NVIDIA
CORPORATION AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Revenue
Recognition
Product
Revenue
We
recognize revenue from product sales when persuasive evidence of an arrangement
exists, the product has been delivered, the price is fixed and determinable, and
collection is reasonably assured. For most sales, we use a binding purchase
order and in certain cases we use a contractual agreement as evidence of an
arrangement. We consider delivery to occur upon shipment provided title and risk
of loss have passed to the customer based on the shipping terms. At the point of
sale, we assess whether the arrangement fee is fixed and determinable and
whether collection is reasonably assured. If we determine that collection of a
fee is not reasonably assured, we defer the fee and recognize revenue at the
time collection becomes reasonably assured, which is generally upon receipt of
payment.
Our
policy on sales to certain distributors, with rights of return, is to defer
recognition of revenue and related cost of revenue until the distributors resell
the product.
We record
estimated reductions to revenue for customer programs at the time revenue is
recognized. Our customer programs primarily involve rebates, which are designed
to serve as sales incentives to purchasers of our products. We
account for rebates in accordance with Emerging Issues Task Force Issue 01-9, or
EITF 01-09,
Accounting for
Consideration Given by a Vendor to a Customer (Including a Reseller of the
Vendor’s Products)
and, as such, we accrue for 100% of the potential
rebates and do not apply a breakage factor. Rebates typically expire six months
from the date of the original sale, unless we reasonably believe that the
customer intends to claim the rebate. Unclaimed rebates are reversed to revenue
upon expiration of the rebate.
Our
customer programs also include marketing development funds, or MDFs. We account
for MDFs as either a reduction of revenue or an operating expense in accordance
with EITF 01-09. MDFs represent monies paid to retailers, system builders,
original equipment manufacturers, distributors and add-in card partners that are
earmarked for market segment development and expansion and typically are
designed to support our partners’ activities while also promoting our products.
Depending on market conditions, we may take actions to increase amounts offered
under customer programs, possibly resulting in an incremental reduction of
revenue at the time such programs are offered.
We also
record a reduction to revenue by establishing a sales return allowance for
estimated product returns at the time revenue is recognized, based primarily on
historical return rates. However, if product returns for a particular fiscal
period exceed historical return rates we may determine that additional sales
return allowances are required to properly reflect our estimated exposure for
product returns.
License and Development
Revenue
For
license arrangements that require significant customization of our intellectual
property components, we generally recognize this license revenue using the
percentage-of-completion method of accounting over the period that services are
performed. For all license and service arrangements accounted for under the
percentage-of-completion method, we determine progress to completion based on
actual direct labor hours incurred to date as a percentage of the estimated
total direct labor hours required to complete the project. We periodically
evaluate the actual status of each project to ensure that the estimates to
complete each contract remain accurate. A provision for estimated losses on
contracts is made in the period in which the loss becomes probable and can be
reasonably estimated. Costs incurred in advance of revenue recognized are
recorded as deferred costs on uncompleted contracts. If the amount billed
exceeds the amount of revenue recognized, the excess amount is recorded as
deferred revenue. Revenue recognized in any period is dependent on our progress
toward completion of projects in progress. Significant management judgment and
discretion are used to estimate total direct labor hours. Any changes in or
deviations from these estimates could have a material effect on the amount of
revenue we recognize in any period.
NVIDIA
CORPORATION AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
Adoption
of New Accounting Pronouncements
On
January 28, 2008, we adopted Statement of Financial Accounting Standards No.
157, or SFAS No. 157,
Fair
Value Measurements
. SFAS No. 157 for all financial assets and financial
liabilities recognized or disclosed at fair value in the financial statements.
SFAS No. 157 establishes a framework for measuring fair value and expands
disclosures about fair value measurements. The changes to current practice
resulting from the application of SFAS No. 157 relate to the definition of fair
value, the methods used to measure fair value, and the expanded disclosures
about fair value measurements. The adoption of SFAS No. 157 for
financial assets and liabilities did not have a significant impact on our
consolidated financial statements, and the resulting fair values calculated
under SFAS No. 157 after adoption were not significantly different than the
fair values that would have been calculated under previous guidance. Please
refer to Note 16 of these Notes to the Condensed Consolidated Financial
Statements for further details on our fair value measurements.
Additionally,
in February 2008, the Financial Accounting Standards Board, or FASB, issued FASB
Staff Position No. FAS 157-2, or FSP No. 157-2,
Effective Date of FASB Statement
No. 157, to partially defer FASB Statement No. 157, Fair Value
Measurements
. FSP No. 157-2 defers the effective date of
SFAS No. 157 for non-financial assets and non-financial liabilities, except
those that are recognized or disclosed at fair value in the financial statements
on a recurring basis (at least annually), to fiscal years, and interim periods
within those fiscal years, beginning after November 15, 2008. We do not
believe the adoption of FSP No. 157-2 will have a material impact on our
consolidated financial position, results of operations and cash
flows.
On
January 28, 2008, we adopted Statement of Financial Accounting Standards No.
159, or SFAS No. 159,
The
Fair Value Option for Financial Assets and Financial Liabilities.
SFAS
No. 159 permits companies to choose to measure certain financial
instruments and certain other items at fair value using an
instrument-by-instrument election. The standard requires that unrealized gains
and losses on items for which the fair value option has been elected be reported
in earnings. Under SFAS No. 159, we did not elect the fair value option for any
of our assets and liabilities. The adoption of SFAS No. 159 did not have an
impact on our consolidated financial statements.
In
June 2007, the FASB ratified Emerging Issues Task Force Issue
No. 07-3, or EITF 07-3,
Accounting for Nonrefundable Advance
Payments for Goods or Services to Be Used in Future Research and Development
Activities
. EITF 07-3 requires non-refundable advance payments for goods
and services to be used in future research and development activities to be
recorded as an asset and the payments to be expensed when the research and
development activities are performed. We adopted the provisions of EITF 07-3
beginning with our fiscal quarter ended April 27, 2008. The adoption of EITF
07-3 did not have any impact on our consolidated financial position, results of
operations and cash flows.
Recently
Issued Accounting Pronouncements
In
December 2007, the FASB issued Statement of Financial Accounting
Standards No. 141 (revised 2007), or SFAS No. 141(R),
Business Combinations
. Under
SFAS No. 141(R), an entity is required to recognize the assets
acquired, liabilities assumed, contractual contingencies, and contingent
consideration at their fair value on the acquisition date. It further requires
that acquisition-related costs be recognized separately from the acquisition and
expensed as incurred, restructuring costs generally be expensed in periods
subsequent to the acquisition date, and changes in accounting for deferred tax
asset valuation allowances and acquired income tax uncertainties after the
measurement period impact income tax expense. In addition, acquired in-process
research and development, or IPR&D, is capitalized as an intangible asset
and amortized over its estimated useful life. We are required to
adopt the provisions of SFAS No. 141(R) beginning with our fiscal quarter ending
April 26, 2009. The adoption of SFAS No. 141(R) is expected
to change our accounting treatment for business combinations on a prospective
basis beginning in the period it is adopted.
NVIDIA
CORPORATION AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
Note
2 - Stock-Based Compensation
Effective
January 30, 2006, we adopted the provisions of Statement of Financial Accounting
Standards No. 123(R), or SFAS No. 123(R)
,
Share-based Payment,
which
establishes accounting for stock-based awards exchanged for employee services.
Accordingly, stock-based compensation expense is measured at grant date, based
on the fair value of the awards, and is recognized as expense over the requisite
employee service period. We elected to adopt the modified prospective
application method beginning January 30, 2006 as provided by SFAS No. 123(R). We
recognize stock-based compensation expense using the straight-line attribution
method. We estimate the value of employee stock options on the date of grant
using a binomial model.
Our
condensed consolidated statements of operations include stock-based compensation
expense, net of amounts capitalized as inventory, as follows:
|
|
Three Months Ended
|
|
|
Six
Months Ended
|
|
|
|
July 27,
2008
|
|
|
July 29,
2007
|
|
|
July 27,
2008
|
|
|
July
29,
2007
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Research
and development
|
|
$
|
24,226
|
|
|
$
|
16,421
|
|
|
$
|
48,760
|
|
|
$
|
38,821
|
|
Sales,
general and administrative
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
During
the three and six months ended July 27, 2008, we granted approximately 0.9
million and 9.7 million stock options, respectively, with an estimated total
grant-date fair value of $8.4 million and $95.4 million, respectively, and a per
option weighted average grant-date fair value of $9.07 and $9.88, respectively.
Of the estimated total grant-date fair value, we estimated that the stock-based
compensation expense related to the awards that are not expected to vest was
$1.4 million and $15.7 million for the three and six months ended July 27, 2008,
respectively.
During
the three and six months ended July 29, 2007, we granted approximately 1.4
million and 8.6 million stock options, respectively, with an estimated total
grant-date fair value of $13.7 million and $69.8 million, respectively, and a
per option weighted average grant-date fair value of $10.35 and $8.15,
respectively. Of the estimated total grant-date fair value, we estimated that
the stock-based compensation expense related to the awards that are not expected
to vest was $2.6 million and $13.5 million for the three and six months ended
July 29, 2007, respectively.
As of
July 27, 2008 and July 29, 2007, the aggregate amount of unearned stock-based
compensation expense related to our stock options was $223.9 million and $175.0
million, respectively, adjusted for estimated forfeitures. We will
recognize the unearned stock-based compensation expense related to stock options
over an estimated weighted average amortization period of 1.8 years and 2.0
years, respectively.
Valuation
Assumptions
We
determined that the use of implied volatility is expected to be more reflective
of market conditions and, therefore, can reasonably be expected to be a better
indicator of our expected volatility than historical volatility. We also
segregated options into groups for employees with relatively homogeneous
exercise behavior in order to calculate the best estimate of fair value using
the binomial valuation model. As such, the expected term assumption used
in calculating the estimated fair value of our stock-based compensation awards
using the binomial model is based on detailed historical data about employees'
exercise behavior, vesting schedules, and death and disability
probabilities. Our management believes the resulting binomial calculation
provides a more refined estimate of the fair value of our employee stock
options. For our employee stock purchase plan we continue to use the
Black-Scholes model.
SFAS No.
123(R) also requires forfeitures to be estimated at the time of grant and
revised, if necessary, in subsequent periods if actual forfeitures differ from
those estimates. Forfeitures are estimated based on historical experience. If
factors change and we employ different assumptions in the application of SFAS
No. 123(R) in future periods, the compensation expense that we record under SFAS
No. 123(R) may differ significantly from what we have recorded in the current
period.
NVIDIA
CORPORATION AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
The fair
value of stock options granted during the first half of fiscal years 2009 and
2008, respectively, under our stock option plans and shares issued under our
employee stock purchase plan have been estimated at the date of grant with the
following assumptions:
Stock
Options
|
|
Three
Months Ended
|
|
|
Six
Months Ended
|
|
|
|
July 27,
2008
|
|
|
July 29,
2007
|
|
|
July 27,
2008
|
|
|
July 29,
2007
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Risk
free interest rate
|
|
|
2.9%
- 3.7
|
%
|
|
|
5.0
|
%
|
|
|
2.6%
- 3.7
|
%
|
|
|
4.6%
- 5.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dividend
Yield
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Employee
Stock Purchase Plan
|
|
Three
Months Ended
|
|
|
Six
Months Ended
|
|
|
|
July 27,
2008
|
|
|
July 29,
2007
|
|
|
July 27,
2008
|
|
|
July 29,
2007
|
|
|
|
|
(Using
a Black-Scholes model)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Risk
free interest rate
|
|
|
-
|
|
|
|
-
|
|
|
|
1.6%
- 1.8
|
%
|
|
|
3.5%
- 5.2
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dividend
Yield
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
There
were no grants made under the Employee Stock Purchase Plan during the three
months ended July 27, 2008 and July 29, 2007.
Equity
Incentive Plans
We
consider equity compensation to be long-term compensation and an integral
component of our efforts to attract and retain exceptional executives, senior
management and world-class employees. We believe that properly structured equity
compensation aligns the long-term interests of stockholders and employees by
creating a strong, direct link between employee compensation and stock
appreciation, as stock options are only valuable to our employees if the value
of our common stock increases after the date of grant.
The
description of the key features of the Nvidia Corporation 2007 Equity Incentive
Plan, or the 2007 Plan, PortalPlayer, Inc. 1999 Stock Option Plan, or 1999 Plan,
and 1998 Employee Stock Purchase Plan, may be read in conjunction with the
audited financial statements and notes thereto included in our Annual Report on
Form 10-K for the year ended January 27, 2008.
The
following summarizes the transactions under our equity incentive
plans:
|
|
Options
Available for Grant
|
|
|
Options
Outstanding
|
|
|
Weighted
Average Exercise Price Per Share
|
|
Balances,
January 27, 2008
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NVIDIA
CORPORATION AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
Note
3 – Income Taxes
We
recognized income tax expense (benefit) of ($25.7) million and $28.1 million for
the three months ended July 27, 2008 and July 29, 2007, respectively, and $10.5
million and $49.6 million for the six months ended July 27, 2008 and July
29, 2007, respectively. Income tax expense (benefit) as a percentage of income
before taxes, or our effective tax rate, was (17.5%) and 14.0% for the three
months ended July 27, 2008 and July 29, 2007, respectively, and 15.9% and 14.0%
for the six months ended July 27, 2008 and July 29, 2007,
respectively. Our effective tax rate is lower than the United States
Federal Statutory rate of 35.0% due primarily to income earned in lower tax
jurisdictions and U.S. tax benefit of the federal research tax credits available
in the respective periods.
Our
effective tax rates for the first half of fiscal year 2009 increased to 15.9%
from 14.0% during the first half of fiscal year 2008 primarily due to the
expiration of the federal research tax credit in fiscal year 2009. In
addition, during the three months ended July 27, 2008, we increased our estimate
of the annual effective tax rate for fiscal year 2009 from 17.0% to 22.8%. The
increase in our effective income tax rate was a result of the impact of
non-deductible tax items to our annual effective tax rate caused by the change
in our outlook for the financial results of fiscal year 2009. This
increase in our estimated annual effective tax rate was offset in the second
quarter primarily by a favorable impact from the expiration of statues of
limitations in certain non-U.S jurisdictions, resulting in an effective tax rate
for the first half of fiscal year 2009 of 15.9%.
During
the three months ended July 27, 2008, the Internal Revenue Service closed its
review of our U.S. federal income tax returns for fiscal year 2004 through 2006
with no material changes to our income tax returns as filed. However,
due to net operating losses generated in those and other tax years, we remain
subject to future examination of our U.S. federal income tax returns beginning
in fiscal year 2002 through fiscal year 2008. For the six months
ended July 27, 2008, there have been no other material changes to our tax years
that remain subject to examination by major tax
jurisdictions. Additionally, there have been no material changes to
our unrecognized tax benefits and any related interest or penalties from our
fiscal year ended January 27, 2008.
While we
believe that we have adequately provided for all uncertain tax positions,
amounts asserted by tax authorities could be greater or less than our accrued
position. Accordingly, our provisions on federal, state and foreign tax-related
matters to be recorded in the future may change as revised estimates are made or
the underlying matters are settled or otherwise resolved with the respective tax
authorities. As of July 27, 2008, we do not believe that our estimates, as
otherwise provided for, on such tax positions will significantly increase or
decrease within the next twelve months.
NVIDIA
CORPORATION AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
Note
4 – Net Income (Loss) Per Share
Basic net
income (loss) per share is computed using the weighted average number of common
shares outstanding during the period. Diluted net income (loss) per share is
computed using the weighted average number of common and dilutive common
equivalent shares outstanding during the period, using the treasury stock
method. Under the treasury stock method, the effect of stock options outstanding
is not included in the computation of diluted net income per share for periods
when their effect is anti-dilutive. The following is a reconciliation of the
numerators and denominators of the basic and diluted net income (loss) per share
computations for the periods presented:
|
|
Three
Months Ended
|
|
|
Six
Months Ended
|
|
|
|
July 27,
2008
|
|
|
July 29,
2007
|
|
|
July 27,
2008
|
|
|
July 29,
2007
|
|
|
|
(In
thousands, except per share data)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
income (loss)
|
|
$
|
(120,929
|
)
|
|
$
|
172,732
|
|
|
$
|
55,876
|
|
|
$
|
304,991
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator
for basic net income per share, weighted average shares
|
|
|
555,417
|
|
|
|
547,305
|
|
|
|
555,531
|
|
|
|
544,275
|
|
Effect
of dilutive securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock
options outstanding
|
|
|
-
|
|
|
|
56,525
|
|
|
|
36,650
|
|
|
|
56,682
|
|
Denominator
for diluted net income (loss) per share, weighted average
shares
|
|
|
555,417
|
|
|
|
603,830
|
|
|
|
592,181
|
|
|
|
600,957
|
|
Net
income per share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
net income (loss) per share
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted
net income (loss) per share
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted
net income (loss) per share for the three and six months ended July 27, 2008
does not include the effect of anti-dilutive common equivalent shares from stock
options outstanding of 61.6 million and 33.1 million,
respectively. Diluted net income per share for three and six months
ended July 29, 2007 does not include the effect of anti-dilutive common
equivalent shares from stock options outstanding of 5.1 million and 16.8
million, respectively.
Note
5 - Marketable Securities
We
account for our investment instruments in accordance with Statement of Financial
Accounting Standards No. 115, or SFAS No. 115,
Accounting for Certain Investments
in Debt and Equity Securities,
or SFAS No. 115. All of our cash
equivalents and marketable securities are treated as “available-for-sale” under
SFAS No. 115. Cash equivalents consist of financial instruments which are
readily convertible into cash and have original maturities of three months or
less at the time of acquisition. Marketable securities consist primarily of
highly liquid investments with a maturity of greater than three months when
purchased and some equity investments. We classify our marketable securities at
the date of acquisition in the available-for-sale category as our intention is
to convert them into cash for operations. These securities are reported at fair
value with the related unrealized gains and losses included in accumulated other
comprehensive income (loss), a component of stockholders’ equity, net of
tax. Any unrealized losses which are considered to be
other-than-temporary impairments are recorded in the other expense section of
our consolidated statements of operations. Realized gain (loss) on
the sale of marketable securities is determined using the
specific-identification method. Net realized gain (loss) for the three and
six months ended July 27, 2008 was ($0.1) million and $1.2 million,
respectively. Net realized gains for the three and six months ended
July 29, 2007 were not significant. The unrealized gain (loss) as of July 27,
2008 and July 29, 2007 was ($0.5) million and $1.8 million,
respectively. Please refer to Note 16 of these Notes to the Condensed
Consolidated Financial Statements for further details on our fair value
measurements.
NVIDIA
CORPORATION AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
Note
6 - 3dfx
During
fiscal year 2002, we completed the purchase of certain assets from 3dfx
Interactive, Inc., or 3dfx, for an aggregate purchase price of approximately
$74.2 million. On December 15, 2000, NVIDIA Corporation and one of our indirect
subsidiaries entered into an Asset Purchase Agreement, or the APA, which closed
on April 18, 2001, to purchase certain graphics chip assets from 3dfx. Under the
terms of the APA, the cash consideration due at the closing was $70.0 million,
less $15.0 million that was loaned to 3dfx pursuant to a Credit Agreement dated
December 15, 2000. The APA also provided, subject to the other provisions
thereof, that if 3dfx properly certified that all its debts and other
liabilities had been provided for, then we would have been obligated to pay 3dfx
one million shares, which due to subsequent stock splits now totals six million
shares, of NVIDIA common stock. If 3dfx could not make such a certification, but
instead properly certified that its debts and liabilities could be satisfied for
less than $25.0 million, then 3dfx could have elected to receive a cash payment
equal to the amount of such debts and liabilities and a reduced number of shares
of our common stock, with such reduction calculated by dividing the cash payment
by $25.00 per share. If 3dfx could not certify that all of its debts and
liabilities had been provided for, or could not be satisfied, for less than
$25.0 million, we would not be obligated under the APA to pay any additional
consideration for the assets.
In
October 2002, 3dfx filed for Chapter 11 bankruptcy protection in the United
States Bankruptcy Court for the Northern District of California. In March 2003,
we were served with a complaint filed by the Trustee appointed by the Bankruptcy
Court to represent 3dfx’s bankruptcy estate. The Trustee’s complaint asserts
claims for, among other things, successor liability and fraudulent transfer and
seeks additional payments from us. On October 13, 2005, the Bankruptcy Court
held a hearing on the Trustee’s motion for summary adjudication. On December 23,
2005, the Bankruptcy Court denied the Trustee’s Motion for Summary Adjudication
in all material respects and held that NVIDIA may not dispute that the value of
the 3dfx transaction was less than $108.0 million. The Bankruptcy Court denied
the Trustee’s request to find that the value of the 3dfx assets conveyed to
NVIDIA was at least $108.0 million. In early November 2005, after several months
of mediation, NVIDIA and the Official Committee of Unsecured Creditors, or the
Creditors’ Committee, agreed to a Plan of Liquidation of 3dfx, which included a
conditional settlement of the Trustee’s claims against NVIDIA. This conditional
settlement was subject to a confirmation process through a vote of creditors and
the review and approval of the Bankruptcy Court after notice and hearing. The
conditional settlement called for a payment by NVIDIA of approximately $30.6
million to the 3dfx estate. Under the settlement, $5.6 million related to
various administrative expenses and Trustee fees, and $25.0 million related to
the satisfaction of debts and liabilities owed to the general unsecured
creditors of 3dfx. Accordingly, during the three month period ended October 30,
2005, we recorded $5.6 million as a charge to settlement costs and $25.0 million
as additional purchase price for 3dfx. The Trustee advised that he
intended to object to the settlement. However, the conditional settlement never
progressed substantially through the confirmation process.
On
December 21, 2005, the Bankruptcy Court determined that it would schedule trial
of one portion of the Trustee’s case against NVIDIA. On January 2, 2007, NVIDIA
exercised its right to terminate the settlement agreement on grounds that the
Bankruptcy Court had failed to proceed toward confirmation of the Creditors’
Committee’s plan. A non-jury trial began on March 21, 2007 on valuation issues
in the Trustee's constructive fraudulent transfer claims against NVIDIA.
Specifically, the Bankruptcy Court tried four questions: (1) what did 3dfx
transfer to NVIDIA in the APA?; (2) of what was transferred, what qualifies as
"property" subject to the Bankruptcy Court's avoidance powers under the Uniform
Fraudulent Transfer Act and relevant bankruptcy code provisions?; (3) what is
the fair market value of the "property" identified in answer to question (2)?;
and (4) was the $70 million that NVIDIA paid "reasonably equivalent" to the fair
market value of that property? At the conclusion of the evidence, the Bankruptcy
Court asked the parties to submit post-trial briefing. That briefing was
completed on May 25, 2007. On April 30, 2008, the Bankruptcy Court
issued its Memorandum Decision After Trial, in which it provided a detailed
summary of the trial proceedings and the parties' contentions with respect to
each of the questions to be tried. The Bankruptcy Court concluded
that "the creditors of 3dfx were not injured by the Transaction."
This decision does not entirely dispose of the Trustee's action, however; still
pending are the Trustee's claims for successor liability and intentional
fraudulent conveyance. On May 12, 2008, the Trustee filed a motion
for leave to pursue an interlocutory appeal, but thereafter withdrew the
motion. NVIDIA has filed a motion for summary judgment on all causes
of action in order to convert the Memorandum Decision After Trial to a final
judgment. That motion is scheduled to be heard on August 28,
2008.
The
3dfx asset purchase price of $95.0 million and $4.2 million of direct
transaction costs were allocated based on fair values presented below. The final
allocation of the purchase price of the 3dfx assets is contingent upon the
outcome of all of the 3dfx litigation. Please refer to Note 12 of these Notes to
Condensed Consolidated Financial Statements for further information regarding
this litigation.
|
|
Fair
Market Value
|
|
|
Straight-Line
Amortization Period
|
|
|
|
(In
thousands)
|
|
|
(Years)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NVIDIA
CORPORATION AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
Note
7 – Business Combinations
On
February 10, 2008, we acquired Ageia Technologies, Inc., or Ageia, an industry
leader in gaming physics technology. The combination of the graphics processing
unit, or GPU, and physics engine brands is expected to enhance the visual
experience of the gaming world. The aggregate purchase price consisted of total
consideration of approximately $29.7 million.
On
November 30, 2007, we completed our acquisition of Mental Images, Inc., or
Mental Images, an industry leader in photorealistic rendering technology. Mental
Images’ Mental Ray product is considered by many to be the most pervasive ray
tracing renderer in the industry. The aggregate purchase price consisted of
total consideration of approximately $88.3 million. The total consideration also
includes approximately $7.8 million which reflects an initial investment we made
in Mental Images in prior periods and $5.6 million primarily towards guaranteed
payments subsequent to completion of our acquisition.
We
allocated the purchase price of each of these acquisitions to tangible assets,
liabilities and identifiable intangible assets acquired, as well as IPR&D,
if identified, based on their estimated fair values. The excess of purchase
price over the aggregate fair values was recorded as goodwill. The fair value
assigned to identifiable intangible assets acquired was based on estimates and
assumptions made by management. Purchased intangibles are amortized on a
straight-line basis over their respective useful lives. The allocation of
the purchase price for the Mental Images and Ageia acquisitions have been
prepared on a preliminary basis and reasonable changes are expected as
additional information becomes available.
As of
July 27, 2008, the estimated fair values of the purchase price allocated to
assets we acquired and liabilities we assumed on the respective acquisition
dates were as follows:
|
|
Mental
Images
|
|
|
Ageia
|
|
Fair
Market Values
|
|
(In
thousands)
|
|
Cash
and cash equivalents
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Prepaid
and other current assets
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
In-process
research and development
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Acquisition
related costs
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
liabilities assumed
|
|
|
|
|
|
|
|
|
Purchase
price allocation
|
|
|
|
|
|
|
|
|
|
|
|
Mental
Images
|
|
|
Ageia
|
|
|
|
(Straight-line
depreciation/amortization period)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The
amount of the IPR&D represents the value assigned to research and
development projects of Mental Images that had commenced but had not yet reached
technological feasibility at the time of the acquisition and for which we had no
alternative future use. In accordance with Statement of Financial Accounting
Standards No. 2, or SFAS No. 2,
Accounting for Research and
Development Costs
, as clarified by FASB issued Interpretation No. 4, or
FIN 4,
Applicability of FASB
Statement No. 2 to Business Combinations Accounted for by the Purchase Method an
interpretation of FASB Statement No. 2
, amounts assigned to IPR&D
meeting the above-stated criteria were charged to research and development
expenses as part of the allocation of the purchase price.
The pro
forma results of operations for these acquisitions have not been presented
because the effects of the acquisitions, individually or in the aggregate, were
not material to our results.
NVIDIA
CORPORATION AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
Note
8 - Goodwill
The
carrying amount of goodwill is as follows:
|
|
July 27,
2008
|
|
|
January 27,
2008
|
|
|
|
(In
thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
During
the six months ended July 27, 2008, goodwill increased by $17.0 million due to
our acquisition of Ageia on February 10, 2008. This increase in
goodwill was offset by a decrease of $4.8 million for Mental Images related to
the reassessment of estimates made during the preliminary purchase price
allocation.
Note
9 - Amortizable Intangible Assets
We are
currently amortizing our intangible assets with definitive lives over periods
ranging from one to seven years, primarily on a straight-line basis. The
components of our amortizable intangible assets are as follows:
|
|
July
27, 2008
|
|
|
January 27, 2008
|
|
|
|
Gross
Carrying
Amount
|
|
|
Accumulated
Amortization
|
|
|
Net Carrying
Amount
|
|
|
Gross
Carrying
Amount
|
|
|
Accumulated
Amortization
|
|
|
Net Carrying
Amount
|
|
(In
thousands)
|
|
|
|
$
|
112,263
|
|
|
$
|
(28,128
|
)
|
|
$
|
84,135
|
|
|
$
|
94,970
|
|
|
$
|
(32,630
|
)
|
|
$
|
62,340
|
|
Acquired
intellectual property
|
|
|
75,880
|
|
|
|
(26,242
|
)
|
|
|
49,638
|
|
|
|
77,900
|
|
|
|
(41,030
|
)
|
|
|
36,870
|
|
|
|
|
17,183
|
|
|
|
(5,808
|
)
|
|
|
11,375
|
|
|
|
35,348
|
|
|
|
(27,632
|
)
|
|
|
7,716
|
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
1,494
|
|
|
|
(1,494
|
)
|
|
|
-
|
|
|
|
$
|
205,326
|
|
|
$
|
(60,178
|
)
|
|
$
|
145,148
|
|
|
$
|
209,712
|
|
|
$
|
(102,786
|
)
|
|
$
|
106,926
|
|
The
increase in the net carrying amount of technology licenses as of July 27, 2008
when compared to January 27, 2008, is primarily related to approximately $26.7
million of net cash outflows under a confidential patent licensing arrangement
entered into during fiscal year 2007, offset by amortization for the six months
ended July 27, 2008. Additionally, the increase in the net carrying value of
acquired intellectual property is primarily related to the intangible assets
that resulted from our acquisition of Ageia during the first quarter of fiscal
year 2009, offset by amortization for the six months ended July 27, 2008. Please
refer to Note 7 of these Notes to Condensed Consolidated Financial Statements
for further information. The decrease in the gross carrying amounts of the
intangible assets as of July 27, 2008 when compared to January 27, 2008 is
primarily due to the write-off of fully amortized intangible
assets.
Amortization
expense associated with intangible assets for the three and six months ended
July 27, 2008 was $7.5 million and $15.0 million,
respectively. Amortization expense associated with intangible assets
for the three and six months ended July 29, 2007 was $5.6 million and $12.6
million, respectively. Future amortization expense related to the net
carrying amount of intangible assets at July 27, 2008 is estimated to be $18.7
million for the remainder of fiscal year 2009, $28.5 million in fiscal 2010,
$23.7 million in fiscal 2011, $22.0 million in fiscal 2012, $17.4 million in
fiscal 2013, $13.3 million in fiscal 2014 and $21.5 million in fiscal years
subsequent of fiscal 2014.
NVIDIA
CORPORATION AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
Note
10 - Balance Sheet Components
Certain
balance sheet components are as follows:
|
|
July 27,
2008
|
|
|
January 27,
2008
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At July
27, 2008, we had outstanding inventory purchase obligations totaling
approximately $615.6 million.
|
|
July 27,
2008
|
|
|
January 27,
2008
|
|
|
Estimated
Useful Life
|
|
|
(In
thousands)
|
|
|
(Years)
|
Property
and Equipment:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Office
furniture and equipment
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated
depreciation and amortization
|
|
|
|
|
|
|
|
)
|
|
|
Total property and
equipment, net
|
|
|
|
|
|
|
|
|
|
|
During
the six months ended July 27, 2008, we wrote-off $113.1 million of
fully depreciated property and equipment, including $68.8 million of software
and licenses.
(A) Land
is a non-depreciable asset.
(B) Leasehold
improvements are amortized based on the lesser of either the asset’s estimated
useful life or the remaining lease term.
(C) Construction
in process represents assets that are not in service as of the balance sheet
date.
|
|
July 27,
2008
|
|
|
January 27,
2008
|
|
|
|
|
|
Accrued
customer programs (1)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accrued
payroll and related expenses
|
|
|
|
|
|
|
|
|
Accrued
costs related to purchase of property
|
|
|
|
|
|
|
|
|
Accrued
legal settlement (3)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
accrued liabilities
|
|
|
|
|
|
|
|
|
(1) Please
refer to Note 1 of these Notes to Condensed Consolidated Financial Statements
for discussion regarding the nature of accrued customer programs and their
accounting treatment related to our revenue recognition policies and
estimates.
(2) Please
refer to Note 11 of these Notes to Condensed Consolidated Financial Statements
for discussion regarding the warranty accrual.
(3) Please
refer to Note 12 of these Notes to Condensed Consolidated Financial Statements
for discussion regarding the 3dfx litigation.
NVIDIA
CORPORATION AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
|
|
July 27,
2008
|
|
|
January 27,
2008
|
|
Other Long-term
Liabilities:
|
|
(In
thousands)
|
|
Deferred
income tax liability
|
|
|
|
|
|
|
|
|
Income
taxes payable, long term
|
|
|
|
|
|
|
|
|
Asset
retirement obligation
|
|
|
|
|
|
|
|
|
Other
long-term liabilities
|
|
|
|
|
|
|
|
|
Total
other long-term liabilities
|
|
|
|
|
|
|
|
|
Note
11 - Guarantees
FASB
Interpretation No. 45, or FIN 45,
Guarantor’s Accounting and
Disclosure Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others,
requires that upon issuance of a guarantee, the
guarantor must recognize a liability for the fair value of the obligation it
assumes under that guarantee. In addition, FIN 45 requires disclosures about the
guarantees that an entity has issued, including a tabular reconciliation of the
changes of the entity’s product warranty liabilities.
Product
Defect
Our
products are complex and may contain defects or experience failures due to any
number of issues in design, fabrication, packaging, materials and/or use within
a system. If any of our products or technologies contains a defect,
compatibility issue or other error, we may have to invest additional research
and development efforts to find and correct the issue. Such efforts
could divert our management’s and engineers’ attention from the development of
new products and technologies and could increase our operating costs and reduce
our gross margin. In addition, an error or defect in new products or releases or
related software drivers after commencement of commercial shipments could result
in failure to achieve market acceptance or loss of design wins. Also, we may be
required to reimburse customers, including for customers’ costs to repair or
replace the products in the field, which could cause our revenue to decline. A
product recall or a significant number of product returns could be expensive,
damage our reputation and could result in the shifting of business to our
competitors. Costs associated with correcting defects, errors, bugs or other
issues could be significant and could materially harm our financial
results.
During
our fiscal quarter ended July 27, 2008, we recorded a $196.0 million charge
against cost of revenue to cover anticipated customer warranty, repair, return,
replacement and other associated costs arising from a weak die/packaging
material set in certain versions of our previous generation MCP and GPU products
used in notebook systems. All of our newly manufactured products and all of our
products that are currently shipping in volume have a different material set
that we believe is more robust.
The
previous generation MCP and GPU products that are impacted were included in a
number of notebook products that were shipped and sold in significant
quantities. Certain notebook configurations of these MCP and GPU products are
failing in the field at higher than normal rates. While we have not been able to
determine a root cause for these failures, testing suggests a weak material set
of die/package combination, system thermal management designs, and customer use
patterns are contributing factors. We have worked with our customers to develop
and have made available for download a software driver to cause the system fan
to begin operation at the powering up of the system and reduce the thermal
stress on these chips. We have also recommended to our customers that they
consider changing the thermal management of the MCP and GPU products in their
notebook system designs. We intend to fully support our customers in their
repair and replacement of these impacted MCP and GPU products that fail, and
their other efforts to mitigate the consequences of these failures.
We
continue to engage in discussions with our supply chain regarding reimbursement
to us for some or all of the costs we have incurred and may incur in the future
relating to the weak material set. We also continue to seek to access our
insurance coverage. However, there can be no assurance that we will recover any
such reimbursement. We continue to not see any abnormal failure rates in any
systems using NVIDIA products other than certain notebook configurations.
However, we are continuing to test and otherwise investigate other products.
There can be no assurance that we will not discover defects in other MCP or GPU
products.
NVIDIA
CORPORATION AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
Accrual
for estimated product returns and product warranty liabilities
We record
a reduction to revenue for estimated product returns at the time revenue is
recognized primarily based on historical return rates. Cost of revenue includes
the estimated cost of product warranties that are calculated at the point of
revenue recognition. Under limited circumstances, we may offer an extended
limited warranty to customers for certain products. The estimated product
returns and estimated product warranty liabilities for the three and six months
ended July 27, 2008 and July 29, 2007 are as follows:
|
|
Three
Months Ended
|
|
|
Six
Months Ended
|
|
|
|
July 27,
2008
|
|
|
July 29,
2007
|
|
|
July 27,
2008
|
|
July 29,
2007
|
|
|
|
(In
thousands)
|
|
Balance at
beginning of period
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Additions (1),(4)
|
|
|
203,743
|
|
|
|
8,468
|
|
|
|
213,293
|
|
|
|
13,448
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at
end of period (3)
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
(1)
Includes $7,173 and $16,039 for the three and six months ended July 27, 2008,
respectively and $8,281 and $13,027 for the three and six months ended July 29,
2007, respectively, towards allowances for sales returns estimated at the time
revenue is recognized primarily based on historical return rates and is charged
as a reduction to revenue.
(2)
Includes $7,922 and $16,804 for the three and six months ended July 27, 2008,
respectively and $6,837 and $10,712 for the three and six months ended July 29,
2007, respectively, written off against the allowance for sales
returns.
(3)
Includes $17,960 and $16,792 at July 27, 2008 and July 29, 2007, respectively,
relating to allowance for sales returns.
(4)
Includes $195,954 for the three and six months ended July 27, 2008 for
incremental repair and replacement costs from a weak die/packaging material set.
(5)
Includes $15,830 for the three and six months ended July 27, 2008 in deductions
towards warranty accrual associated with incremental repair and replacement
costs from a weak die/packaging material set.
In
connection with certain agreements that we have executed in the past, we have at
times provided indemnities to cover the indemnified party for matters such as
tax, product and employee liabilities. We have also on occasion included
intellectual property indemnification provisions in our technology related
agreements with third parties. Maximum potential future payments cannot be
estimated because many of these agreements do not have a maximum stated
liability. As such, we have not recorded any liability in our Condensed
Consolidated Financial Statements for such indemnifications.
NVIDIA
CORPORATION AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
Note
12 - Commitments and Contingencies
3dfx
On December 15, 2000, NVIDIA
Corporation and one of our indirect subsidiaries entered into an Asset Purchase
Agreement, or APA, to purchase certain graphics chip assets from 3dfx which
closed on April 18, 2001.
In May 2002, we were served
with a California state court complaint filed by the landlord of 3dfx’s San
Jose, California commercial real estate lease, Carlyle Fortran Trust, or
Carlyle. In December 2002, we were served with a California state court
complaint filed by the landlord of 3dfx’s Austin, Texas commercial real estate
lease, CarrAmerica Realty Corporation. The landlords’ complaints both asserted
claims for, among other things, interference with contract, successor liability
and fraudulent transfer. The landlords’ sought to recover money damages,
including amounts owed on their leases with 3dfx in the aggregate amount of
approximately $15 million. In October 2002, 3dfx filed for Chapter 11 bankruptcy
protection in the United States Bankruptcy Court for the Northern District of
California. In January 2003, the landlords’ actions were removed to the United
States Bankruptcy Court for the Northern District of California and
consolidated, for purposes of discovery, with a complaint filed against NVIDIA
by the Trustee in the 3dfx bankruptcy case. Upon motion by NVIDIA in 2005, the
District Court withdrew the reference to the Bankruptcy Court for the landlords’
actions, which were removed to the United States District Court for the Northern
District of California. The Trustee’s lawsuit remained in the Bankruptcy
Court. On November 10, 2005, the District Court granted our motion to
dismiss the landlords’ respective amended complaints and allowed the landlords
until February 4, 2006 to amend their complaints. The landlords re-filed claims
against NVIDIA in early February 2006, and NVIDIA again filed motions requesting
the District Court to dismiss those claims. On September 29, 2006, the District
Court dismissed the CarrAmerica action in its entirety and without leave to
amend. The District Court found, among other things, that CarrAmerica lacked
standing to bring the lawsuit and that standing rests exclusively with the
bankruptcy Trustee. On October 27, 2006, CarrAmerica filed a notice of appeal
from that order. On December 15, 2006, the District Court also dismissed the
Carlyle action in its entirety, finding that Carlyle also lacked standing to
pursue its claims, and that certain claims were substantively
unmeritorious. Carlyle filed a notice of appeal from that order on
January 9, 2007. Both landlords’ appeals are pending before the
United States Court of Appeals for the Ninth Circuit, and briefing on both
appeals has been consolidated. NVIDIA has filed motions to recover its
litigation costs and attorneys fees against both Carlyle and CarrAmerica. The
District Court has postponed consideration of those motions until after the
appeals are resolved. On July 17, 2008, the Ninth Circuit held oral
argument on the landlords' appeals, and the matter now awaits that court's
decision.
In March 2003, we were
served with a complaint filed by the Trustee appointed by the Bankruptcy Court
to represent 3dfx’s bankruptcy estate. The Trustee’s complaint asserts claims
for, among other things, successor liability and fraudulent transfer and seeks
additional payments from us. On October 13, 2005, the Bankruptcy Court held a
hearing on the Trustee’s motion for summary adjudication. On December 23, 2005,
the Bankruptcy Court denied the Trustee’s Motion for Summary Adjudication in all
material respects and held that NVIDIA may not dispute that the value of the
3dfx transaction was less than $108.0 million. The Bankruptcy Court denied the
Trustee’s request to find that the value of the 3dfx assets conveyed to NVIDIA
was at least $108.0 million. In early November 2005, after several months of
mediation, NVIDIA and the Official Committee of Unsecured Creditors, or the
Creditors’ Committee, agreed to a Plan of Liquidation of 3dfx, which included a
conditional settlement of the Trustee’s claims against us. This conditional
settlement was subject to a confirmation process through a vote of creditors and
the review and approval of the Bankruptcy Court after notice and hearing. The
conditional settlement called for a payment by NVIDIA of approximately $30.6
million to the 3dfx estate. Under the settlement, $5.6 million related to
various administrative expenses and Trustee fees, and $25.0 million related to
the satisfaction of debts and liabilities owed to the general unsecured
creditors of 3dfx. Accordingly, during the three month period ended October 30,
2005, we recorded $5.6 million as a charge to settlement costs and $25.0 million
as additional purchase price for 3dfx. The Trustee advised that he
intended to object to the settlement. The conditional settlement never
progressed substantially through the confirmation process.
On December 21, 2005, the
Bankruptcy Court determined that it would schedule trial of one portion of the
Trustee’s case against NVIDIA. On January 2, 2007, NVIDIA exercised its right to
terminate the settlement agreement on grounds that the Bankruptcy Court had
failed to proceed toward confirmation of the Creditors’ Committee’s plan. A
non-jury trial began on March 21, 2007 on valuation issues in the Trustee's
constructive fraudulent transfer claims against NVIDIA. Specifically, the
Bankruptcy Court tried four questions: (1) what did 3dfx transfer to NVIDIA in
the APA?; (2) of what was transferred, what qualifies as "property" subject to
the Bankruptcy Court's avoidance powers under the Uniform Fraudulent Transfer
Act and relevant bankruptcy code provisions?; (3) what is the fair market value
of the "property" identified in answer to question (2)?; and (4) was the $70
million that NVIDIA paid "reasonably equivalent" to the fair market value of
that property? At the conclusion of the evidence, the Bankruptcy Court asked the
parties to submit post-trial briefing. That briefing was completed on May 25,
2007. On April 30, 2008, the Bankruptcy Court issued its Memorandum
Decision After Trial, in which it provided a detailed summary of the trial
proceedings and the parties' contentions with respect to each of the questions
to be tried. The Bankruptcy Court concluded that "the creditors of
3dfx were not injured by the Transaction." This decision does not
entirely dispose of the Trustee's action, however; still pending are the
Trustee's claims for successor liability and intentional fraudulent
conveyance. On May 12, 2008, the Trustee filed a motion for leave to
pursue an interlocutory appeal, but thereafter withdrew the
motion. NVIDIA has filed a motion for summary judgment on all causes
of action in order to convert the Memorandum Decision After Trial to a final
judgment. That motion is scheduled to be heard on August 28,
2008.
NVIDIA
CORPORATION AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
On
December 8, 2005, the Trustee filed a Form 8-K on behalf of 3dfx, in which the
Trustee disclosed the terms of the conditional settlement agreement between
NVIDIA and the Creditor’s Committee. Thereafter, certain shareholders of 3dfx
filed a petition with the Bankruptcy Court to appoint an official committee to
represent the claimed interests of 3dfx shareholders. That petition was granted
and an Equity Holders’ Committee was appointed. Since that appointment, the
Equity Holders’ Committee has filed a competing plan of
reorganization/liquidation. The Equity Holders’ Committee’s plan assumes that
3dfx can raise additional equity capital that would be used to retire all of
3dfx’s debts. The Equity Holders’ Committee contends that the commitment by an
investor to pay in equity capital is sufficient to trigger NVIDIA's obligations
under the APA to pay the stock consideration. NVIDIA contends, among
other things, that such a commitment is not sufficient and that its obligation
to pay the stock consideration has been extinguished. By virtue of stock splits
since the execution of the APA, the stock consideration would now total six
million shares of NVIDIA common stock. The Equity Holders’ Committee filed a
motion with the Bankruptcy Court seeking an order giving it standing to bring a
lawsuit to obtain the stock consideration. Over our objection, the Bankruptcy
Court granted that motion on May 1, 2006 and the Equity Holders’ Committee filed
its Complaint for Declaratory Relief against NVIDIA that same day. NVIDIA moved
to dismiss the Complaint for Declaratory Relief, and the Bankruptcy Court
granted that motion with leave to amend. The Equity Committee thereafter amended
its complaint, and NVIDIA moved to dismiss that amended complaint as well. At a
hearing on December 21, 2006, the Bankruptcy Court granted the motion as to one
of the Equity Holders’ Committee’s claims, and denied it as to the
others.
However,
the Bankruptcy Court also ruled that NVIDIA would only be required to answer the
first three causes of action by which the Equity Holders’ Committee seeks a
determination that the APA was not terminated before 3dfx filed for bankruptcy
protection, that the 3dfx bankruptcy estate still holds some rights in the APA,
and that the APA is capable of being assumed by the bankruptcy
estate. Because of the trial of the Trustee's fraudulent transfer
claims against NVIDIA, the Equity Committee's lawsuit did not progress
substantially in 2007. On July 31, 2008, the Equity Holders'
Committee filed a motion for summary judgment on its first three causes of
action. A hearing is scheduled on that motion for October 24,
2008. The next status conference is scheduled for August 28,
2008. In addition, the Equity Holders
'
Committee filed a motion seeking Bankruptcy
Court approval of investor protections for Harbinger Capital Partners Master
Fund I, Ltd., an equity investment firm that has conditionally agreed to pay no
more than $51.5 million for preferred stock in 3dfx. The hearing on that motion
was held on January 18, 2007, and the Bankruptcy Court approved the proposed
protections.
Proceedings,
SEC inquiry and lawsuits related to our historical stock option granting
practices
In June
2006, the Audit Committee of the Board of NVIDIA, or the Audit Committee, began
a review of our stock option practices based on the results of an internal
review voluntarily undertaken by management. The Audit Committee, with the
assistance of outside legal counsel, completed its review on November 13, 2006
when the Audit Committee reported its findings to our full Board. The review
covered option grants to all employees, directors and consultants for all grant
dates during the period from our initial public offering in January 1999 through
June 2006. Based on the findings of the Audit Committee and our internal review,
we identified a number of occasions on which we used an incorrect measurement
date for financial accounting and reporting purposes.
We
voluntarily contacted the SEC regarding the Audit Committee’s
review. In late August 2006, the SEC initiated an inquiry related to
our historical stock option grant practices. In October 2006, we met with the
SEC and provided it with a review of the status of the Audit Committee’s review.
In November 2006, we voluntarily provided the SEC with additional documents. We
continued to cooperate with the SEC throughout its inquiry. On
October 26, 2007, the SEC formally notified us that the SEC's investigation
concerning our historical stock option granting practices had been terminated
and that no enforcement action was recommended.
Concurrently
with our internal review and the SEC’s inquiry, since September 29, 2006, ten
derivative cases have been filed in state and federal courts asserting claims
concerning errors related to our historical stock option granting practices and
associated accounting for stock-based compensation expense. These complaints
have been filed in various courts, including the California Superior Court,
Santa Clara County, the United States District Court for the Northern
District of California, and the Court of Chancery of the State of Delaware in
and for New Castle County. The California Superior Court cases have been
consolidated and plaintiffs filed a consolidated complaint on April 23, 2007.
Plaintiffs in the Delaware action filed an Amended Shareholder Derivative
Complaint on February 12, 2008. Plaintiffs in the federal action submitted a
Second Amended Consolidated Verified Shareholders Derivative Complaint on March
18, 2008. All of the cases purport to be brought derivatively on behalf of
NVIDIA against members of our Board and several of our current and former
officers and directors. Plaintiffs in these actions allege claims for, among
other things, breach of fiduciary duty, unjust enrichment, insider selling,
abuse of control, gross mismanagement, waste, and constructive fraud. The
Northern District of California action also alleges violations of federal
provisions, including Sections 10(b) and 14(a) of the Securities Exchange Act of
1934. The plaintiffs seek to recover for NVIDIA, among other things, damages in
an unspecified amount, rescission, punitive damages, treble damages for insider
selling, and fees and costs. Plaintiffs also seek an accounting, a constructive
trust and other equitable relief. We intend to take all appropriate action in
response to these complaints. Between May 14, 2007 and May 17, 2007, we filed
several motions to dismiss or to stay the federal, Delaware and Santa Clara
actions. The Delaware motions were superseded when the Delaware plaintiffs filed
the Amended Shareholder Derivative Complaint on February 28, 2008. The federal
motions were superseded when the federal plaintiffs submitted the Second Amended
Consolidated Verified Shareholders Derivative Complaint on March 18, 2008. We
have not yet responded to either of these Complaints. The Santa Clara
motion to stay was denied without prejudice and the parties are currently
engaged in discovery-related proceedings.
On August
5, 2007, our Board authorized the formation of a Special Litigation Committee to
investigate, evaluate, and make a determination as to how NVIDIA should proceed
with respect to the claims and allegations asserted in the underlying derivative
cases brought on behalf of NVIDIA. The Special Litigation Committee has made
substantial progress in completing its work, but has not yet issued a
report.
NVIDIA
CORPORATION AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
Department
of Justice Subpoena and Investigation, and Civil Cases
On
November 29, 2006, we received a subpoena from the San Francisco Office of the
Antitrust Division of the United States Department of Justice, or DOJ, in
connection with the DOJ's investigation into potential antitrust violations
related to GPUs and cards. No specific allegations have been made against us. We
are cooperating with the DOJ in its investigation.
As of May
13, 2008, 55 civil complaints have been filed against us. The majority of the
complaints were filed in the Northern District of California, several were filed
in the Central District of California, and other cases were filed in several
other Federal district courts. On April 18, 2007, the Judicial Panel
on Multidistrict Litigation transferred the actions currently pending outside of
the Northern District of California to the Northern District of California for
coordination of pretrial proceedings before the Honorable William H.
Alsup. By agreement of the parties, Judge Alsup will retain
jurisdiction over the consolidated cases through trial or other
resolution.
In the
consolidated proceedings, two groups of plaintiffs (one putatively representing
all direct purchasers of GPUs and the other putatively representing all indirect
purchasers) filed consolidated, amended class-action complaints. These
complaints purport to assert federal antitrust claims based on alleged price
fixing, market allocation, and other alleged anti-competitive agreements between
us and ATI Technologies, ULC., or ATI, and Advanced Micro Devices, Inc., or AMD,
as a result of its acquisition of ATI. The indirect purchasers’
consolidated amended complaint also asserts a variety of state law antitrust,
unfair competition and consumer protection claims on the same allegations, as
well as a common law claim for unjust enrichment.
Plaintiffs
filed their first consolidated complaints on June 14, 2007. On July
16, 2007, we moved to dismiss those complaints. The motions to
dismiss were heard by Judge Alsup on September 20, 2007. The Court
subsequently granted and denied the motions in part, and gave the plaintiffs
leave to move to amend the complaints. On November 7, 2007, the Court
granted plaintiffs’ motion to file amended complaints, ordered defendants to
answer the complaints, lifted a previously entered stay on discovery, and set a
trial date for January 12, 2009. Discovery is underway and Plaintiffs
filed motions for class certification on April 24, 2008. We filed
oppositions to the motions on May 20, 2008. On July 18, 2008, the
Court ruled on Plaintiffs’ class certification motions. The Court
denied class certification for the proposed class of indirect
purchasers. The Court granted in part class certification for the
direct purchasers but limited the direct purchaser class to individual
purchasers that acquired graphics processing cards products directly from NVIDIA
or ATI from their websites between December 4, 2002 and November 7,
2007. The Court excluded from the direct purchaser class business
entities that purchased graphics products from NVIDIA or ATI for
resale. The case will continue on behalf of the class of direct
purchasers certified by the Court as well as for the several individual indirect
purchasers suing on their own behalf. The Court also instructed the
parties to give written notice of the class certification order to all
non-certified direct purchasers, who will then have thirty days from the notice
to move to intervene in this action. The Court's ruling on class
certification is subject to interim appeal at the discretion of the United
States Court of Appeals for the Ninth Circuit. We believe the
allegations in the complaints are without merit and intend to vigorously defend
the cases.
Rambus
Corporation
On July
10, 2008, Rambus Corporation, or Rambus, filed suit against NVIDIA Corporation,
asserting patent infringement of 17 patents claimed to be owned by
Rambus. Rambus seeks damages, enhanced damages and injunctive
relief. The lawsuit was filed in the Northern District of California
in San Jose, California. On July 11, 2008, NVIDIA filed suit against
Rambus in the Middle District of North Carolina asserting numerous claims,
including antitrust and other claims. NVIDIA seeks damages, enhanced
damages and injunctive relief. NVIDIA intends to pursue its offensive
and defensive cases vigorously.
NVIDIA
CORPORATION AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
Note
13 - Stockholders’ Equity
Stock
Repurchase Program
During
fiscal year 2005, we announced that our Board had authorized a stock repurchase
program to repurchase shares of our common stock, subject to certain
specifications, up to an aggregate maximum amount of $300
million. During fiscal year 2007, the Board further approved an
increase of $400 million to the original stock repurchase program. In fiscal
year 2008, we announced a stock repurchase program under which we may
purchase up to an additional $1.0 billion of our common stock over a three year
period through May 2010. On August 12, 2008, we announced that our Board further
authorized an additional increase of $1.0 billion to the stock repurchase
program. As a result of these increases, we have an ongoing authorization from
the Board, subject to certain specifications, to repurchase shares of our common
stock up to an aggregate maximum amount of $2.7 billion through May
2010.
The
repurchases will be made from time to time in the open market, in privately
negotiated transactions, or in structured stock repurchase programs, and may be
made in one or more larger repurchases, in compliance with the Securities
Exchange Act of 1934, or the Exchange Act, Rule 10b-18, subject to market
conditions, applicable legal requirements, and other factors. The program does
not obligate us to acquire any particular amount of common stock and the program
may be suspended at any time at our discretion. As part of our share
repurchase program, we have entered into, and we may continue to enter into,
structured share repurchase transactions with financial institutions. These
agreements generally require that we make an up-front payment in exchange for
the right to receive a fixed number of shares of our common stock upon execution
of the agreement, and a potential incremental number of shares of our common
stock, within a pre-determined range, at the end of the term of the
agreement.
Through
July 27, 2008, we had repurchased 68.0 million shares under our stock repurchase
program for a total cost of $1.16 billion. During the three months ended
July 27, 2008, we did not enter into any structured share repurchase
transactions.
Convertible
Preferred Stock
As of
July 27, 2008 and January 27, 2008, there were no shares of preferred stock
outstanding.
Common
Stock
At the
Annual Meeting of Stockholders held on June 19, 2008, the stockholders approved
an increase in our authorized number of shares of common stock to 2,000,000,000.
The par value of common stock remains unchanged at $0.001 per
share.
NVIDIA
CORPORATION AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
Note
14 - Comprehensive Income (Loss)
Comprehensive
income (loss) consists of net income (loss) and other comprehensive income or
loss. Other comprehensive income or loss components include unrealized gains or
losses on available-for-sale securities, net of tax. The components of
comprehensive income (loss), net of tax, were as follows:
|
|
Three
Months Ended
|
|
|
Six
Months Ended
|
|
|
|
July 27,
2008
|
|
|
July 29,
2007
|
|
|
July 27,
2008
|
|
July 29,
2007
|
|
|
|
(In
thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
change in unrealized gains (losses) on available-for-sale securities, net
of tax
|
|
|
(2,545
|
)
|
|
|
320
|
|
|
|
(8,176
|
)
|
|
|
241
|
|
Reclassification
adjustments for net realized gains (losses) on available-for-sale
securities included in net income (loss), net of tax
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
comprehensive income (loss)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Note
15 - Segment Information
Our Chief
Executive Officer, who is considered to be our chief operating decision maker,
or CODM, reviews financial information presented on an operating segment
basis for purposes of making operating decisions and assessing financial
performance.
We report
financial information for four operating segments to our CODM: the GPU business,
which is comprised primarily of our GeForce products that support desktop and
notebook PCs, plus memory products; the professional solutions business, or PSB,
which is comprised of our NVIDIA Quadro professional workstation products and
other professional graphics products, including our NVIDIA
Tesla high-performance computing products; the MCP business which is
comprised of NVIDIA nForce core logic and motherboard GPU products; and our
consumer products business, or CPB, which is comprised of our GoForce and APX
mobile brands and products that support handheld personal media players, or
PMPs, personal digital assistants, or PDAs, cellular phones and other handheld
devices. CPB also includes license, royalty, other revenue and
associated costs related to video game consoles and other digital consumer
electronics devices.
In
addition to these operating segments, we have the “All Other” category that
includes human resources, legal, finance, general administration and corporate
marketing expenses, which total $80.8 million and $62.9 million for second
quarter of fiscal years 2009 and 2008, respectively, and total $156.9 million
and $130.8 million for the first half of fiscal years 2009 and 2008,
respectively, that we do not allocate to our other operating segments as these
expenses are not included in the segment operating performance measures
evaluated by our CODM. “All Other” also includes the results of operations of
other miscellaneous reporting segments that are neither individually reportable,
nor aggregated with another operating segment. Revenue in the “All Other”
category is primarily derived from sales of components.
Our CODM
does not review any information regarding total assets on an operating segment
basis. Operating segments do not record intersegment revenue, and, accordingly,
there is none to be reported. The accounting policies for segment reporting
are the same as for NVIDIA Corporation as a whole.
NVIDIA
CORPORATION AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
|
|
GPU
|
|
|
PSB
|
|
|
MCP
|
|
|
CPB
|
|
|
All
Other
|
|
|
Consolidated
|
|
|
|
|
(In
thousands)
|
|
Three
Months Ended July 27, 2008:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation
and amortization expense
|
|
$
|
13,826
|
|
|
$
|
5,241
|
|
|
$
|
7,756
|
|
|
$
|
4,600
|
|
|
$
|
14,440
|
|
|
$
|
45,863
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three
Months Ended July 29, 2007:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation
and amortization expense
|
|
$
|
8,932
|
|
|
$
|
1,960
|
|
|
$
|
6,844
|
|
|
$
|
5,004
|
|
|
$
|
9,710
|
|
|
$
|
32,450
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six
Months Ended July 27, 2008:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation
and amortization expense
|
|
$
|
26,540
|
|
|
$
|
9,866
|
|
|
$
|
15,426
|
|
|
$
|
9,518
|
|
|
$
|
26,081
|
|
|
$
|
87,431
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six
Months Ended July 29, 2007:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation
and amortization expense
|
|
$
|
17,217
|
|
|
$
|
4,147
|
|
|
$
|
13,437
|
|
|
$
|
11,099
|
|
|
$
|
18,872
|
|
|
$
|
64,772
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue
by geographic region is allocated to individual countries based on the location
to which the products are initially billed even if our customers’ revenue is
attributable to end customers that are located in a different location. The
following tables summarize information pertaining to our revenue from customers
based on invoicing address in different geographic regions:
|
|
Three
Months Ended
|
|
|
Six
Months Ended
|
|
|
|
July 27,
2008
|
|
|
July 29,
2007
|
|
|
July 27,
2008
|
|
|
July 29,
2007
|
|
|
|
(In
thousands)
|
|
Revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
Taiwan
|
|
$
|
272,078
|
|
|
$
|
316,974
|
|
|
$
|
663,706
|
|
|
$
|
589,957
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Europe
|
|
|
81,519
|
|
|
|
89,318
|
|
|
|
213,473
|
|
|
|
170,868
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
Americas
|
|
|
21,349
|
|
|
|
20,149
|
|
|
|
22,044
|
|
|
|
59,959
|
|
Total
revenue
|
|
$
|
892,676
|
|
|
$
|
935,253
|
|
|
$
|
2,046,064
|
|
|
$
|
1,779,533
|
|
Revenue
from significant customers, those representing approximately 10% or more of
total revenue for the respective periods, is summarized as follows:
|
|
Three Months Ended
|
|
|
Six
Months Ended
|
|
|
|
July 27,
2008
|
|
|
July 29,
2007
|
|
|
July 27,
2008
|
|
|
July 29,
2007
|
|
Revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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NVIDIA
CORPORATION AND SUBSIDIARIES
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Unaudited)
Accounts
receivable from significant customers, those representing approximately 10% or
more of total trade accounts receivable for the respective periods, is
summarized as follows:
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July 27,
2008
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January 27,
2008
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Note
16 – Fair Value of Cash Equivalents and Marketable Securities
We
measure our cash equivalents and marketable securities at fair value. Our
financial assets and liabilities are determined using market prices from both
active markets, or Level 1, and less active markets, or Level 2. Level 1
valuations are obtained from real-time quotes for transactions in active
exchange markets involving identical assets. Level 2 valuations are
obtained from readily-available pricing sources for identical instruments in
less active markets. All of our cash equivalents and marketable securities
valuations are classified as Level 1 or Level 2 because we value those using
quoted market prices or alternative pricing sources and models utilizing market
observable inputs.
As of
July 27, 2008, we did not have any assets or liabilities without observable
market values, or Level 3 assets, that would require a high level of
judgment to determine fair value.
Financial
assets and liabilities measured at fair value are summarized below:
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Fair
value measurement at reporting date using
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Quoted Prices in
Active Markets for Identical Assets
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Significant
Other Observable Inputs
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July
27, 2008
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(Level
1)
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(Level
2)
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(In
thousands)
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Asset-backed
Securities (1)
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Corporate
debt securities (3)
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Debt
securities issued by United States Treasury (1)
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Other
Debt securities issued by U.S. Government agencies
(4)
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Mortgage-backed
securities issued by Government-sponsored entities
(1)
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(1) Included
in Marketable securities on the Condensed Consolidated Balance
Sheet.
(2) Includes
$377,412 in Cash and cash equivalents and $20,092 in Marketable securities on
the Condensed Consolidated Balance Sheet.
(3) Includes
$4,318 in Cash and cash equivalents and $275,743 in Marketable securities on the
Condensed Consolidated Balance Sheet.
(4) Includes
$42,915 in Cash and cash equivalents and $391,984 in Marketable securities on
the Condensed Consolidated Balance Sheet.
(5) Included
in Cash and cash equivalents on the Condensed Consolidated Balance
Sheet.
ITEM 2
. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Forward-Looking
Statements:
When used in this
Quarterly Report on Form 10-Q, the words “believes,” “plans,” “estimates,”
“anticipates,” “expects,” “intends,” “allows,” “can,” “will” and similar
expressions are intended to identify forward-looking statements. These
statements relate to future periods and include, but are not limited to,
statements as to: the features, benefits, capabilities, performance, impact and
production of our products and technologies; product, manufacturing, design or
software defects and the impact of such defects; defects in materials used to
manufacture a product; causes of product defects; our reliance on third parties
to manufacture, assemble and test our products; reliance on a limited number of
customers and suppliers; new products or markets; design wins; our market
position; our competition, sources of competition and our competitive position;
our strategic relationships; average selling prices; seasonality; customer
demand; growth; our international operations; our ability to attract and retain
qualified personnel; our inventory; acquisitions and investments; stock options;
the impact of stock-based compensation expense; our financial results; our tax
positions; mix and sources of revenue; capital and operating expenditures; our
cash; liquidity; our investment portfolio and marketable securities;
our exchange rate risk; our stock repurchase program; our internal control over
financial reporting; our disclosure controls and procedures; recent accounting
pronouncements; our intellectual property; compliance with environmental laws
and regulations; ongoing and potential litigation; and the Department of Justice
subpoena and investigation. Forward-looking statements are subject to
risks and uncertainties that could cause actual results to differ materially
from those projected. These risks and uncertainties include, but are
not limited to, the risks discussed below as well as difficulties associated
with: fluctuations in general economic conditions in the United States and
worldwide; difficulties in entering new markets; slower than expected
development of a new market; conducting international operations; slower than
anticipated growth; forecasting customer demand; product, manufacturing,
software and design defects; defects in product design or materials used to
manufacture a product; supply constraints; the impact of competitive pricing
pressures; unanticipated decreases in average selling prices; increased sales of
lower margin products; international and political conditions; changes in
international laws; fluctuations in the global credit market; fixed operating
expenses; our inventory levels; fluctuations in investments and the securities
market; changes in customers’ purchasing behaviors; the concentration of sales
of our products to a limited number of customers; decreases in demand for our
products; delays in the development of new products by us or our partners;
delays in volume production of our products; developments in and expenses
related to litigation or regulatory actions; our inability to realize the
benefits of acquisitions; and the matters set forth under Part II, Item 1A. -
Risk Factors. These forward-looking statements speak only as of the date hereof.
Except as required by law, we expressly disclaim any obligation or undertaking
to release publicly any updates or revisions to any forward-looking statements
contained herein to reflect any change in our expectations with regard thereto
or any change in events, conditions or circumstances on which any such statement
is based.
All references to “NVIDIA,” “we,” “us,” “our” or the “Company” mean NVIDIA
Corporation and its subsidiaries, except where it is made clear that the term
means only the parent company.
NVIDIA,
GeForce, SLI, Hybrid SLI, GoForce, Quadro, NVIDIA Quadro, NVIDIA
nForce, Tesla, Tegra, CUDA, NVIDIA APX, PhysX, Ageia, Mental Images, and
the NVIDIA logo are our trademarks and/or registered trademarks in the United
States and other countries that are used in this document. We may also refer to
trademarks of other corporations and organizations in this
document.
The
following discussion and analysis of our financial condition and results of
operations should be read in conjunction with “Item 6. Selected Financial Data”
of our Annual Report on Form 10-K for the fiscal year ended January 27, 2008 and
Part II, “Item 1A. Risk Factors”, of our Condensed Consolidated Financial
Statements and related Notes thereto, as well as other cautionary statements and
risks described elsewhere in this Quarterly Report on Form 10-Q, before deciding
to purchase, hold or sell shares of our common stock.
Overview
Our
Company
NVIDIA
Corporation is the worldwide leader in visual computing technologies and the
inventor of the graphic processing unit, or the GPU. Our products are designed
to generate realistic, interactive graphics on consumer and professional
computing devices. We serve the entertainment and consumer market with our
GeForce products, the professional design and visualization market with our
Quadro products, and the high-performance computing market with our Tesla
products. We have four major product-line operating segments: the GPU Business,
the professional solutions business, or PSB, the media and communications
processor, or MCP, business, and the consumer products business, or
CPB.
Our GPU
business is comprised primarily of our GeForce products that support desktop and
notebook personal computers, or PCs, plus memory products. Our PSB is comprised
of our NVIDIA Quadro professional workstation products and other professional
graphics products, including our NVIDIA Tesla high-performance computing
products. Our MCP business is comprised of NVIDIA nForce core logic and
motherboard GPU, or mGPU products. Our CPB is comprised of our GoForce and APX
mobile brands and products that support handheld personal media players, or
PMPs, personal digital assistants, or PDAs, cellular phones and other handheld
devices. CPB also includes license, royalty, other revenue and associated costs
related to video game consoles and other digital consumer electronics
devices. Original equipment manufacturers, original design
manufacturers, add-in-card manufacturers, system builders and consumer
electronics companies worldwide utilize our processors as a core component of
their entertainment, business and professional solutions.
We were
incorporated in California in April 1993 and reincorporated in Delaware in April
1998. Our headquarter facilities are in Santa Clara, California. Our Internet
address is
www.nvidia.com
. The
contents of our website are not a part of this Form 10-Q.
Recent
Developments, Future Objectives and Challenges
GPU
Business
During
the first half of fiscal year 2009, we launched several new GPUs in the
GeForce family. The product launches included the GeForce 9600 GT, which
provides more than double the performance of our previous GeForce 8600 GTS; the
GeForce 9800 GX2, which provides a new dual GPU board featuring Quad SLI
technology; and the GeForce 9800 GTX, which is a flexible GPU that supports
both two-way and three-way Scalable Link Interface, or SLI,
technology. Additionally, we also launched the GeForce 8800 GT, which
is the first after-market consumer graphics card for the Mac Pro and is sold
directly by us.
On
February 10, 2008, we completed our acquisition of Ageia Technologies, Inc., or
Ageia, an industry leader in gaming physics technology. Ageia's PhysX software
is widely adopted in several PhysX-based games that are shipping or in
development on Sony Playstation 3, Microsoft Xbox 360, Nintendo Wii, and gaming
PCs. We believe that the combination of the GPU and physics engine
brands will result in an enhanced visual experience for the gaming
world.
During
the second quarter of fiscal year 2009, we launched the GeForce GTX 280 and 260
GPUs. These products represent the second-generation of our unified
architecture. Based on a comparison between the GeForce GTX 280 and the GeForce
8800 Ultra in a variety of benchmarks and resolutions, the GeForce GTX 280 and
260 GPUs deliver 50 percent more gaming performance over our previous
GeForce 8800 Ultra GPU. We also launched the GeForce 9800 GTX+, GeForce 9800 GT,
and GeForce 9500 GT GPUs that provide support for our PhysX physics engine and
CUDA parallel processing across a wide range of price segments.
Professional
Solutions Business
During
the first half of fiscal year 2009, we launched the Quadro FX 3600M
Professional, which is among the highest performing notebook GPUs.
In the
second quarter of fiscal year 2009, we launched the Tesla C1060 computing
processor and the S1070 computing system, which is among the first teraflop
processors and has a 1U system with up to four teraflops of
performance.
MCP
Business
During
the first half of fiscal year 2009, we shipped Hybrid SLI DX10 mGPUs – the
GeForce 8000 GPU series. The GeForce 8000 GPU series includes GeForce
Boost Hybrid SLI technology, which is designed to double performance when paired
with a GeForce 8 series desktop GPU. Additionally, we also launched
the NVIDIA nForce 790i Ultra SLI MCP, which is one of the industry’s highly
rated overclockable platform for Intel processors.
During
the second quarter of fiscal year 2009, we launched the GeForce 9M series of
notebook GPUs that enables improved performance in notebooks with Hybrid SLI
technology and PhysX technology. We also launched SLI for Intel Broomfield CPU
platforms. When paired with the nForce 200 SLI MCP, Intel’s
Bloomfield CPU and Tylersburg core logic chipset will deliver NVIDIA three-way
SLI technology with up to a 2.8 times performance boost over traditional single
graphics card platforms.
Consumer
Products Business
During
the first half of fiscal year 2009, we launched the NVIDIA APX 2500 application
processor. The APX 2500 is a computer-on-a-chip designed to meet the
growing multimedia demands of today's mobile phone and entertainment
user. We believe that the mobile application processor is an area
where we can add a significant amount of value and we also believe it
represents a revenue growth opportunity.
During
the second quarter of fiscal year 2009, we launched the Tegra 600 and 650 that
represent a single-chip heterogeneous computer architecture designed for
low-power mobile computing devices.
Product
Defect
Our
products are complex and may contain defects or experience failures due to any
number of issues in design, fabrication, packaging, materials and/or use within
a system. If any of our products or technologies contains a defect,
compatibility issue or other error, we may have to invest additional research
and development efforts to find and correct the issue. Such efforts
could divert our management’s and engineers’ attention from the development of
new products and technologies and could increase our operating costs and reduce
our gross margin. In addition, an error or defect in new products or releases or
related software drivers after commencement of commercial shipments could result
in failure to achieve market acceptance or loss of design wins. Also, we may be
required to reimburse customers, including for customers’ costs to repair or
replace the products in the field, which could cause our revenue to decline. A
product recall or a significant number of product returns could be expensive,
damage our reputation and could result in the shifting of business to our
competitors. Costs associated with correcting defects, errors, bugs or other
issues could be significant and could materially harm our financial
results.
During
our fiscal quarter ended July 27, 2008, we recorded a $196.0 million charge
against cost of revenue to cover anticipated customer warranty, repair, return,
replacement and other associated costs arising from a weak die/packaging
material set in certain versions of our previous generation MCP and GPU products
used in notebook systems. All of our newly manufactured products and all of our
products that are currently shipping in volume have a different material set
that we believe is more robust.
The
previous generation MCP and GPU products that are impacted were included in a
number of notebook products that were shipped and sold in significant
quantities. Certain notebook configurations of these MCP and GPU products are
failing in the field at higher than normal rates. While we have not been able to
determine a root cause for these failures, testing suggests a weak material set
of die/package combination, system thermal management designs, and customer use
patterns are contributing factors. We have worked with our customers to develop
and have made available for download a software driver to cause the system fan
to begin operation at the powering up of the system and reduce the thermal
stress on these chips. We have also recommended to our customers that they
consider changing the thermal management of the MCP and GPU products in their
notebook system designs. We intend to fully support our customers in their
repair and replacement of these impacted MCP and GPU products that fail, and
their other efforts to mitigate the consequences of these failures.
We
continue to engage in discussions with our supply chain regarding reimbursement
to us for some or all of the costs we have incurred and may incur in the future
relating to the weak material set. We also continue to seek to access our
insurance coverage. However, there can be no assurance that we will recover any
such reimbursement. We continue to not see any abnormal failure rates in any
systems using NVIDIA products other than certain notebook configurations.
However, we are continuing to test and otherwise investigate other products.
There can be no assurance that we will not discover defects in other MCP or GPU
products.
Dependence
on PC Market
We derive
and expect to continue to derive the majority of our revenue from the sale
or license of products for use in the desktop PC and notebook PC markets,
including professional workstations. A reduction in sales of PCs, or a reduction
in the growth rate of PC sales, may reduce demand for our products. These
changes in demand could be large and sudden. During the second quarter of fiscal
year 2009, sales of our desktop GPU products decreased by approximately 25%
compared to the second quarter of fiscal year 2008. These decreases
were primarily due to the Standalone Desktop GPU market segment decline as
reported in the latest PC Graphics 2008 Report from Mercury
Research. Since PC manufacturers often build inventories during
periods of anticipated growth, they may be left with excess inventories if
growth slows or if they incorrectly forecast product transitions. In these
cases, PC manufacturers may abruptly suspend substantially all purchases of
additional inventory from suppliers like us until their excess inventory has
been absorbed, which would have a negative impact on our financial
results.
Seasonality
Our
industry is largely focused on the consumer products market. Due to
seasonality in this market, we typically expect to see stronger revenue
performance in the second half of the calendar year related to back-to-school
and holiday seasons.
Financial
Information by Business Segment and Geographic Data
Our Chief
Executive Officer, who is considered to be our chief operating decision maker,
or CODM, reviews financial information presented on an operating segment
basis for purposes of making operating decisions and assessing financial
performance.
We report
financial information for four operating segments to our CODM: the GPU business,
which is comprised primarily of our GeForce products that support desktop and
notebook personal computers, or PCs, plus memory products; the PSB, which is
comprised of our NVIDIA Quadro professional workstation products and other
professional graphics products, including our NVIDIA Tesla high-performance
computing products; the MCP business which is comprised of NVIDIA nForce core
logic and mGPU products; and our CPB, which is comprised of our GoForce and APX
mobile brands and products that support handheld PMPs, PDAs, cellular phones and
other handheld devices. CPB also includes license, royalty, other
revenue and associated costs related to video game consoles and other digital
consumer electronics devices.
In
addition to these operating segments, we have the “All Other” category that
includes human resources, legal, finance, general administration and corporate
marketing expenses, which total $80.8 million and $62.9 million for second
quarter of fiscal years 2009 and 2008, respectively, and total $156.9 million
and $130.8 million for the first half of fiscal years 2009 and 2008,
respectively, that we do not allocate to our other operating segments as these
expenses are not included in the segment operating performance measures
evaluated by our CODM. “All Other” also includes the results of operations of
other miscellaneous reporting segments that are neither individually reportable,
nor aggregated with another operating segment. Revenue in the “All Other”
category is primarily derived from sales of components.
Results
of Operations
The
following table sets forth, for the periods indicated, certain items in our
consolidated statements of operations expressed as a percentage of
revenue.
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Three Months Ended
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Six
Months Ended
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July 27,
2008
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July 29,
2007
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July 27,
2008
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July 29,
2007
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Cost
of revenue
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83.2
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54.7
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67.5
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54.8
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Gross
profit
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16.8
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45.3
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32.5
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45.2
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Research
and development
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23.9
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16.9
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21.1
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17.8
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Sales,
general and administrative
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Interest
and other income, net
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1.0
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1.7
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0.9
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1.6
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Income
(loss) before income tax expense (benefit)
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(16.5
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)
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21.4
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3.2
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19.9
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Income
tax expense (benefit)
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Net
income (loss)
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(13.6
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)%
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18.4
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%
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2.7
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%
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17.1
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%
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Three
and six months ended July 27, 2008 and July 29, 2007
Revenue
Revenue
was $892.7 million for our second quarter of fiscal year 2009, compared to
$935.3 million for our second quarter of fiscal year 2008, which represents a
decrease of 5%. Revenue was $2.05 billion for the first half of
fiscal year 2009 and $1.78 billion for the first half of fiscal year 2008, which
represented an increase of 15%. We expect revenue to grow slightly
during the third quarter of fiscal year 2009 as compared to the second quarter
of fiscal year 2009. A discussion of our revenue results for each of our
operating segments is as follows:
GPU Business
. GPU Business
revenue decreased by 13% to $503.5 million in the second quarter of fiscal year
2009, compared to $579.0 million for the second quarter of fiscal year 2008.
This decrease was primarily due to decreased sales of our desktop GPU and memory
products offset by increased sales of our notebook GPU
products. Sales of our desktop GPU and memory products decreased by
approximately 25% and 61%, respectively, compared to the second quarter of
fiscal year 2008. These decreases were primarily due to a decline in
the Standalone Desktop market segment as reported in the latest PC Graphics 2008
Report from Mercury Research. This decline was driven by negative
macro-economic outlook and a shift in the mix of desktop GPU sales towards lower
priced products. In addition, the average sales price, or ASP, of our GeForce
9-based products and our prior generation products declined and we experienced
lower shipments of our prior generation products as we transitioned to our
GeForce 9-based and GeForce 200-based products. Sales of our NVIDIA
notebook GPU products increased by approximately 43% compared to the second
quarter of fiscal year 2008. This notebook GPU revenue increase was
primarily due to growth of the general market in the Standalone Notebook segment
as reported in the latest PC Graphics 2008 Report from Mercury
Research. Our share position continued to hold in the Standalone
Notebook segment primarily as a result of shipments of products used in notebook
PC design wins related to Intel’s Santa Rosa platform.
GPU
Business revenue increased by 13% to $1.20 billion for the first half of fiscal
year 2009 compared to $1.06 billion for the first half of fiscal year
2008. The increase was primarily the result of increased sales across
desktop and notebook GPU categories. Sales of our desktop GPU
products increased approximately 7% and notebook GPU products increased by
approximately 65% as compared to the first half of fiscal year
2008. This increase was primarily due to share gains in the
Standalone Desktop and the Standalone Notebook segments during the first half of
fiscal year 2009 compared to fiscal year 2008 as reported in the latest PC
Graphics 2008 Report from Mercury Research. Our share gains in the
Standalone Desktop segment were primarily driven by the leadership position of
our GeForce 8-based and GeForce 9-based products during the first quarter of
fiscal year 2009. Our share gains in the Standalone Notebook segment were
primarily as a result of continued shipments of products used in notebook PC
design wins related to Intel’s Santa Rosa platform.
PSB
. PSB revenue increased by
41% to $179.7 million in the second quarter of fiscal year 2009, compared to
$127.3 million for the second quarter of fiscal year 2008. PSB
revenue increased by 43% to $383.1 million for the first half of fiscal year
2009 as compared to $268.2 million for the first half of fiscal year
2008. Our NVIDIA professional workstation product sales increased due
to an overall increase in shipments of boards and chips as compared to the
second quarter and first half of fiscal year 2008. This increase was
primarily driven by strong demand and our transition from the previous
generations of NVIDIA Quadro professional workstation products to GeForce
8-based and GeForce 9-based products.
MCP Business
. MCP Business
revenue increased by 4% to $166.8 million in the second quarter of
fiscal year 2009, compared to $161.1 million for the second quarter of fiscal
year 2008. The increase was a result of growth of approximately 300% in
sales of our Intel-based platform products, offset by a decline of approximately
15% in sales of our AMD-based platform products as compared to the second
quarter of fiscal year 2008.
MCP
Business revenue increased by 17% to $361.9 million for the first half of fiscal
year 2009 as compared to $309.8 million for first half of fiscal year
2008. The increase was a result of approximately 140% increase in
sales of our Intel-based platform products while sales of our AMD-based platform
products remained flat as compared to the first half of fiscal year
2008.
CPB.
CPB revenue
decreased by 44% to $34.6 million for the second quarter of fiscal year 2009,
compared to $62.2 million for the second quarter of fiscal year 2008. CPB
revenue decreased by 40% to $77.1 million for the first half of fiscal year 2009
as compared to $129.4 million for the first half of fiscal year 2008. The
decline in CPB revenue is primarily driven by a combination of a decrease in
revenue from our cell phone products, a decrease in revenue from our contractual
development arrangements with Sony Computer Entertainment, or SCE, and a drop in
royalties from SCE as they transition the PlayStation3 to a new process
node.
Concentration of
Revenue
Revenue
from sales to customers outside of the United States and other Americas
accounted for 89% and 90% of total revenue for the second quarter of fiscal
years 2009 and 2008, respectively, and 91% and 87% for the first half of fiscal
years 2009 and 2008, respectively. Revenue by geographic region is allocated to
individual countries based on the location to which the products are initially
billed even if the foreign contract equipment manufacturers, add-in board and
motherboard manufacturers’ revenue is attributable to end customers in a
different location.
In
the second quarter of fiscal years 2009 and 2008, sales to one significant
customer, in excess of 10% of our total revenue, accounted for approximately 13%
and 12%, respectively, of our total revenue. Aggregate sales to our
two largest customers accounted for approximately 21% and approximately 16% of
our total revenue for the first half of fiscal years 2009 and 2008,
respectively.
Gross
Profit and Gross Margin
Gross
profit consists of total revenue, net of allowances, less cost of revenue. Cost
of revenue consists primarily of the cost of semiconductors purchased from
subcontractors, including wafer fabrication, assembly, testing and packaging,
manufacturing support costs, including labor and overhead associated with such
purchases, final test yield fallout, inventory and warranty provisions, and
shipping costs. Cost of revenue also includes development costs for license
and service arrangements.
Gross
margin is the percentage of gross profit to revenue. Our gross margin can vary
in any period depending on a variety of factors including the mix of types of
products sold. Product mix is often difficult to estimate with
accuracy. Therefore, if we experience product transition or
competitive challenges, if we achieve significant revenue growth in our lower
margin product lines, or if we are unable to earn as much revenue as we expect
from higher margin product lines, our gross margin may be negatively
impacted.
Our gross
margin was 16.8% and 45.3% for the second quarter of fiscal years 2009 and 2008,
respectively. The decline in gross margin for the second quarter of
fiscal year 2009 reflects a $196.0 million charge against cost of revenue to
cover anticipated customer warranty, repair, return, replacement and associated
costs arising from a weak die/packaging material set in certain versions of our
previous generation MCP and GPU products used in notebook systems, as well as
the impact of average sales price regression we experienced in our desktop GPU
products as a result of increased competition.
We will
continue to focus on improving our gross margin during fiscal year 2009. A
discussion of our gross margin results for each of our operating segments is as
follows:
GPU Business
. The gross
margin of our GPU Business decreased during the second quarter of fiscal year
2009 as compared to the second quarter of fiscal year 2008, as well as during
the first half of fiscal year 2008 as compared to the first half of fiscal year
2007. This decrease was primarily due to ASP regression of our
GeForce 9-based and previous generations of desktop products and a charge
against cost of revenue to cover anticipated customer warranty, repair, return,
replacement and associated costs arising from a weak die/packaging material set
in certain versions of our previous generation GPU products used in notebook
systems.
PSB
. The gross margin of our
PSB increased slightly during the second quarter of fiscal year 2009 as compared
to the second quarter fiscal year 2008, as well as during the first half of
fiscal year 2009 as compared to the first half of fiscal year
2008. This increase was primarily due to increased sales of our
GeForce 9-based NVIDIA Quadro products, which began selling in the fourth
quarter of fiscal year 2008, and GeForce 8-based NVIDIA Quadro products, which
generally have higher gross margins than our previous generations of NVIDIA
Quadro products.
MCP Business
. The gross
margin of our MCP Business decreased during the second quarter of fiscal year
2009 as compared to the second quarter fiscal year 2008, as well as during the
first half of fiscal year 2009 as compared to the first half of fiscal year
2008. This decrease was primarily due a charge against cost of
revenue to cover anticipated customer warranty, repair, return, replacement and
associated costs arising from a weak die/packaging material set in certain
versions of our previous generation MCP products used in notebook
systems.
CPB
. The gross margin of our
CPB increased during the second quarter of fiscal year 2009 as compared to the
second quarter fiscal year 2008, as well as during the first half of fiscal year
2009 as compared to the first half of fiscal year 2008. This increase
was primarily due to changes in the product mix in our CPB product
lines. We experienced greater revenue decline in our lower margin
cell phone and other handheld devices product lines as compared to higher margin
SCE transactions.
Operating
Expenses
|
|
Three Months Ended
|
|
|
Six
Months Ended
|
|
|
|
July 27,
2008
|
|
July 29,
2007
|
|
|
$
Change
|
|
|
%
Change
|
|
|
July 27,
2008
|
|
|
July 29,
2007
|
|
|
$
Change
|
|
|
%
Change
|
|
|
|
(in
millions)
|
|
|
|
|
|
|
(in
millions)
|
|
|
|
|
|
Research
and development expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales,
general and administrative expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Research
and development as a percentage of net revenue
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales,
general and administrative as a percentage of net
revenue
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
|
|
|
|
|
|
|
|
|
|
Research
and Development
Research
and development expenses were $212.9 million and $158.0 million during the
second quarter of fiscal years 2009 and 2008, respectively, an increase of $54.9
million, or 35%. The increase is primarily related to an increase in
salaries and benefits by approximately $20.8 million as a result of the addition
of approximately 1,000 personnel in departments related to research and
development functions, offset by lower expenses during the second quarter of
fiscal year 2009 related to our variable compensation programs when compared to
the second quarter of fiscal year 2008. Development expenses increased by
$6.8 million primarily as a result of increased prototype materials and
engineering consumption due to a higher volume of activity related to new
product introductions in the current fiscal year. Stock-based
compensation expense increased by $7.8 million primarily because of the impact
of stock awards granted subsequent to the first half of fiscal year 2008 for new
hire and semi-annual grants, offset by a reduction in expense related to older
stock awards that were almost fully vested and for which the related expense had
been almost fully amortized by the end of the first quarter of fiscal year
2009. Other increases in research and development expenses are
primarily related to costs that were driven by personnel growth, including
depreciation and amortization, facilities, and computer software and
equipment.
Research
and development expenses were $431.7 million and $316.3 million in the first
half of fiscal years 2009 and 2008, respectively, an increase of $115.4
million, or 36%. The increase is primarily related to an increase in
salaries and benefits by approximately $47.9 million as a result of the addition
of approximately 1,000 personnel in departments related to research and
development functions, offset by lower expenses during the first half of fiscal
year 2009 related to our variable compensation programs when compared to the
first half of fiscal year 2008. Development expenses increased by $14.9
million primarily as a result of increased prototype materials and engineering
consumption due to a higher volume of activity related to new product
introductions in the current fiscal year. Stock-based compensation
expense increased by $9.9 million primarily because of the impact of stock
awards granted subsequent to the first half of fiscal year 2008 for new hire and
semi-annual grants, offset by a reduction in expense related to older stock
awards that became fully vested and for which the related expense had been
almost fully amortized by the end of the first quarter of fiscal year
2009. Other increases in research and development expenses are
primarily related to costs that were driven by personnel growth, including
depreciation and amortization, facilities, and computer software and
equipment.
While we
will continue to monitor our allocation of resources to research and
development, we expect these expenses to increase in absolute dollars in the
foreseeable future due to the increased complexity and greater number of
products under development. Research and development expenses are likely to
fluctuate from time to time to the extent we make periodic incremental
investments in research and development and these investments may be independent
of our level of revenue.
Sales,
General and Administrative
Sales,
general and administrative expenses were $92.4 million and $81.2 million
during the second quarter of fiscal years 2009 and 2008, respectively, an
increase of $11.2 million, or 14%. Labor and related expenses
decreased despite marginal headcount growth of approximately 30 personnel,
primarily due to lower expenses during the second quarter of fiscal year 2009
related to our variable compensation programs when compared to the second
quarter of fiscal year 2008. Outside professional fees increased by $4.8 million
primarily due to increased fees pertaining to licensing arrangements and legal
expenses. Marketing and advertising expenses increased by $4.4 million,
primarily due to increased advertising campaign related activities, trade shows
and samples distributed in the current quarter. Depreciation and amortization
expense increased by $4.6 million primarily due to amortization of intangible
assets acquired from our acquisitions of Mental Images and Ageia; and from
increased capital expenditures. Stock-based compensation expense increased by
$2.5 million primarily due to stock awards granted subsequent to the first half
of fiscal year 2008 for new hire and semi-annual grants, offset by a reduction
in expense related to older stock awards that became fully vested and for which
the related expense had been almost fully amortized by the end of the first
quarter of fiscal year 2009.
Sales,
general and administrative expenses were $185.5 million and $161.8 million for
the first half of fiscal years 2009 and 2008, respectively, an increase of $23.7
million, or 15%. Labor and related expenses increased marginally due
to growth in headcount by approximately 70 personnel; however, the increase was
offset by lower expenses during the first half of fiscal year 2009 related to
our variable compensation programs when compared to the first half of fiscal
year 2008. Stock-based compensation expense increased by $4.7 million
primarily due to the impact of stock awards granted subsequent to the first half
of fiscal year 2008 for new hire and semi-annual grants, offset by a reduction
in expense related to older stock awards that became fully vested and for which
the related expense had been almost fully amortized by the end of the first
quarter of fiscal year 2009. Outside professional fees increased by $9.2
million, primarily due to legal fees related to the 3dfx Interactive, Inc., or
3dfx, and Department of Justice matters described in Note 12 of the Notes to
Condensed Consolidated Financial Statements. Marketing and advertising expenses
increased by $7.4 million, primarily due to expenses related to a worldwide
sales conference, increased advertising campaign costs and other marketing
related activities.
We expect
operating expenses to increase slightly in the third quarter of fiscal year 2009
compared to the second quarter of fiscal year 2009.
Interest
Income
Interest
income consists of interest earned on cash, cash equivalents and marketable
securities. Interest income was $12.1 million and $15.6 million in the second
quarter of fiscal years 2009 and 2008, respectively, a decrease of $3.5
million. Interest income was $26.4 million and $28.8 million
for the first half of fiscal year 2009 and fiscal year 2008, respectively, a
decrease of $2.4 million. These decreases were primarily a result of
the fall in interest rates and our relatively lower balances for cash, cash
equivalents, and marketable securities during the first half of fiscal year 2009
when compared to the first half of fiscal year 2008.
Income
Taxes
We
recognized income tax expense (benefit) of ($25.7) million and $28.1 million for
the second quarter of fiscal year 2009 and 2008, respectively, and $10.5 million
and $49.6 million for the first half of fiscal year 2009 and 2008, respectively.
Income tax expense (benefit) as a percentage of income before taxes, or our
effective tax rate, was (17.5%) and 14.0% for the second quarter of fiscal year
2009 and 2008, respectively, and 15.9% and 14.0% for the first half of fiscal
year 2009 and 2008, respectively. Our effective tax rate is lower
than the United States Federal Statutory rate of 35.0% due primarily to income
earned in lower tax jurisdictions and U.S. tax benefit of the federal
research tax credits available in the respective periods.
Our
effective tax rates for the first half of fiscal year 2009 increased to 15.9%
from 14.0% during the first half of fiscal year 2008 primarily due to the
expiration of the federal research tax credit in fiscal year 2009. In
addition, during the second quarter of fiscal year 2009, we increased our
estimate of the annual effective tax rate for fiscal year 2009 from 17.0% to
22.8%. The increase in our effective income tax rate was a result of
the impact of non-deductible tax items to our annual effective tax rate caused
by the change in our outlook for the financial results of fiscal year
2009. This increase in our estimated annual effective tax rate was
offset in the second quarter of fiscal year 2009, primarily by a favorable
impact from the expiration of statues of limitations in certain non-U.S
jurisdictions, resulting in an effective tax rate for the first half of fiscal
year 2009 of 15.9%.
Liquidity
and Capital Resources
|
As
of
July
27,
2008
|
|
As
of
January
27,
2008
|
|
|
(In
millions)
|
|
Cash
and cash equivalents
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash,
cash equivalents, and marketable securities
|
|
|
|
|
|
|
|
|
|
Six
Months Ended
|
|
|
July
27,
|
|
July
29,
|
|
|
2008
|
|
2007
|
|
|
|
(In
millions)
|
|
Net
cash provided by operating activities
|
|
|
|
|
|
|
|
|
Net
cash used in investing activities
|
|
|
|
|
|
|
|
|
Net
cash used in financing activities
|
|
|
|
|
|
|
|
|
As of
July 27, 2008, we had $1.66 billion in cash, cash equivalents and marketable
securities, a decrease of $152.2 million from $1.81 billion at the end of fiscal
year 2008. Our portfolio of cash equivalents and marketable
securities is managed by several financial institutions. Our investment policy
requires the purchase of top-tier investment grade securities, the
diversification of asset type and includes certain limits on our portfolio
duration.
Operating
activities
Operating
activities generated cash of $226.2 million and $616.9 million during the first
half of fiscal years 2009 and 2008, respectively. Our net income (loss) plus the
impact of non-cash charges to earnings and deferred income taxes decreased
during the comparable periods. Additionally, changes in operating
assets and liabilities resulted in a net decrease in cash flow from
operations. The changes in operating assets and liabilities resulted
from the timing of payments to vendors and an increase in
inventories.
Investing
activities
Investing
activities have consisted primarily of purchases and sales of marketable
securities, acquisitions of businesses and purchases of property and equipment,
which includes purchases of property, leasehold improvements for our facilities
and intangible assets. Investing activities used cash of $150.1 million and
$128.2 million during the first half of fiscal years 2009 and 2008,
respectively. Investing activities for the first half of fiscal year
2009 used cash of approximately $150.0 million for a property that includes
approximately 25 acres of land and ten commercial buildings in Santa Clara,
California. Capital expenditures also included new research and
development equipment, testing equipment to support our increased production
requirements, technology licenses, software, intangible assets and leasehold
improvements at our campus and international offices. Additionally,
we acquired Ageia during the first quarter of fiscal year 2009. The
cash inflow from maturities of marketable securities provided cash of $131.8
million, which partially offset the expenditures described above.
We expect
to spend approximately $100 million to $150 million for capital expenditures
that are typical to our business during the remainder of fiscal year 2009,
primarily for property development, leasehold improvements, software licenses,
emulation equipment, computers and engineering workstations. We are
also currently in the process of planning to construct a new campus in Santa
Clara, California. If we move forward with these plans, we may be required to
fund significant construction costs using our cash, cash equivalents and
marketable securities. While we expect that we will have sufficient balances of
cash, cash equivalents and marketable securities available for this purpose,
there is no assurance that we will not need to raise additional debt financing
in order to fund this project. Such additional financing, if required, may not
be available on favorable terms, or at all. In addition, we may
continue to use cash in connection with the acquisition of new businesses or
assets.
Financing
activities
Financing
activities used cash of $83.9 million and $118.3 million during the first half
of fiscal years 2009 and 2008, respectively. Net cash used by
financing activities in the first half of fiscal year 2009 was primarily due to
$123.9 million paid towards our stock repurchase program, offset by cash
proceeds of $40.0 million from common stock issued under our employee stock
plans. During the first half of fiscal year 2008, we used $249.4 million towards
our stock repurchase program, while we received cash proceeds of $131.1 million
from common stock issued under our employee stock plans.
Liquidity
Cash
generated by operations is used as our primary source of
liquidity. Our investment portfolio consisted of cash and cash
equivalents, asset-backed securities, commercial paper, mortgage-backed
securities issued by Government-sponsored enterprises, equity securities, money
market funds and highly liquid debt securities of corporations, municipalities
and the United States government and its agencies. As of July 27,
2008, we did not have any investments in auction-rate preferred securities.
These investments are denominated in United States dollars.
We
account for our investment instruments in accordance with Statement of Financial
Accounting Standards No. 115, or SFAS No. 115,
Accounting for Certain Investments
in Debt and Equity Securities
. All of the cash equivalents and marketable
securities are treated as “available-for-sale” under SFAS No. 115. Investments
in both fixed rate and floating rate interest earning instruments carry a degree
of interest rate risk. Fixed rate debt securities may have their market value
adversely impacted due to a rise in interest rates, while floating rate
securities may produce less income than expected if interest rates fall. Due in
part to these factors, our future investment income may fall short of
expectations due to changes in interest rates or if the decline in fair value of
our publicly traded debt or equity investments is judged to be
other-than-temporary. We may suffer losses in principal if we are forced to sell
securities that decline in market value due to changes in interest rates.
However, because any debt securities we hold are classified as
“available-for-sale,” no gains or losses are realized in our statement of
operations due to changes in interest rates unless such securities are sold
prior to maturity or unless declines in market values are determined to be
other-than-temporary. These securities are reported at fair value
with the related unrealized gains and losses included in accumulated other
comprehensive income, a component of stockholders’ equity, net of
tax.
At July
27, 2008 and January 27, 2008, we had $1.66 billion and $1.81 billion,
respectively, in cash, cash equivalents and marketable
securities. Our investment policy requires the purchase of top-tier
investment grade securities, the diversification of asset type and includes
certain limits on our portfolio duration, as specified in our investment policy
guidelines. These guidelines also limit the amount of credit exposure to any one
issue, issuer or type of instrument. As of July 27, 2008, we were in
compliance with our investment policy. As of July 27, 2008, our
investments in the financial sector and government agencies accounted for
approximately 36% and 30%, respectively, of our total investment
portfolio. Substantially all of our investments are with A/A2 or
better rated securities with the substantial majority of the securities rated
AA-/Aa3 or better. As of July 27, 2008, $892.6 million of our
portfolio had a maturity of less than a year, and a substantial majority of our
remaining investments have remaining maturities of three years or
less.
Recent
U.S. sub-prime mortgage defaults have had a significant impact across various
sectors of the financial markets, causing global credit and liquidity issues.
The short-term funding markets experienced issues since the third and fourth
quarter of calendar 2007, leading to liquidity disruption in the market. If the
global credit market continues to deteriorate, our investment portfolio may be
impacted and we could determine some of our investments are impaired, which
could adversely impact our financial results.
Stock
Repurchase Program
During
fiscal year 2005, we announced that our Board of Directors, or the Board, had
authorized a stock repurchase program to repurchase shares of our common stock,
subject to certain specifications, up to an aggregate maximum amount of $300
million. During fiscal year 2007, the Board further approved an
increase of $400 million to the original stock repurchase program. In fiscal
year 2008, we announced a stock repurchase program under which we may
purchase up to an additional $1.0 billion of our common stock over a three year
period through May 2010. On August 12, 2008, we announced that our Board further
authorized an additional increase of $1.0 billion to the stock repurchase
program. As a result of these increases, we have an ongoing authorization from
the Board, subject to certain specifications, to repurchase shares of our common
stock up to an aggregate maximum amount of $2.7 billion through May
2010.
The
repurchases will be made from time to time in the open market, in privately
negotiated transactions, or in structured stock repurchase programs, and may be
made in one or more larger repurchases, in compliance with the Exchange Act Rule
10b-18, subject to market conditions, applicable legal requirements, and other
factors. The program does not obligate us to acquire any particular amount of
common stock and the program may be suspended at any time at our
discretion. As part of our share repurchase program, we have entered into,
and we may continue to enter into, structured share repurchase transactions with
financial institutions. These agreements generally require that we make an
up-front payment in exchange for the right to receive a fixed number of shares
of our common stock upon execution of the agreement, and a potential incremental
number of shares of our common stock, within a pre-determined range, at the end
of the term of the agreement.
During
the first half of fiscal year 2009, we entered into a structured share
repurchase transaction to repurchase 6.3 million shares for $123.9 million which
we recorded on the trade date of the transaction. Through July 27,
2008, we had repurchased 68.0 million shares under our stock repurchase program
for a total cost of $1.16 billion. During the third quarter of fiscal
year 2009, we expect to use cash in connection with the repurchase of shares
under our stock repurchase program.
Common
Stock
At the
Annual Meeting of Stockholders held on June 19, 2008, the stockholders approved
an increase in our authorized number of shares of common stock to 2,000,000,000.
The par value of common stock remains unchanged at $0.001 per
share.
Operating
Capital and Capital Expenditure Requirements
We
believe that our existing cash balances and anticipated cash flows from
operations will be sufficient to meet our operating, acquisition and capital
requirements for at least the next 12 months. However, there is no assurance
that we will not need to raise additional equity or debt financing within this
time frame. Additional financing may not be available on favorable terms or at
all and may be dilutive to our then-current stockholders. We also may require
additional capital for other purposes not presently contemplated. If we are
unable to obtain sufficient capital, we could be required to curtail capital
equipment purchases or research and development expenditures, which could harm
our business. Factors that could affect our cash used or generated from
operations and, as a result, our need to seek additional borrowings or capital
include:
·
|
decreased
demand and market acceptance for our products and/or our customers’
products;
|
·
|
inability
to successfully develop and produce in volume production our
next-generation products;
|
·
|
competitive
pressures resulting in lower than expected average selling prices;
and
|
·
|
new
product announcements or product introductions by our
competitors.
|
In
addition, we may continue to use cash in connection with the acquisition of new
businesses or assets and capital expenditures related to our property purchases
or property development activities. We are currently in the process of planning
to construct a new campus in Santa Clara, California. If we move forward with
these plans, we may be required to fund significant construction costs using our
cash, cash equivalents and marketable securities. While we expect that we will
have sufficient balances of cash, cash equivalents and marketable securities
available for this purpose, there is no assurance that we will not need to raise
additional debt financing in order to fund this project. Such additional
financing may not be available on favorable terms, or at all.
For
additional factors that could impact our liquidity, please refer to “Item
1A. Risk Factors - Risks Related to Our Business and Products” - Our operating
results are unpredictable and may fluctuate, and if our operating results are
below the expectations of securities analysts or investors, the trading price of
our stock could decline.”
3dfx Asset
Purchase
On
December 15, 2000, NVIDIA Corporation and one of our indirect subsidiaries
entered into an Asset Purchase Agreement, or APA, which closed on April 18,
2001, to purchase certain graphics chip assets from 3dfx. Under the terms of the
APA, the cash consideration due at the closing was $70.0 million, less $15.0
million that was loaned to 3dfx pursuant to a Credit Agreement dated
December 15, 2000. The Asset Purchase Agreement also provided, subject to
the other provisions thereof, that if 3dfx properly certified that all its debts
and other liabilities had been provided for, then we would have been obligated
to pay 3dfx one million shares, which due to subsequent stock splits now totals
six million shares, of NVIDIA common stock. If 3dfx could not make such a
certification, but instead properly certified that its debts and liabilities
could be satisfied for less than $25.0 million, then 3dfx could have elected to
receive a cash payment equal to the amount of such debts and liabilities and a
reduced number of shares of our common stock, with such reduction calculated by
dividing the cash payment by $25.00 per share. If 3dfx could not certify that
all of its debts and liabilities had been provided for, or could not be
satisfied, for less than $25.0 million, we would not be obligated under the
agreement to pay any additional consideration for the assets.
In
October 2002, 3dfx filed for Chapter 11 bankruptcy protection in the United
States Bankruptcy Court for the Northern District of California. In March 2003,
we were served with a complaint filed by the Trustee appointed by the Bankruptcy
Court which sought, among other things, payments from us as additional purchase
price related to our purchase of certain assets of 3dfx. In early November
2005, after several months of mediation, NVIDIA and the Official Committee of
Unsecured Creditors, or the Creditors’ Committee, agreed to a Plan of
Liquidation of 3dfx, which included a conditional settlement of the Trustee’s
claims against us. This conditional settlement was subject to a confirmation
process through a vote of creditors and the review and approval of the
Bankruptcy Court after notice and hearing. The conditional settlement called for
a payment by NVIDIA of approximately $30.6 million to the 3dfx estate. Under the
settlement, $5.6 million related to various administrative expenses and Trustee
fees, and $25.0 million related to the satisfaction of debts and liabilities
owed to the general unsecured creditors of 3dfx. Accordingly, during the three
month period ended October 30, 2005, we recorded $5.6 million as a charge to
settlement costs and $25.0 million as additional purchase price for
3dfx. The Trustee advised that he intended to object to the
settlement. However, the conditional settlement never progressed substantially
through the confirmation process.
On December 21, 2005, the Bankruptcy
Court determined that it would schedule trial of one portion of the Trustee’s
case against NVIDIA. On January 2, 2007, NVIDIA exercised its right to terminate
the settlement agreement on grounds that the Bankruptcy Court had failed to
proceed toward confirmation of the Creditors’ Committee’s plan. A non-jury trial
began on March 21, 2007 on valuation issues in the Trustee's constructive
fraudulent transfer claims against NVIDIA. Specifically, the Bankruptcy Court
tried four questions: (1) what did 3dfx transfer to NVIDIA in the APA?; (2) of
what was transferred, what qualifies as "property" subject to the Bankruptcy
Court's avoidance powers under the Uniform Fraudulent Transfer Act and relevant
bankruptcy code provisions?; (3) what is the fair market value of the "property"
identified in answer to question (2)?; and (4) was the $70 million that NVIDIA
paid "reasonably equivalent" to the fair market value of that property? At the
conclusion of the evidence, the Bankruptcy Court asked the parties to submit
post-trial briefing. That briefing was completed on May 25, 2007. On
April 30, 2008, the Bankruptcy Court issued its Memorandum Decision After Trial,
in which it provided a detailed summary of the trial proceedings and the
parties' contentions with respect to each of the questions to be
tried. The Bankruptcy Court concluded that "the creditors of
3dfx were not injured by the Transaction." This decision does not entirely
dispose of the Trustee's action, however; still pending are the Trustee's claims
for successor liability and intentional fraudulent conveyance. On May
12, 2008, the Trustee filed a motion for leave to pursue an interlocutory
appeal, but thereafter withdrew the motion. NVIDIA has filed a motion
for summary judgment on all causes of action in order to convert the Memorandum
Decision After Trial to a final judgment. That motion is scheduled to
be heard on August 28, 2008.
Please
refer to Note 12 of the Notes to Condensed Consolidated Financial Statements for
further information regarding this litigation.
Product
Defect
Our
products are complex and may contain defects or experience failures due to any
number of issues in design, fabrication, packaging, materials and/or use within
a system. If any of our products or technologies contains a defect,
compatibility issue or other error, we may have to invest additional research
and development efforts to find and correct the issue. Such efforts
could divert our management’s and engineers’ attention from the development of
new products and technologies and could increase our operating costs and reduce
our gross margin. In addition, an error or defect in new products or releases or
related software drivers after commencement of commercial shipments could result
in failure to achieve market acceptance or loss of design wins. Also, we may be
required to reimburse customers, including for customers’ costs to repair or
replace the products in the field, which could cause our revenue to decline. A
product recall or a significant number of product returns could be expensive,
damage our reputation and could result in the shifting of business to our
competitors. Costs associated with correcting defects, errors, bugs or other
issues could be significant and could materially harm our financial
results.
During
our fiscal quarter ended July 27, 2008, we recorded a $196.0 million charge
against cost of revenue to cover anticipated customer warranty, repair, return,
replacement and other associated costs arising from a weak die/packaging
material set in certain versions of our previous generation MCP and GPU products
used in notebook systems. All of our newly manufactured products and all of our
products that are currently shipping in volume have a different material set
that we believe is more robust.
The
previous generation MCP and GPU products that are impacted were included in a
number of notebook products that were shipped and sold in significant
quantities. Certain notebook configurations of these MCP and GPU products are
failing in the field at higher than normal rates. While we have not been able to
determine a root cause for these failures, testing suggests a weak material set
of die/package combination, system thermal management designs, and customer use
patterns are contributing factors. We have worked with our customers to develop
and have made available for download a software driver to cause the system fan
to begin operation at the powering up of the system and reduce the thermal
stress on these chips. We have also recommended to our customers that they
consider changing the thermal management of the MCP and GPU products in their
notebook system designs. We intend to fully support our customers in their
repair and replacement of these impacted MCP and GPU products that fail, and
their other efforts to mitigate the consequences of these failures.
We
continue to engage in discussions with our supply chain regarding reimbursement
to us for some or all of the costs we have incurred and may incur in the future
relating to the weak material set. We also continue to seek to access our
insurance coverage. However, there can be no assurance that we will recover any
such reimbursement. We continue to not see any abnormal failure rates in any
systems using NVIDIA products other than certain notebook configurations.
However, we are continuing to test and otherwise investigate other products.
There can be no assurance that we will not discover defects in other MCP or GPU
products.
Contractual
Obligations
At July
27, 2008, we had outstanding inventory purchase obligations and capital purchase
obligations totaling approximately $615.6 million and $46.0 million,
respectively. There were no other material changes in our contractual
obligations from those disclosed in our Annual Report on Form 10-K for the year
ended January 27, 2008. Please see Item 7, “Management’s Discussion and Analysis
of Financial Condition and Results of Operations - Liquidity and Capital
Resources” in our Form 10-K for a description of our contractual
obligations.
Off-Balance Sheet Arrangements
As of
July 27, 2008, we had no material off-balance sheet arrangements as defined in
Regulation S-K 303(a)(4)(ii).
Adoption
of New Accounting Pronouncements
On
January 28, 2008, we adopted Statement of Financial Accounting Standards No.
157, or SFAS No. 157,
Fair
Value Measurements
. SFAS No. 157 for all financial assets and financial
liabilities recognized or disclosed at fair value in the financial statements.
SFAS No. 157 establishes a framework for measuring fair value and expands
disclosures about fair value measurements. The changes to current practice
resulting from the application of SFAS No. 157 relate to the definition of fair
value, the methods used to measure fair value, and the expanded disclosures
about fair value measurements. The adoption of SFAS No. 157 for
financial assets and liabilities did not have a significant impact on our
consolidated financial statements, and the resulting fair values calculated
under SFAS No. 157 after adoption were not significantly different than the
fair values that would have been calculated under previous guidance. Please
refer to Note 16 of these Notes to the Condensed Consolidated Financial
Statements for further details on our fair value measurements.
Additionally,
in February 2008, the Financial Accounting Standards Board, or FASB, issued FASB
Staff Position No. FAS 157-2, or FSP No. 157-2,
Effective Date of FASB Statement
No. 157, to partially defer FASB Statement No. 157, Fair Value
Measurements
. FSP No. 157-2 defers the effective date of
SFAS No. 157 for non-financial assets and non-financial liabilities, except
those that are recognized or disclosed at fair value in the financial statements
on a recurring basis (at least annually), to fiscal years, and interim periods
within those fiscal years, beginning after November 15, 2008. We do not
believe the adoption of FSP No. 157-2 will have a material impact on our
consolidated financial position, results of operations and cash
flows.
On
January 28, 2008, we adopted Statement of Financial Accounting Standards No.
159, or SFAS No. 159,
The
Fair Value Option for Financial Assets and Financial Liabilities.
SFAS
No. 159 permits companies to choose to measure certain financial
instruments and certain other items at fair value using an
instrument-by-instrument election. The standard requires that unrealized gains
and losses on items for which the fair value option has been elected be reported
in earnings. Under SFAS No. 159, we did not elect the fair value option for any
of our assets and liabilities. The adoption of SFAS No. 159 did not have an
impact on our consolidated financial statements.
In
June 2007, the FASB ratified Emerging Issues Task Force Issue
No. 07-3, or EITF 07-3,
Accounting for Nonrefundable Advance
Payments for Goods or Services to Be Used in Future Research and Development
Activities
. EITF 07-3 requires non-refundable advance payments for goods
and services to be used in future research and development activities to be
recorded as an asset and the payments to be expensed when the research and
development activities are performed. We adopted the provisions of EITF 07-3
beginning with our fiscal quarter ended April 27, 2008. The adoption of EITF
07-3 did not have any impact on our consolidated financial position, results of
operations and cash flows.
Recently
Issued Accounting Pronouncements
In
December 2007, the FASB issued Statement of Financial Accounting
Standards No. 141 (revised 2007), or SFAS No. 141(R),
Business Combinations
. Under
SFAS No. 141(R), an entity is required to recognize the assets
acquired, liabilities assumed, contractual contingencies, and contingent
consideration at their fair value on the acquisition date. It further requires
that acquisition-related costs be recognized separately from the acquisition and
expensed as incurred, restructuring costs generally be expensed in periods
subsequent to the acquisition date, and changes in accounting for deferred tax
asset valuation allowances and acquired income tax uncertainties after the
measurement period impact income tax expense. In addition, acquired in-process
research and development is capitalized as an intangible asset and amortized
over its estimated useful life. We are required to adopt the
provisions of SFAS No. 141(R) beginning with our fiscal quarter ending April 26,
2009. The adoption of SFAS No. 141(R) is expected to change
our accounting treatment for business combinations on a prospective basis
beginning in the period it is adopted.
ITEM 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK
Investment
and Interest Rate Risk
At July
27, 2008 and January 27, 2008, we had $1.66 billion and $1.81 billion,
respectively, in cash, cash equivalents and marketable securities. We
invest in a variety of financial instruments, consisting principally of cash and
cash equivalents, asset-backed securities, commercial paper, mortgage-backed
securities issued by Government-sponsored enterprises, equity securities, money
market funds and highly liquid debt securities of corporations, municipalities
and the United States government and its agencies. As of July 27, 2008, we
did not have any investments in auction-rate preferred securities. Our
investments are denominated in United States dollars.
We
account for our investment instruments in accordance with Statement of Financial
Accounting Standards No. 115, or SFAS No. 115,
Accounting for Certain Investments
in Debt and Equity Securities
. All of the cash equivalents and marketable
securities are treated as “available-for-sale” under SFAS No. 115. Investments
in both fixed rate and floating rate interest earning instruments carry a degree
of interest rate risk. Fixed rate securities may have their market value
adversely impacted due to a rise in interest rates, while floating rate
securities may produce less income than expected if interest rates fall. Due in
part to these factors, our future investment income may fall short of
expectations due to changes in interest rates or if the decline in fair value of
our publicly traded debt or equity investments is judged to be
other-than-temporary. We may suffer losses in principal if we are forced to sell
securities that decline in securities market value due to changes in interest
rates. However, because any debt securities we hold are classified as
“available-for-sale,” no gains or losses are realized in our condensed
consolidated statements of income due to changes in interest rates unless
such securities are sold prior to maturity or unless declines in value are
determined to be other-than-temporary. These securities are reported at
fair value with the related unrealized gains and losses included in accumulated
other comprehensive income (loss), a component of stockholders’ equity, net of
tax.
As of
July 27, 2008, we performed a sensitivity analysis on our floating and fixed
rate financial investments. According to our analysis, parallel shifts in the
yield curve of both plus or minus 0.5% would result in changes in fair market
values for these investments of approximately $4.6 million.
Recent
U.S. sub-prime mortgage defaults have had a significant impact across various
sectors of the financial markets, causing global credit and liquidity issues.
The short-term funding markets experienced issues since the third and fourth
quarter of calendar 2007, leading to liquidity disruption in the market. If the
global credit market continues to deteriorate, our investment portfolio may be
impacted and we could determine some of our investments are impaired, which
could adversely impact our financial results. Our investments in the
financial sector and government agencies accounted for approximately 36% and
30%, respectively, of our total investment portfolio. If the fair value of our
investments in these sectors was to decline by 2%-5%, it would result in changes
in fair market values for these investments by approximately $20-$49
million.
Exchange
Rate Risk
We
consider our direct exposure to foreign exchange rate fluctuations to be
minimal. Currently, sales and arrangements with third-party
manufacturers provide for pricing and payment in United States dollars, and,
therefore, are not subject to exchange rate fluctuations. Increases in the value
of the United States’ dollar relative to other currencies would make our
products more expensive, which could negatively impact our ability to compete.
Conversely, decreases in the value of the United States’ dollar relative to
other currencies could result in our suppliers raising their prices in order to
continue doing business with us. Fluctuations in currency exchange rates could
harm our business in the future. During the second quarter of fiscal years
2009 and 2008, the aggregate exchange loss included in determining net income
(loss) was $0.9 million and $0.1 million, respectively. During the first half of
fiscal years 2009 and 2008, the aggregate exchange loss included in determining
net income was $5.1 million and $0.7 million, respectively.
We may
enter into certain transactions such as forward contracts which are designed to
reduce the future potential impact resulting from changes in foreign currency
exchange rates. There were no forward exchange contracts outstanding at
July 27, 2008.
Controls
and Procedures
Disclosure
Controls and Procedures
Based on
their evaluation as of July 27, 2008, our management, including our Chief
Executive Officer and Chief Financial Officer, have concluded that our
disclosure controls and procedures as defined in Rule 13a-15(e) and Rule
15d-15(e) under the Securities Exchange Act of 1934, or the Exchange Act, were
effective.
Changes
in Internal Control Over Financial Reporting
There
were no changes in our internal controls over financial reporting during our
fiscal quarter ended July 27, 2008 that have materially affected, or are
reasonably likely to materially affect, our internal control over financial
reporting.
Inherent
Limitations on Effectiveness of Controls
Our
management, including our Chief Executive Officer and Chief Financial Officer,
does not expect that our disclosure controls and procedures or our internal
controls, will prevent all error and all fraud. A control system, no matter how
well conceived and operated, can provide only reasonable, not absolute,
assurance that the objectives of the control system are met. Further, the design
of a control system must reflect the fact that there are resource constraints,
and the benefits of controls must be considered relative to their costs. Because
of the inherent limitations in all control systems, no evaluation of controls
can provide absolute assurance that all control issues and instances of fraud,
if any, within NVIDIA have been detected.
Please
see Part I, Item 1, Note 12 of the Notes to Condensed Consolidated
Financial Statements for a discussion of our legal
proceedings.
A
description of the risk factors associated with our business is set forth below.
This description includes any material changes to and supersedes the description
of risk factors associated with our business previously disclosed in Part II,
“Item 1A. Risk Factors” of our Quarterly Report on Form 10-Q for the fiscal
quarter ended April 27, 2008.
Risks
Related to Competition
If
we are unable to compete in the markets for our products, our financial results
could be adversely impacted.
The
markets for our products are highly competitive and are characterized by rapid
technological change, new product introductions, evolving industry standards,
and declining average selling prices. We believe that our ability to remain
competitive will depend on how well we are able to anticipate the features and
functions that customers will demand from our products and whether we are able
to deliver consistent volumes of our products at acceptable prices and quality
levels. We believe other factors impacting our ability to compete
are:
·
|
product
performance;
|
·
|
product
bundling by competitors with multiple product lines;
|
·
|
breadth
and frequency of product offerings;
|
·
|
access
to customers and distribution channels;
|
·
|
backward-forward
software support;
|
·
|
conformity
to industry standard application programming interfaces;
and
|
·
|
manufacturing
capabilities.
|
We expect
competition to increase both from existing competitors and new market entrants
with products that may be less costly than ours, may provide better performance
or additional features not provided by our products, or from companies that
provide or intend to provide competing product solutions. Any of
these sources of competition could harm our business. For example, we were
the largest supplier of AMD 64 chipsets with 60% segment share in the second
quarter of calendar year 2008, as reported in the 2008 Second Quarter PC
Processor and Chipset report from Mercury Research. Decline in demand for our
chipsets in the AMD segment for any reason including competition from existing
competitors or new market entrants could materially impact our financial
results.
Some of
our competitors may have or be able to obtain greater marketing, financial,
distribution and manufacturing resources than we do and may be better able to
adapt to customer or technological changes. Currently, Intel Corporation, or
Intel, which has greater resources than we do, is working on a multi-core
architecture code-named Larrabee, which is reported to combine the graphics
processing capabilities of a graphics processing unit, or GPU, with an x86
architecture and is expected to compete with our products in various
markets. Intel is targeting the gaming market as well as other
industries that demand high-performance graphics and computing with Larrabee,
both of which are important markets for us. In order to compete, we may have to
invest substantial amounts in research and development without assurance that
our products will be superior to those of our competitors or that our products
will achieve market acceptance.
Our
current competitors include the following:
·
|
suppliers
of discrete media and communication processors, or MCPs, that incorporate
a combination of networking, audio, communications and input/output
functionality as part of their existing solutions, such as Advanced Micro
Devices, Inc., or AMD, Broadcom Corporation, or Broadcom, Silicon
Integrated Systems Corporation, or SIS, and Intel;
|
·
|
suppliers
of GPUs, including MCPs that incorporate 3D graphics functionality as part
of their existing solutions, such as AMD, Intel, Matrox Electronics
Systems Ltd., SIS and VIA Technologies, Inc.;
|
·
|
suppliers
of GPUs or GPU intellectual property for handheld and digital consumer
electronics devices that incorporate advanced graphics functionality as
part of their existing solutions, such as AMD, Broadcom, Fujitsu Limited,
Imagination Technologies Ltd., ARM Holdings plc, Marvell Technology Group
Ltd., or Marvell, NEC Corporation, Qualcomm Incorporated, or Qualcomm,
Renesas Technology, Seiko-Epson, Texas Instruments Incorporated, or Texas
Instruments, and Toshiba America, Inc.; and
|
·
|
suppliers
of application processors for handheld and digital consumer electronics
devices that incorporate multimedia processing as part of their existing
solutions such as Broadcom, Texas Instruments, Qualcomm, Marvell,
Freescale Semiconductor Inc., Samsung and ST
Microelectronics.
|
As
Intel and AMD continue to pursue platform solutions, we may not be able to
successfully compete and our business would be negatively impacted.
We expect
substantial competition from both Intel’s and AMD’s strategy of selling platform
solutions, such as the success Intel achieved with its Centrino platform
solution. AMD has also announced a platform solution. Additionally, we
expect that Intel and AMD will extend this strategy to other segments, including
the possibility of successfully integrating a central processing unit, or CPU,
and a GPU on the same chip, as evidenced by AMD’s announcement of its Fusion
processor project. If AMD and Intel continue to pursue platform solutions, we
may not be able to successfully compete and our business would be negatively
impacted.
Risks
Related to Our Partners and Customers
We
depend on foundries to manufacture our products and these third parties may not
be able to satisfy our manufacturing requirements, which would harm our
business.
We do
not manufacture the silicon wafers used for our products and do not own or
operate a wafer fabrication facility. Instead, industry-leading
foundries manufacture our semiconductor wafers using their state-of-the-art
fabrication equipment and techniques. The foundries, which have limited
capacity, also manufacture products for other semiconductor companies, including
some of our competitors. Since we do not have long-term commitment
contracts with any of these foundries, they do not have an obligation to provide
us with any minimum quantity of product at any time or at any set price, except
as may be provided in a specific purchase order. Most of our
products are only manufactured by one foundry at a time. In times of
high demand, the foundries could choose to prioritize their capacity for other
companies, reduce or eliminate deliveries to us, or increase the prices that
they charge us. If we are unable to meet customer demand due to
reduced or eliminated deliveries or have to increase the prices of our products,
we could lose sales to customers, which would negatively impact our revenue and
our reputation.
Because
the lead-time needed to establish a strategic relationship with a new
manufacturing partner could be several quarters, we do not have an alternative
source of supply for our products. In addition, the time and effort to qualify a
new foundry could result in additional expense, diversion of resources, or lost
sales any of which would negatively impact our financial results. We believe
that long-term market acceptance for our products will depend on reliable
relationships with the third-party manufacturers we use to ensure adequate
product supply and competitive pricing to respond to customer
demand.
Failure
to achieve expected manufacturing yields for our products could negatively
impact our financial results and damage our reputation.
Manufacturing
yields for our products are a function of product design, which is developed
largely by us, and process technology, which typically is proprietary to the
manufacturer. Low yields may result from either product design or process
technology failure. We do not know a yield problem exists until our
design is manufactured. When a yield issue is identified, the product
is analyzed and tested to determine the cause. As a result, yield problems may
not be identified until well into the production process. Resolution of yield
problems requires cooperation by and communication between us and the
manufacturer. Because of our potentially limited access to wafer foundry
capacity, decreases in manufacturing yields could result in an increase in our
costs and force us to allocate our available product supply among our customers.
Lower than expected yields could potentially harm customer relationships, our
reputation and our financial results.
We
are dependent on third parties for assembly, testing and packaging of our
products, which reduces our control over the delivery schedule, product quantity
or product quality.
Our
products are assembled, tested and packaged by independent subcontractors, such
as Advanced Semiconductor Engineering, Inc., Amkor Technology, JSI Logistics,
Ltd., King Yuan Electronics Co., Siliconware Precision Industries Co. Ltd., and
ChipPAC. As a result, we do not directly control our product delivery schedules,
product quantity, or product quality. All of these subcontractors
assemble, test and package products for other companies, including some of our
competitors. Since we do not have long-term agreements with our
subcontractors, when demand for subcontractors to assemble, test or package
products is high, our subcontractors may decide to prioritize the orders of
other customers over our orders. Since the time required to qualify a
different subcontractor to assemble, test or package our products can be
lengthy, if we have to find a replacement subcontractor we could experience
significant delays in shipments of our products, product shortages, a decrease
in the quality of our products, or an increase in product cost. Any product
shortages or quality assurance problems could increase the costs of manufacture,
assembly or testing of our products, which could cause our gross margin and
revenue to decline.
Failure
to transition to new manufacturing process technologies could adversely affect
our operating results and gross margin.
We use
the most advanced manufacturing process technology appropriate for our products
that is available from our third-party foundries. As a result, we continuously
evaluate the benefits of migrating our products to smaller geometry process
technologies in order to improve performance and reduce costs. We believe this
strategy will help us remain competitive. Our current product
families are manufactured using 0.15 micron, 0.14 micron, 0.13 micron, 0.11
micron, 90 nanometer, 65 nanometer and 55 nanometer process
technologies. Manufacturing process technologies are subject to
rapid change and require significant expenditures for research and development,
which could negatively impact our operating expenses and gross
margin.
We have
experienced difficulty in migrating to new manufacturing processes in the past
and, consequently, have suffered reduced yields, delays in product deliveries
and increased expense levels. We may face similar difficulties, delays and
expenses as we continue to transition our new products to smaller geometry
processes. Moreover, we are dependent on our third-party manufacturers to invest
sufficient funds in new manufacturing techniques in order to have ample capacity
for all of their customers and to develop the techniques in a timely manner. Our
product cycles may also depend on our third-party manufacturers migrating to
smaller geometry processes successfully and in time for us to meet our customer
demands. Some of our competitors own their manufacturing facilities
and may be able to move to a new state of the art manufacturing process more
quickly or more successfully than our manufacturing partners. For
example, Intel has released a 45 nanometer chip for desktop computers which
it is manufacturing in its foundries. If our suppliers fall behind
our competitors in manufacturing processes, the development and customer demand
for our products and the use of our products could be negatively
impacted. If we are forced to use larger geometric processes in
manufacturing a product than our competition, our gross margin may be
reduced. The inability by us or our third-party manufacturers to
effectively and efficiently transition to new manufacturing process technologies
may adversely affect our operating results and our gross margin.
We
rely on third-party vendors to supply software development tools to us for the
development of our new products and we may be unable to obtain the tools
necessary to develop or enhance new or existing products.
We rely
on third-party software development tools to assist us in the design, simulation
and verification of new products or product enhancements. To bring new products
or product enhancements to market in a timely manner, or at all, we need
software development tools that are sophisticated enough or technologically
advanced enough to complete our design, simulations and
verifications. In the past, we have experienced delays in the
introduction of products as a result of the inability of then available software
development tools to fully simulate the complex features and functionalities of
our products. In the future, the design requirements necessary to meet consumer
demands for more features and greater functionality from our products may exceed
the capabilities of available software development
tools. Unavailability of software development tools may result in our
missing design cycles or losing design wins either of which could result in a
loss of market share or negatively impact our operating results.
Because
of the importance of software development tools to the development and
enhancement of our products, a critical component of our product development
efforts is our partnerships with leaders in the computer-aided design industry,
including Cadence Design Systems, Inc. and Synopsys, Inc. We have invested
significant resources to develop relationships with these industry leaders and
have often assisted them in the definition of their new products. We believe
that forming these relationships and utilizing next-generation development tools
to design, simulate and verify our products will help us remain at the forefront
of the 3D graphics, communications and networking segments and develop products
that utilize leading-edge technology on a rapid basis. If these relationships
are not successful, we may be unable to develop new products or product
enhancements in a timely manner, which could result in a loss of market share, a
decrease in revenue or negatively impact our operating results.
We sell our products to a small
number of customers and our business could suffer if we lose any of these
customers.
We have a
limited number of customers and our sales are highly
concentrated. Sales to a significant customer with revenue in excess
of 10% of our total revenue, represented approximately 13% and 12% of our total
revenue during the second quarter of fiscal years 2009 and 2008,
respectively. Aggregate sales to our two largest customers accounted
for approximately 21% and 16% of our total revenue for the first half of
fiscal years 2009 and 2008, respectively. Although a small number of
our other customers represent the majority of our revenue, their end customers
include a large number of original equipment manufacturers, or OEMs, and system
integrators throughout the world who, in many cases, specify the graphics
supplier. Our sales process involves achieving key design wins with leading
personal computer, or PC, OEMs and major system builders and supporting the
product design into high volume production with key contract equipment
manufacturers, or CEMs, original design manufacturers, or ODMs, add-in board and
motherboard manufacturers. These design wins in turn influence the retail and
system builder channel that is serviced by CEMs, ODMs, add-in board and
motherboard manufacturers. Our distribution strategy is to work with a small
number of leading independent CEMs, ODMs, add-in board and motherboard
manufacturers, and distributors, each of which has relationships with a broad
range of system builders and leading PC OEMs. If we were to lose sales to our PC
OEMs, CEMs, ODMs, add-in board manufacturers and motherboard manufacturers and
were unable to replace the lost sales with sales to different customers, they
were to significantly reduce the number of products they order from us, or we
were unable to collect accounts receivable from them, our revenue may not reach
or exceed the expected level in any period, which could harm our financial
condition and our results of operations.
Any difficulties
in collecting accounts receivable, including from foreign customers, could harm
our operating results and financial condition.
Our
accounts receivable are highly concentrated and make us vulnerable to adverse
changes in our customers' businesses, and to downturns in the industry and the
worldwide economy. One customer accounted for approximately 11% and
12% of our accounts receivable balance at July 27, 2008 and January 27,
2008, respectively.
Difficulties
in collecting accounts receivable could materially and adversely affect our
financial condition and results of operations. We continue to work directly with
more foreign customers and it may be difficult to collect accounts receivable
from them. We maintain an allowance for doubtful accounts for estimated losses
resulting from the inability of our customers to make required payments. This
allowance consists of an amount identified for specific customers and an amount
based on overall estimated exposure. If the financial condition of our customers
were to deteriorate, resulting in an impairment in their ability to make
payments, additional allowances may be required, we may be required to defer
revenue recognition on sales to affected customers, and we may be required to
pay higher credit insurance premiums, any of which could adversely affect our
operating results. In the future, we may have to record additional reserves or
write-offs and/or defer revenue on certain sales transactions which could
negatively impact our financial results.
Risks
Related to Our Business and Products
If
our products contain significant defects our financial results could be
negatively impacted, our reputation could be damaged and we could lose market
share.
Our
products are complex and may contain defects or experience failures due to any
number of issues in design, fabrication, packaging, materials and/or use within
a system. If any of our products or technologies contains a defect,
compatibility issue or other error, we may have to invest additional research
and development efforts to find and correct the issue. Such efforts
could divert our management’s and engineers’ attention from the development of
new products and technologies and could increase our operating costs and reduce
our gross margin. In addition, an error or defect in new products or releases or
related software drivers after commencement of commercial shipments could result
in failure to achieve market acceptance or loss of design wins. Also, we may be
required to reimburse customers, including for customers’ costs to repair or
replace the products in the field, which could cause our revenue to decline. A
product recall or a significant number of product returns could be expensive,
damage our reputation and could result in the shifting of business to our
competitors. Costs associated with correcting defects, errors, bugs or other
issues could be significant and could materially harm our financial
results.
During
our fiscal quarter ended July 27, 2008, we recorded a $196.0 million charge
against cost of revenue to cover anticipated customer warranty, repair, return,
replacement and other associated costs arising from a weak die/packaging
material set in certain versions of our previous generation MCP and GPU products
used in notebook systems. All of our newly manufactured products and all of our
products that are currently shipping in volume have a different material set
that we believe is more robust.
The
previous generation MCP and GPU products that are impacted were included in a
number of notebook products that were shipped and sold in significant
quantities. Certain notebook configurations of these MCP and GPU products are
failing in the field at higher than normal rates. While we have not been able to
determine a root cause for these failures, testing suggests a weak material set
of die/package combination, system thermal management designs, and customer use
patterns are contributing factors. We have worked with our customers to develop
and have made available for download a software driver to cause the system fan
to begin operation at the powering up of the system and reduce the thermal
stress on these chips. We have also recommended to our customers that they
consider changing the thermal management of the MCP and GPU products in their
notebook system designs. We intend to fully support our customers in their
repair and replacement of these impacted MCP and GPU products that fail, and
their other efforts to mitigate the consequences of these failures.
We
continue to engage in discussions with our supply chain regarding
reimbursement to us for some or all of the costs we have incurred and may incur
in the future relating to the weak material set. We also continue to
seek to access our insurance coverage. However, there can be no assurance that
we will recover any such reimbursement. We continue to not see any abnormal
failure rates in any systems using NVIDIA products other than certain notebook
configurations. However, we are continuing to test and otherwise investigate
other products. There can be no assurance that we will not discover defects in
other MCP or GPU products.
Our
failure to estimate customer demand properly could adversely affect our
financial results.
Our
inventory purchases are based upon future demand forecasts or orders from our
customers and may not accurately predict the quantity or type of products that
our customers will want or will ultimately purchase. In forecasting demand, we
make multiple assumptions any of which may prove to be incorrect. Situations
that may result in excess or obsolete inventory, which could result in
write-downs of the value of our inventory and/or a reduction in average selling
prices, and where our gross margin could be adversely affected
include:
·
|
if
there were a sudden and significant decrease in demand for our
products;
|
·
|
if
there were a higher incidence of inventory obsolescence because of rapidly
changing technology and customer requirements;
|
·
|
if
we fail to estimate customer demand properly for our older products as our
newer products are introduced; or
|
·
|
if
our competition were to take unexpected competitive pricing
actions.
|
Conversely,
if we underestimate our customers’ demand for our products, our third party
manufacturing partners may not have adequate capacity to increase production for
us meaning that we may not be able to obtain sufficient inventory to fill our
customers’ orders on a timely basis. Even if we are able to increase production
levels to meet customer demand, we may not be able to do so in a cost effective
or timely manner. Inability to fulfill our customers’ orders on a timely basis,
or at all, could damage our customer relationships, result in lost revenue,
cause a loss in market share, impact our customer relationships or damage our
reputation, any of which could adversely impact our business.
Because
we order products or materials in advance of anticipated customer demand, our
ability to reduce our inventory purchase commitments quickly in response to
lower than expected demand is limited.
We
manufacture our products based on forecasts of customer demand in order to have
shorter shipment lead times for our customers. As a result, we may
build inventories for anticipated periods of growth which do not occur or may
build inventory anticipating demand for a product that does not
materialize. Any inability to sell products to which we have devoted
resources could harm our business. In addition, cancellation or deferral of
customer purchase orders could result in our holding excess inventory, which
could adversely affect our gross margin and restrict our ability to fund
operations. Additionally, because we often sell a substantial portion of our
products in the last month of each quarter, we may not be able to reduce our
inventory purchase commitments in a timely manner in response to customer
cancellations or deferrals. We could be subject to excess or obsolete
inventories and be required to take corresponding inventory write-downs if
growth slows or does not materialize, or if we incorrectly forecast product
demand, which could negatively impact our financial
results.
Our
business results could be adversely affected if the identification and
development of new products or entry into or development of a new market is
delayed or unsuccessful.
In order
to maintain or improve our financial results, we will need to continue to
identify and develop new products as well as identify and enter new
markets. As our GPUs and other processors develop and competition
increases, we anticipate that product life cycles at the high end will remain
short and average selling prices will decline. In particular, average selling
prices and gross margins for our GPUs and other processors could decline as each
product matures and as unit volume increases. As a result, we will need to
introduce new products and enhancements to existing products to maintain or
improve overall average selling prices, our gross margin and our financial
results. We believe the success of our new product introductions will
depend on many factors outlined elsewhere in these risk factors as well as the
following:
·
|
market
demand for new products and enhancements to existing
products;
|
·
|
timely
completion and introduction of new product designs and new opportunities
for existing products;
|
·
|
seamless
transitions from an older product to a new product;
|
·
|
differentiation
of our new products from those of our competitors;
|
·
|
delays
in volume shipments of our products;
|
·
|
market
acceptance of our products instead of our customers' products;
and
|
·
|
availability
of adequate quantity and configurations of various types of memory
products.
|
In the
past, we have experienced delays in the development and adoption of new products
and have been unable to successfully manage product transitions from older to
newer products resulting in obsolete inventory.
To be
successful, we must also enter new markets or develop new uses for our future or
existing products. We cannot accurately predict if our current or existing
products or technologies will be successful in the new opportunities or markets
that we identify for them or that we will compete successfully in any new
markets we may enter. For example, we have developed products and other
technology in order for certain general-purpose computing operations to be
performed on a GPU rather than a CPU. This general purpose computing,
which is often referred to as GP computing, was a new use for the GPU which had
been entirely used for graphics rendering. During our fiscal year
2008 we introduced our NVIDIA Tesla family of products, which was our entry into
the high-performance computing industry, a new market for us. We also
offer our CUDA software development solution, which is a C language programming
environment for GPUs, that allows parallel computing on the GPU by using
standard C language to create programs that process large quantities of data in
parallel. Some of our competitors, including Intel, are now developing
their own solutions for the discrete graphics and computing markets. Our failure
to successfully develop, introduce or achieve market acceptance for new GPUs,
other products or other technologies or to enter into new markets or identify
new uses for existing or future products, could result in rapidly declining
average selling prices, reduced demand for our products or loss of market share
any of which could cause our revenue, gross margin and overall financial results
to suffer.
If
we are unable to achieve design wins, our products may not be adopted by our
target markets or customers either of which could negatively impact our
financial results.
The
success of our business depends to a significant extent on our ability to
develop new competitive products for our target markets and customers. We
believe achieving design wins, which entails having our existing and future
products chosen for hardware components or subassemblies designed by OEMs, ODMs,
add-in board and motherboard manufacturers, are an integral part of our future
success. Our OEM, ODM, and add-in board and motherboard manufacturers’ customers
typically introduce new system configurations as often as twice per year,
typically based on spring and fall design cycles or in connection with trade
shows. Accordingly, when our customers are making their design decisions, our
existing products must have competitive performance levels or we must timely
introduce new products in order to be included in our customers’ new system
configurations. This requires that we:
·
|
anticipate
the features and functionality that customers and consumers will demand;
|
·
|
incorporate
those features and functionalities into products that meet the exacting
design requirements of our customers;
|
·
|
price
our products competitively; and
|
·
|
introduce
products to the market within our customers’ limited design cycles.
|
If OEMs,
ODMs, and add-in board and motherboard manufacturers do not include our products
in their systems, they will typically not use our products in their systems
until at least the next design configuration. Therefore, we endeavor to develop
close relationships with our OEMs and ODMs, in an attempt to better anticipate
and address customer needs in new products so that we will achieve design
wins.
Our
ability to achieve design wins also depends in part on our ability to identify
and be compliant with evolving industry standards. Unanticipated changes in
industry standards could render our products incompatible with products
developed by major hardware manufacturers and software developers like AMD,
Intel and Microsoft Corporation, or Microsoft. If our products
are not in compliance with prevailing industry standards, we may not be designed
into our customers’ product designs. However, to be compliant with
changes to industry standards, we may have to invest significant time and
resources to redesign our products which could negatively impact our gross
margin or operating results. If we are unable to achieve new design wins for
existing or new customers, we may lose market share and our operating results
would be negatively impacted.
We
may have to invest more resources in research and development than anticipated,
which could increase our operating expenses and negatively impact our operating
results.
If new
competitors, technological advances by existing competitors, our entry into new
markets, or other competitive factors require us to invest significantly greater
resources than anticipated in our research and development efforts, our
operating expenses would increase. We have increased our engineering and
technical resources and had 3,876 and 2,865 full-time employees engaged in
research and development as of July 27, 2008 and July 29, 2007,
respectively. Research and development expenditures were $212.9 and
$158.0 million for the second quarter of fiscal years 2009 and 2008,
respectively and $431.7 million and $316.3 million for the first half of fiscal
years 2009 and 2008, respectively. Research and development expenses
included non-cash stock-based compensation expense of $24.2 million and $16.4
million for the second quarter of fiscal years 2009 and 2008, respectively and
$48.8 million and $38.8 million for the first half of fiscal years 2009 and
2008, respectively. If we are required to invest significantly greater resources
than anticipated in research and development efforts without a corresponding
increase in revenue, our operating results could decline. Research and
development expenses are likely to fluctuate from time to time to the extent we
make periodic incremental investments in research and development and these
investments may be independent of our level of revenue which could negatively
impact our financial results. In order to remain competitive, we anticipate that
we will continue to devote substantial resources to research and development,
and we expect these expenses to increase in absolute dollars in the foreseeable
future due to the increased complexity and the greater number of products under
development.
Because
our gross margin for any period depends on a number of factors, our failure to
forecast changes in any of these factors could adversely affect our gross
margin.
We are
focused on improving our gross margin. Our gross margin for any period depends
on a number of factors, including:
·
|
the
mix of our products sold;
|
·
|
average
selling prices;
|
·
|
introduction
of new products;
|
·
|
product
transitions;
|
·
|
sales
discounts;
|
·
|
unexpected
pricing actions by our competitors;
|
·
|
the
cost of product components; and
|
·
|
the
yield of wafers produced by the foundries that manufacture our
products.
|
During
the second quarter of fiscal year 2009, our gross margin declined significantly
to 16.8% as compared to 45.3% during the second quarter of fiscal year 2008 and
44.6% during the first quarter of fiscal year 2009. The decline in gross margin
for the second quarter of fiscal year 2009 reflects a $196.0 million charge
against cost of revenue to cover anticipated customer warranty, repair, return,
replacement and associated costs arising from a weak die/packaging material set
in certain versions of our previous generation MCP and GPU products used in
notebook systems, as well as the impact of average sales price regression we
experienced in our desktop GPU products as a result of increased competition. If
we do not correctly forecast the impact of any of the relevant factors on our
business, there may not be any actions we can take or we may not be able to take
any possible actions in time to counteract any negative impact on our gross
margin. In addition, if we are unable to meet our gross margin target for any
period or the target set by analysts, the trading price of our common stock may
decline.
We
may not be able to realize the potential financial or strategic benefits of
business acquisitions or strategic investments, which could hurt our ability to
grow our business, develop new products or sell our products.
We
have acquired and invested in other businesses that offered products, services
and technologies that we believe will help expand or enhance our existing
products and business. We may enter into future acquisitions of, or investments
in, businesses, in order to complement or expand our current businesses or enter
into a new business market. Negotiations associated with an acquisition or
strategic investment could divert management’s attention and other company
resources. Any of the following risks associated with past or future
acquisitions or investments could impair our ability to grow our business,
develop new products, our ability to sell our products, and ultimately could
have a negative impact on our growth or our financial results:
·
|
difficulty
in combining the technology, products, operations or workforce of the
acquired business with our business;
|
·
|
difficulty
in operating in a new or multiple new locations;
|
·
|
disruption
of our ongoing businesses or the ongoing business of the company we invest
in or acquire;
|
·
|
difficulty
in realizing the potential financial or strategic benefits of the
transaction;
|
·
|
difficulty
in maintaining uniform standards, controls, procedures and
policies;
|
·
|
disruption
of or delays in ongoing research and development
efforts;
|
·
|
diversion
of capital and other resources;
|
·
|
assumption
of liabilities;
|
·
|
diversion
of resources and unanticipated expenses resulting from litigation
arising from potential or actual business acquisitions or
investments;
|
·
|
difficulties
in entering into new markets in which we have limited or no experience and
where competitors in such markets have stronger positions;
and
|
·
|
impairment
of relationships with employees and customers, or the loss of any of our
key employees or customers of our target’s key employees or customers, as
a result of our acquisition or
investment.
|
In
addition, the consideration for any future acquisition could be paid in cash,
shares of our common stock, the issuance of convertible debt securities or a
combination of cash, convertible debt and common stock. If we make an investment
in cash or use cash to pay for all or a portion of an acquisition, our cash
reserves would be reduced which could negatively impact the growth of our
business or our ability to develop new products. However, if we pay the
consideration with shares of common stock, or convertible debentures, the
holdings of our existing stockholders would be diluted. We cannot forecast the
number, timing or size of future strategic investments or acquisitions, or the
effect that any such investments or acquisitions might have on our operations or
financial results.
We
are dependent on key employees and the loss of any of these employees could
negatively impact our business.
Our
future success and ability to compete is substantially dependent on our ability
to identify, hire, train and retain highly qualified key
personnel. The market for key employees in the semiconductor industry
can be competitive. None of our key employees is bound by an
employment agreement, meaning our relationships with all of our key employees
are at will. For instance, Marvin D. Burkett, Chief Financial Officer, or
CFO, informed us on March 21, 2008 of his intention to retire. Mr.
Burkett is expected to remain as CFO while a search is conducted to find his
replacement, and he may continue in some capacity with us thereafter. We are in
the process of recruiting a new CFO. The loss of the services of Mr.
Burkett or any of our other key employees without an adequate replacement or our
inability to hire new employees as needed could delay our product development
efforts, harm our ability to sell our products or otherwise negatively impact
our business.
Our
operating expenses are relatively fixed and we may not be able to reduce
operating expenses quickly in response to any revenue shortfalls.
Our
operating expenses, which are comprised of research and development expenses and
sales, general and administrative expenses, represented 34% and 26% of our total
revenue for the second quarter of fiscal years 2009 and 2008, respectively and
30% and 27% for the first half of fiscal years 2009 and 2008, respectively.
Operating expenses included stock-based compensation expense of $37.0
million and $26.8 million for the second quarter of fiscal years 2009 and 2008,
respectively and $76.0 million and $61.4 million for the first half of fiscal
years 2009 and 2008, respectively.
Since we often
recognize a substantial portion of our revenue in the last month of each
quarter, we may not be able to adjust our operating expenses in a timely manner
in response to any unanticipated revenue shortfalls in any quarter as was in the
case of the second quarter of fiscal year 2009. Further, some of our operating
expenses, like non-cash stock-based compensation expense can only be adjusted
over a longer period of time and cannot be reduced during a
quarter. If we are unable to reduce operating expenses quickly in
response to any revenue shortfalls, our financial results would be negatively
impacted.
Expensing
employee equity compensation materially and adversely affects our reported
operating results and could also adversely affect our competitive
position.
Since
inception, we have used equity through our stock option plans and our employee
stock purchase program as a fundamental component of our compensation packages.
We believe that these programs directly motivate our employees and, through the
use of vesting, encourage our employees to remain with us. As a result of
adjustments arising from our restatement related to stock option grant dates,
our operating results for fiscal years prior to fiscal year 2007 contain
recorded amounts of non-cash stock-based compensation expense. For our fiscal
years 2000 through 2006, this non-cash stock-based compensation expense was
calculated using primarily the intrinsic value-based method under Accounting
Principles Board Opinion No. 25, or APB 25,
Accounting for Stock Issued to
Employees and related interpretations.
In
December 2004, the FASB issued SFAS No. 123(R) which requires the
measurement and recognition of compensation expense for all stock-based
compensation payments. SFAS No. 123(R) requires that we record
compensation expense for stock options and our employee stock purchase plan
using the fair value of those awards. Stock-based compensation expense
resulting from our compliance with SFAS No. 123(R), included $40.4 million and
$29.5 million for the second quarter of fiscal years 2009 and 2008, respectively
and $82.5 and $66.9 million for the first half of fiscal years
2009 and 2008, respectively, which negatively impacted our operating
results. We believe that SFAS No. 123(R) will continue to negatively
impact our operating results.
To the
extent that SFAS No. 123(R) makes it more expensive to grant stock options or to
continue to have an employee stock purchase program, we may decide to incur
increased cash compensation costs. In addition, actions that we may take to
reduce stock-based compensation expense that may be more severe than any actions
our competitors may implement and may make it difficult to attract retain and
motivate employees, which could adversely affect our competitive position as
well as our business and operating results.
We
may be required to record a charge to earnings if our goodwill or amortizable
intangible assets become impaired, which could negatively impact our operating
results.
Under
accounting principles generally accepted in the United States, we review our
amortizable intangible assets and goodwill for impairment when events or changes
in circumstances indicate the carrying value may not be recoverable. Goodwill is
tested for impairment at least annually. The carrying value of our goodwill or
amortizable assets may not be recoverable due to factors such as a decline in
stock price and market capitalization, reduced estimates of future cash flows
and slower growth rates in our industry or in any of our business units.
Estimates of future cash flows are based on an updated long-term financial
outlook of our operations. However, actual performance in the near-term or
long-term could be materially different from these forecasts, which could impact
future estimates. For example, if one of our business units does not meet its
near-term and longer-term forecasts, the goodwill assigned to the business unit
could be impaired. We may be required to record a charge to earnings in our
financial statements during a period in which an impairment of our goodwill or
amortizable intangible assets is determined to exist, which may negatively
impact our results of operations.
Our
operating results are unpredictable and may fluctuate, and if our operating
results are below the expectations of securities analysts or investors, the
trading price of our stock could decline.
Many of
our revenue components fluctuate and are difficult to predict, and our operating
expenses are largely independent of revenue. Therefore, it is difficult for us
to accurately forecast revenue and profits or losses in any particular
period.
Any one
or more of the risks discussed in this Quarterly Report on Form 10-Q or other
factors could prevent us from achieving our expected future revenue or net
income. Accordingly, we believe that period-to-period comparisons of our results
of operations should not be relied upon as an indication of future performance.
Similarly, the results of any quarterly or full fiscal year period are not
necessarily indicative of results to be expected for a subsequent quarter or a
full fiscal year.
As a
result, it is possible that in some quarters our operating results could be
below the expectations of securities analysts or investors, which could cause
the trading price of our common stock to decline. We believe that our quarterly
and annual results of operations may continue to be affected by a variety of
factors that could harm our revenue, gross profit and results of
operations.
Risks
related to Market Conditions
We
are exposed to fluctuations in the market values of our portfolio investments
and in interest rates.
At
July 27, 2008 and January 27, 2008, we had $1.66 billion and $1.81 billion,
respectively, in cash, cash equivalents and marketable securities. We
invest in a variety of financial instruments, consisting principally of cash and
cash equivalents, asset-backed securities, commercial paper, mortgage-backed
securities issued by Government-sponsored enterprises, equity securities, money
market funds and highly liquid debt securities of corporations, municipalities
and the United States government and its agencies. As of July 27, 2008, we
did not have any investments in auction-rate preferred securities. All of our
investments are denominated in United States dollars.
We
account for our investment instruments in accordance with Statement of Financial
Accounting Standards No. 115, or SFAS No. 115,
Accounting for Certain Investments
in Debt and Equity Securities
. All of our cash equivalents and marketable
securities are treated as “available-for-sale” under SFAS No. 115. Investments
in both fixed rate and floating rate interest earning instruments carry a degree
of interest rate risk. Fixed rate debt securities may have their market value
adversely impacted due to a rise in interest rates, while floating rate
securities may produce less income than expected if interest rates fall. Due in
part to these factors, our future investment income may fall short of
expectations due to changes in interest rates or if the decline in fair value of
our publicly traded debt or equity investments is judged to be
other-than-temporary. We may suffer losses in principal if we are forced to sell
securities that decline in market value due to changes in interest rates.
However, because any debt securities we hold are classified as
“available-for-sale,” no gains or losses are realized in our condensed
consolidated statements of income due to changes in interest rates unless such
securities are sold prior to maturity or unless declines in value are determined
to be other-than-temporary. These securities are reported at fair value
with the related unrealized gains and losses included in accumulated other
comprehensive income, a component of stockholders’ equity, net of
tax.
Recent
U.S. sub-prime mortgage defaults have had a significant impact across various
sectors of the financial markets, causing global credit and liquidity issues.
The short-term funding markets experienced issues since the third and fourth
quarter of calendar 2007, leading to liquidity disruption in the market. If the
global credit market continues to deteriorate, our investment portfolio may be
impacted and we could determine some of our investments are impaired, which
could adversely impact our financial results. As of July 27, 2008, our
investments in the financial sector and government agencies accounted for
approximately 36% and 30%, respectively, of our total investment portfolio. If
the fair value of our investments in these sectors was to decline by 2%-5%, it
would result in changes in fair market values for these investments by
approximately $20-$49 million.
We
are subject to risks associated with international operations which may harm our
business.
We
conduct our business worldwide. Our semiconductor wafers are
manufactured, assembled, tested and packaged by third-parties located outside of
the United States. We generated 89% and 90% of our revenue for the second
quarter of fiscal years 2009 and 2008, respectively, and 91% and 87% of our
revenue for the first half of fiscal years 2009 and 2008, respectively, from
sales to customers outside the United States and other Americas. As of July 27,
2008, we had offices in thirteen countries outside of the United
States. The manufacture, assembly, test and packaging of our products
outside of the United States, operation of offices outside of the United States,
and sales to customers internationally subjects us to a number of risks,
including:
·
|
international
economic and political conditions, such as political tensions between
countries in which we do business;
|
·
|
unexpected
changes in, or impositions of, legislative or regulatory requirements;
|
·
|
complying
with a variety of foreign laws;
|
·
|
differing
legal standards with respect to protection of intellectual property and
employment practices;
|
·
|
cultural
differences in the conduct of business;
|
·
|
inadequate
local infrastructure that could result in business
disruptions;
|
·
|
exporting
or importing issues related to export or import restrictions, tariffs,
quotas and other trade barriers and restrictions;
|
·
|
financial
risks such as longer payment cycles, difficulty in collecting accounts
receivable and fluctuations in currency exchange rates;
|
·
|
imposition
of additional taxes and penalties; and
|
·
|
other
factors beyond our control such as terrorism, civil unrest, war and
diseases such as severe acute respiratory syndrome and the Avian flu.
|
If sales
to any of our customers outside of the United States and other Americas are
delayed or cancelled because of any of the above factors, our revenue may be
negatively impacted.
Our
international operations in Australia, Taiwan, Japan, Korea, China, Hong Kong,
India, France, Finland, Germany, Russia, Switzerland and the United Kingdom are
subject to many of the above listed risks. Difficulties with our international
operations, including finding appropriate staffing and office space, may divert
management’s attention and other resources any of which could negatively impact
our operating results.
The
economic conditions in our primary overseas markets, particularly in Asia, may
negatively impact the demand for our products abroad. All of our international
sales to date have been denominated in United States dollars. Accordingly,
an increase in the value of the United States dollar relative to foreign
currencies could make our products less competitive in international markets or
require us to assume the risk of denominating certain sales in foreign
currencies. We anticipate that these factors will impact our business to a
greater degree as we further expand our international business
activities.
If
our products do not continue to be adopted by the desktop PC, notebook PC,
workstation, high-performance computing, personal media players, or PMPs,
personal digital assistants, or PDAs, cellular handheld devices, and video game
console markets or if the demand for new and innovative products in these
markets decreases, our business and operating results would suffer.
Our
success depends in part upon continued broad adoption of our processors for 3D
graphics and multimedia in desktop PC, notebook PC, workstation,
high-performance computing, PMPs, PDAs, cellular handheld devices, and video
game console applications. The market for processors has been characterized by
unpredictable and sometimes rapid shifts in the popularity of products, often
caused by the publication of competitive industry benchmark results, changes in
pricing of dynamic random-access memory devices and other changes in the total
system cost of add-in boards, as well as by severe price competition and by
frequent new technology and product introductions. Broad market acceptance is
difficult to achieve and such market acceptance, if achieved, is difficult to
sustain due to intense competition and frequent new technology and product
introductions. Our GPU and MCP businesses together comprised approximately 75%
and 79% of our revenue for the second quarter of fiscal years 2009 and 2008,
respectively, and 77% of our revenue during the first half of fiscal years 2009
and 2008, respectively. As such, our financial results would suffer
if for any reason our current or future GPUs or MCPs do not continue to achieve
widespread adoption by the PC market. If we are unable to complete the timely
development of new products or if we were unable to successfully and
cost-effectively manufacture and deliver products that meet the requirements of
the desktop PC, notebook PC, workstation, high-performance computing, PMP, PDA,
cellular phone, and video game console markets, we may experience a decrease in
revenue which could negatively impact our operating results.
Additionally,
there can be no assurance that the industry will continue to demand new products
with improved standards, features or performance. If our customers, OEMs, ODMs,
add-in-card and motherboard manufacturers, system builders and consumer
electronics companies, do not continue to design products that require more
advanced or efficient processors and/or the market does not continue to demand
new products with increased performance, features, functionality or standards,
sales of our products could decline and the markets for our products could
shrink. Decreased sales of our products for these markets could negatively
impact our revenue and our financial results.
We
are dependent on the PC market and its rate of growth in the future may have a
negative impact on our business.
We derive
and expect to continue to derive the majority of our revenue from the sale
or license of products for use in the desktop PC and notebook PC markets,
including professional workstations. A reduction in sales of PCs, or a reduction
in the growth rate of PC sales, may reduce demand for our products. These
changes in demand could be large and sudden. During the second quarter of fiscal
year 2009, sales of our desktop GPU products decreased by approximately 25%
compared to the second quarter of fiscal year 2008. These decreases
were primarily due to the Standalone Desktop GPU market segment decline as
reported in the latest PC Graphics 2008 Report from Mercury
Research. Since PC manufacturers often build inventories during
periods of anticipated growth, they may be left with excess inventories if
growth slows or if they incorrectly forecast product transitions. In these
cases, PC manufacturers may abruptly suspend substantially all purchases of
additional inventory from suppliers like us until their excess inventory has
been absorbed, which would have a negative impact on our financial
results.
Our
business is cyclical in nature and an industry downturn could harm our financial
results.
Our
business is directly affected by market conditions in the highly cyclical
semiconductor industry, including alternating periods of overcapacity and
capacity constraints, variations in manufacturing costs and yields, significant
expenditures for capital equipment and product development, and rapid
technological change. If we are unable to respond to changes in our industry,
which can be unpredictable and rapid, in an efficient and timely manner, our
operating results could suffer. In particular, from time to time, the
semiconductor industry has experienced significant and sometimes prolonged
downturns characterized by diminished product demand, increased inventory levels
and accelerated erosion of average selling prices. If we cannot take appropriate
actions such as reducing our manufacturing or operating expenses to sufficiently
offset declines in demand, increased inventories, or decreased selling prices
during a downturn, our revenue and operating results will suffer.
Risks
Related to Regulatory, Legal and Other Matters
The
United States Department of Justice’s pending investigation into the market
for graphics processors and the ongoing civil actions could adversely affect our
business.
On
November 29, 2006, we received a subpoena from the San Francisco Office of the
Antitrust Division of the United States Department of Justice, or DOJ, in
connection with the DOJ's investigation into potential antitrust violations
related to GPUs and cards. No specific allegations have been made
against us. We are cooperating with the DOJ in its investigation.
As of May
13, 2008, 55 civil complaints have been filed against us. The majority of the
complaints were filed in the Northern District of California, several were filed
in the Central District of California, and other cases were filed in several
other Federal district courts. On April 18, 2007, the Judicial Panel
on Multidistrict Litigation transferred the actions currently pending outside of
the Northern District of California to the Northern District of California for
coordination of pretrial proceedings before the Honorable William H.
Alsup. By agreement of the parties, Judge Alsup will retain
jurisdiction over the consolidated cases through trial or other
resolution.
In the
consolidated proceedings, two groups of plaintiffs (one putatively representing
all direct purchasers of GPUs and the other putatively representing all indirect
purchasers) filed consolidated, amended class-action complaints. These
complaints purport to assert federal antitrust claims based on alleged price
fixing, market allocation, and other alleged anti-competitive agreements between
us and ATI Technologies, ULC., , or ATI, and Advanced Micro Devices, Inc., or
AMD, as a result of its acquisition of ATI. The indirect purchasers’
consolidated amended complaint also asserts a variety of state law antitrust,
unfair competition and consumer protection claims on the same allegations, as
well as a common law claim for unjust enrichment.
Plaintiffs
filed their first consolidated complaints on June 14, 2007. On July
16, 2007, we moved to dismiss those complaints. The motions to
dismiss were heard by Judge Alsup on September 20, 2007. The Court
subsequently granted and denied the motions in part, and gave the plaintiffs
leave to move to amend the complaints. On November 7, 2007, the Court
granted plaintiffs’ motion to file amended complaints, ordered defendants to
answer the complaints, lifted a previously entered stay on discovery, and set a
trial date for January 12, 2009. Discovery is underway and Plaintiffs
filed motions for class certification on April 24, 2008. We filed
oppositions to the motions on May 20, 2008. On July 18, 2008, the
Court ruled on Plaintiffs’ class certification motions. The Court
denied class certification for the proposed class of indirect
purchasers. The Court granted in part class certification for the
direct purchasers but limited the direct purchaser class to individual
purchasers that acquired graphics processing cards products directly from NVIDIA
or ATI from their websites between December 4, 2002 and November 7,
2007. The Court excluded from the direct purchaser class business
entities that purchased graphics products from NVIDIA or ATI for
resale. The case will continue on behalf of the class of direct
purchasers certified by the Court as well as for the several individual indirect
purchasers suing on their own behalf. The Court also instructed the
parties to give written notice of the class certification order to all
non-certified direct purchasers, who will then have thirty days from the date of
the notice to move to intervene in this action. The Court's ruling on
class certification is subject to interim appeal at the discretion of the United
States Court of Appeals for the Ninth Circuit. While we believe the
allegations in the complaints are without merit and intend to vigorously defend
the cases, the costs of defense and any damages resulting from a ruling against
us or a settlement of the litigation could adversely affect our
business.
The
matters relating to the Board’s review of our historical stock option granting
practices and the restatement of our consolidated financial statements have
resulted in litigation, which could harm our financial results.
On August
10, 2006, we announced that the Audit Committee of our Board, with the
assistance of outside legal counsel, was conducting a review of our stock option
practices covering the time from our initial public offering in 1999, our fiscal
year 2000, through June 2006. The Audit Committee reached the conclusion that
incorrect measurement dates were used for financial accounting purposes for
stock option grants in certain prior periods. As a result, we recorded
additional non-cash stock-based compensation expense, and related tax effects,
related to stock option grants.
The Audit
Committee’s review of our historic stock option practices identified a number of
occasions on which the measurement date used for financial accounting and
reporting purposes for stock options granted to certain of our employees was
different from the actual grant date. To correct these accounting errors, we
amended our Annual Report on Form 10-K for the year ended January 29, 2006 and
our Quarterly Report on Form 10-Q for the three months ended April 30, 2006 to
restate the consolidated financial statements contained in those
reports. This review of our historical stock option granting
practices and subsequent restatement required us to incur substantial expenses
for legal, accounting, tax and other professional services and diverted our
management’s attention from our business.
Additionally,
the review and the resulting restatement of our prior financial statements have
exposed us to greater risks associated with litigation. Ten derivative
complaints have been filed in state and federal court pertaining to allegations
relating to stock option grants. We cannot assure you that these or future
similar complaints, or any future litigation or regulatory action will result in
the same conclusions reached by the Audit Committee. On August 5, 2007, our
Board authorized the formation of a Special Litigation Committee to investigate,
evaluate, and make a determination as to how we should proceed with respect to
the claims and allegations asserted in the underlying derivative cases brought
on behalf of NVIDIA. Currently, the Special Litigation Committee’s
review is ongoing. The conduct and resolution of these matters will
be time consuming, expensive and could distract our management’s attention from
the conduct of our business. Furthermore, if we are subject to
adverse rulings, we could be required to pay damages or penalties or have other
remedies imposed upon us which could harm our business, financial condition,
results of operations and cash flows.
Our
ability to compete will be harmed if we are unable to adequately protect our
intellectual property.
We rely
primarily on a combination of patents, trademarks, trade secrets, employee and
third-party nondisclosure agreements, and licensing arrangements to protect our
intellectual property in the United States and internationally. We have numerous
patents issued, allowed and pending in the United States and in foreign
jurisdictions. Our patents and pending patent applications primarily relate to
our products and the technology used in connection with our products. We also
rely on international treaties, organizations and foreign laws to protect our
intellectual property. The laws of certain foreign countries in which our
products are or may be manufactured or sold, including various countries in
Asia, may not protect our products or intellectual property rights to the same
extent as the laws of the United States. This makes the possibility of piracy of
our technology and products more likely. We continuously assess whether and
where to seek formal protection for particular innovations and technologies
based on such factors as:
·
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the
commercial significance of our operations and our competitors’ operations
in particular countries and regions;
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·
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the
location in which our products are manufactured;
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·
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our
strategic technology or product directions in different countries; and
|
·
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the
degree to which intellectual property laws exist and are meaningfully
enforced in different
jurisdictions.
|
Our
pending patent applications and any future applications may not be approved. In
addition, any issued patents may not provide us with competitive advantages or
may be challenged by third parties. The enforcement of patents by others may
harm our ability to conduct our business. Others may independently develop
substantially equivalent intellectual property or otherwise gain access to our
trade secrets or intellectual property. Our failure to effectively protect our
intellectual property could harm our business.
Litigation
to defend against alleged infringement of intellectual property rights or to
enforce our intellectual property rights and the outcome of such litigation
could result in substantial costs to us.
We expect
that as the number of issued hardware and software patents increases and as
competition intensifies, the volume of intellectual property infringement claims
and lawsuits may increase. We may become involved in lawsuits or other legal
proceedings alleging patent infringement or other intellectual property rights
violations by us or by our customers that we have agreed to indemnify them for
certain claims of infringement.
An
unfavorable ruling in any intellectual property related litigation could include
significant damages, invalidation of a patent or family of patents,
indemnification of customers, payment of lost profits, or, when it has been
sought, injunctive relief.
In
addition, we may need to commence litigation or other legal proceedings in order
to:
·
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assert
claims of infringement of our intellectual property;
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·
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enforce
our patents;
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protect
our trade secrets or know-how; or
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·
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determine
the enforceability, scope and validity of the propriety rights of
others.
|
If we
have to initiate litigation in order to protect our intellectual property, our
operating expenses may increase which could negatively impact our operating
results. Our failure to effectively protect our intellectual property could harm
our business.
If
infringement claims are made against us or our products are found to
infringe a third parties’ patent or intellectual property, we or one of our
indemnified customers may have to seek a license to the third parties’ patent or
other intellectual property rights. However, we may not be able to obtain
licenses at all or on terms acceptable to us particularly from our competitors.
If we or one of our indemnified customers is unable to obtain a license from a
third party for technology that we use or that is used in one of our products,
we could be subject to substantial liabilities or have to suspend or discontinue
the manufacture and sale of one or more of our products. We may also
have to make royalty or other payments, or cross license our technology. If
these arrangements are not concluded on commercially reasonable terms, our
business could be negatively impacted. Furthermore, the indemnification of a
customer may increase our operating expenses which could negatively impact our
operating results.
We
are a party to litigation, including patent litigation, which, if determined
adversely to us, could adversely affect our cash flow and financial
results.
We are a
party to litigation as both a defendant and as a plaintiff. There can
be no assurance that any litigation to which we are a party will be resolved in
our favor. Any claim that is successfully asserted against us may cause us to
pay substantial damages, including punitive damages, and other related fees.
Regardless of whether lawsuits are resolved in our favor or if we are the
plaintiff or the defendant in the litigation, any lawsuits to which we are a
party will likely be expensive and time consuming to defend or resolve. Such
lawsuits could also harm our relationships with existing customers and result in
the diversion of management’s time and attention away from business operations,
which could harm our business. Costs of defense and any damages resulting from
litigation, a ruling against us, or a settlement of the litigation could
adversely affect our cash flow and financial results.
We are subject to the risks of owning real property.
In the
first half of fiscal year 2009, we used approximately $150.0 million of our cash
to purchase real property in Santa Clara, California that includes approximately
25 acres of land and ten commercial buildings. We also own real
property in China and India. We have limited experience in the
ownership and management of real property and are subject to the risks of owning
real property, including:
·
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the
possibility of environmental contamination and the costs associated with
fixing any environmental problems;
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adverse
changes in the value of these properties, due to interest rate changes,
changes in the neighborhood in which the property is located, or other
factors;
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increased
cash commitments for the possible construction of a campus;
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·
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the
possible need for structural improvements in order to comply with zoning,
seismic and other legal or regulatory
requirements;
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increased
operating expenses for the buildings or the property or
both;
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possible
disputes with third parties, such as neighboring owners or others, related
to the buildings or the property or both; and
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·
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the
risk of financial loss in excess of amounts covered by insurance, or
uninsured risks, such as the loss caused by damage to the buildings as a
result of earthquakes, floods and or other natural
disasters.
|
We may need to raise additional capital to fund the construction of our new
campus, which may not be available on favorable terms, or at all.
Currently,
we are in the process of planning to construct a new campus in Santa Clara,
California. If we move forward with our plans, we will spend a
significant amount for materials and related construction costs. If we are
unable to control our construction related expenses or costs or such costs are
higher than we anticipate, we may not have sufficient balances of cash, cash
equivalents and marketable securities to fund our operations. As a
result, we may need to raise additional financing. Such additional
financing may not be available on favorable terms, or at all. Use of
our available funds may also prevent us from making other necessary investments
in our business such as in research and development of new
products.
Our
operating results may be adversely affected if we are subject to unexpected tax
liabilities.
We are
subject to taxation by a number of taxing authorities both in the United States
and throughout the world. Tax rates vary among the jurisdictions in which we
operate. Significant judgment is required in determining our provision for our
income taxes as there are many transactions and calculations where the ultimate
tax determination is uncertain. Although we believe our tax estimates are
reasonable, any of the below could cause our effective tax rate to be materially
different than that which is reflected in historical income tax provisions and
accruals:
·
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the
jurisdictions in which profits are determined to be earned and
taxed;
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·
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adjustments
to estimated taxes upon finalization of various tax
returns;
|
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changes
in available tax credits;
|
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changes
in share-based compensation expense;
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·
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changes
in tax laws, the interpretation of tax laws either in the United States or
abroad or the issuance of new interpretative accounting guidance
related to uncertain transactions and calculations where the tax treatment
was previously uncertain; and
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the
resolution of issues arising from tax audits with various tax
authorities.
|
Should
additional taxes be assessed as a result of any of the above, our operating
results could be adversely affected. In addition, our future effective tax rate
could be adversely affected by changes in the mix of earnings in countries with
differing statutory tax rates, changes in tax laws or changes in the
interpretation of tax laws.
Our
failure to comply with any applicable environmental regulations could result in
a range of consequences, including fines, suspension of production, excess
inventory, sales limitations, and criminal and civil liabilities.
We are
subject to various state, federal and international laws and regulations
governing the environment, including restricting the presence of certain
substances in electronic products and making producers of those products
financially responsible for the collection, treatment, recycling and disposal of
those products. For example, we are subject to the European Union Directive on
Restriction of Hazardous Substances Directive, or RoHS Directive, that restricts
the use of a number of substances, including lead, and other hazardous
substances in electrical and electronic equipment in the market in the European
Union. We could face significant costs and liabilities in
connection with the European Union Directive on Waste Electrical and Electronic
Equipment, or WEEE. The WEEE directs members of the European Union to enact
laws, regulations, and administrative provisions to ensure that producers of
electric and electronic equipment are financially responsible for the
collection, recycling, treatment and environmentally responsible disposal of
certain products sold into the market after August 15, 2005.
It is
possible that unanticipated supply shortages, delays or excess non-compliant
inventory may occur as a result of the RoHS Directive, WEEE, and other
domestic or international environmental regulations. Failure to comply with any
applicable environmental regulations could result in a range of consequences
including costs, fines, suspension of production, excess inventory, sales
limitations, criminal and civil liabilities and could impact our ability to
conduct business in the countries or states that have adopted these types of
regulations.
While we believe that we have
adequate internal control over financial reporting, if we or our independent
registered public accounting firm determines that we do not, our reputation may
be adversely affected and our stock price may decline.
Section 404
of the Sarbanes-Oxley Act of 2002 requires our management to report on, and our
independent registered public accounting firm to audit the effectiveness of our
internal control structure and procedures for financial reporting. We have an
ongoing program to perform the system and process evaluation and testing
necessary to comply with these requirements. However, the manner in which
companies and their independent public accounting firms apply these requirements
and testing companies’ internal controls, remains subject to some judgment. To
date, we have incurred, and we expect to continue to incur increased expense and
to devote additional management resources to Section 404 compliance.
Despite our efforts, if we identify a material weakness in our internal
controls, there can be no assurance that we will be able to remediate that
material weakness in a timely manner, or that we will be able to maintain all of
the controls necessary to determine that our internal control over financial
reporting is effective. In the event that our chief executive officer, chief
financial officer or our independent registered public accounting firm determine
that our internal control over financial reporting is not effective as defined
under Section 404, investor perceptions of us may be adversely affected and
could cause a decline in the market price of our stock.
Changes in financial accounting
standards or interpretations of existing standards could affect our reported
results of operations
.
We
prepare our consolidated financial statements in conformity with generally
accepted accounting principles in the United States. These principles
are constantly subject to review and interpretation by the Securities and
Exchange Commission and various bodies formed to interpret and create
appropriate accounting principles. A change in these principles can have a
significant effect on our reported results and may even retroactively affect
previously reported transactions.
Provisions in our certificate of
incorporation, our bylaws and our agreement with Microsoft could delay or
prevent a change in control.
Our
certificate of incorporation and bylaws contain provisions that could make it
more difficult for a third party to acquire a majority of our outstanding voting
stock. These provisions include the following:
·
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the
ability of our Board to create and issue preferred stock without prior
stockholder approval;
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the
prohibition of stockholder action by written consent;
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·
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a
classified Board; and
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·
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advance
notice requirements for director nominations and stockholder
proposals.
|
On March
5, 2000, we entered into an agreement with Microsoft in which we agreed to
develop and sell graphics chips and to license certain technology to Microsoft
and its licensees for use in the Xbox. Under the agreement, if an individual or
corporation makes an offer to purchase shares equal to or greater than 30% of
the outstanding shares of our common stock, Microsoft may have first and last
rights of refusal to purchase the stock. The Microsoft provision and the other
factors listed above could also delay or prevent a change in control of
NVIDIA.
ITEM 2.
UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
PROCEEDS
Issuer
Purchases of Equity Securities
During
fiscal year 2005, we announced that our Board had authorized a stock repurchase
program to repurchase shares of our common stock, subject to certain
specifications, up to an aggregate maximum amount of $300
million. During fiscal year 2007, the Board further approved an
increase of $400 million to the original stock repurchase program. In fiscal
year 2008, we announced a stock repurchase program under which we may
purchase up to an additional $1.0 billion of our common stock over a three year
period through May 2010. On August 12, 2008, we announced that our Board further
authorized an additional increase of $1.0 billion to the stock repurchase
program. As a result of these increases, we have an ongoing authorization from
the Board, subject to certain specifications, to repurchase shares of our common
stock up to an aggregate maximum amount of $2.7 billion through May
2010.
The repurchases will
be made from time to time in the open market, in privately negotiated
transactions, or in structured stock repurchase programs, and may be made in one
or more larger repurchases, in compliance with the Securities Exchange Act of
1934, or the Exchange Act, Rule 10b-18, subject to market conditions, applicable
legal requirements, and other factors. The program does not obligate NVIDIA to
acquire any particular amount of common stock and the program may be suspended
at any time at our discretion. As part of our share repurchase program, we
have entered into, and we may continue to enter into, structured share
repurchase transactions with financial institutions. These agreements generally
require that we make an up-front payment in exchange for the right to receive a
fixed number of shares of our common stock upon execution of the agreement, and
a potential incremental number of shares of our common stock, within a
pre-determined range, at the end of the term of the
agreement.
Through July 27, 2008, we had repurchased 68.0 million shares under our stock
repurchase program for a total cost of $1.16 billion. During the
three months ended July 27, 2008, we did not enter into any structured share
repurchase transactions.
ITEM 3.
DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4.
SUBMISSION OF MATTERS TO A VOTE OF SECURITY
HOLDERS