costs to realign Tektronix’ cost structure during fiscal year 2003 and 2004, we also incurred costs to restructure the operations of the Japan subsidiary acquired through the acquisition of Sony/Tektronix Corporation and also recognized certain costs and credits directly associated with the integration of this subsidiary. Many of the costs incurred during fiscal year 2004 and the first quarter of fiscal year 2005 were associated with actions that were identified during prior fiscal years, but for which sufficient action had not yet been taken to support the recognition of the associated expense. Many of the business realignment actions that we identified take significant time to execute, particularly if they are being conducted in countries outside the United States.
On March 18, 2004, we announced the discontinuation of an existing distribution agreement with Rohde and Schwarz (“R&S”), under which Tektronix served as the exclusive distributor for R&S’ communication test products in the United States and Canada. The discontinuation of this distribution agreement was effective June 1, 2004. Tektronix had served in this distribution role for R&S since October 1993. As we anticipated, substantially all product backlog related to R&S distributed product at the end of fiscal year 2004 was shipped and recognized as revenue during the first quarter of fiscal year 2005. During the first quarter of fiscal years 2005 and 2004, we generated revenue of $21.2 million and $17.1 million, respectively, from R&S distributed products. As Tektronix was merely a distributor of these products, the corresponding sales generated lower gross margins compared to sales of products manufactured by Tektronix. During the first quarter of fiscal year 2005 and 2004, gross margins on these distribution sales were 29.2% and 22.3%, respectively.
Product orders consist of cancelable commitments to purchase currently produced products by customers with delivery scheduled generally within six months of being recorded. During the first quarter of fiscal year 2005, product orders decreased by $5.2 million or 2% from the same quarter last year. The overall decline was largely due to the discontinuation of the R&S distribution agreement described above. Excluding the impact of product orders related to the R&S distribution agreement, product orders increased to $204.4 million in the first quarter of fiscal year 2005 from $194.6 million in the same period last year, an increase of 5%. This year over year increase was primarily driven by strength in the overall markets, demonstrated by year over year growth in most of our product categories and regionally in Japan and the Pacific. Additional factors contributing to the growth included good response to new products and the favorable impact of foreign currency exchange rate changes, mostly in Japan.
Geographically, product orders increased 17% internationally, but decreased by 28% in the United States. Growth in international regions was primarily driven by Japan, which grew approximately 29%, and the Pacific, which grew by 19%. The growth in the Japan region was driven by growth in the local economy, good response to new products and the favorable impact of foreign currency exchange rate fluctuations. The growth in the Pacific region was primarily driven by the continued economic growth in the Pacific countries and good acceptance of new products. The favorable impact of foreign currency exchange rates was attributable for total year over year growth of approximately $6.3 million, or 3%, mostly attributable to currency fluctuation in Japan. The decrease in the United States was attributable to two primary factors. First, as discussed above, the discontinuation of the Rohde and Schwarz distribution agreement, where we were the distributor for these products in the United States and Canada, resulted in no orders for those products being included in the current quarter. Orders for Rohde and Schwarz’ product in the first quarter of fiscal year 2004 were $14.9 million. Second, during the first quarter of fiscal year 2004 we experienced certain large order activity in the United States, which was not repeated, nor was it anticipated to be repeated, in the current quarter.
Consolidated net sales during the first quarter of fiscal year 2005 increased by $49.0 million, or 24%, over the same period last year. The overall increase in net sales was largely driven by changes in product backlog in the current quarter as compared with the same quarter last year. In the current quarter, we reduced product backlog by $24.2 million, as compared with a $19.9 million increase in product backlog in the same quarter last year, a difference of $44.1 million. The reduction of product backlog in the current quarter mostly reflected the shipment of substantially all backlog related to R&S distributed product. In addition to product sales, net sales also include revenues from service and component sales. As we increase or decrease the level of product backlog within any given fiscal
period, the direct correlation between product orders and product sales may vary. As discussed above, we reduced product backlog in the current quarter mostly attributable to R&S distributed product, and therefore the increase in product sales does not correlate with the overall decrease in product orders discussed above.
Net sales in the United States increased 26% compared to the prior fiscal year, while international net sales increased by 23%. The increase in net sales in the United States was largely driven by shipment of backlog related to R&S distributed products. The increase in international net sales was generally associated with the geographical mix of orders received, reflecting the increased order demand in Japan and the Pacific region.
Product backlog at August 28, 2004 was $118.0 million, a decrease of $24.2 million from product backlog of $142.2 million at May 29, 2004. Ending product backlog as of August 28, 2004 was approximately 6.6 weeks of product sales. Product backlog levels are affected by the timing of product orders received within the quarter. We maintain a general target for product backlog levels of 6 to 8 weeks of product sales.
During the first quarter of fiscal years 2005 and 2004, we generated revenue of $21.2 million and $17.1 million, respectively, from R&S distributed products. As noted above, Tektronix discontinued acting as the distributor of these products in the United States and Canada effective June 1, 2004.
Gross Profit and Gross Margin
Gross profit for the first quarter of fiscal year 2005 was $148.5 million, an increase of $39.4 million or 36%, from gross profit of $109.1 million for the same quarter last year. The increase in gross profit was attributable to the increase in sales volume during the current fiscal year as well as the increase in gross margin on those sales.
Gross margin is the measure of gross profit as a percentage of net sales. Gross margin for the first quarter of fiscal year 2005 was 59.3%, an increase of 5.1 points over gross margin of 54.2% in the same quarter last year. Gross margin is affected by a variety of factors including, among other items, sales volumes, mix of product shipments, product pricing, inventory impairments and other costs such as warranty repair and sustaining engineering. The improvement in gross margin during the current quarter was primarily attributable to higher sales volumes, which spread additional revenue over a partially fixed manufacturing cost structure, and favorable mix resulting from the shipment of higher margin products. Also contributing to the year over year increase was the positive impact of our explicit program to increase gross margin, whereby we reviewed all cost drivers within gross margin and created a focused effort on reducing these costs where appropriate.
During the first quarter of fiscal years 2005 and 2004, gross margins on R&S distribution sales were 29.2% and 22.3%, respectively. As noted above, Tektronix discontinued acting as the distributor of these products in the United States and Canada effective June 1, 2004.
Operating Expenses
In the current quarter, operating expenses included research and development expenses, selling general and administrative expenses, business realignment costs, acquisition related costs and net gains from the sale of fixed assets. Each of these categories of operating expenses is discussed further below. It should be noted that although a portion of operating expenses is variable and therefore will fluctuate with operating levels, many costs are fixed in nature and are therefore subject to increase due to inflation and annual labor cost increases. Additionally, we must continue to invest in the development of new products and the infrastructure to market and sell those products even during periods where operating results reflect only nominal growth, are flat or declining. Accordingly, as we make cost reductions in response to changes in business levels or other specific business events, these reductions can be partially or wholly offset by these other increases to the fixed cost structure.
Research and development expenses are incurred for the design and testing of new products, technologies and processes, including pre-production prototypes, models and tools. Such costs include labor and employee benefits, contract services, materials, equipment and facilities. Research and development expenses increased $4.5 million, or 15%, during the first quarter of fiscal year 2005 as compared with the same quarter last year. This increase was primarily attributable to selected levels of spending on new product development and higher labor related expense. We continuously invest in the development of new products and technologies, and the timing of these costs varies depending on the
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stage of the development process. At times, we may focus certain engineering resources on the maintenance of the current product portfolio (sustaining engineering), which is expensed in Cost of goods sold in the Condensed Consolidated Statements of Operations. During the current quarter we used proportionally more of these engineering resources in new product development, thereby increasing research and development expense. Additionally, we incurred higher expenses associated with engineering materials as a result of the current projects’ stages of development. Labor related spending increased approximately $1.8 million, most of which was associated with annual salary increases, and increased variable incentive expense due to the relatively strong operating results that we experienced in the current quarter. As Tektronix was a distributor of R&S products, there was no research and development expense associated with the sale of these products.
Selling, general and administrative (“SG&A”) expenses increased $2.5 million, or 4% in the current quarter as compared with the same quarter last year. This increase in SG&A was largely attributable to increased labor related expense. Labor related expense was largely driven by increases for annual salary raises, pension expense and higher variable incentives expense. These increases were partially offset by cost savings from headcount reduction actions. In addition, the timing of program execution has an impact on the ultimate level of SG&A expense. During the current quarter, we did not execute a number of planned programs that would result in higher SG&A expense. Therefore, we would have expected to incur higher SG&A expense in the normal course of business. Many of these programs will be executed in following quarters and accordingly, we anticipate higher SG&A expenses in these future quarters.
Business realignments costs represent actions to realign our cost structure in response to dramatic changes in operating levels or a significant acquisition or divestiture. These costs primarily comprise severance costs for reductions in employee headcount and costs associated with the closure of facilities and subsidiaries. In recent years, business realignment costs have primarily been associated with the realignment of our cost structure in response to the dramatic economic decline experienced in the technology sector beginning during fiscal years 2001, and continuing into fiscal year 2003, as well as restructuring costs associated with the our acquisition of Sony/Tektronix. In many cases, and especially in foreign countries, these actions may take significant time to execute. Accordingly, we have continued to experience business realignment costs in fiscal year 2005 for actions planned in response to the reductions in operating levels experienced in previous fiscal years. During the first quarter of fiscal year 2005 we incurred business realignment costs of $2.0 million, a reduction from expense of $4.6 million in the first quarter of the prior fiscal year. The reduction from the prior year is the result of the previously planned actions being executed and recognized with fewer additional actions needing to be planned as business levels stabilized. For a full description of the components of business realignment costs please refer to the Business Realignment Costs section above in this Management Discussion and Analysis.
Acquisition related costs are incurred as a direct result of the integration of significant acquisitions. The acquisition related costs for the first quarter of fiscal years 2005 and 2004 are primarily related to our acquisition of Sony/Tektronix in fiscal year 2003. We incurred acquisition related costs of $0.8 million during the first quarter of fiscal year 2005 as compared with $1.3 million in the same quarter last year. In the fourth quarter of fiscal year 2004, we offered voluntary retention bonuses to certain employees in Gotemba, Japan as an incentive to remain with Tektronix through August 2005 while we complete our plan to transition manufacturing operations to other locations. Accordingly, Tektronix will recognize a liability for retention bonuses for 48 employees of approximately $3.7 million ratably through August 2005. During the first quarter of fiscal year 2005, we recognized an expense of $0.6 million for the retention bonuses, which are included in Acquisition related costs on the Condensed Consolidated Statements of Operations.
The gain on disposition of assets in the current quarter was primarily due to the sale of property located in Nevada City, California. Net proceeds of $9.9 million were received from the sale of the Nevada City assets with a carrying value of $7.7 million, resulting in a gain on sale of $2.2 million.
Non-Operating Income / Expense
Interest income during the first quarter of fiscal year 2005 decreased $0.5 million from the same quarter last year. The decrease in interest income was due to a lower average balance of invested cash as well as lower yields on invested cash.
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Interest expense during first quarter of fiscal year 2005 decreased $1.0 million as compared with the same quarter last year. The decrease in interest expense was largely due to the retirement of $56.3 million of outstanding bond debt in the first quarter of fiscal year 2004 and repayment of the outstanding principal balance in full on the TIBOR+1.75% debt facility during the third and fourth quarters of fiscal year 2004.
Other non-operating expense, net of $2.2 million during the first quarter of fiscal year 2005 was largely due to the write-down of a non-operating asset and unfavorable impacts of foreign currency exchange rate changes.
Income Taxes
Income tax expense for the first quarter of fiscal year 2005 was $15.6 million, resulting in an effective tax rate of 30%. The increase in the effective tax rate from 28% in the prior fiscal year to 30% during the current fiscal year was primarily due to higher estimated taxable income in the current fiscal year. The effective tax rate was impacted by a variety of estimates, including the amount of income during the remainder of fiscal year 2005, the mix of that income between foreign and domestic sources and expected utilization of tax credits which have a full valuation allowance. To the extent the estimates of these and other amounts change, the effective tax rate may change accordingly. The effective tax rate expected for fiscal year 2005 does not include the impact from completion of the acquisition of Inet.
Discontinued Operations
During the fourth quarter of fiscal year 2003, Tektronix’ management approved and initiated an active plan for the sale of Gage Applied Sciences (“Gage”), a wholly-owned subsidiary of Tektronix. Gage was located in Montreal, Canada and produced PC-based instruments products. The divestiture of this entity was consistent with our strategy of concentrating Tektronix’ resources in core product areas and de-emphasizing products which are determined to be less strategic. This business has been accounted for as a discontinued operation in accordance with SFAS No. 144. During the first quarter of fiscal year 2004, we sold the operations of Gage to a third party. We recorded an after-tax loss of $0.8 million during the first quarter of fiscal year 2004 to reflect adjustments to the previously estimated after-tax loss of $2.2 million on the disposition of this discontinued operation which was recorded during the fourth quarter of fiscal year 2003 to write-down the net assets of Gage, primarily for goodwill, to net realizable value less estimated selling costs.
Loss from discontinued operations in the current quarter includes additional losses from the sale of the optical parametric test business and VideoTele.com due to settlement of additional costs arising after the sale of these businesses in fiscal year 2003.
Net Earnings
For first quarter of fiscal year 2005, Tektronix recognized consolidated net earnings of $36.4 million, an increase of $26.5 million from net earnings of $9.9 million for the same quarter last year. The current year increase was largely due to overall increased sales and higher gross profit.
Earnings Per Share
The increase in earnings per share is a result of the increased net earnings discussed above, and to a lesser extent, decreased weighted average shares outstanding in the current year as a result of shares repurchased by Tektronix.
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Financial Condition, Liquidity and Capital Resources
Sources and Uses of Cash
Cash Flows. The following table is a summary of our Condensed Consolidated Statements of Cash Flows:
(In thousands) | | Aug. 28, 2004 | | Aug. 30, 2003 | |
| |
| |
| |
Cash provided by (used in): | | | | | | | |
Operating activities | | $ | (43,120 | ) | $ | (1,272 | ) |
Investing activities | | | 57,818 | | | 26,128 | |
Financing activities | | | (56,286 | ) | | (68,731 | ) |
Operating Activities. Cash used in operating activities for the first quarter of fiscal year 2005 increased by $41.8 million as compared with the same quarter last year. The most significant factors contributing to this increase in cash outflow were payments in the current quarter of $46.5 million for a cash contribution to the U.S. Cash Balance pension plan and $29.8 million for annual incentive compensation accrued during fiscal year 2004, compared to payments in the same quarter last year of $30.0 million for a cash contribution to the U.S. Cash Balance pension plan and $5.8 million for annual incentive compensation accrued during fiscal year 2003. Other adjustments to reconcile net earnings to net cash provided by operating activities are presented in the Condensed Consolidated Statements of Cash Flows.
As noted above, we made a cash contribution of $46.5 million to the U.S. Cash Balance pension plan in the current quarter. This funding reduced Other long-term liabilities on the Condensed Consolidated Balance Sheets. Depending on the future market performance of the pension plan assets, we may make additional large cash contributions to the plan in the future.
Investing Activities. Cash provided by investing activities for the first quarter of fiscal year 2005 increased by $31.7 million as compared with the same quarter last year. The increase in net cash inflow provided by investing activities was largely attributable to net sales of short-term and long-term investment securities. The reduced investment in these securities was a result of cash needed to fund the contribution to the U.S. Cash Balance pension plan in the current quarter as discussed above. We spent $7.5 million for capital expenditures and realized $12.4 million of proceeds on sales of fixed assets in the current quarter. Sales of fixed assets included proceeds of $9.9 million from the sale of the Nevada City property.
Financing Activities. Cash used in financing activities decreased by $12.4 million in the first quarter of fiscal year 2005 as compared with the same quarter last year. This decrease was largely due to $65.2 million of outflows for financing activities in the current quarter compared to $74.1 million in the same quarter last year. During the current quarter, we paid $61.8 million to repurchase 2.1 million shares of Tektronix’ common stock at an average price of $29.02 per share, compared to $17.8 million in the same quarter last year. We paid dividends of $3.4 million to shareholders in the current quarter. There were no dividends paid to shareholders in the prior fiscal year. Financing activities in the first quarter of fiscal year 2004 included the August 1, 2003 scheduled 7.5% notes repayment of $56.3 million. These cash outflows were partially offset by proceeds from employee stock plans of $9.0 million in the current quarter, an increase from proceeds of $4.4 million in the same quarter last year. The increase in proceeds from employee stock plans was largely due to increased option exercise activity in the current quarter.
The above noted repurchases of common stock were made under an authorization approved by the Board of Directors. In fiscal year 2000, the Board of Directors authorized the purchase of up to $550.0 million of Tektronix’ common stock on the open market or through negotiated transactions. As of August 28, 2004, we had repurchased a total of 19.3 million shares at an average price of $23.39 per share totaling $450.6 million under this authorization. The reacquired shares were immediately retired, in accordance with Oregon corporate law. Subsequent to the first quarter of fiscal year 2005, in September 2004, the Board of Directors authorized an incremental $400.0 million to repurchase shares of Tektronix’ common stock. In addition, the Board of Directors has increased the quarterly cash dividend by 50% to $0.06 per share of common stock. The dividend is payable on October 25, 2004 to shareholders of record at the close of business on October 8, 2004.
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At August 28, 2004, we maintained unsecured bank credit facilities totaling $58.4 million, of which $54.5 million was unused.
Cash on hand, cash flows from operating activities and current borrowing capacity are expected to be sufficient to fund operations, acquisitions and potential acquisitions, capital expenditures and contractual obligations for the next twelve months.
Working Capital
The following table summarizes working capital as of August 28, 2004 and May 29, 2004:
(In thousands) | | Aug. 28, 2004 | | May 29, 2004 | |
| |
| |
| |
Current assets: | | | | | | | |
Cash and cash equivalents | | $ | 106,679 | | $ | 149,011 | |
Short-term marketable investments | | | 125,763 | | | 90,956 | |
Trade accounts receivable, net of allowance for doubtful accounts of $2,904 and $3,013, respectively | | | 134,374 | | | 133,150 | |
Inventories | | | 100,866 | | | 102,101 | |
Other current assets | | | 61,086 | | | 69,812 | |
| |
|
| |
|
| |
Total current assets | | | 528,768 | | | 545,030 | |
Current liabilities: | | | | | | | |
Accounts payable and accrued liabilities | | | 128,799 | | | 134,048 | |
Accrued compensation | | | 57,216 | | | 89,212 | |
Deferred revenue | | | 22,101 | | | 25,247 | |
| |
|
| |
|
| |
Total current liabilities | | | 208,116 | | | 248,507 | |
| |
|
| |
|
| |
Working capital | | $ | 320,652 | | $ | 296,523 | |
| |
|
| |
|
| |
Working capital increased in the current year by $24.1 million, largely due to the decrease in current liabilities. Current liabilities decreased $40.4 million, primarily from a decrease of $32.0 million in accrued compensation largely related to the payment of fiscal year 2004 annual incentive compensation and a decrease of $5.2 million in accounts payable and accrued liabilities largely due to timing of manufacturing purchases. Current assets decreased in the current year by $16.3 million, primarily due to a decrease of $8.7 million in other current assets and a net decrease of $7.5 million in cash and cash equivalents and short-term marketable investments. Other current assets decreased by $8.7 million, primarily the result of the sale of property classified as held-for-sale located in Nevada City, California. Significant changes in cash and cash equivalents and marketable investments are discussed in the Sources and Uses of Cash section above.
Recent Accounting Pronouncements
At the November 12–13, 2003 meeting, the Emerging Issues Task Force ("EITF") reached a consensus on Issue 03-1, “The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments,” that certain quantitative and qualitative disclosures should be required for debt and marketable equity securities classified as available-for-sale or held-to-maturity under SFAS No. 115, “Accounting for Certain Investments in Debt and Equity Securities”, that are impaired at the balance sheet date but for which an other-than-temporary impairment has not been recognized. We adopted the disclosure requirements in fiscal year 2004. At the March 17-18, 2004 meeting, the EITF reached a consensus, which approved an impairment model for debt and equity securities. However, on September 30, 2004, the Financial Accounting Standards Board (“FASB”) decided to postpone the implementation of the impairment model for debt and equity securities. We do not expect this consensus to have a material effect on the consolidated financial statements upon adoption of the impairment model for debt and equity securities.
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In December 2003, the FASB issued SFAS No. 132 (revised 2003), “Employers’ Disclosures about Pensions and Other Postretirement Benefits, an amendment of FASB Statements No. 87, 88, and 106, and a revision of FASB Statement No. 132.” SFAS No. 132 (revised 2003) revises employers’ disclosures about pension plans and other postretirement benefit plans. It does not change the measurement or recognition of those plans required by SFAS No. 87, “Employers’ Accounting for Pensions,” SFAS No. 88, “Employers’ Accounting for Settlements and Curtailments of Defined Benefit Pension Plans and for Termination Benefits,” and SFAS No. 106, “Employers’ Accounting for Postretirement Benefits Other Than Pensions.” The new rules require additional disclosures about the assets, obligations, cash flows, and net periodic benefit cost of defined benefit pension plans and other postretirement benefit plans. The required information has been provided separately for pension plans and for other postretirement benefit plans. We included the new disclosures in our fiscal year 2004 consolidated financial statements and interim disclosures beginning with the first quarter of fiscal year 2005.
Risks and Uncertainties
Described below are some of the risks and uncertainties that could cause actual results to differ materially from the results contemplated by the forward-looking statements contained in this Quarterly Report. See “Forward-Looking Statements” which precedes Part I of this Form 10-Q.
Market Risk and Cyclical Downturns in the Markets in Which Tektronix Competes
Our business depends on capital expenditures of manufacturers in a wide range of industries, including the telecommunications, semiconductor, and computer industries. Each of these industries has historically been very cyclical and has experienced periodic downturns, which have had a material adverse impact on the industries’ demand for equipment, including test and measurement equipment manufactured and marketed by us. In particular, the telecommunications industry, including but not limited to the optical segment, has experienced more dramatic declines than other industries. In addition, the severity and length of any downturn may also affect overall access to capital, which could adversely affect our customers across many industries. During periods of reduced and declining demand, we may need to rapidly align our cost structure with prevailing market conditions while at the same time motivating and retaining key employees. While the economy had recovered by fiscal year 2004, no assurance can be given regarding the length or extent of the recovery, and no assurance can be given that our net sales and operating results will not be adversely impacted by the reversal of any current trends or any future downturns or slowdowns in the rate of capital investment in these industries.
Timely Delivery of Competitive Products
We sell our products to customers that participate in rapidly changing high technology markets, which are characterized by short product life cycles. Our ability to deliver a timely flow of competitive new products and market acceptance of those products, as well as the ability to increase production or to develop and maintain effective sales channels, is essential to growing the business. Because we sell test and measurement products that enable our customers to develop new technologies, we must accurately anticipate the ever-evolving needs of those customers and deliver appropriate products and new technologies at competitive prices to meet customer demands. Our ability to deliver such products could be affected by engineering or other development program delays as well as the availability of parts and supplies from third party providers on a timely basis and at reasonable prices. Failure to deliver competitive products in a timely manner and at a reasonable price could have an adverse effect on our results of operations, financial condition or cash flows.
Competition
We compete with a number of companies in specialized areas of other test and measurement products and one large broad line measurement products supplier, Agilent Technologies. Other competitors include Acterna Corporation, Anritsu Corporation, Catapult Communications, LeCroy Corporation, Rohde & Schwarz, Yokogawa Electric Corporation and many other smaller companies. In general, the test and measurement industry is a highly competitive market based primarily on product performance, technology, customer service, product availability and price. Some of our competitors may have greater resources to apply to each of these factors and in some cases have built significant
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reputations with the customer base in each market in which we compete. We face pricing pressures that may have an adverse impact on our earnings. If we are unable to compete effectively on these and other factors, it could have a material adverse affect on our results of operations, financial condition or cash flows. In addition, we enjoy a leadership position in certain core product categories, and continually develop and introduce new products designed to maintain that leadership, as well as to penetrate new markets. Failure to develop and introduce new products that maintain a leadership position or that fail to penetrate new markets, may adversely affect operating results.
Supplier Risks
Our manufacturing operations are dependent on the ability of suppliers to deliver quality components, subassemblies and completed products in time to meet critical manufacturing and distribution schedules. We periodically experience constrained supply of certain component parts in some product lines as a result of strong demand in the industry for those parts. Such constraints, if persistent, may adversely affect operating results until alternate sourcing can be developed. There is increased risk of supplier constraints in periods where we are increasing production volume to meet customer demands. Volatility in the prices of these component parts, an inability to secure enough components at reasonable prices to build new products in a timely manner in the quantities and configurations demanded or, conversely, a temporary oversupply of these parts, could adversely affect our future operating results. In addition, we use certain sole sourced components, which are integral to a variety of products. Disruption in key sole sourced suppliers could have a significant adverse effect on our results of operations.
Worldwide Economic and Market Conditions
We maintain operations in four major geographies: the Americas, including the United States and Other Americas, including Mexico, Canada and South America; Europe, including Europe, Russia, the Middle East and Africa; the Pacific, including China, India, Korea and Singapore; and Japan. During the last fiscal year, more than half of our revenues were from international sales. In addition, some of our manufacturing operations and key suppliers are located in foreign countries, including China, where we expect to further expand our operations. As a result, the business is subject to the worldwide economic and market conditions risks generally associated with doing business globally, such as fluctuating exchange rates, the stability of international monetary conditions, tariff and trade policies, domestic and foreign tax policies, foreign governmental regulations, political unrest, wars and acts of terrorism, epidemic disease or other health concerns and changes in other economic or political conditions. These factors, among others, could influence our ability to sell in global markets, as well as our ability to manufacture products or procure supplies. A significant downturn in the global economy or a particular region could adversely affect our results of operations, financial position or cash flows.
Intellectual Property Risks
As a technology-based company, our success depends on developing and protecting our intellectual property. We rely generally on patent, copyright, trademark and trade secret laws in the United States and abroad. Electronic equipment as complex as most of our products, however, is generally not patentable in its entirety. We also license intellectual property from third parties and rely on those parties to maintain and protect their technology. We cannot be certain that actions we take to establish and protect proprietary rights will be adequate, particularly in countries (including China) where intellectual property rights are not highly developed or protected. If we are unable to adequately protect our technology, or if we are unable to continue to obtain or maintain licenses for protected technology from third parties, it could have a material adverse affect on our results of operations, financial position or cash flows. From time to time in the usual course of business, we receive notices from third parties regarding intellectual property infringement or take action against others with regard to intellectual property rights. Even where we are successful in defending or pursuing such claims, we may incur significant costs. In the event of a successful claim against us, we could lose our rights to needed technology or be required to pay license fees for the infringed rights, either of which could have an adverse impact on our business.
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Environmental Risks
We are subject to a variety of federal, state, local and foreign environmental regulations relating to the use, storage, discharge and disposal of our hazardous chemicals used during our manufacturing process. We have closed a licensed hazardous waste management facility at our Beaverton, Oregon campus and have entered into a consent order with the Oregon Department of Environmental Quality requiring certain remediation actions (see Part I, Item 1, “Environment” of Form 10-K). If we fail to comply with the consent order or any present or future regulations, we could be subject to future liabilities or the suspension of production. In addition, such regulations could restrict our ability to expand our facilities or could require us to acquire costly equipment, or to incur other significant expenses to comply with environmental regulations.
Possible Volatility of Stock Price
The price of our common stock may be subject to wide, rapid fluctuations. Such fluctuations may be due to factors specific to us, such as changes in operating results or changes in analysts’ estimates regarding earnings. Fluctuations in the stock price may also be due to factors relating to the telecommunications, semiconductor, and computer industries or to the securities markets in general. Fluctuations in stock prices have often been unrelated to the operating performance of the specific companies whose stocks are traded. Shareholders should be willing to incur the risk of such fluctuations.
Successful Integration of Inet, Technologies, Inc.
On September 30, 2004, we acquired all of the outstanding common stock of Inet. Following the close of this transaction, we must integrate the operations of Inet into Tektronix. The successful integration of the Inet business is subject to a number of risk factors which could materially adversely affect our consolidated results of operations, financial condition and cash flows. These risks include the necessity of coordinating geographically separated organizations, integrating personnel with diverse business backgrounds, integrating Inet’s technology and products, combining different corporate cultures, retaining key employees, maintaining customer satisfaction and current bid processes, maintaining product development schedules, coordinating sales and marketing activities, preserving important distribution relationships, diversion of management’s attention with consequent negative impact upon our execution of our overall strategy and failure to realize upon expected cost savings and other synergies from the merger.
Other Risk Factors
Other risk factors include but are not limited to changes in the mix of products sold, regulatory and tax legislation, changes in effective tax rates, inventory risks due to changes in market demand or our business strategies, potential litigation and claims arising in the normal course of business, credit risk of customers, the fact that a substantial portion of our sales are generated from orders received during each quarter, significant modifications to existing information systems, and the susceptibility of assets in our pension plans to market risk and other risk factors.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
Financial Market Risk
We are exposed to financial market risks, including interest rate, equity price and foreign currency exchange rate risks.
We maintain a short-term and long-term investment portfolio consisting of high quality fixed rate commercial paper, corporate notes and bonds, U.S. Treasury and agency notes, asset backed securities and mortgage securities. The weighted average maturity of the portfolio, excluding mortgage securities, was two years or less. Mortgage securities may have a weighted average life of less than seven years and are managed consistent with the Lehman Mortgage Index. An increase in interest rates of similar instruments would decrease the value of certain of these investments. A 10% rise in interest rates as of August 28, 2004 would reduce the market value by $2.8 million, which would be reflected in Accumulated other comprehensive loss on the Consolidated Balance Sheets until sold.
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We are exposed to equity price risk primarily through our marketable equity securities portfolio, primarily including investments in Merix Corporation and Tut Systems, Inc. We have not entered into any hedging programs to mitigate equity price risk. An adverse change of 20% in the value of these securities would reduce the market value by $2.0 million, which would likely be reflected in Accumulated other comprehensive loss on the Condensed Consolidated Balance Sheets until sold. If the adverse change results in an impairment that is considered to be other-than-temporary, the loss on impairment would be charged to net earnings on the Condensed Consolidated Statements of Operations.
We are exposed to foreign currency exchange rate risk primarily through commitments denominated in foreign currencies. When appropriate, we utilize derivative financial instruments, primarily forward foreign currency exchange contracts, generally with maturities of one to three months, to mitigate this risk where natural hedging strategies cannot be employed. Our policy is to only enter into derivative transactions when we have an identifiable exposure to risk, thus not creating additional foreign currency exchange rate risk. At August 28, 2004, there were no forward foreign currency exchange contracts.
Item 4. Controls and Procedures.
(a) Our management has evaluated, under the supervision and with the participation of, the chief executive officer and chief financial officer, the effectiveness of the our disclosure controls and procedures as of the end of the period covered by this report pursuant to Rule 13a-15(b) under the Securities Exchange Act of 1934. Based on that evaluation, the chief executive officer and chief financial officer have concluded that our disclosure controls and procedures are effective in ensuring that information required to be disclosed is recorded, processed, summarized and reported in a timely manner, and that information was accumulated and communicated to our management, including the chief executive officer and chief financial officer, to allow timely decisions regarding required disclosure.
(b) There has been no change in our internal control over financial reporting that occurred during the last fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
Part II. OTHER INFORMATION
Item 1. Legal Proceedings.
Tektronix is involved in various other litigation matters, claims and investigations that occur in the normal course of business, including but not limited to patent, commercial, personnel and environmental matters. While the results of such matters cannot be predicted with certainty, management believes that their final outcome will not have a material adverse impact on our business, results of operations, financial condition or cash flows.
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Item 2. Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities.
Purchases of Tektronix common stock during the first quarter ended August 28, 2004 were as follows:
Fiscal Period | | Total
Number
of Shares | | Average
Price
Paid Per
Share | | Total
Amount
Paid | | Total Number
of Shares
Purchased as
Part of Publicly
Announced Plans
or Programs | | Maximum Dollar
Value of Shares
that May
Yet Be
Purchased | |
| |
| |
| |
| |
| |
| |
May 30, 2004 to
June 26, 2004 | | | 298,000 | | $ | 31.01 | | $ | 9,240,876 | | | 17,432,279 | | $ | 151,952,442 | |
June 27, 2004 to
July 24, 2004 | | | 62,000 | | | 31.34 | | | 1,942,951 | | | 17,494,279 | | | 150,009,491 | |
July 25, 2004 to
August 28, 2004 | | | 1,768,300 | | | 28.60 | | | 50,580,225 | | | 19,262,579 | | $ | 99,429,266 | |
| |
|
| | | | |
|
| | | | | | | |
Total | | | 2,128,300 | | $ | 29.02 | | $ | 61,764,052 | | | | | | | |
| |
|
| | | | |
|
| | | | | | | |
Subsequent to the first quarter of fiscal year 2005, in September 2004, the Board of Directors authorized an incremental $400.0 million to repurchase shares of Tektronix common stock. This authorization is not included in the $99.4 million remaining Maximum dollar value of shares that may yet be purchased shown in the above table.
Item 4. Submission of Matters to a Vote of Security Holders.
At Tektronix’ annual meeting of shareholders on September 23, 2004, the shareholders voted on the election of three directors to Tektronix’ board of directors. David N. Campbell, Merrill A. McPeak and Richard H. Wills were elected to serve three-year terms ending at the 2007 annual meeting of shareholders. The voting for each director was as follows:
| | | FOR | | | WITHHELD | |
| | |
| | |
| |
David N. Campbell | | | 76,633,937 | | | 1,937,311 | |
Merrill A. McPeak | | | 75,186,971 | | | 3,384,276 | |
Richard H. Wills | | | 76,639,467 | | | 1,931,781 | |
The term of office of the Company’s other directors continued after the 2004 annual meeting of shareholders as follows: Pauline Lo Alker, A. Gary Ames and Frank C. Gill until the 2005 annual meeting of shareholders, and Gerry B. Cameron and Cyril J. Yansouni until the 2006 annual meeting of shareholders.
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Item 6. Exhibits and Reports on Form 8-K.
| (a) | Exhibits | |
| | | |
| | (31.1) | 302 Certification, Chief Executive Officer. |
| | | |
| | (31.2) | 302 Certification, Chief Financial Officer. |
| | | |
| | (32.1) | 906 Certification, Chief Executive Officer. |
| | | |
| | (32.2) | 906 Certification, Chief Financial Officer. |
| | | |
| (b) | Reports on Form 8-K | |
| | | |
| | On September 16, 2004, Tektronix filed a report on Form 8-K dated September 16, 2004 relating to the results of its first fiscal quarter ended August 28, 2004. Under the Form 8-K, Tektronix furnished (not filed) under Item 2.02 and Item 9.01 a press release relating to the results of its first fiscal quarter ended August 28, 2004 presented in accordance with GAAP, as well as related non-GAAP financial information. |
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
October 6, 2004 | TEKTRONIX, INC. |
| | |
| By | /s/ COLIN L. SLADE |
| |
|
| | Colin L. Slade
Senior Vice President and
Chief Financial Officer |
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