UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-Q
ý | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended October 1, 2005 | |
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OR | |
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o | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission File Number: 000-19406
Zebra Technologies Corporation
(Exact name of registrant as specified in its charter)
Delaware |
| 36-2675536 |
(State or other jurisdiction of |
| (I.R.S. Employer |
incorporation or organization) |
| Identification No.) |
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333 Corporate Woods Parkway, Vernon Hills, IL |
| 60061 |
(Address of principal executive offices) |
| (Zip Code) |
Registrant’s telephone number, including area code: (847) 634-6700
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý No o
Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2). Yes ý No o
Indicate by check mark whether the registrant is a shell company (as defined in Exchange Act Rule 12b-2) Yes o No ý
As of October 28, 2005, there were the following shares outstanding:
Class A Common Stock, $.01 par value 70,351,568
ZEBRA TECHNOLOGIES CORPORATION
QUARTER ENDED OCTOBER 1, 2005
INDEX
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| Consolidated Balance Sheets as of October 1, 2005 (unaudited) and December 31, 2004 |
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Management’s Discussion and Analysis of Financial Condition and Results of Operations |
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2
PART I - FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements
ZEBRA TECHNOLOGIES CORPORATION AND SUBSIDIARIES
(Amounts in thousands)
|
| October 1, |
| December 31, |
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| (Unaudited) |
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ASSETS |
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Current assets: |
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Cash and cash equivalents |
| $ | 18,449 |
| $ | 17,983 |
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Investments and marketable securities |
| 511,274 |
| 540,010 |
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Accounts receivable, net |
| 98,298 |
| 96,881 |
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Inventories, net |
| 63,684 |
| 59,255 |
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Deferred income taxes |
| 8,843 |
| 6,625 |
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Prepaid expenses |
| 5,172 |
| 3,884 |
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Total current assets |
| 705,720 |
| 724,638 |
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Property and equipment at cost, less accumulated depreciation and amortization |
| 47,523 |
| 46,283 |
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Goodwill |
| 69,097 |
| 61,793 |
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Other intangibles, net |
| 19,801 |
| 6,517 |
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Other assets |
| 40,160 |
| 22,991 |
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Total assets |
| $ | 882,301 |
| $ | 862,222 |
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LIABILITIES AND STOCKHOLDERS’ EQUITY |
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Current liabilities: |
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Accounts payable |
| $ | 24,117 |
| $ | 24,130 |
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Accrued liabilities |
| 27,871 |
| 29,248 |
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Current portion of obligation under capital lease |
| 56 |
| 54 |
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Income taxes payable |
| 2,269 |
| 6,144 |
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Total current liabilities |
| 54,313 |
| 59,576 |
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Obligation under capital lease, less current portion |
| 75 |
| 117 |
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Deferred income taxes |
| 1,727 |
| 417 |
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Deferred rent |
| 571 |
| 564 |
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Other long-term liabilities |
| 5,145 |
| 3,894 |
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Total liabilities |
| 61,831 |
| 64,568 |
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Stockholders’ equity: |
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Preferred stock |
| ¾ |
| ¾ |
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Class A common stock |
| 722 |
| 718 |
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Additional paid-in capital |
| 94,003 |
| 84,180 |
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Treasury stock |
| (68,164 | ) | ¾ |
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Retained earnings |
| 789,798 |
| 706,489 |
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Accumulated other comprehensive income |
| 4,111 |
| 6,267 |
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Total stockholders’ equity |
| 820,470 |
| 797,654 |
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Total liabilities and stockholders’ equity |
| $ | 882,301 |
| $ | 862,222 |
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See accompanying notes to consolidated financial statements.
3
ZEBRA TECHNOLOGIES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
(Amounts in thousands, except per share data)
(Unaudited)
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| Three Months Ended |
| Nine months Ended |
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| October 1, |
| October 2, |
| October 1, |
| October 2, |
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| 2005 |
| 2004 |
| 2005 |
| 2004 |
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Net sales |
| $ | 175,636 |
| $ | 171,176 |
| $ | 522,977 |
| $ | 488,180 |
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Cost of sales |
| 87,959 |
| 84,030 |
| 258,587 |
| 235,916 |
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Gross profit |
| 87,677 |
| 87,146 |
| 264,390 |
| 252,264 |
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Operating expenses: |
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Selling and marketing |
| 20,800 |
| 19,217 |
| 64,421 |
| 54,447 |
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Research and development |
| 11,501 |
| 9,596 |
| 34,222 |
| 27,725 |
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General and administrative |
| 14,489 |
| 11,917 |
| 46,246 |
| 37,242 |
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Amortization of intangible assets |
| 509 |
| 647 |
| 1,543 |
| 1,921 |
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Acquired in-process technology |
| ¾ |
| ¾ |
| ¾ |
| 22 |
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Exit costs |
| 283 |
| 715 |
| 1,941 |
| 1,953 |
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Total operating expenses |
| 47,582 |
| 42,092 |
| 148,373 |
| 123,310 |
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Operating income |
| 40,095 |
| 45,054 |
| 116,017 |
| 128,954 |
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Other income (expense): |
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Investment income |
| 3,254 |
| 2,515 |
| 9,603 |
| 7,678 |
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Interest expense |
| (41 | ) | (7 | ) | (71 | ) | (39 | ) | ||||
Foreign exchange gain |
| 334 |
| 737 |
| 1,199 |
| 493 |
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Other, net |
| 251 |
| (339 | ) | (296 | ) | (1,175 | ) | ||||
Total other income |
| 3,798 |
| 2,906 |
| 10,435 |
| 6,957 |
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Income before income taxes |
| 43,893 |
| 47,960 |
| 126,452 |
| 135,911 |
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Income taxes |
| 14,453 |
| 16,641 |
| 43,143 |
| 47,229 |
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Net income |
| $ | 29,440 |
| $ | 31,319 |
| $ | 83,309 |
| $ | 88,682 |
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Basic earnings per share |
| $ | 0.41 |
| $ | 0.44 |
| $ | 1.16 |
| $ | 1.24 |
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Diluted earnings per share |
| $ | 0.41 |
| $ | 0.43 |
| $ | 1.15 |
| $ | 1.22 |
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Basic weighted average shares outstanding |
| 71,263 |
| 71,696 |
| 71,653 |
| 71,489 |
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Diluted weighted average and equivalent shares outstanding |
| 71,822 |
| 72,673 |
| 72,347 |
| 72,485 |
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See accompanying notes to consolidated financial statements.
4
ZEBRA TECHNOLOGIES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Amounts in thousands)
(Unaudited)
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| Three Months Ended |
| Nine months Ended |
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| October 1, |
| October 2, |
| October 1, |
| October 2, |
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| 2005 |
| 2004 |
| 2005 |
| 2004 |
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Net income |
| $ | 29,440 |
| $ | 31,319 |
| $ | 83,309 |
| $ | 88,682 |
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Other comprehensive income (loss): |
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Foreign currency translation adjustment |
| (452 | ) | (794 | ) | (5,094 | ) | (26 | ) | ||||
Changes in unrealized gains and (losses) on hedging transactions, net of tax |
| (779 | ) | (45 | ) | 2,266 |
| 864 |
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Changes in unrealized gains on investments, net of tax |
| 644 |
| 1,663 |
| 672 |
| 135 |
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Comprehensive income |
| $ | 28,853 |
| $ | 32,143 |
| $ | 81,153 |
| $ | 89,655 |
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See accompanying notes to consolidated financial statements.
5
ZEBRA TECHNOLOGIES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Amounts in thousands)
(Unaudited)
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| Nine months Ended |
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| October 1, |
| October 2, |
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| 2005 |
| 2004 |
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Cash flows from operating activities: |
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Net income |
| $ | 83,309 |
| $ | 88,682 |
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Adjustments to reconcile net income to net cash provided by operating activities: |
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Depreciation and amortization |
| 9,559 |
| 9,030 |
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Tax benefit from exercise of stock options |
| 2,832 |
| 6,346 |
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Acquired in-process technology |
| ¾ |
| 22 |
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Deferred income taxes |
| (983 | ) | (505 | ) | ||
Changes in assets and liabilities, net of effects of acquisitions: |
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Accounts receivable, net |
| (5,441 | ) | (13,272 | ) | ||
Inventories |
| (5,548 | ) | (11,472 | ) | ||
Other assets |
| (7,317 | ) | (4,065 | ) | ||
Accounts payable |
| 136 |
| 5,705 |
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Accrued liabilities |
| (775 | ) | (1,028 | ) | ||
Income taxes payable |
| (3,486 | ) | 2,697 |
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Other operating activities |
| 1,560 |
| 542 |
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Net cash provided by operating activities |
| 73,846 |
| 82,682 |
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Cash flows from investing activities: |
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Purchases of property and equipment |
| (9,236 | ) | (10,298 | ) | ||
Acquisition of assets of Retail Systems International, Inc. |
| (7,657 | ) | ¾ |
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Acquisition of intangible assets |
| (13,754 | ) | ¾ |
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Purchases of investments and marketable securities |
| (805,368 | ) | (1,082,568 | ) | ||
Maturities of investments and marketable securities |
| 520,470 |
| 728,872 |
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Sales of investments and marketable securities |
| 303,606 |
| 264,479 |
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Net cash used in investing activities |
| (11,939 | ) | (99,515 | ) | ||
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Cash flows from financing activities: |
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Purchase of treasury shares |
| (70,421 | ) | ¾ |
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Proceeds from exercise of stock options and stock purchase plan purchases |
| 9,252 |
| 13,660 |
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Payments for obligation under capital lease |
| (40 | ) | (419 | ) | ||
Other financing activities |
| ¾ |
| (238 | ) | ||
Net cash provided by (used in) financing activities |
| (61,209 | ) | 13,003 |
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Effect of exchange rate changes on cash |
| (232 | ) | (167 | ) | ||
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Net increase (decrease) in cash and cash equivalents |
| 466 |
| (3,997 | ) | ||
Cash and cash equivalents at beginning of period |
| 17,983 |
| 14,266 |
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Cash and cash equivalents at end of period |
| $ | 18,449 |
| $ | 10,269 |
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Supplemental disclosures of cash flow information: |
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Interest paid |
| $ | 71 |
| $ | 39 |
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Income taxes paid |
| 46,191 |
| 39,515 |
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See accompanying notes to consolidated financial statements.
6
ZEBRA TECHNOLOGIES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note 1 – Basis of Presentation
Management prepared these unaudited interim consolidated financial statements for Zebra Technologies Corporation and subsidiaries (Zebra) according to the rules and regulations of the Securities and Exchange Commission (SEC). Certain information required in full-year audited financial statements is omitted, as allowed by SEC rules and regulations. These omissions relate to information and footnote disclosures normally included in the annual financial statements prepared in accordance with accounting principles generally accepted in the United States. See our annual financial statements with their notes in our Form 10-K for the year ended December 31, 2004, for these additional disclosures.
The consolidated balance sheet as of December 31, 2004, in this Form 10-Q is taken from the audited consolidated balance sheet in our Form 10-K. These interim financial statements include all adjustments necessary to present fairly Zebra’s consolidated financial position as of October 1, 2005, the consolidated results of operations for the three and nine months ended October 1, 2005 and October 2, 2004, and cash flows for the nine months ended October 1, 2005 and October 2, 2004. These results, however, are not necessarily indicative of results for the full year.
Note 2—Stock-Based Compensation
As of October 1, 2005, we had three stock-based compensation plans available for future grants. We account for these plans using the intrinsic value method in accordance with the recognition and measurement principles of Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations. No stock-based compensation cost is reflected in net income, because all options granted under these plans had grant prices equal to the market value of the underlying common stock on the date of grant. The following table shows the effect on net income and earnings per share if we had applied the fair value recognition provisions of Statement of Financial Standards (SFAS) No. 123, Accounting for Stock-based Compensation (in thousands, except per share data):
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| Three Months Ended |
| Nine months Ended |
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| October 1, |
| October 2, |
| October 1, |
| October 2, |
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| 2005 |
| 2004 |
| 2005 |
| 2004 |
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Net income |
| $ | 29,440 |
| $ | 31,319 |
| $ | 83,309 |
| $ | 88,682 |
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Deduct: Total stock-based employee compensation expense determined under fair value method for all awards, net of related tax effects |
| (1,366 | ) | (1,309 | ) | (3,971 | ) | (4,052 | ) | ||||
Pro forma net income |
| $ | 28,074 |
| $ | 30,010 |
| $ | 79,338 |
| $ | 84,630 |
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Basic earnings per share: |
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As reported |
| $ | 0.41 |
| $ | 0.44 |
| $ | 1.16 |
| $ | 1.24 |
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Pro forma |
| 0.39 |
| 0.42 |
| 1.11 |
| 1.18 |
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Diluted earnings per share: |
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As reported |
| $ | 0.41 |
| $ | 0.43 |
| $ | 1.15 |
| $ | 1.22 |
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Pro forma |
| 0.39 |
| 0.41 |
| 1.09 |
| 1.16 |
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For pro forma purposes, the fair value of stock options granted prior to January 1, 2005, was determined using the Black-Scholes model. Zebra changed its fair value option pricing method from the Black-Scholes model to a binomial model for all options granted on or after January 1, 2005. We believe that the binomial model considers characteristics of fair value option pricing that are not recognized under the Black-Scholes model. Similar to the Black-Scholes model, the binomial model takes into account variables such as volatility, dividend yield rate and risk free interest rate. Additionally, the binomial model considers cancellation and historical exercise experience of Zebra to determine the option value. It also takes into account the illiquid nature of employee options during the vesting period and the probability that the option will be exercised prior to the end of its contractual life. For these reasons, we believe that the binomial model provides an estimated fair value that is more representative of actual experience and future expected experience than the value calculated in previous years using the Black-Scholes model.
7
The assumptions used for the 2005 option grants are as follows:
Expected option life |
| 4.83 years |
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Expected volatility |
| 38.44% per year |
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Weighted average risk-free interest rate |
| 3.74% per year |
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- Range of interest rates |
| 2.36% - 4.50% |
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Dividend yield |
| 0.00% per year |
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In April 2005, the FASB changed the implementation date for SFAS No. 123(R), Share-Based Payment, which requires a public entity to measure the cost of employee services received in exchange for the award of equity instruments based on the fair value of the award at the date of grant. Originally, public companies subject to SEC oversight were required to implement SFAS No. 123(R) as of the beginning of the first interim or annual reporting period beginning after June 15, 2005. As a result of the action by the SEC, the provisions of this statement will now be effective for Zebra during the first quarter of 2006. We expect the impact on Zebra’s consolidated financial statements to be consistent with the fair value disclosures included above.
Note 3 – Inventories
The components of inventories are as follows (in thousands):
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| October 1, |
| December 31, |
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| 2005 |
| 2004 |
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Raw materials |
| $ | 41,070 |
| $ | 34,041 |
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Work in process |
| 128 |
| 569 |
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Finished goods |
| 22,486 |
| 24,645 |
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Total inventories |
| $ | 63,684 |
| $ | 59,255 |
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Note 4 – Business Combinations
Retail Systems International, Inc. On February 11, 2005, Zebra acquired certain assets of Retail Systems International, Inc. (RSI) for $7,657,000. Located in Chula Vista, California, RSI manufactures labels, tags and other printed media. The consolidated statements of earnings reflect the results of operations of RSI since the effective date of the purchase. The pro forma effect of this acquisition was not significant.
The following table (in thousands) summarizes the adjusted fair values of the assets acquired at the date of acquisition.
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| At February 11, 2005 |
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Inventory |
| $ | 238 |
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Property and equipment |
| 469 |
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Intangible assets |
| 1,073 |
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Goodwill |
| 5,877 |
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Total assets acquired |
| $ | 7,657 |
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The purchase price was allocated to identifiable tangible assets and intangible assets acquired based on their estimated fair values. The intangible assets of $1,073,000 consist mainly of customer relationships with a useful life of 5 years. The goodwill is fully deductible for tax purposes.
Note 5 – Investments and Marketable Securities
We classify the majority of our investments and marketable securities as available-for-sale in accordance with the classifications defined in SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities.
SFAS No. 115 requires that changes in the market value of available-for-sale securities be reflected in the accumulated other comprehensive income caption of stockholders’ equity in the balance sheet, until we dispose of the securities. Once these securities are disposed of, either by sale or maturity, the accumulated changes in market value are transferred to investment income. On the cash flow statements, changes in the balances of available-for-sale securities are shown as purchases, sales and maturities of investments and marketable securities.
8
Changes in unrealized gains and losses on investment securities are included in these financial statements as follows (in thousands):
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| Three Months Ended |
| Nine months Ended |
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| October 1, |
| October 2, |
| October 1, |
| October 2, |
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| 2005 |
| 2004 |
| 2005 |
| 2004 |
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Changes in unrealized gains on available-for-sale securities, net of tax, recorded in accumulated other comprehensive income |
| $ | 644 |
| $ | 1,663 |
| $ | 672 |
| $ | 135 |
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All investments and marketable securities are classified as available-for-sale securities; therefore, there are no unrealized gains or losses on trading securities recorded in investment income.
Note 6—Stockholders’ Equity
Share count and par value data related to stockholders’ equity are as follows:
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| October 1, |
| December 31, |
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| 2005 |
| 2004 |
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Preferred Stock |
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Par value per share |
| $ | 0.01 |
| $ | 0.01 |
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Shares authorized |
| 10,000,000 |
| 10,000,000 |
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Shares outstanding |
| ¾ |
| ¾ |
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Common Stock - Class A |
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Par value per share |
| $ | 0.01 |
| $ | 0.01 |
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Shares authorized |
| 150,000,000 |
| 150,000,000 |
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Shares issued |
| 72,151,857 |
| 71,819,806 |
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Shares outstanding |
| 70,343,459 |
| 71,819,806 |
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Treasury Stock |
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Shares held |
| 1,808,398 |
| ¾ |
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During the third quarter of 2005, Zebra initiated a program to repurchase our own shares. Under this program, we repurchased a total of 1,866,375 shares. These shares are being reissued for exercise of stock options and purchases under the stock purchase plan.
Note 7—Other Comprehensive Income (Loss)
Stockholders’ equity includes certain items classified as other comprehensive income, including:
• Foreign currency translation adjustment relates to our non-U.S. subsidiary companies that have designated a functional currency other than the U.S. dollar. We are required to translate the subsidiary functional currency financial statements to dollars using a combination of historical, month-end, and average foreign exchange rates. This combination of rates creates the foreign currency translation adjustment component of other comprehensive income.
• Unrealized gains (losses) on foreign currency hedging activities relate to derivative instruments used to hedge the currency exchange rates for forecasted euro sales. These hedges are designated as cash flow hedges, and we have deferred income statement recognition of gains and losses until the hedged transaction occurs. See Note 10 for more details.
• Unrealized gains (losses) on investments classified as available-for-sale are deferred from income statement recognition until the gains or losses are realized. See Note 5 for more details.
9
The components of other comprehensive income (loss) included in the Consolidated Statements of Comprehensive Income are as follows (in thousands):
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| Three Months Ended |
| Nine months Ended |
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|
| October 1, |
| October 2, |
| October 1, |
| October 2, |
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|
| 2005 |
| 2004 |
| 2005 |
| 2004 |
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Foreign currency translation adjustments |
| $ | (452 | ) | $ | (794 | ) | $ | (5,094 | ) | $ | (26 | ) |
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Changes in unrealized gains and (losses) on foreign currency hedging activities: |
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Gross |
| $ | (1,210 | ) | $ | (69 | ) | $ | 3,540 |
| $ | 1,329 |
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Income tax (benefit) |
| (431 | ) | (24 | ) | 1,274 |
| 465 |
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Net |
| $ | (779 | ) | $ | (45 | ) | $ | 2,266 |
| $ | 864 |
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Changes in unrealized gains on investments classified as available-for-sale: |
|
|
|
|
|
|
|
|
| ||||
Gross |
| $ | 1,033 |
| $ | 2,559 |
| $ | 1,090 |
| $ | 207 |
|
Income tax |
| 389 |
| 896 |
| 418 |
| 72 |
| ||||
Net |
| $ | 644 |
| $ | 1,663 |
| $ | 672 |
| $ | 135 |
|
The components of other comprehensive income included in the Consolidated Balance Sheets are as follows (in thousands):
|
| As of |
| ||||
|
| October 1, |
| December 31, |
| ||
|
| 2005 |
| 2004 |
| ||
Foreign currency translation adjustments |
| $ | 2,418 |
| $ | 7,512 |
|
|
|
|
|
|
| ||
Unrealized gains and (losses) on foreign currency hedging activities: |
|
|
|
|
| ||
Gross |
| $ | 1,309 |
| $ | (2,231 | ) |
Income tax (benefit) |
| 493 |
| (781 | ) | ||
Net |
| $ | 816 |
| $ | (1,450 | ) |
|
|
|
|
|
| ||
Unrealized gains on investments classified as available-for-sale: |
|
|
|
|
| ||
Gross |
| $ | 1,406 |
| $ | 315 |
|
Income tax |
| 529 |
| 110 |
| ||
Net |
| $ | 877 |
| $ | 205 |
|
|
|
|
|
|
| ||
Total other comprehensive income |
| $ | 4,111 |
| $ | 6,267 |
|
10
Note 8—Earnings Per Share
Earnings per share were computed as follows (in thousands, except per share amounts):
|
| Three Months Ended |
| Nine months Ended |
| ||||||||
|
| October 1, |
| October 2, |
| October 1, |
| October 2, |
| ||||
|
| 2005 |
| 2004 |
| 2005 |
| 2004 |
| ||||
Basic earnings per share: |
|
|
|
|
|
|
|
|
| ||||
Net income |
| $ | 29,440 |
| $ | 31,319 |
| $ | 83,309 |
| $ | 88,682 |
|
Weighted average common shares outstanding |
| 71,263 |
| 71,696 |
| 71,653 |
| 71,489 |
| ||||
Per share amount |
| $ | 0.41 |
| $ | 0.44 |
| $ | 1.16 |
| $ | 1.24 |
|
|
|
|
|
|
|
|
|
|
| ||||
Diluted earnings per share: |
|
|
|
|
|
|
|
|
| ||||
Net income |
| $ | 29,440 |
| $ | 31,319 |
| $ | 83,309 |
| $ | 88,682 |
|
Weighted average common shares outstanding |
| 71,263 |
| 71,696 |
| 71,653 |
| 71,489 |
| ||||
Add: Effect of dilutive securities – stock options |
| 559 |
| 977 |
| 694 |
| 996 |
| ||||
Diluted weighted average and equivalent shares outstanding |
| 71,822 |
| 72,673 |
| 72,347 |
| 72,485 |
| ||||
Per share amount |
| $ | 0.41 |
| $ | 0.43 |
| $ | 1.15 |
| $ | 1.22 |
|
Potentially dilutive securities that were excluded from the earnings per share calculation consist of stock options with an exercise price greater than the average market price of the Class A common stock. These options were as follows:
|
| Three Months Ended |
| Nine months Ended |
| ||||
|
| October 1, |
| October 2, |
| October 1, |
| October 2, |
|
|
| 2005 |
| 2004 |
| 2005 |
| 2004 |
|
Potentially dilutive shares |
| 831,000 |
| ¾ |
| 814,000 |
| 1,800 |
|
11
Note 9—Goodwill and Other Intangible Asset Data
Intangible asset data are as follows (in thousands):
|
| October 1, 2005 |
| December 31, 2004 |
| ||||||||
|
| Gross |
| Accumulated |
| Gross |
| Accumulated |
| ||||
Amortized intangible assets |
|
|
|
|
|
|
|
|
| ||||
Current technology |
| $ | 26,011 |
| $ | (8,955 | ) | $ | 12,258 |
| $ | (7,746 | ) |
Customer relationships |
| 3,406 |
| (661 | ) | 2,333 |
| (328 | ) | ||||
Total |
| $ | 29,417 |
| $ | (9,616 | ) | $ | 14,591 |
| $ | (8,074 | ) |
|
|
|
|
|
|
|
|
|
| ||||
Unamortized intangible assets |
|
|
|
|
|
|
|
|
| ||||
Goodwill |
| $ | 69,097 |
|
|
| $ | 61,793 |
|
|
| ||
|
|
|
|
|
|
|
|
|
| ||||
Aggregate amortization expense |
|
|
|
|
|
|
|
|
| ||||
For the year ended December 31, 2004 |
|
|
|
|
| $ | 2,569 |
|
|
| |||
For the three months ended October 1, 2005 |
| $ | 509 |
|
|
|
|
|
|
| |||
For the nine months ended October 1, 2005 |
| 1,543 |
|
|
|
|
|
|
| ||||
|
|
|
|
|
|
|
|
|
| ||||
Estimated amortization expense |
|
|
|
|
|
|
|
|
| ||||
For the year ended December 31, 2005 |
| 2,341 |
|
|
|
|
|
|
| ||||
For the year ended December 31, 2006 |
| 2,812 |
|
|
|
|
|
|
| ||||
For the year ended December 31, 2007 |
| 2,761 |
|
|
|
|
|
|
| ||||
For the year ended December 31, 2008 |
| 2,764 |
|
|
|
|
|
|
| ||||
For the year ended December 31, 2009 |
| 2,639 |
|
|
|
|
|
|
| ||||
For the year ended December 31, 2010 |
| 1,766 |
|
|
|
|
|
|
| ||||
For the year ended December 31, 2011 |
| 1,692 |
|
|
|
|
|
|
| ||||
For the year ended December 31, 2012 |
| 1,436 |
|
|
|
|
|
|
| ||||
For the year ended December 31, 2013 |
| 1,436 |
|
|
|
|
|
|
| ||||
For the year ended December 31, 2014 |
| 1,284 |
|
|
|
|
|
|
| ||||
For the year ended December 31, 2015 |
| 413 |
|
|
|
|
|
|
|
During the first quarter of 2005, we made a final contingent payment related to the Atlantek acquisition for $1,287,000, which was added to goodwill. In addition, we acquired certain assets of RSI with an adjusted allocation of net goodwill of $5,877,000, as described in Note 4.
During the first nine months of 2005, we acquired intangible assets in the amount of $14,827,000 for customer relationships, patents and licenses to use certain technology. These intangible assets will have a commercial life of 5 to 10 years.
We test the impairment of goodwill each year and whenever events or changes in circumstances indicate that the carrying value may not be recoverable. We completed our last assessment during June 2005. At that time, no adjustment to goodwill was necessary because of impairment.
We evaluate the impairment of other long-lived assets including identifiable intangible assets whenever events or changes in circumstances indicate that the carrying value may not be recoverable.
Factors considered that might trigger an impairment review consist of:
• Significant underperformance relative to historical or projected future operating results
• Significant changes in the manner of use of the acquired assets or the strategy for the overall business
• Significant negative industry or economic trends
• Significant decline in Zebra’s stock price for a sustained period
• Significant decline in market capitalization relative to net book value
If we believe that one or more of the above indicators of impairment have occurred, we measure impairment based on a projected discounted cash flow methodology using a discount rate that incorporates the risk inherent in the cash flows.
12
Note 10—Derivative Instruments
In the normal course of business, portions of Zebra’s operations are subject to fluctuations in currency values. We manage these risks using derivative financial instruments.
Hedging of Net Monetary Assets
We use forward contracts and options to manage exposure related to our pound and euro denominated net monetary assets and designate these contracts and options as fair value hedges. We record gains and losses on these contracts and options in income each quarter along with the transaction gains and losses related to our net euro asset position, which would ordinarily offset each other to a large extent. Summary financial information related to these activities follows (in thousands):
|
| Three Months Ended |
| Nine months Ended |
| ||||||||
|
| October 1, |
| October 2, |
| October 1, |
| October 2, |
| ||||
|
| 2005 |
| 2004 |
| 2005 |
| 2004 |
| ||||
Gains and (losses) from foreign exchange derivatives |
| $ | (631 | ) | $ | (445 | ) | $ | 970 |
| $ | (100 | ) |
Gains on net foreign currency assets |
| 965 |
| 1,182 |
| 229 |
| 593 |
| ||||
Net foreign exchange gain |
| $ | 334 |
| $ | 737 |
| $ | 1,199 |
| $ | 493 |
|
|
| As of |
| ||||
|
| October 1, |
| December 31, |
| ||
Notional balance of outstanding contracts: |
|
|
|
|
| ||
Pound |
| £ | 20,885 |
| £ | 13,646 |
|
Euro |
| € | 34,000 |
| € | 34,000 |
|
Hedging of Anticipated Sales
We manage the exchange rate risk of anticipated euro denominated sales using forward contracts and option collars. We designate these contracts as cash flow hedges. Gains and losses on these contracts are deferred in other comprehensive income until the contracts are settled and the hedged sales are realized, at which time the deferred gains or losses will be reported as an increase or decrease to sales. Summary financial information related to the cash flow hedges of future revenues follows (in thousands, except percentages):
|
| As of |
| ||||
|
| October 1, 2005 |
| December 31, 2004 |
| ||
Net unrealized gains and (losses) deferred in other comprehensive income: |
|
|
|
|
| ||
Gross |
| $ | 1,309 |
| $ | (2,231 | ) |
Income tax (benefit) |
| 493 |
| (781 | ) | ||
Net |
| $ | 816 |
| $ | (1,450 | ) |
|
|
|
|
|
| ||
Notional balance of outstanding contracts |
| € | 33,200 |
| € | 30,000 |
|
Hedge effectiveness |
| 100 | % | 100 | % |
|
| 2005 |
| 2004 |
| ||
Net gains and (losses) included in revenue for the: |
|
|
|
|
| ||
Three months ended October 1, 2005 |
| $ | 1,413 |
|
|
| |
Three months ended October 2, 2004 |
|
|
| $ | 69 |
| |
Nine months ended October 1, 2005 |
| $ | 742 |
|
|
| |
Nine months ended October 2, 2004 |
|
|
| $ | (561 | ) |
Note 11—Costs associated with Exit or Disposal Activities
During the first quarter of 2003, we initiated a plan to close our engineering site in Varades, France. This plan was announced in October 2003 and is accounted for under SFAS No. 146, Accounting for Costs Associated with Exit or Disposal Activities. All exit costs associated with this activity are identified on a separate line of our income statement, as part of operating expenses. Our consolidation plan is intended to reduce costs and improve manufacturing efficiency.
Our Varades facility conducted the product development for our line of card printers and included the European service center for these printers. We transferred the product development activities to Camarillo, California, where we have
13
manufactured these printers since 2001. We transferred the European card printer service operation to our Preston, United Kingdom, facility where the Europe, Middle East and African distribution of these printers already occurs. The Varades facility has been completely closed as of December 31, 2004. As of October 1, 2005, we incurred the following exit costs (in thousands):
Type of Cost |
| Total costs |
| |
Severance, stay bonuses, and other employee-related expenses |
| $ | 1,746 |
|
Asset disposal costs |
| 64 |
| |
Other exit costs |
| 308 |
| |
Total |
| $ | 2,118 |
|
We expect to incur no further significant costs for this project.
During January 2004, we announced plans to consolidate our Warwick, Rhode Island, printer manufacturing and repair service into our Camarillo, California and Vernon Hills, Illinois locations. This transition was substantially complete by the end of 2004. The Warwick facility will continue to manufacture and distribute bar code label printer supplies, as well as house engineering, product management, and the key account sales functions for mobile products. The following table shows the exit costs incurred as of October 1, 2005 (in thousands).
Type of Cost |
| Total costs |
| |
Severance, stay bonuses, and other employee-related expenses |
| $ | 763 |
|
Other exit costs |
| 476 |
| |
Total |
| $ | 1,239 |
|
We expect to incur no further significant costs for this project.
During December 2004, we announced plans to close and consolidate our Wakefield, Rhode Island, facility into our other North American facilities. This transition is expected to be complete by the end of 2005. The following table shows the exit costs incurred and remaining costs expected as of October 1, 2005 (in thousands).
Type of Cost |
| Costs |
| Additional |
| Total costs |
| |||
Severance, stay bonuses, and other employee-related expenses |
| $ | 140 |
| $ | — |
| $ | 140 |
|
Other exit costs |
| 250 |
| 50 |
| 300 |
| |||
Total |
| $ | 390 |
| $ | 50 |
| $ | 440 |
|
Zebra has a leased warehouse facility in Wokingham, United Kingdom, that currently is not utilized. The lease runs through October 2010, with annual rent of £192,500. The facility previously had been subleased at a profit through December 2003 when the subtenant left the facility. In 2004, we began efforts to market the building for sublease through the balance of the lease period. At that time, we recorded a reserve of approximately $670,000 for the estimated loss on rent based on the market conditions at that time. During the first quarter of 2005, we reviewed the current real estate market data related to this property and concluded that the prospects of subleasing the facility prior to lease expiration are remote, and Zebra will receive no economic benefit for the remaining lease payments. Therefore, during the first quarter of 2005, we recorded in exit costs additional reserves of approximately $1,524,000 for Zebra’s estimated liability under this lease.
14
Liabilities and expenses related to exit activities for the three and nine months ended October 1, 2005 were as follows (in thousands):
|
| Varades |
| Warwick |
| Wakefield |
| Wokingham |
| Total |
| |||||
Accrued liabilities related to exit activities at December 31, 2004 |
| $ | 155 |
| $ | 439 |
| $ | 90 |
| $ | 550 |
| $ | 1,234 |
|
|
|
|
|
|
|
|
|
|
|
|
| |||||
Expenses incurred for the six months ended June 2, 2005 |
| 131 |
| (28 | ) | 31 |
| 1,524 |
| 1,658 |
| |||||
Expenses incurred for the three months ended October 1, 2005 |
| 34 |
| (1 | ) | 250 |
| ¾ |
| 283 |
| |||||
Total expenses incurred for the nine months ended October 1, 2005 |
| 165 |
| (29 | ) | 281 |
| 1,524 |
| 1,941 |
| |||||
|
|
|
|
|
|
|
|
|
|
|
| |||||
Less: Amounts paid for the nine months ended October 1, 2005 |
| 280 |
| 395 |
| 336 |
| 227 |
| 1,238 |
| |||||
|
|
|
|
|
|
|
|
|
|
|
| |||||
Exchange rate impact |
| ¾ |
| ¾ |
| ¾ |
| (144 | ) | (144 | ) | |||||
Accrued liabilities related to exit activities at October 1, 2005 |
| $ | 40 |
| $ | 15 |
| $ | 35 |
| $ | 1,703 |
| $ | 1,793 |
|
The negative expenses related to adjustment of reserves due to changes in the estimates of expected costs.
Note 12—Contingencies
On April 24, 2003, Paxar Americas, Inc. (Paxar Americas) filed a patent infringement lawsuit in the United States District Court for the Southern District of Ohio against Zebra and certain of its subsidiaries. Paxar Americas’ Complaint alleges that certain of Zebra’s products infringe on one or more of eight identified Paxar Americas patents, although not every product is accused of infringing each patent. Zebra filed an Answer to Paxar Americas’ Complaint, denying Paxar Americas’ allegations of infringement and asserting several affirmative defenses, including the invalidity of Paxar Americas’ asserted patent claims. Paxar Americas moved to amend its Complaint to add two patents and a trademark-based claim and the Court granted the motion. Paxar Americas filed its Amended Complaint on March 31, 2005, dropping one of the eight originally asserted patents and adding two newly asserted patents. Paxar Americas also filed a motion to withdraw another of the originally asserted patents from the Amended Complaint. Zebra filed its Answer denying all infringement and asserting affirmative defenses including the invalidity of Paxar Americas’ asserted patent claims. On July 15, 2004, the Court heard arguments from the parties regarding the proper construction of the claims of the patents-in-suit and the parties submitted post-argument briefs. On April 20, 2005, at the Court’s request, the parties identified disputed claim terms regarding the newly asserted patents and provided their respective positions regarding those terms to the Court. Discovery closed on August 16, 2005. No decision has yet been issued in connection with the July 15, 2004 claim construction hearing. At the Court’s request the parties included in their summary judgment briefing additional arguments concerning claim construction in view of patents added to Paxar Americas’ Amended Complaint as well as developments in patent law subsequent to the claim construction hearing. On October 7, 2005, the parties completed extensive summary judgment briefing, and the Court has scheduled a hearing on the summary judgment motions for November 16, 2005. The Court advised the parties that a trial will not be scheduled before January 19, 2006.
We believe we have strong defenses to Paxar Americas’ infringement claims, but the outcome of litigation is inherently uncertain, particularly in cases such as this where sophisticated factual issues must be assessed and complex technical issues must be decided. As a result, we cannot accurately predict the outcome of this lawsuit, and we are unable to conclude that a loss is likely to occur. In the event we are unsuccessful in our defense of Paxar Americas’ infringement claims, we could be liable for economic and other damages, which could be material. Based on our damage expert’s report, we believe damages could be in the range of $100,000 to $20,000,000, but Paxar claims damages in an amount substantially higher. In addition, we may be forced to incur ongoing licensing expenses or to change how we design, manufacture and market certain of our products. We have and will continue to incur substantial legal fees to prosecute
15
and defend this lawsuit. Consistent with the requirements of SFAS No. 5, Accounting for Contingencies, no liability has been recorded in Zebra’s consolidated financial statements as of October 1, 2005.
On January 31, 2003, a Writ of Summons was filed in the Nantes Commercial Court, Nantes, France, by Printherm, a French corporation, and several of its shareholders (collectively, “Printherm”), against Zebra Technologies France (“ZTF”), a French corporation and wholly-owned subsidiary of Zebra. Printherm seeks damages in the amount of €15,304,000 and additional unspecified damages in connection with ZTF’s termination of negotiations in December 2000 respecting the proposed acquisition by Zebra of the capital stock of Printherm. The negotiation was terminated based on unsatisfactory results of the ongoing due diligence. We believe that Printherm’s claims are without merit and that a loss is not likely to occur. We will vigorously defend the action.
Printherm filed bankruptcy proceedings on August 30, 2004, and the Commerical Court ordered its liquidation on November 30, 2004. The case was put on hold until the Court appointed liquidator filed a submission in August 2005, which started the proceedings again. ZTF is required to file its answer by the end of November 2005. The Court fixed a closing hearing on December 19, 2005.
Note 13—Warranty and Recycling Reserves. Zebra provides warranty coverage of up to one year on printers against defects in material and workmanship. A provision for warranty expense is recorded at the time of shipment and adjusted quarterly based on historical warranty experience. The following is a summary of Zebra’s accrued warranty obligation.
Warranty Reserve (in thousands) |
| Nine months Ended |
| Nine months Ended |
| ||
Balance at beginning of period |
| $ | 1,691 |
| $ | 1,351 |
|
Warranty expense during the period |
| 4,417 |
| 2,643 |
| ||
Warranty payments made during the period |
| (4,167 | ) | (2,347 | ) | ||
Balance at end of the period |
| $ | 1,941 |
| $ | 1,647 |
|
During the third quarter of 2005, Zebra began providing for environmental recycling reserves similar to warranty reserves. In the United Kingdom, we have an obligation in the future to recycle printers that are returned to us upon our sale of a new printer to a customer. This reserve is based on all new printers sold after August 13, 2005, from our UK location. The following is a summary of Zebra’s accrued recycling obligation.
Recycling Reserve (in thousands) |
| Nine months Ended |
| |
Balance at beginning of period |
| $ | — |
|
Recycling expense during the period |
| 318 |
| |
Recycling payments made during the period |
| ¾ |
| |
Balance at end of the period |
| $ | 318 |
|
Note 14—Income Taxes. During the third quarter, Zebra completed the filing of the federal and state income tax returns for the year ended December 31, 2004. In addition, various state income tax audits were completed. Based on an analysis of the income tax reserve balance at the end of the quarter, we reduced our income tax reserve by $800,000 during the third quarter.
16
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Results of Operations: Third Quarter of 2005 versus third Quarter of 2004
Sales were up moderately from last year, although our rate of growth has slowed principally from sales declines of mobile printers to North American retailers, compared with last year’s record shipments. We had record sales in our Asia Pacific region and continued robust business in Latin America from the successful placement of Zebra personnel in those territories to expand and strengthen customer relationships. Further improvements in our supplies operation also contributed to our sales growth. Earnings per share declined from last year, as gross profit margin fell due to underutilized manufacturing capacity, and operating expense growth exceeded sales growth from higher legal activities as well as personnel costs and expenditures for projects to extend competitive leadership.
Sales
Sales to customers by product category, percent change, and percent of total sales for the three and nine months ended October 1, 2005 and October 2, 2004 were (in thousands, except percentages):
|
| Three Months Ended |
|
|
|
|
|
|
| ||||
|
| October 1, |
| October 2, |
| Percent |
| Percent of |
| Percent of |
| ||
Product Category |
| 2005 |
| 2004 |
| Change |
| Total Sales - 2005 |
| Total Sales - 2004 |
| ||
Hardware |
| $ | 133,488 |
| $ | 135,383 |
| (1.4 | ) | 76.0 |
| 79.1 |
|
Supplies |
| 32,563 |
| 29,007 |
| 12.3 |
| 18.5 |
| 16.9 |
| ||
Service and software |
| 6,309 |
| 5,431 |
| 16.2 |
| 3.6 |
| 3.2 |
| ||
Shipping and handling |
| 1,863 |
| 1,286 |
| 44.9 |
| 1.1 |
| 0.8 |
| ||
Cash flow hedging activities |
| 1,413 |
| 69 |
| NM |
| 0.8 |
| ¾ |
| ||
Total sales |
| $ | 175,636 |
| $ | 171,176 |
| 2.6 |
| 100.0 |
| 100.0 |
|
|
| Three Months Ended |
|
|
|
|
|
|
| ||||
|
| October 1, |
| October 2, |
| Percent |
| Percent of |
| Percent of |
| ||
Product Category |
| 2005 |
| 2004 |
| Change |
| Total Sales - 2005 |
| Total Sales - 2004 |
| ||
Hardware |
| $ | 402,874 |
| $ | 381,027 |
| 5.7 |
| 77.1 |
| 78.1 |
|
Supplies |
| 95,603 |
| 85,975 |
| 11.2 |
| 18.3 |
| 17.6 |
| ||
Service and software |
| 19,015 |
| 18,233 |
| 4.3 |
| 3.6 |
| 3.7 |
| ||
Shipping and handling |
| 4,743 |
| 3,506 |
| 35.3 |
| 0.9 |
| 0.7 |
| ||
Cash flow hedging activities |
| 742 |
| (561 | ) | NM |
| 0.1 |
| (0.1 | ) | ||
Total sales |
| $ | 522,977 |
| $ | 488,180 |
| 7.1 |
| 100.0 |
| 100.0 |
|
Sales to customers by geographic region, percent changes and percent of total sales for the three and nine months ended October 1, 2005 and October 2, 2004 were (in thousands, except percentages):
|
| Three Months Ended |
|
|
|
|
|
|
| ||||
|
| October 1, |
| October 2, |
| Percent |
| Percent of |
| Percent of |
| ||
Geographic Region |
| 2005 |
| 2004 |
| Change |
| Total Sales - 2005 |
| Total Sales - 2004 |
| ||
Europe, Middle East and Africa |
| $ | 51,571 |
| $ | 48,553 |
| 6.2 |
| 29.4 |
| 28.4 |
|
Latin America |
| 10,932 |
| 9,631 |
| 13.5 |
| 6.2 |
| 5.6 |
| ||
Asia-Pacific |
| 18,983 |
| 13,578 |
| 39.8 |
| 10.8 |
| 7.9 |
| ||
Total International |
| 81,486 |
| 71,762 |
| 13.6 |
| 46.4 |
| 41.9 |
| ||
North America |
| 94,150 |
| 99,414 |
| (5.3 | ) | 53.6 |
| 58.1 |
| ||
Total sales |
| $ | 175,636 |
| $ | 171,176 |
| 2.6 |
| 100.0 |
| 100.0 |
|
17
|
| Nine months Ended |
|
|
|
|
|
|
| ||||
|
| October 1, |
| October 2, |
| Percent |
| Percent of |
| Percent of |
| ||
Geographic Region |
| 2005 |
| 2004 |
| Change |
| Total Sales - 2005 |
| Total Sales - 2004 |
| ||
Europe, Middle East and Africa |
| $ | 170,422 |
| $ | 154,161 |
| 10.5 |
| 32.6 |
| 31.6 |
|
Latin America |
| 33,956 |
| 27,522 |
| 23.4 |
| 6.5 |
| 5.6 |
| ||
Asia-Pacific |
| 47,107 |
| 37,767 |
| 24.7 |
| 9.0 |
| 7.7 |
| ||
Total International |
| 251,485 |
| 219,450 |
| 14.6 |
| 48.1 |
| 44.9 |
| ||
North America |
| 271,492 |
| 268,730 |
| 1.0 |
| 51.9 |
| 55.1 |
| ||
Total sales |
| $ | 522,977 |
| $ | 488,180 |
| 7.1 |
| 100.0 |
| 100.0 |
|
The trend of slower mobile printer sales, primarily to major retail customers in North America and Europe, Middle East and Africa (EMEA) regions, continued to restrict sales growth. By contrast, sales benefited from further strong sales growth in our Asia Pacific and Latin America regions as a result of the successful placement of Zebra sales representatives, sales engineers, and other personnel in those territories to expand and strengthen customer relationships. In addition, sales reflect higher supplies shipments in North America from operational improvements, more effective sales strategies and the addition of label converting capacity on the West Coast from the RSI acquisition.
New printer products (defined as printers released within 18 months prior to the end of the applicable fiscal period) accounted for 7.8% of printer sales in the third quarter of 2005 and 21.3% of printer sales in the third quarter of 2004. Year to-date new printer products accounted for 10.5% in 2005, compared with 25.7% for the corresponding period in 2004. The decline in sales of new printer products is the result of technical problems that delayed the introduction of various new products as well as the shifting of some new product engineering resources to environmental compliance. We expect several new printer products to begin shipping in the fourth quarter of 2005 and early in 2006.
Our international sales are denominated in multiple currencies, primarily the dollar, pound and euro, which cause our reported sales to be subject to fluctuations in currency rates. We estimate that favorable foreign exchange movements of the euro and the pound versus the dollar had a net positive effect of $585,000 on sales during the third quarter compared to the third quarter of 2004.
We currently hedge a portion of anticipated euro-denominated sales to protect Zebra against exchange rate movements. For the third quarter, this program resulted in a gain of $1,413,000 and a year-to-date gain of $742,000. See Note 10 to the financial statements for a more detailed discussion of this hedging program.
Printer unit volumes and average selling price information is summarized below:
|
| Three Months Ended |
|
|
| Nine months Ended |
|
|
| ||||||||
|
| October 1, |
| October 2, |
| Percent |
| October 1, |
| October 2, |
| Percent |
| ||||
|
| 2005 |
| 2004 |
| Change |
| 2005 |
| 2004 |
| Change |
| ||||
Total printers shipped |
| 178,720 |
| 169,770 |
| 5.3 |
| 527,881 |
| 485,353 |
| 8.8 |
| ||||
Average selling price of printers shipped |
| $ | 621 |
| $ | 659 |
| (5.8 | ) | $ | 639 |
| $ | 649 |
| (1.5 | ) |
Gross Profit
Gross profit information is summarized below (in thousands, except percentages):
|
| Three Months Ended |
|
|
| Nine months Ended |
|
|
| ||||||||
|
| October 1, |
| October 2, |
| Percent |
| October 1, |
| October 2, |
| Percent |
| ||||
|
| 2005 |
| 2004 |
| Change |
| 2005 |
| 2004 |
| Change |
| ||||
Gross Profit |
| $ | 87,677 |
| $ | 87,146 |
| 0.6 |
| $ | 264,390 |
| $ | 252,264 |
| 4.8 |
|
Gross Margin |
| 49.9 |
| 50.9 |
|
|
| 50.6 |
| 51.7 |
|
|
| ||||
The 1.0 percentage point decline in gross profit margin compared to last year was principally due to under-absorption of manufacturing overhead. Distribution and warranty costs also contributed to the decline in margins.
18
Selling and Marketing Expenses
Selling and marketing expenses are summarized below (in thousands, except percentages):
|
| Three Months Ended |
|
|
| Nine months Ended |
|
|
| ||||||||
|
| October 1, |
| October 2, |
| Percent |
| October 1, |
| October 2, |
| Percent |
| ||||
|
| 2005 |
| 2004 |
| Change |
| 2005 |
| 2004 |
| Change |
| ||||
Selling and marketing expenses |
| $ | 20,800 |
| $ | 19,217 |
| 8.2 |
| $ | 64,421 |
| $ | 54,447 |
| 18.3 |
|
Percent of sales |
| 11.8 |
| 11.2 |
|
|
| 12.3 |
| 11.2 |
|
|
| ||||
Higher selling and marketing expenses reflect ongoing investments in demand-generating activities to build brand equity in our core product lines as well as in the emerging area of radio frequency identification (RFID). During the third quarter of 2005, selling and marketing expenses increased due to higher payroll costs of $1,257,000 and increased travel and entertainment of $307,000. The increased staffing was primarily focused on increasing our presence in targeted geographic territories to support growth in those regions, building sales and marketing teams to deliver vertical market applications, and strengthening strategic alliances with complementary companies. For the first nine months of 2005, increases were also seen in business development, outside commissions, and information systems expenses.
Research and Development Costs
The development of new products and enhancement of existing products are important to Zebra’s business and growth prospects. To maintain and build our product pipeline, we made investments in research and development, summarized below (in thousands, except percentages):
|
| Three Months Ended |
|
|
| Nine months Ended |
|
|
| ||||||||
|
| October 1, |
| October 2, |
| Percent |
| October 1, |
| October 2, |
| Percent |
| ||||
|
| 2005 |
| 2004 |
| Change |
| 2005 |
| 2004 |
| Change |
| ||||
Research and development costs |
| $ | 11,501 |
| $ | 9,596 |
| 19.9 |
| $ | 34,222 |
| $ | 27,725 |
| 23.4 |
|
Percent of sales |
| 6.5 |
| 5.6 |
|
|
| 6.5 |
| 5.7 |
|
|
| ||||
Quarterly product development expenses fluctuate widely depending on the status of on-going projects. We are committed to a long-term strategy of significant investment in product development. For the third quarter of 2005, project expenses increased by $1,063,000, and professional services increased $319,000 in relation to the third quarter of 2004. For the first nine months of 2005, payroll costs and information systems expenses also increased. Included in the year to-date, research and development cost increase are write-offs of tooling and other materials related to product development in the amount of $2,118,000 for 2005.
To date in 2005, we incurred research and development costs to re-engineer our products to make them compliant with new environmental laws that go into effect in 2006. These laws include eliminating the lead content in our products. These environmental compliance costs totaled $911,000 for the third quarter and $1,833,000 for the year to-date. We are expecting this amount to be approximately $2,700,000 for the full year.
General and Administrative Expenses
General and administrative expenses are summarized in the table below (in thousands, except percentages):
|
| Three Months Ended |
|
|
| Nine months Ended |
|
|
| ||||||||
|
| October 1, |
| October 2, |
| Percent |
| October 1, |
| October 2, |
| Percent |
| ||||
|
| 2005 |
| 2004 |
| Change |
| 2005 |
| 2004 |
| Change |
| ||||
General and administrative expenses |
| $ | 14,489 |
| $ | 11,917 |
| 21.6 |
| $ | 46,246 |
| $ | 37,242 |
| 24.2 |
|
Percent of sales |
| 8.2 |
| 7.0 |
|
|
| 8.8 |
| 7.6 |
|
|
| ||||
For the third quarter of 2005, general and administrative expenses increased due to higher payroll costs of $487,000, increased recruiting expenses of $213,000 and higher legal expenses of $1,540,000. The higher legal expenses are related to work on intellectual property matters, including litigation with Paxar as described in Note 12. We expect higher legal expenses to continue for subsequent quarters based on the legal activity we are currently experiencing.
19
Operating Income
Operating income is summarized in the following table (in thousands, except percentages):
|
| Three Months Ended |
|
|
| Nine months Ended |
|
|
| ||||||||
|
| October 1, |
| October 2, |
| Percent |
| October 1, |
| October 2, |
| Percent |
| ||||
|
| 2005 |
| 2004 |
| Change |
| 2005 |
| 2004 |
| Change |
| ||||
Operating income |
| $ | 40,095 |
| $ | 45,054 |
| (11.0 | ) | $ | 116,017 |
| $ | 128,954 |
| (10.0 | ) |
Percent of sales |
| 22.8 |
| 26.3 |
|
|
| 22.2 |
| 26.4 |
|
|
| ||||
Non-operating Income and Expenses
Zebra’s non-operating income and expense items are summarized in the following table (in thousands):
|
| Three Months Ended |
| Nine months Ended |
| |||||||||||
|
| October 1, |
| October 2, |
| October 1, |
| October 2, |
| |||||||
|
| 2005 |
| 2004 |
| 2005 |
| 2004 |
| |||||||
Investment income |
| $ | 3,254 |
| $ | 2,515 |
| $ | 9,603 |
| $ | 7,678 |
| |||
Interest expense |
| (41 | ) | (7 | ) | (71 | ) | (39 | ) | |||||||
Foreign exchange gain (losses) |
| 334 |
| 737 |
| 1,199 |
| 493 |
| |||||||
Other, net |
| 251 |
| (339 | ) | (296 | ) | (1,175 | ) | |||||||
Total other income |
| $ | 3,798 |
| $ | 2,906 |
| $ | 10,435 |
| $ | 6,957 |
| |||
|
|
|
|
|
|
|
|
|
| |||||||
Rate of Return Analysis: |
|
|
|
|
|
|
|
|
| |||||||
Average cash and marketable securities balances |
| $ | 551,767 |
| $ | 510,992 |
| $ | 543,858 |
| $ | 485,444 |
| |||
Annualized rate of return |
| 2.4 | % | 2.0 | % | 2.4 | % | 2.1 | % | |||||||
Income Taxes
The effective income tax rate for the third quarter of 2005 was 32.9%, compared to 34.8% for the same time period last year. During the third quarter, we reduced tax reserves as a result of favorable outcomes of several state income tax audits during the quarter. For the year to-date, the effective income tax rate was 34.1% for 2005 and 34.8% for 2004.
Net Income
Zebra’s net income is summarized below (in thousands, except per share amounts):
|
| Three Months Ended |
| Nine months Ended |
| ||||||||
|
| October 1, |
| October 2, |
| October 1, |
| October 2, |
| ||||
|
| 2005 |
| 2004 |
| 2005 |
| 2004 |
| ||||
Net income |
| $ | 29,440 |
| $ | 31,319 |
| $ | 83,309 |
| $ | 88,682 |
|
Diluted earnings per share |
| $ | 0.41 |
| $ | 0.43 |
| $ | 1.15 |
| $ | 1.22 |
|
Liquidity and Capital Resources
During the third quarter of 2005, Zebra initiated a program to repurchase our own shares. Under this program, we repurchased a total of 1,866,375 shares for $70,421,000. As a result, Zebra’s cash and investment balances decreased to $529,723,000 as of October 1, 2005, compared with $557,993,000 at December 31, 2004. Other factors affecting cash and investment balances during the first nine months of 2005 include (note that changes discussed below include the impact of foreign currency):
• Operations provided cash in the amount of $73,846,000, primarily from net income.
• Accounts receivable increased $5,441,000 year-to-date because of higher sales. Days sales outstanding remained unchanged at 51 days in the third quarter of 2005, compared with the end of 2004.
• Inventories increased $5,548,000. Inventory turns were down to 5.5 from 5.7 at the end of 2004.
• Taxes payable decreased $3,486,000 because of the timing of income tax payments.
• Purchases of property and equipment totaled $9,236,000.
• Acquisition of assets of Retail Systems International, Inc. totaled $7,657,000.
• Acquisition of intangible assets totaled $13,754,000.
• Net sales of investments and marketable securities totaled $18,708,000.
• Stock option exercises and purchases under the stock purchase plan contributed $9,252,000.
20
Management believes that existing capital resources and funds generated from operations are sufficient to finance anticipated capital requirements. It is our intention to actively pursue opportunities to acquire other businesses.
Critical Accounting Policies and Estimates
Management prepared the consolidated financial statements of Zebra Technologies Corporation under accounting principles generally accepted in the United States of America. These principles require the use of estimates, judgments and assumptions. We believe that the estimates, judgments and assumptions being used are reasonable, based upon the information available.
Our estimates and assumptions affect the reported amounts in our financial statements. The following accounting policies comprise those that we believe are the most critical in understanding and evaluating Zebra’s reported financial results.
Revenue Recognition
Zebra recognizes product sales at the time of shipment and passage of title, which are generally the same. Other items that affect our revenue recognition include:
Customer returns
Customers have the right to return products that do not function properly within a limited time after delivery. We monitor and track product returns and record a provision for the estimated future returns based on historical experience and any notification received of pending returns. Returns have historically been within expectations and the provisions established, but Zebra cannot guarantee that it will continue to experience return rates consistent with historical patterns. Historically, our product returns have not been significant. However, if a significant issue should arise, it could have a material impact on our financial statements.
Growth Rebates
Some of our channel program partners are offered incentive rebates based on the attainment of specific growth targets they purchase from us over a quarter or year. These rebates are recorded as a reduction to revenue. Each quarter, we estimate the amount of outstanding volume rebates and establish a reserve for them based on shipment history. Historically, actual volume rebates have been in line with our estimates.
Price Protection
Some of our customers are offered price protection by Zebra as an incentive to carry inventory of our product. These price protection plans provide that if we lower prices, we will credit them for the price decrease on inventory they hold. We estimate future payments under price protection programs quarterly and establish a reserve, which is charged against revenue. Our customers typically carry limited amounts of inventory, and Zebra infrequently lowers prices on current products. As a consequence, the amounts paid under theses plans have been minimal. We cannot guarantee that this minimal level will continue.
Software Revenue
We sell three types of software and record revenue as follows:
• Our printers contain embedded firmware, which is part of the hardware purchase. We consider the sale of this firmware to be incidental to the sale of the printer and do not attribute any revenue to it.
• We sell a limited amount of prepackaged, or off-the-shelf, software for the creation of bar code labels using our printers. There is no customization required to use this software, and we have no post-shipment obligations on the software. Revenue is recognized at the time this prepackaged software is shipped.
• We sometimes provide custom software as part of a printer installation project. We bill custom software development services separate from the related hardware. Revenue related to custom software is recognized once the custom software development services have been completed and accepted by the customer.
Shipping and Handling
We charge our customers for shipping and handling services based upon our internal price list for these items. The amounts billed to customers are recorded as revenue when the product ships. Any costs incurred related to these services are included in cost of sales.
Investments and Marketable Securities
Investments and marketable securities at October 1, 2005 consisted of U.S. government securities (13.5%), state and municipal bonds (74.0%), corporate bonds (4.1%) and partnership interests (8.4%). We classify our marketable equity and debt securities in one of three categories: trading, available-for-sale or held-to-maturity. Trading securities are bought
21
and held principally for the purpose of selling them in the near term. Held-to-maturity securities are those securities that Zebra has the ability and intent to hold until maturity. All securities not included in trading or held-to-maturity are classified as available-for-sale.
Trading and available-for-sale securities are recorded at fair value. Held-to-maturity securities are recorded at amortized cost, adjusted for the amortization or accretion of discounts or premiums. Unrealized holding gains and losses on trading securities are included in earnings. Unrealized holding gains and losses, net of the related tax effect, on available-for-sale securities are excluded from earnings and are reported as a separate component of stockholders’ equity until realized. As of October 1, 2005, all of Zebra’s investments and marketable securities are classified as available-for-sale.
Accounts Receivable
We have standardized credit granting and review policies and procedures for all customer accounts, including:
• Credit reviews of all new customer accounts,
• Ongoing credit evaluations of current customers,
• Credit limits and payment terms based on available credit information,
• Adjustments to credit limits based upon payment history and the customer’s current credit worthiness, and
• An active collection effort by regional credit functions, reporting directly to the corporate financial officers.
We reserve for estimated credit losses based upon historical experience and specific customer collection issues. Over the last three years, accounts receivable reserves varied from 1.5% to 2.8% of total accounts receivable. Accounts receivable reserves as of October 1, 2005, were $1,702,000, or 1.7% of the balance due. We feel this reserve level is appropriate considering the quality of the portfolio as of October 1, 2005. While credit losses have historically been within expectations and the provisions established, we cannot guarantee that our credit loss experience will continue to be consistent with historical experience.
Inventories
We value our inventories at the lower of the actual cost to purchase or manufacture using the first-in, first-out (FIFO) method, or the current estimated market value. We review inventory quantities on hand and record a provision for excess and obsolete inventory based on forecasts of product demand and production requirements for the subsequent twelve months.
Over the last three years, our reserves for excess and obsolete inventories have ranged from 10.4% to 13.1% of gross inventory. As of October 1, 2005, reserves for excess and obsolete inventories were $9,370,000, or 12.7% of gross inventory. We feel this reserve level is appropriate considering the quantities and quality of the inventories as of October 1, 2005.
Valuation of Long-Lived and Intangible Assets and Goodwill.
We test the impairment of identifiable intangibles and goodwill each year or whenever events or changes in circumstances indicate that the carrying value may not be recoverable. We completed our last assessment during June 2005. At that time, no adjustment to goodwill was necessary due to impairment.
We evaluate the impairment of other long-lived assets whenever events or changes in circumstances indicate that the carrying value may not be recoverable.
Factors considered that may trigger an impairment review consist of:
• Significant underperformance relative to expected historical or projected future operating results,
• Significant changes in the manner of use of the acquired assets or the strategy for the overall business,
• Significant negative industry or economic trends,
• Significant decline in Zebra’s stock price for a sustained period, and
• Significant decline in market capitalization relative to net book value.
If we believe that one or more of the above indicators of impairment have occurred, we measure impairment based on projected discounted cash flows using a discount rate that incorporates the risk inherent in the cash flows. Net intangible assets, long-lived assets and goodwill amounted to $136,421,000 as of October 1, 2005.
22
Contingencies
We record estimated liabilities related to contingencies based on our estimates of the probable outcomes. Quarterly, we assess the potential liability related to pending litigation, tax audits and other contingencies and confirm or revise estimates and reserves as appropriate.
For a discussion of the Paxar and Printherm litigation matters, see Note 12 in the Notes to the Consolidated Financial Statements.
New Accounting Pronouncements
In April 2005, the FASB changed the implementation date for SFAS No. 123(R), Share-Based Payment, which requires a public entity to measure the cost of employee services received in exchange for the award of equity instruments based on the fair value of the award at the date of grant. The provisions of this statement will now be effective for Zebra during the first quarter of 2006. We expect the impact on Zebra’s consolidated financial statements to be consistent with the fair value disclosures included in our critical accounting policies and Note 2 to the consolidated financial statements.
In May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error Corrections – a Replacement of APB Opinion No. 20 and FASB Statement No. 3, which changes the requirements for the accounting and reporting of a change in accounting principle. The Statement applies to all voluntary changes in accounting principle and to changes required by an accounting pronouncement in the unusual instance that the pronouncement does not include specific transition provisions. This Statement requires retrospective application to prior periods’ financial statements of change in accounting principle, unless it is impracticable to determine either the period-specific effects or the cumulative effect of the change. Zebra is required to adopt this statement during the first quarter of 2006. We do not expect the adoption of this statement to have a material impact on our financial condition or results of operations.
Significant Customer
ScanSource, Inc., a distributor, is our most significant customer and our sales to them accounted for the following percentages of total net sales:
|
| October 1, 2005 |
| October 2, 2004 |
|
For the three months ended |
| 15.9 | % | 14.1 | % |
For the nine months ended |
| 15.6 | % | 13.8 | % |
No other customer accounted for 10% or more of total net sales during these time periods.
Significant Suppliers
Zebra sources some of our component parts from sole suppliers. A disruption in the supply of such component parts could have a material adverse effect on our operations and financial results.
Renesas Technology America, Inc. is the sole supplier of microprocessors for certain Zebra printers. Renesas informed Zebra that some of Renesas’ microprocessors were found to infringe a United States patent owned by Translogic Technology, Inc. An injunction against Renesas was subsequently stayed by the U.S. Court of Appeals for the Federal Circuit. The affected microprocessors are used in certain Zebra printers which represented less than 5% of Zebra’s total sales during the third quarter of 2005, and such percentage may increase in the future. In a parallel proceeding, the United States Patent and Trademark Office ruled that all claims of Translogic’s patent are invalid. This ruling was affirmed by the PTO’s Board of Patent Appeals and Interferences. These rulings are the subject of appeals, and based upon the PTO’s actions, Zebra and Renesas believe Renesas will prevail. However, if Translogic prevails in the appeals process, Translogic could disrupt Zebra’s access to the affected microprocessors, which may have an adverse effect on our operations and financial results.
Expectations
As stated on our quarterly conference call on November 1, 2005, we estimate net sales, gross profit margins, operating expenses, and earnings for the fourth quarter of 2005 as follows (in thousands, except per share amounts and percentages):
|
| Fourth Quarter 2005 |
|
Net sales |
| $170,000 to $180,000 |
|
Gross profit margins |
| 50.0% to 51.0% |
|
Operating expenses |
| $48,500 to $50,000 |
|
Diluted earnings per share |
| $0.36 to $0.41 |
|
23
These estimates do not take into consideration acquisitions, dispositions or other significant corporate events which may occur in the fourth quarter. The effective tax rate is expected to be 35% of income before income taxes for the fourth quarter of 2005.
Safe Harbor
Forward-looking statements contained in this filing, including without limitation the information contained in “Expectations” directly above, are subject to the safe harbor created by the Private Securities Litigation Reform Act of 1995 and are highly dependent upon a variety of important factors which could cause actual results to differ materially from those reflected in such forward looking statements. These factors include market acceptance of Zebra’s printer and software products and competitors’ product offerings. They also include the effect of market and economic conditions in North America. Due to the large percentage of Zebra’s international sales, financial results are subject to fluctuation and may be affected by foreign exchange rates and market, political and economic conditions in other geographic regions. Profits will be affected by Zebra’s ability to control manufacturing and operating costs and to execute on new product development plans. Because of Zebra’s large investment portfolio, interest rate and financial market conditions will also have an impact on results. When used in this document and documents referenced herein, the words “anticipate,” “believe,” “estimate,” “will” and “expect” and similar expressions as they relate to Zebra or its management are intended to identify such forward-looking statements. Readers of this document are referred to prior filings with the Securities and Exchange Commission, including the Risk Factors portion of Management’s Discussion and Analysis of Financial Condition and Results of Operation in Zebra’s Form 10-K for the year ended December 31, 2004, for a further discussion of issues that could affect Zebra’s future results. Zebra undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events, changed circumstances or any other reason after the date of this report.
24
Item 3. Quantitative and Qualitative Disclosures About Market Risk
There were no material changes, except as discussed below, in Zebra’s market risk during the quarter ended October 1, 2005. For additional information on market risk, refer to the “Quantitative and Qualitative Disclosures About Market Risk” section of our Form 10-K for the year ended December 31, 2004.
In the normal course of business, portions of Zebra’s operations are subject to fluctuations in currency values. We manage these risks using derivative financial instruments.
25
Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
We conducted an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the period covered by this Form 10-Q. The controls evaluation was conducted under the supervision of our Disclosure Committee, and with the participation of management, including our Chief Executive Officer and Chief Financial Officer. Based on that evaluation, our Chief Executive Office and Chief Financial Officer, have concluded that our disclosure controls and procedures were effective to provide reasonable assurance that (i) the information required to be disclosed by us in this report on Form 10-Q was recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and (ii) information required to be disclosed by us in our reports that we file or submit under the Exchange Act is accumulated and communicated to our management, including our principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.
Changes in Internal Control over Financial Reporting
There were no changes in our internal controls over financial reporting during the quarter ended October 1, 2005 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.
Inherent Limitations on the Effectiveness of Controls
Our management, including our Chief Executive Office and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal controls will prevent all errors 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 Zebra have been detected.
These inherent limitations include the realities that judgments in decision-making can be faulty and that breakdowns can occur because of simple error or mistake. Controls can also be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls. The design of any system of controls is based in part on certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Projections of any evaluation of controls effectiveness to future periods are subject to risks. Over time, controls may become inadequate because of changes in conditions or deterioration in the degree of compliance with policies or procedures.
26
See Note 12 in the Notes to the Consolidated Financial Statements included in this Form 10-Q.
27
Item 6. Exhibits and Reports on Form 8-K
31.1 |
| Rule 13a-14(a)/15d-14(a) Certification |
31.2 |
| Rule 13a-14(a)/15d-14(a) Certification |
32.1 |
| Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
32.2 |
| Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
28
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
ZEBRA TECHNOLOGIES CORPORATION | |||||
Date: November 3, 2005 | By: |
| /s/Edward L. Kaplan |
| |
|
|
| Edward L. Kaplan | ||
|
|
| Chief Executive Officer | ||
|
|
|
| ||
|
|
|
| ||
Date: November 3, 2005 | By: |
| /s/Charles R. Whitchurch |
| |
|
|
| Charles R. Whitchurch | ||
|
|
| Chief Financial Officer | ||
29