces
[Insert NA if not applicable]
N. PREPAID RENT:
Upon execution of this Lease, Tenant shall deposit with Landlord
$
10,562.50
(the Prepaid Rent) which shall be Base Monthly Rent due for
first
month
of the Lease term.
O. SECURITY DEPOSIT:
Upon execution of this Lease, Tenant shall deposit with Landlord
$
12,244.83
(the Security Deposit).
P. BROKER(S):
NAI Norris, Beggs & Simpson as Landlord Representative shall be compensated
with 2.5% of the total lease consideration for the first five (5) years. Integrated Corporate
Property Services (Mark Childs) as Tenant Representative shall be compensated with 5% of the total
lease consideration of the first five (5) years of rent. Fees shall be paid by Landlord one half
upon invoice following execution of lease, and one half upon invoice following rent
commencement.
Q. GUARANTOR(S):
N/A
If Guarantor(s) is/are listed, Tenant shall cause all Guarantor(s) to return to Landlord an
executed Guaranty of this Lease in the form attached as Exhibit D at the same time as Lease
execution.
For valuable consideration, Landlord and Tenant covenant and agree as follows:
1.2 Lease of Premises.
Landlord leases to Tenant the premises described in the Basic Lease Terms and shown on
Exhibit A (the Premises), located in the Building, subject to the terms and conditions of
this Lease.
1.3 Delivery of Possession and Commencement.
Should Landlord be unable to deliver possession of the Premises on the commencement date
stated in the Basic Lease Terms, the commencement date will be deferred and Tenant shall owe
no rent until notice from Landlord tendering possession to Tenant. If possession is not so
tendered within ninety (90) days following the commencement date set forth in the Basic
Lease Terms, then Tenant may elect to terminate this Lease by notice to Landlord within ten
(10) days following expiration of the ninety (90)-day period. Landlord shall have no
liability to Tenant for delay in delivering possession. The expiration date of this Lease
shall be the date stated in the Basic Lease Terms or, if later, the last day of the calendar
month that is the number of full calendar months stated in the Basic Lease Terms from the
month in which the commencement date occurs. The Premises shall be improved in accordance
with Exhibit B. The existence of any punchlist-type items shall not postpone the
commencement date of this Lease. Tenants occupancy of the Premises shall constitute
conclusive acceptance of the amount of square footage stated herein, and of the condition of
the Premises.
2.1 Rent Payment.
Tenant shall pay to Landlord the Base Rent for the Premises and any additional rent provided
herein, without deduction or offset. At the same time as execution of the Lease, Tenant
shall pay the Base Rent for the first full month of the Lease term for which rent is
payable. Rent is payable in advance on the first day of each month commencing on the
commencement date of this Lease. Rent for any partial month during the Lease term shall be
prorated to reflect the number of days during the month that Tenant occupies the Premises.
Additional rent means amounts determined under Section 19 of this Lease and any other sums
payable by Tenant to Landlord under this Lease. Rent not paid when due shall bear interest
at the rate of 1 1/2 percent per month, or if less the maximum applicable rate of interest
permitted by law, until paid. Landlord may at its option impose a late charge of the
greater of $.05 for each $1 of rent or $50 for rent payments made more than ten (10) days
late in lieu of interest for the first month of delinquency. Tenant acknowledges that late
payment by Tenant to Landlord of any rent or other sums due under this Lease will cause
Landlord to incur costs not contemplated by this Lease, the exact amount of such costs being
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Standard Form of OFFICE LEASE
Page 2
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Please Initial
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Landlord
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Tenant
JAM/kmm
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extremely difficult and impracticable to ascertain, and that such late charge represents a
fair and reasonable estimate of the costs that Landlord will incur by reason of any such
late payment and is not a penalty. Neither imposition nor collection nor failure to impose
or collect such late charge shall be considered a waiver of any other remedies available for
default. In addition to such late charge, an additional charge of $75 shall be recoverable
by Landlord for any returned checks.
2.2 Prepaid Rent.
Upon the execution of this Lease, Tenant shall pay to Landlord the prepaid rent set forth in
the Basic Lease Terms. Landlords obligations with respect to the prepaid rent are those of
a debtor and not of a trustee, and Landlord can commingle the prepaid rent with Landlords
general funds. Landlord shall not be required to pay Tenant interest on the prepaid rent.
Landlord shall be entitled to immediately endorse and cash Tenants prepaid rent; however,
such endorsement and cashing shall not constitute Landlords acceptance of this Lease. In
the event Landlord does not accept this Lease, Landlord shall promptly return said prepaid
rent to Tenant
3.1 Security Deposit.
At the same time as execution of the Lease by Tenant, Tenant shall pay to Landlord the
amount stated in the Basic Lease Terms as a Security Deposit. Landlord may apply the
Security Deposit to pay the cost of performing any obligation which Tenant fails to perform
within the time required by this Lease, but such application by Landlord shall not waive
Landlords other remedies nor be the exclusive remedy for Tenants default. If the Security
Deposit is applied by Landlord, Tenant shall on demand pay the sum necessary to replenish
the Security Deposit to its original amount. In no event will Tenant have the right to
apply any part of the Security Deposit to any rent or other sums due under this Lease. If
Tenant is not in default at the expiration or termination of this Lease, Landlord shall
return the entire Security Deposit to Tenant, except for the portion designated in the Basic
Lease Terms, if any, which Landlord shall retain as a non-refundable cleaning fee.
Landlords obligations with respect to the Security Deposit are those of a debtor and not of
a trustee, and Landlord can commingle the Security Deposit with Landlords general funds.
Landlord shall not be required to pay Tenant interest on the Security Deposit. Landlord
shall be entitled to immediately endorse and cash Tenants Security Deposit; however, such
endorsement and cashing shall not constitute Landlords acceptance of this Lease. In the
event Landlord does not accept this Lease, Landlord shall return said Security Deposit. If
Landlord sells its interest in the Premises during the term hereof and deposits with or
credits to the purchaser the unapplied portion of the Security Deposit,
thereupon Landlord shall be discharged from any further liability or responsibility with
respect to the Security Deposit.
4.1 Use.
Tenant shall use the Premises as a business for the Tenants Permitted Use stated in the
Basic Lease Terms and for no other purpose without Landlords written consent. In
connection with its use, Tenant shall at its expense promptly comply and cause the Premises
to comply with all applicable laws, ordinances, rules, and regulations of any public
authority (Laws) and shall not annoy, obstruct, or interfere with the rights of other
tenants of the Building. Tenant shall create no nuisance nor allow any objectionable fumes,
noise, light, vibration, radiation, or electromagnetic waves to be emitted from the
Premises. If any sound or vibration produced by Tenants activities is detectable outside
of the Premises, Tenant shall provide such insulation as is required to muffle such sound or
vibration and render it undetectable at Tenants cost. Tenant shall not conduct any
activities that will increase Landlords insurance rates for any portion of the Building or
that will in any manner degrade or damage the reputation of the Building. Tenant shall pay
before delinquency all taxes, assessments, license fees and public charges levied, assessed
or imposed upon its business operations as well as upon all trade fixtures, leasehold
improvements, merchandise and other personal property in or about the Premises.
4.2 Equipment.
Tenant shall install in the Premises only such equipment as is customary for Tenants
Permitted Use and shall not overload the floors or electrical circuits of the Premises or
Building or alter the plumbing or
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wiring of the Premises or Building. Landlord must approve
in advance the location of and manner of installing any wiring or electrical, heat
generating, climate sensitive, or communication equipment or exceptionally heavy articles.
All telecommunications equipment, conduit, cables and wiring, additional dedicated circuits,
and any additional air conditioning required because of heat generating equipment or special
lighting installed by Tenant shall be installed and operated at Tenants expense and, at
Landlords written request shall be removed by Tenant at Tenants sole cost and expense.
Landlord shall have no obligation to permit the installation of equipment by any
telecommunications provider whose equipment is not then servicing the Building. Tenant
shall have no right to install any equipment on or through the roof of the Building, or use
or install or store any equipment or other items outside of the interior boundary of the
Premises.
4.3 Signs and Other Installations.
No signs, awnings, or other apparatus shall be painted on or attached to the Building or
anything placed on any glass or woodwork of the Premises or positioned so as to be visible
from outside the Premises, including any window covering (
e.g.
, shades, blinds,
curtains, drapes, screens, or tinting materials) without Landlords written consent, and
Landlords approval as to design, size, location, and color. All signs installed by Tenant
shall comply with Landlords standards for signs and all applicable codes and all signs and
sign hardware shall be removed upon termination of this Lease with the sign location
restored to its former state unless Landlord elects to retain all or any portion thereof.
Tenant may not install any alarm boxes, foil protection tape, or other security equipment on
the Premises without Landlords prior written consent. Any material violating this
provision may be removed and disposed by Landlord without compensation to Tenant, and Tenant
shall reimburse Landlord for the cost of the same upon request.
4.4 Parking.
If a number of parking spaces is designated in the Basic Lease Terms, then during the term
of this Lease, Landlord shall make available to Tenants employees such number of parking
space(s) at the parking lot servicing the Building. Landlords obligation pursuant to this
Section shall be limited to making such spaces available in whatever manner Landlord deems
appropriate (attended, unattended, marked stalls, or other means), as long as the number of
spaces referred to are made available to Tenant.
Tenant shall be required to pay as rental
for the spaces made available to, and used by, Tenant the established parking rates for the
Building or lot (as the case may be), as adjusted from time to time, and such sum shall be
additional rent payable under this Lease.
5.1 Utilities and Services.
Landlord will furnish water and electricity to the Building at all times and will furnish
heat and air conditioning (if the Building is air conditioned), at building standard levels,
during the normal Building hours as established by Landlord. Janitorial service will be
provided in accordance with the regular schedule of the Building, which schedule and service
may change from time to time. Tenant shall comply with all government laws or regulations
regarding the use or reduction of use of utilities on the Premises. Interruption of
services or utilities shall not be deemed an eviction or disturbance of Tenants use and
possession of the Premises, render Landlord liable to Tenant for damages, or relieve Tenant
from performance of Tenants obligations under this Lease. Landlord shall take all
reasonable steps to correct any interruptions in service caused by defects in utility
systems within Landlords reasonable control. Electrical service furnished will be 110
volts unless different service already exists in the Premises. Tenant shall provide its own
surge protection for power furnished to the Premises. Landlord shall have the exclusive
right to choose the utility service providers to the Premises and may change providers at
its discretion. Tenant shall cooperate with Landlord and the utility service providers at
all times as reasonably necessary, and shall allow Landlord and utility service providers,
reasonable access to the pipes, lines, feeders, risers, wiring, and any other machinery
within the Premises. Tenant shall not contract or engage any other utility provider without
prior written approval of Landlord, which approval Landlord may withhold or condition in
Landlords discretion.
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Standard Form of OFFICE LEASE
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5.2 Extra Usage.
If Tenant uses excessive amounts of utilities or services of any kind because of operation
outside of normal Building hours, high demands from office machinery and equipment,
nonstandard lighting, or any other cause, Landlord may impose a reasonable charge for
supplying such extra utilities or services, which charge shall be payable monthly by Tenant
in conjunction with rent payments. In case of dispute over any extra charge under this
Section, Landlord shall designate a qualified independent engineer whose decision shall be
conclusive on both parties. Landlord and Tenant shall each pay one-half of the cost of such
determination. Landlord reserves the right to install separate meters for any such utility
and to charge Tenant for the cost of such installation.
5.3 Security.
Landlord may but shall have no obligation to provide security service or to adopt security
measures regarding the Premises, and Tenant shall cooperate with all reasonable security
measures adopted by Landlord. Tenant may install a security system within the Premises with
Landlords written consent which will not be unreasonably withheld. Landlord will be
provided with an access code to any security system and shall not have any liability for
accidentally setting off Tenants security system. Landlord may modify the type or amount
of security measures or services provided to the Building or the Premises at any time
without notice.
6.1 Maintenance and Repair.
6.1.1
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Landlord shall maintain and repair in good condition the Building structure, roof, exterior
walls and doors, exterior windows, and common areas of the Building, and the electrical,
mechanical, plumbing, heating and air conditioning systems, facilities and components located
in the Building that are used in common by all tenants of the Building (including replacing
building standard light bulbs). Tenant shall maintain and repair the Premises in good
condition, including, without limitation, maintaining and repairing all walls, floors, and
ceilings, all interior doors, partitions, and windows, and all Premises systems, fixtures, and
equipment that are not the maintenance responsibility of Landlord, as well as damage caused by
Tenant, its agents, employees, contractors, or invitees.
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6.1.2
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Landlord shall have no liability for failure to perform required maintenance and repair
unless written notice of such maintenance or repair is given by Tenant and Landlord fails to
commence efforts to remedy the problem in a reasonable time and manner. Landlord shall have
the right to erect scaffolding and other apparatus necessary for the purpose of making repairs
or alterations to the Building, and Landlord shall have no liability for interference with
Tenants use because of such work. Work may be done during normal business hours. Tenant
shall have no claim against Landlord for any interruption or reduction of
services or interference with Tenants occupancy caused by Landlords maintenance and
repair, and no such interruption or reduction shall be construed as a constructive or other
eviction of Tenant.
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6.1.3
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Landlords cost of repair and maintenance shall be considered operating expenses for
purposes of Section 19.3, except that repair of damage caused by negligent or intentional acts
or breach of this Lease by Tenant, its contractors, agents, or invitees shall be at Tenants
expense.
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6.2 Alterations.
6.2.1
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The Tenant will not be responsible for the end of the lease term removal of any
improvements presented in Exhibit A and B.
Tenant shall not make any alterations,
additions, or improvements to the Premises, change the color of the interior, or install any
wall or floor covering without Landlords prior written consent which may be withheld in
Landlords sole discretion. Should Landlord consent in writing to Tenants alteration of the
Premises, Tenant shall contract with a contractor approved by Landlord for the construction of
such alterations, shall secure all appropriate governmental approvals and permits, and shall
complete such alterations with due diligence in compliance with the plans and specifications
approved by Landlord. All such construction shall be performed in a manner which will not
interfere with the quiet enjoyment of other tenants of the Building. Any such improvements,
alterations, wiring, cables, or conduit installed by Tenant shall at once become part of the
Premises and belong to Landlord except for removable machinery and unattached movable trade
fixtures. Landlord may at its option
, if specified at the time of
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Standard Form of OFFICE LEASE
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approval of the
alteration,
require that Tenant remove any improvements, alterations, wiring, cables or
conduit installed by or for Tenant and restore the Premises to the original condition upon
termination of this Lease. Landlord shall have the right to approve the contractor used by
Tenant for any work in the Premises, and to post notices of nonresponsibility in connection
with work being performed by Tenant in the Premises. Work by Tenant shall comply with all
laws then applicable to the Premises. Tenant shall not allow any liens to attach to the
Building or Tenants interest in the Premises as a result of its activities or any
alterations.
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6.2.2
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Landlord may perform alterations to or change the configuration of the Building, the
Building, the parking area, and other common areas.
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7.1 Indemnity.
Tenant shall indemnify, defend, and hold harmless Landlord and its managing agents and
employees from any claim, liability, damage, or loss occurring in, on, or about the
Premises, or any cost or expense in connection therewith (including attorney fees), arising
out of (a) any damage to any person or property occurring in, on, or about the Premises,
(b) use by Tenant or its agents, invitees or contractors of the Premises and/or the
Building, and/or (c) Tenants breach or violation of any term of this Lease.
7.2 Insurance.
Tenant shall carry liability insurance with limits of not less than Two Million Dollars
($2,000,000) combined single limit bodily injury and property damage which insurance shall
have an endorsement naming Landlord and Landlords managing agent, if any, as an additional
insured, cover the liability insured under Section 7.1 of this Lease and be in form and with
companies reasonably acceptable to Landlord. Prior to occupancy, Tenant shall furnish a
certificate evidencing such insurance which shall state that the coverage shall not be
canceled or materially changed without thirty (30) days advance notice to Landlord and
Landlords managing agent, if any. Tenant shall furnish to Landlord a renewal certificate
at least thirty (30) days prior to expiration of any policy.
8.1 Fire or Casualty.
Major Damage means damage by fire or other casualty to the Building or the Premises which
causes the Premises or any substantial portion of the Building to be unusable, or which will
cost more than 25 percent of the pre-damage value of the Building to repair, or which is not
covered by insurance. In case of Major Damage, Landlord may elect to terminate this Lease
by notice in writing to the Tenant within thirty (30) days after such date. If this Lease
is not terminated following Major Damage, or if damage occurs which is not Major Damage,
Landlord shall promptly restore the Premises to the condition existing just prior to the
damage. Tenant shall promptly restore all damage to tenant improvements or alterations
installed or paid for by Tenant or pay the cost of such restoration to Landlord if Landlord
elects to do the restoration of such improvements. Unless the casualty was caused by
Tenant, rent shall be reduced from the date of damage until the date restoration work being
performed by Landlord is substantially complete, with the reduction to be in proportion to
the area of the Premises not usable by Tenant.
8.2 Waiver of Subrogation.
Tenant shall be responsible for insuring its personal property and trade fixtures located on
the Premises and any alterations or tenant improvements it has made to the Premises.
Neither Landlord, its managing agent nor Tenant shall be liable to the other for any loss or
damage caused by water damage, sprinkler leakage, or any of the risks that are covered by
property insurance or could be covered by a customary broad form of property insurance
policy, or for any business interruption, and there shall be no subrogated claim by one
partys insurance carrier against the other party arising out of any such loss.
9.1 Eminent Domain.
If a condemning authority takes title by eminent domain or by agreement in lieu thereof to
the entire Building or a portion sufficient to render the Premises unsuitable for Tenants
use, then either party may elect to terminate this Lease effective on the date that
possession is taken by the condemning authority. If
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Standard Form of OFFICE LEASE
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this Lease is not terminated, then rent
shall be reduced for the remainder of the term in an amount proportionate to the reduction
in area of the Premises caused by the taking. All condemnation proceeds shall belong to
Landlord, and Tenant shall have no claim against Landlord or the condemnation award because
of the taking.
10.1 Assignment and Subletting.
Tenant shall not assign or encumber its interest under this Lease or sublet all or any
portion of the Premises without first obtaining Landlords consent in writing. This
provision shall apply to all transfers by operation of law, and to all mergers and changes
in control of Tenant, all of which shall be deemed assignments for the purposes of this
Section. No assignment shall relieve Tenant of its obligation to pay rent or perform other
obligations required by this Lease, and no consent to one assignment or subletting shall be
a consent to any further assignment or subletting. If Tenant proposes a subletting or
assignment for which Landlords consent is required, Landlord shall have the option of
terminating this Lease and dealing directly with the proposed subtenant or assignee, or any
third party. If Landlord does not terminate this Lease, Landlord shall not unreasonably
withhold its consent to any assignment or subletting provided the effective rental paid by
the subtenant or assignee is not less than the current scheduled rental rate of the Building
for comparable space and the proposed Tenant is compatible with Landlords normal standards
for the Building. If an assignment or subletting is permitted, any cash net profit, or the
net value of any other consideration received by Tenant as a result of such transaction
shall be paid to Landlord promptly following its receipt by Tenant. Tenant shall pay any
costs incurred by Landlord in connection with a request for assignment or subletting,
including reasonable attorney fees.
11.1 Default.
Any of the following shall constitute an Event of Default by Tenant under this Lease (time
of performance being of the essence of this Lease):
11.1.1
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Tenants failure to pay rent or any other charge under this Lease within ten (10) days after
it is due.
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11.1.2
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Tenants failure to comply with any other term or condition within twenty (20) days
following written notice from Landlord specifying the noncompliance. If such noncompliance
cannot be cured within the twenty (20)-day period, this provision shall be satisfied if Tenant
commences correction within such period and thereafter proceeds in good faith and with
reasonable diligence to complete correction as soon as possible but not later than ninety (90)
days after the date of Landlords notice.
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11.1.3
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Failure of Tenant to execute the documents described in Section 16.1 or 16.3 within the time
required under such Sections; failure of Tenant to provide or maintain the insurance required
of Tenant pursuant hereto; or
failure of Tenant to comply with any Laws as required pursuant hereto within twenty-four
(24) hours after written demand by Landlord.
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11.1.4
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Tenants insolvency, business failure, or assignment for the benefit of its creditors.
Tenants commencement of proceedings under any provision of any bankruptcy or insolvency law
or failure to obtain dismissal of any petition filed against it under such laws within the
time required to answer; or the appointment of a receiver for all or any portion of Tenants
properties or financial records.
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11.1.5
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Assignment or subletting by Tenant in violation of Section 10.1.
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11.1.6
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Vacation or abandonment of the Premises without the written consent of Landlord or failure
to occupy the Premises within twenty (20) days after notice from Landlord tendering
possession.
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11.2 Remedies for Default.
Upon occurrence of an Event of Default as described in Section 11.1, Landlord shall have the
right to the following remedies, which are intended to be cumulative and in addition to any
other remedies provided under applicable law or under this Lease:
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Standard Form of OFFICE LEASE
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11.2.1
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Landlord may at its option terminate this Lease, without prejudice to its right to damages
for Tenants breach. With or without termination, Landlord may retake possession of the
Premises and may use or relet the Premises without accepting a surrender or waiving the right
to damages. Following such retaking of possession, efforts by Landlord to relet the Premises
shall be sufficient if Landlord follows its usual procedures for finding tenants for the space
at rates not less than the current rates for other comparable space in the Building. If
Landlord has other vacant space in the Building, prospective tenants may be placed in such
other space without prejudice to Landlords claim to damages or loss of rentals from Tenant.
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11.2.2
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Landlord may recover all damages caused by Tenants default which shall include an amount
equal to rentals lost because of the default, Lease commissions paid for this Lease, and the
unamortized cost of any tenant improvements installed by or paid for by Landlord. Landlord
may sue periodically to recover damages as they occur throughout the Lease term, and no action
for accrued damages shall bar a later action for damages subsequently accruing. Landlord may
elect in any one action to recover accrued damages plus damages attributable to the remaining
term of the Lease. Such damages shall be measured by the difference between the rent under
this Lease and the reasonable rental value of the Premises for the remainder of the term,
discounted to the time of judgment at the prevailing interest rate on judgments.
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11.3 Landlords Right To Cure Default.
Landlord may, but shall not be obligated to, make any payment or perform any obligation
which Tenant has failed to perform when required under this Lease. All of Landlords
expenditures incurred to correct the failure to perform shall be reimbursed by Tenant upon
demand with interest from the date of expenditure at the rate of 1 1/2 percent per month.
Landlords right to correct Tenants failure to perform is for the sole protection of
Landlord and the existence of this right shall not release Tenant from the obligation to
perform all of the covenants herein required to be performed by Tenant, or deprive Landlord
of any other right which Landlord may have by reason of default of this Lease by Tenant,
whether or not Landlord exercises its right under this Section.
12.1 Surrender; Holdover.
On expiration or early termination of this Lease, Tenant shall deliver all keys to Landlord
and surrender the Premises vacuumed, swept, and free of debris and in the same condition as
at the commencement of the term subject only to reasonable wear from ordinary use. Tenant
shall remove all of its furnishings and trade fixtures that remain its property and any
alterations, cables, or conduits if required by Section 6.2, and shall repair all damage
resulting from such removal. Failure to remove shall be an abandonment of the property,
and, following ten (10) days written notice, Landlord may remove or dispose of it in any
manner without liability, and recover the cost of removal and other damages from Tenant. If
Tenant fails to vacate the Premises when required, including failure to remove all its
personal property, Landlord may elect
either: (i) to treat Tenant as a tenant from month to month, subject to the provisions of
this Lease except that rent shall be one-and-one-half
quarter
times the total rent
being charged when the Lease term expired, and any option or other rights regarding
extension of the term or expansion of the Premises shall no longer apply; or (ii) to eject
Tenant from the Premises (using self-help or otherwise) and recover damages caused by
wrongful holdover.
13.1 Regulations.
Landlord shall have the right but shall not be obligated to make, revise and enforce rules
and regulations or policies consistent with this Lease for the purpose of promoting safety,
health, order, economy, cleanliness, and good service to all tenants of the Building,
including, but not limited to, moving, use of common areas, and prohibition of smoking. All
such regulations and policies including those, if any, attached to this Lease, shall be
complied with as if part of this Lease and failure to comply shall be a default.
14.1 Access.
During times other than normal Building hours, Tenants officers and employees or those
having business with Tenant may be required to identify themselves or show passes in order
to gain access to the Building. Landlord shall have no liability for permitting or refusing
to permit access by anyone. Landlord may regulate access to any Building elevators outside
of normal Building hours. Landlord shall have the right
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Standard Form of OFFICE LEASE
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to enter upon the Premises at any
time by passkey or otherwise to determine Tenants compliance with this Lease, to perform
necessary services, maintenance and repairs or alterations to the Building or the Premises,
to post notices of nonresponsibility, or to show the Premises to any prospective tenant or
purchasers. Except in case of emergency, such entry shall be at such times and in such
manner as to minimize interference with the reasonable business use of the Premises by
Tenant.
14.2 Furniture and Bulky Articles.
Tenant shall move furniture and bulky articles in and out of the Building or make
independent use of any elevators only at times approved by Landlord following at least 24
hours written notice to Landlord of the intended move.
15.1 Notices.
Notices between the parties relating to this Lease shall be in writing, effective when
delivered during business hours by facsimile transmission, hand delivery, private courier,
or first-class or certified U.S. mail. Notices shall be delivered postage prepaid, to the
address or facsimile number for the party stated in the Basic Lease Terms or to such other
address as either party may specify by notice to the other. Notice to Tenant may always be
delivered to the Premises. Rent shall be payable to Landlord at the same address and in the
same manner, but shall be considered paid only when received.
16.1 Subordination and Attornment.
This Lease shall be subject to and subordinate to any mortgages, deeds of trust, ground
lease, master lease, or land sale contracts (hereafter collectively referred to as
encumbrances) now existing against the Building. At Landlords option this Lease shall be
subject and subordinate to any future encumbrance, ground lease, or master lease hereafter
placed against the Building (including the underlying land) or any modifications of existing
encumbrances, and Tenant shall execute such documents as may reasonably be requested by
Landlord or the holder of the encumbrance to evidence this subordination. If any
encumbrance is foreclosed, then if the purchaser at foreclosure sale gives to Tenant a
written agreement to recognize Tenants Lease, Tenant shall attorn to such purchaser and
this Lease shall continue.
16.2 Transfer of Building.
If the Building is sold or otherwise transferred by Landlord or any successor, Tenant shall
attorn to the purchaser or transferee and recognize it as the landlord under this Lease,
and, provided the purchaser or transferee assumes all obligations under this Lease
thereafter accruing, the transferor shall have no further liability hereunder.
16.3 Estoppels.
Either party will within ten (10) days after notice from the other execute, acknowledge, and
deliver to the other party a certificate certifying whether or not this Lease has been
modified and is in full force and effect; whether there are any modifications or alleged
breaches by the other party; the dates to which rent has been paid in advance, and the
amount of any security deposit or prepaid rent; and any other facts that may reasonably be
requested. Failure to deliver the certificate within the specified time shall be conclusive
upon the party of whom the certificate was requested that the Lease is in full force and
effect and has not been modified except as may be represented by the party requesting the
certificate. If requested by the holder of any encumbrance, or any underlying lessor,
Tenant will agree to give such holder or lessor notice of and an opportunity to cure any
default by Landlord under this Lease.
17.1 Attorney Fees.
In any litigation arising out of this Lease, including any bankruptcy proceeding, the
prevailing party shall be entitled to recover attorney fees at trial and on any appeal or
petition for review. If Landlord incurs attorney fees because of a default by Tenant,
Tenant shall pay all such fees whether or not litigation is filed. If Landlord employs a
collection agency to recover delinquent charges, Tenant agrees to pay all collection agency
and other fees charged to Landlord in addition to rent, late charges, interest, and other
sums payable under this Lease.
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Standard Form of OFFICE LEASE
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18.1 Quiet Enjoyment.
Landlord warrants that as long as Tenant complies with all terms of this Lease, it shall be
entitled to possession of the Premises free from any eviction or disturbance by Landlord or
parties claiming through Landlord.
18.2 Limitation on Liability.
Notwithstanding any provision in this Lease to the contrary, neither Landlord nor its
managing agent or employees shall have any liability to Tenant for loss or damages to
Tenants property from any cause, nor arising out of the acts, including criminal acts, of
other tenants of the Building or third parties, nor any liability for consequential damages,
nor liability for any reason which exceeds the value of its interest in the Building.
19.1 Additional Rent: Tax Adjustment.
Tenant shall pay to Landlord, as additional rent, Tenants Proportionate Share of real
property taxes for the Building and its underlying land. Effective January 1 of each year
Landlord shall estimate the amount of real property taxes for the ensuing calendar year.
Tenant shall pay each month, at the same time as Base Rent, one twelfth of Landlords
estimate of Tenants Proportionate Share of real property taxes, provided that Landlord may
revise its estimate during any year with reasonable cause and the additional estimate shall
be payable as equal additions to rent for the remainder of the calendar year. Following
the end of each calendar year, or when actual tax year information becomes available,
Landlord shall compute the actual real property taxes and bill Tenant for any deficiency or
credit Tenant with any excess collected. Tenant shall pay any such deficiency within thirty
(30) days after Landlords billing, whether or not this Lease shall have expired or
terminated at the time of such billing. Real property taxes as used herein shall mean all
taxes and assessments of any public authority against the Building and the land on which it
is located, the cost of contesting any tax and any form of fee or charge imposed on Landlord
as a direct consequence of owning or leasing the Premises, including but not limited to,
rent taxes, gross receipt taxes, leasing taxes, or any fee or charge wholly or partially in
lieu of or in substitution for ad valorem real property taxes or assessments, whether now
existing or hereafter enacted. If any portion of the Building is occupied by a tax-exempt
tenant so that the Building has a partial tax exemption under ORS 307.112 or a similar
statute, then real property taxes shall mean taxes computed as if such partial exemption did
not exist. If a separate assessment or identifiable tax increase arises because of
improvements to the Premises, then Tenant shall pay 100 percent of such increase.
19.2 Additional Rent: Cost-of-Living Adjustment.
Effective on each anniversary following the Commencement Date of this Lease, the Landlord
shall be entitled to recover additional rent which shall be a percentage of Base Rent equal
to the percentage increase, if any, in the Consumer Price Index published by the United
States Department of Labor, Bureau of Labor Statistics. The percentage increase shall be
computed by comparing the schedule entitled West Urban Region, All Items, 1982 84 = 100
for the latest available month three months preceding the month in which the Lease term
commenced with the same figure for the same month in the years for which the adjustment is
computed. All comparisons shall be made using index figures derived from the same base
period and in no event shall this provision operate to decrease the monthly rent for the
Premises below the monthly Base Rent, plus property tax adjustments and operating expense
adjustments as provided in this Lease. If the index cited above is revised or discontinued
during the term of this Lease then the index that is designated by the Portland Metropolitan
Association of Building Owners and Managers to replace it shall be used.
19.3 Additional Rent: Operating Expense Adjustment.
Tenant shall pay as additional rent Tenants Proportionate Share of the amount by which
operating expenses for the Building increase over those experienced by Landlord during the
Base Year for expenses stated in the Basic Lease Terms. Effective January 1 of each year
Landlord shall estimate the amount by which operating expenses are expected to increase, if
any, over those incurred in the base year. Monthly rent for that year shall be increased by
one-twelfth of Tenants share of the estimated increase, provided
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Standard Form of OFFICE LEASE
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that Landlord may revise
its estimate during any year with reasonable cause and the additional estimate shall be
payable as equal additions to rent for the remainder of the calendar year. Following the
end of each calendar year, Landlord shall compute the actual increase in operating expenses
and bill Tenant for any deficiency or credit Tenant with any excess collected. Tenant shall
pay any such deficiency within thirty (30) days after Landlords billing, whether or not
this Lease shall have expired or terminated at the time of such billing. As used herein
operating expenses shall mean all costs of operating, maintaining, and repairing the
Building as determined by standard real estate accounting practice, including, but not
limited to: all water and sewer charges; the cost of natural gas and electricity provided
to the Building; janitorial and cleaning supplies and services; administration costs and
management fees; superintendent fees; security services, if any; insurance premiums;
licenses, permits for the operation and maintenance of the Building and all of its component
elements and mechanical systems; ordinary and emergency repairs and maintenance, and the
annual amortized capital improvement cost (amortized over such a period as Landlord may
select but not shorter than the period allowed under the Internal Revenue Code and at a
current market interest rate) for any capital improvements to the Building required by any
governmental authority or those which have a reasonable probability of improving the
operating efficiency of the Building. Operating Expenses shall also include all
assessments under recorded covenants or master plans and/or by owners associations. If
electricity or other energy costs increase between the date of this Lease and last day of
the Base Year, (i) Tenant shall pay to Landlord, on a monthly basis as additional rent, its
Proportionate Share of such cost increase for the period from the date of such increase
until the first estimated payment due under this Section, and (ii) Landlord may adjust the
calculation of Base Year operating expenses by using the energy costs in effect on the date
of this Lease.
19.4 Disputes.
If Tenant disputes any computation of additional rent or rent adjustment under Sections 19.1
through 19.3 of this Lease, it shall give notice to Landlord not later than thirty (30) days
after the notice from Landlord describing the computation in question, but in any event not
later than (thirty) 30 days after expiration or earlier termination of this Lease. If
Tenant fails to give such a notice, the computation by Landlord shall be binding and
conclusive between the parties for the period in question. If Tenant gives a timely notice,
the dispute shall be resolved by an independent certified public accountant selected by
Landlord whose decision shall be conclusive between the parties. Each party shall pay
one-half of the fee for making such determination except that if the adjustment in favor of
Tenant does not exceed 10 percent of the escalation amounts for the year in question, Tenant
shall pay (i) the entire cost of any such third-party determination; and (ii) Landlords
out-of-pocket costs and reasonable expenses for personnel time in responding to the audit.
Nothing herein shall reduce Tenants obligations to make all payments as required by this
Lease. In
no event shall Landlord have any liability to Tenant based on its calculation of additional
rent or rent adjustments except and only the obligation to cause any correction to be made
pursuant to this Section 19.4. Tenant shall maintain as strictly confidential the existence
and resolution of any dispute regarding rent charges hereunder.
20.1 Hazardous Materials.
Neither Tenant nor Tenants agents or employees shall cause or permit any Hazardous
Material, as hereinafter defined, to be brought upon, stored, used, generated, released into
the environment, or disposed of on, in, under, or about the Premises, except reasonable
quantities of cleaning supplies and office supplies necessary to or required as part of
Tenants business that are generated, used, kept, stored, or disposed of in a manner that
complies with all laws regulating any such Hazardous Materials and with good business
practices. Tenant covenants to remove from the Premises (or the Building, if applicable),
upon the expiration or sooner termination of this Lease and at Tenants sole cost and
expense, any and all Hazardous Materials brought upon, stored, used, generated, or released
into the environment during the term of this Lease. To the fullest extent permitted by law,
Tenant hereby agrees to indemnify, defend, protect, and hold harmless Landlord, Landlords
managing agent and their respective agents and employees, and their respective successors
and assigns, from any and all claims, judgments, damages, penalties, fines, costs,
liabilities, and losses that arise during or after the term directly or indirectly from the
use, storage, disposal, release, or presence of Hazardous Materials on, in, or about
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Standard Form of OFFICE LEASE
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the Premises which occurs during the term of this Lease. Tenant shall promptly notify Landlord
of any release of Hazardous Materials in, on, or about the Premises that Tenant or Tenants
agents or employees become aware of during the Term of this Lease, whether caused by Tenant,
Tenants agents or employees, or any other persons or entities. As used herein, the term
Hazardous Materials shall mean any hazardous or toxic substance, material, or waste which
is or becomes regulated by any local governmental authority, the state of Oregon or the
United States Government. The term Hazardous Materials shall include, without limitation,
any material or substance that is (i) defined as a hazardous waste, extremely hazardous
waste, restricted hazardous waste, hazardous substance, hazardous material, or
waste under any federal, state, or local law, (ii) petroleum, and (iii) asbestos. The
provisions of this Section 20, including, without limitation, the indemnification provisions
set forth herein, shall survive any termination of this Lease.
20.2 Mold.
Tenant shall not allow or permit any conduct or omission at the Premises, or anywhere on
Landlords property, that will promote or allow the production or growth of mold, spores,
fungus, or any other similar organism, and shall indemnify and hold Landlord harmless from
any claim, demand, cost, and expense (including attorney fees) arising from or caused by
Tenants failure to strictly comply with its obligations under this provision.
21.1 Complete Agreement; No Implied Covenants.
This Lease and the attached Exhibits and Schedules if any, constitute the entire agreement
of the parties and supersede all prior written and oral agreements and representations and
there are no implied covenants or other agreements between the parties except as expressly
set forth in this Lease. Neither Landlord nor Tenant is relying on any representations
other than those expressly set forth herein.
21.2 Space Leased AS IS.
Unless otherwise stated in this Lease, the Premises are leased AS IS in the condition now
existing with no alterations or other work to be performed by Landlord.
21.3 Captions.
The titles to the Sections of this Lease are descriptive only and are not intended to change
or influence the meaning of any Section or to be part of this Lease.
21.4 Nonwaiver.
Failure by Landlord to promptly enforce any regulation, remedy, or right of any kind under
this Lease shall not constitute a waiver of the same and such right or remedy may be
asserted at any time after Landlord becomes entitled to the benefit thereof notwithstanding
delay in enforcement.
21.5 Consent.
Except where otherwise provided in this Lease, either party may withhold its consent for any
reason or for no reason whenever that partys consent is required under this Lease.
21.6 Force Majeure.
If performance by Landlord of any portion of this Lease is made impossible by any
prevention, delay, or stoppage caused by governmental approvals, war, acts of terrorism,
strikes, lockouts, labor disputes, acts of God, inability to obtain services, labor, or
materials or reasonable substitutes for those items, governmental actions, civil commotions,
fire or other casualty, or other causes beyond the reasonable control of Landlord,
performance by Landlord for a period equal to the period of that prevention, delay, or
stoppage is excused.
21.7 Commissions.
Each party represents that it has not had dealings with any real estate broker, finder, or
other person with respect to this Lease in any manner, except for the broker(s) identified
in the Basic Lease Terms. Landlord shall pay a leasing commission in accordance with a
separate agreement between Landlord and broker.
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Standard Form of OFFICE LEASE
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21.8 Successors.
This Lease shall bind and inure to the benefit of the parties, their respective heirs,
successors, and permitted assigns.
21.9 Financial Reports.
Within fifteen (15) days after Landlords request, Tenant will furnish Tenants most recent
audited financial statements (including any notes to them) to Landlord, or, if no such
audited statements have been prepared, such other financial statements (and notes to them)
as may have been prepared by an independent certified public accountant or, failing those,
Tenants internally prepared financial statements. Landlord will not disclose any
aspect of Tenants financial statements except (1) to Landlords lenders or prospective
purchasers of the Building who have executed a sales contract with Landlord, (2) in
litigation between Landlord and Tenant, or (3) if required by court order.
21.10 Waiver of Jury Trial
.
To the maximum extent permitted by law, Landlord and Tenant each waive right to trial by
jury in any litigation arising out of or with respect to this Lease.
21.11 Exhibits.
The following Exhibits are attached hereto and incorporated as a part of this Lease:
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Exhibit A -
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Premises
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Exhibit B -
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Work Agreement
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Exhibit C -
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Rules and Regulations
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IN WITNESS WHEREOF, the duly authorized representatives of the parties have executed this Lease as
of the day and year first written above.
LANDLORD:
Durham Plaza, LLC
By:
/s/ Jerry Powell
c/o NAI Norris, Beggs & Simpson
121 SW Morrison Street, Suite 200
Title:
Managing Member
Portland, OR 97204
(503) 273-0256 fax
(503) 223-7181 phone
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TENANT:
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By:
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/s/ Steven Moore
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Title:
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Vice President & Chief Financial Officer
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Standard Form of OFFICE LEASE
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Standard Form of OFFICE LEASE
© 2004 PORTLAND METROPOLITAN ASSOCIATION OF BUILDING OWNERS AND MANAGERS
EXHIBIT B
Work Agreement
SECTION 1 IMPROVEMENTS PROVIDED BY LANDLORD.
Unless otherwise agreed by Landlord and Tenant in an addendum to the Lease, Landlord shall provide
the following improvements in the Premises (Landlords Work) and shall obtain, at Landlords
cost, the permits therefor:
Landlord shall improve the Premises in accordance with Exhibit A, this Exhibit B, and the
Tenant Improvement Standards included in Exhibit A, using Building Standard Materials (BSM) which
BSMs shall be subject to change as reasonably determined by Landlord. Any costs for Landlords
Work as a result of a change order use of the alternate items described in Exhibit A or Tenant
delay shall be paid for by Tenant to Landlord within fifteen (15) days of receipt of written demand
for such costs from Landlord.
SECTION 2 IMPROVEMENTS PROVIDED AT TENANTS EXPENSE.
Unless otherwise agreed by Landlord and Tenant in an addendum attached to the Lease, all
improvements constructed in the Premises in addition to those listed in Section 1 of this Work
Agreement shall be approved in writing by Landlord pursuant to Section 3 of this Work Agreement and
the cost thereof, including the cost of obtaining all necessary permits and approvals, shall be
paid by Tenant.
SECTION 3 DESIGN OF TENANT IMPROVEMENTS.
Tenant shall retain the services of a licensed qualified architect or engineer, approved in advance
by Landlord, to prepare the necessary drawings, including, without limitation, Basic Plans and
Working Plans as described below for construction of the tenant improvements (Tenants Plans).
All Tenants Plans shall be prepared at Tenants expense and shall be subject to the prior written
approval of Landlord.
Tenants architect or engineer shall determine that the work shown on Tenants Plans is compatible
with the basic Building plans and that necessary basic Building modifications are included in
Tenants Plans. All such modifications, including, without limitation, all penetrations of the
Building shell, shall be subject to Landlords approval and the cost thereof shall be paid by
Tenant.
The Basic Plans shall include (i) fully dimensional architectural floor plans showing partition
layout, clearly identifying and locating equipment requiring special plumbing or mechanical
systems, areas subject to above normal loads, special openings in the floor, ceiling, or walls, and
other major or special features; (ii) fully dimensional plans locating telephone and electrical
receptacles, outlets, and other items requiring electrical power (for special conditions,
equipment, power requirements, and manufacturers model numbers must be included); (iii) a lighting
layout showing locations of all light fixtures and partitions; and (iv) any proposed alterations in
or about the Premises. Four sets of the Basic Plans shall be delivered to Landlord within
days after Reference Date of the Lease.
Landlord shall review the Basic Plans and shall either approve the Basic Plans or reject them, in
which case Landlord shall specify the deficiencies in the Basic Plans as submitted. If the Basic
Plans are rejected, Tenant shall resubmit revised Basic Plans as soon as practicable until
Landlords approval has been obtained. Following Landlords approval of the Basic Plans, Tenants
architect or engineer shall produce full working drawings for construction sufficient to obtain all
necessary permits and with sufficient detail to construct the improvements, including
specifications for every item included thereon (the Working Plans). The Working Plans shall be
delivered to Landlord within thirty (30) days after Landlords approval of the Basic Plans.
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Tenant shall be responsible for delays and additional costs in completion of Tenants improvements
caused by changes made to any of Tenants Plans after the delivery dates specified above in this
Section 3, by inadequacies in any of Tenants Plans, or by delays in delivery of special materials
requiring long lead times, and for any other costs or expenses that do not result from the
negligence or default of Landlord.
SECTION 4 CONSTRUCTION OF TENANT IMPROVEMENTS.
Upon completion of the Working Plans and at the request of Tenant, Landlord and its contractor
shall provide to Tenant in writing an estimate of the cost of improvements to be provided at
Tenants expense pursuant to Section 2 of this Work Agreement. Within five (5) days after Tenants
receipt of such estimated cost, Tenant shall delete any items which Tenant elects not to have
constructed and shall authorize construction of the balance of the improvements. In the absence of
such written authorization, Landlord shall not be obligated to commence work on the Premises and
Tenant shall be responsible for any costs due to any resulting delay in completion of the Premises.
If required by Landlords contractor, Tenant shall enter into a construction contract with respect
to the construction of its improvements. Notwithstanding the provisions of this Section 4, Tenant
may request Landlords approval to use a contractor other than Landlords for the construction of
Tenants improvements. Tenant shall include with any request for such approval a written estimate
by Tenants contractor of the cost of the improvements. Landlord shall respond to any request for
such approval within ten (10) days after receipt of the request. If Landlord approves Tenants
request to use its own contractor, the work performed by such contractor shall be in conformance
with the provisions of Section 4 of this Work Agreement.
If Landlords contractor is to construct Tenants improvements, then prior to commencement of
construction of the improvements, Tenant shall either (i) deposit with Landlord cash in an amount
equal to the estimated cost of the improvements to be installed at Tenants expense pursuant to
Section 2 of this Work Agreement; or (ii) provide Landlord with other evidence or assurance, such
as a bond or letter of credit, satisfactory to Landlord of Tenants ability to pay the estimated
cost of such improvements. Landlords contractor shall then complete the improvements in
accordance with the Working Plans. Any additional amounts payable by Tenant for the actual cost of
the improvements shall be paid on or before the Commencement of the Lease, or upon receipt of the
final accounting. If cash is deposited by Tenant as provided above in this Section 4, any excess
paid by Tenant over the actual cost of the improvements shall be promptly refunded to Tenant by
Landlord.
If Tenant desires any change to its improvements, Tenant shall submit a written request for such
change to Landlord, together with all plans and specifications necessary to show and explain
changes from the approved Working Plans. Any such change shall be subject to Landlords approval.
If Landlords contractor is constructing Tenants improvements, Landlord or such contractor shall
notify Tenant in writing of the amount, if any, which will be charged or credited to Tenant to
reflect the cost of such change.
If any work is to be performed in connection with the improvements on the Premises by Tenants
contractor as provided in Section 4 of this Work Agreement, such work shall conform to the
following requirements:
4.1.1
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Such work shall proceed only upon Landlords written approval of the public liability and
property damage insurance carried by Tenants contractor. Landlord shall have the right to
require Tenants contractor to post a payment or performance bond in an amount equal to the
estimated cost of the work to be performed by such contractor. Tenant shall supply Landlord
with the name, address, and emergency telephone number for Tenants contractor and all
subcontractors retained by Tenants contractor.
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4.1.2
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All such work shall be done in conformity with a valid building permit and other permits
when required, a copy of which shall be furnished to Landlord before such work is commenced,
and in any case, all such work shall be performed in accordance with all applicable
governmental regulations and all applicable safety regulations established by Landlord or its
contractor for the Building generally. Notwithstanding any failure by Landlord to object to
any such work, Landlord shall have no responsibility for Tenants failure to comply with all
applicable governmental regulations.
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Standard Form of OFFICE LEASE
Page 15
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4.1.3
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Landlord may require that all such work be performed by union labor in accordance with any
union labor agreements applicable to the trades being employed at the Building.
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4.1.4
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All such work shall be scheduled through Landlord and shall be performed in a manner and at
times which do not impede or delay any work on the Premises being performed by Landlords
contractor.
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4.1.5
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Tenants contractor shall store any materials only in the Premises or in such other space as
may be designated by Landlord or its contractor from time to time. All trash and surplus
construction materials shall also be stored within the Premises and shall be promptly removed
from the Building.
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Tenants entry into the Premises for any purpose, including without limitation inspection or
performance of work by Tenants contractor, prior to the Commencement Date, shall be subject to all
the terms and conditions of the Lease, including without limitation the provisions of the Lease
relating to the maintenance of insurance and indemnification by Tenant, but excluding the
provisions of the Lease relating to the payment of rent. Tenants entry shall mean entry by
Tenant, its officers, contractors, licensees, agents, servants, employees, guests, invitees, or
visitors.
Tenant shall indemnify and hold harmless Landlord from and against any and all claims, losses,
liabilities, and expenses (including without limitation attorney fees) arising out of or in any way
related to the activities of Tenants contractors (and any subcontractors) in the Premises or the
Building. Without limiting the generality of the foregoing, Tenant shall promptly reimburse
Landlord upon demand for any extra expense incurred by the Landlord as a result of faulty work done
by Tenant or its contractors, any delays caused by such work, or inadequate clean-up.
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Standard Form of OFFICE LEASE
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EXHIBIT C
Rules & Regulations
1.
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The entrances, halls, corridors, stairways, exits, and elevators shall not be obstructed by
any of the tenants or used for any purpose other than for ingress from their respective
premises. The entrances, halls, corridors, stairways, exits, and elevators are not intended
for use by the general public but for the tenant and its employees, licensees, and invitees.
Landlord reserves the right to control and operate the public portions of the Building and the
public facilities, as well as facilities furnished for the common use of the tenants, in such
manner as it in its reasonable judgment deems best for the benefit of the tenants generally.
No tenant shall invite to the tenants premises, or permit the visit of, persons in such
numbers or under such conditions as to interfere with the use and enjoyment of any of the
plazas, entrances, corridors, elevators, and other facilities of the Building by any other
tenants. Fire exits and stairways are for emergency use only, and they will not be used for
any other purpose.
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2.
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Landlord may refuse admission to the Building outside of the business hours of the Building
to any person not producing identification satisfactory to Landlord. If Landlord issues
identification passes, Tenant shall be responsible for all persons for whom it issues any such
pass and shall be liable to Landlord for all acts or omissions of such persons.
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3.
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No awnings or other projections shall be attached to the outside walls of the Building. No
curtains, blinds, shade, or screens, if any, which are different from the standards adopted by
Landlord for the Building shall be attached to or hung in any exterior window or door of the
premises of any tenant without the prior written consent of Landlord.
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4.
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No sign, placard, picture, name lettering, advertisement, notice, or object visible from the
exterior of any tenants premises shall be displayed in or on the exterior windows or doors,
or on the outside of any tenants premises, or at any point inside any tenants premises where
the same might be visible outside of such premises, without the prior written consent of
Landlord. Landlord may adopt and furnish to tenants general guidelines relating to signs
inside the Building and Tenant shall conform to such guidelines. All approved signs or
lettering shall be prepared, printed, affixed, or inscribed at the expense of the tenant and
shall be of a size, color, and style acceptable to Landlord.
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5.
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The windows that reflect or admit light and air into the halls, passageways, or other public
places in the Building shall not be covered or obstructed by any tenant, nor shall any
bottles, parcels, or other articles be placed on the windowsills.
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6.
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No showcases or other articles shall be put in front of or affixed to any part of the
exterior of the Building, nor placed in the halls, corridors, or vestibules.
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7.
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No bicycles, vehicles, animals, fish, or birds of any kind shall be brought into or kept in
the premises of any tenant or the Building.
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8.
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No noise, including, but not limited to, music or the playing of musical instruments,
recordings, radio or television, which, in the judgment of Landlord, might disturb other
tenants in the Building, shall be made or permitted by any tenant.
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9.
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No tenant, nor any tenants contractors, employees, agents, visitors, invitees or licensees,
shall at any time bring into or keep upon the premises or the Building any inflammable,
combustible, explosive, environmentally hazardous or otherwise dangerous fluid, chemical, or
substance.
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10.
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All movement of freight, furniture, packages, boxes, crates, or any other object or matter of
any description must take place during such hours and in such elevators, and in such manner as
Landlord or its agent may determine from time to time. Any labor and engineering costs
incurred by Landlord in connection with any moving herein specified, shall be paid by Tenant
to Landlord, on demand.
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11.
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No tenant shall use its premises, or permit any part thereof to be used, for manufacturing or
the sale at retail or auction of merchandise, goods, or property of any kind, unless said use
is consistent with the use provisions of the Lease.
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12.
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Landlord shall have the right to prescribe the weight and position of safes and other objects
of excessive weight, and no safe or other object whose weight exceeds the lawful load for the
area upon which it would stand shall be brought into or kept upon any tenants premises. If,
in the judgement of Landlord, it is necessary to distribute the concentrated weight of any
heavy object, the work involved in such distribution shall be done at the expense of the
tenant and in such manner as Landlord shall determine.
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13.
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Landlord, its contractors, and their respective employees, shall have the right to use,
without charge therefor, all light, power, and water in the premises of any tenant while
cleaning or making repairs or alterations in the premises of such tenant.
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14.
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No premises of any tenant shall be used for lodging or sleeping or for any immoral or illegal
purpose.
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15.
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The requirements of tenants for any services by Landlord will be attended to only upon prior
application to the Landlord. Employees of Landlord shall not perform any work or do anything
outside of their regular duties, unless under special instructions from Landlord.
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16.
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Canvassing, soliciting, and peddling in the Building are prohibited and each tenant shall
cooperate to prevent the same.
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17.
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Each tenant shall store its trash and garbage within its premises. No material shall be
placed in the trash boxes or receptacles if such material is of such nature that it may not be
disposed of in the ordinary and customary manner of removing and disposing of office building
trash and garbage in the area of the Building without being in violation of any law or
ordinance governing such disposal. All garbage and refuse disposal shall be made only through
entryways and elevators provided for such purposes and at such times as Landlord shall
designate. No tenant shall cause or permit any unusual or objectionable odors to emanate from
its premises which would annoy other tenants or create a public or private nuisance.
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18.
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No coin vending machine, video game, coin or token operated amusement device, or similar
machine shall be used or installed in any tenants premises without Landlords prior written
consent.
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19.
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No bankruptcy, going out of business, liquidation, or other form of distress sale shall be
held on any of tenants premises. No advertisement shall be done by loudspeaker, barkers,
flashing lights, or displays or other methods not consistent with the character of an office
building.
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20.
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Nothing shall be done or permitted in any tenants premises, and nothing shall be brought
into or kept in any tenants premises, which would impair or interfere with the economic
heating, cleaning, or other servicing of the Building or the premises, or the use or enjoyment
by any other tenant of any other premises, nor shall there be installed by any tenant any
ventilating, air conditioning, electrical, or other equipment of any kind which, in the
reasonable judgment of Landlord, might cause any such impairment or interference.
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21.
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No acids, vapors, or other similar caustic materials shall be discharged or permitted to be
discharged into the waste lines, vents, or flues of the Building. The water and wash closets
and other plumbing fixtures in or serving any tenants premises shall not be used for any
purpose other than the purposes for which they were designed or constructed, and no sweepings,
rubbish, rags, acids, or other foreign substances shall be deposited therein. All damages
resulting from any misuse of the fixtures shall be borne by the tenant who, or whose servants,
employees, agents, invitees, visitors, or licensees shall have caused the same.
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22.
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All entrance doors in each tenants premises shall be left locked and all windows shall be
left closed by the tenant when the tenants premises are not in use. Entrance doors to the
tenants premises shall not be left open at any time. Each tenant, before closing and leaving
its premises at any time, shall turn out all lights.
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23.
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Hand trucks not equipped with rubber tires and side guards shall not be used within the
Building.
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24.
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Landlord reserves the right to rescind, modify, alter, or waive any rule or regulation at any
time prescribed for the Building when, in its reasonable judgment, it deems it necessary,
desirable or proper for its best interest and for the best interests of the tenants generally,
and no alteration or waiver of any rule or regulation in favor of any tenant shall constitute
a waiver or alteration in favor of any other tenant. Landlord shall not be responsible to any
tenant for the nonobservance or violation by any other tenant of any of the rules and
regulations at any time prescribed for the Building.
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25.
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Landlord reserves the right to add to, modify, or otherwise change these Rules and
Regulations. Such changes shall become effective when written notice thereof is provided to
tenants of the Building.
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