UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q/A X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended February 23, 1997 OR 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: 1-6453 NATIONAL SEMICONDUCTOR CORPORATION ---------------------------------- (Exact name of registrant as specified in its charter) DELAWARE 95-2095071 -------- ---------- (State of incorporation) (I.R.S. Employer Identification Number) 2900 Semiconductor Drive, P.O. Box 58090 Santa Clara, California 95052-8090 ----------------------------------- (Address of principal executive offices) Registrant's telephone number, including area code: (408) 721-5000 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 X No . Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Title of Each Class Outstanding at February 23, 1997 ------------------- -------------------------------- Common stock, par value $0.50 per share 140,745,443 <PAGE 1> NATIONAL SEMICONDUCTOR CORPORATION INDEX Part I. Financial Information Page No. -------- Condensed Consolidated Statements of Operations (Unaudited) for the Three Months and Nine Months Ended February 23, 1997 and February 25, 1996 3 Condensed Consolidated Balance Sheets (Unaudited) as of February 23, 1997 and May 26, 1996 4 Condensed Consolidated Statements of Cash Flows (Unaudited) for the Nine Months Ended February 23, 1997 and February 25, 1996 5 Notes to Condensed Consolidated Financial Statements (Unaudited) 6-11 Management's Discussion and Analysis of Results of Operations and Financial Condition 12-17 Part II. Other Information Legal Proceedings 18 Exhibits and Reports on Form 8-K 18-19 Signature 20 Exhibit 11.0 21 <PAGE 2> This amendment is to eliminate depreciation expense for the Fairchild fixed assets held for disposition for the second and third quarters of fiscal 1997 and to adjust the carrying value of the assets of the Company's Fairchild businesses as of February 23, 1997. PART I. FINANCIAL INFORMATION NATIONAL SEMICONDUCTOR CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited) (in millions, except per share amounts) Three Months Ended Nine Months Ended ------------------ ------------------- Feb. 23, Feb. 25, Feb. 23, Feb. 25, 1997 1996 1997 1996 -------- ------- -------- -------- Net sales $680.5 $600.3 $1,908.1 $2,010.7 Operating costs and expenses: Cost of sales 398.1 368.7 1,205.4 1,165.0 Research and development 93.3 96.9 279.7 270.5 Selling, general and administrative 111.5 112.1 311.9 370.1 Restructuring of operations (192.0) - 64.3 - ------ ------ -------- ------- Total operating costs and expenses 410.9 577.7 1,861.3 1,805.6 ------ ------ -------- ------- Operating income 269.6 22.6 46.8 205.1 Interest income, net 2.3 4.1 4.6 9.9 Other income, net 4.3 4.0 4.6 20.0 ------ ------ -------- ------- Income before income taxes 276.2 30.7 56.0 235.0 Income tax provision 69.1 7.7 14.0 58.7 ------ ------ -------- ------- Net Income $207.1 $ 23.0 $ 42.0 $ 176.3 ====== ====== ======== ======= Earnings per share: Primary $1.44 $ .17 $ .30 $1.30 Fully diluted $1.39 $ .17 $ .30 $1.26 Weighted average shares: Primary 143.8 137.8 141.1 131.1 Fully diluted 150.0 137.9 141.5 142.6 Income used in primary earnings per common share calculation(reflecting preferred dividends, if applicable) $207.1 $ 23.0 $ 42.0 $ 170.7 Income used in fully diluted earnings per share (reflecting adjustment for interest on convertible notes when dilutive) $208.6 $ 23.0 $ 42.0 $ 180.1 See accompanying Notes to Condensed Consolidated Financial Statements <PAGE 3> NATIONAL SEMICONDUCTOR CORPORATION CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited) (in millions) Feb. 23, May 26, 1997 1996 ASSETS -------- -------- Current assets: Cash and cash equivalents $ 383.8 $ 442.4 Short-term marketable investments 46.7 61.9 Receivables, net 329.1 281.2 Inventories 251.7 325.7 Deferred tax assets 81.3 71.1 Fairchild property and equipment held for disposition 318.5 - Other current assets 60.7 73.7 ------- ------- Total current assets 1,471.8 1,256.0 Property, plant and equipment 2,054.8 2,516.7 Less accumulated depreciation 789.7 1,208.6 ------- ------- Net property, plant and equipment 1,265.1 1,308.1 Long-term marketable investments 5.3 11.7 Other assets 85.7 82.2 ------- ------- Total assets $2,827.9 $2,658.0 ======== ======== LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Short-term borrowings and current portion of long-term debt $ 30.2 $ 21.5 Accounts payable 269.1 255.6 Accrued expenses 272.5 235.1 Income taxes 170.4 164.6 ------- ------- Total current liabilities 742.2 676.8 Long-term debt 374.3 350.5 Deferred income taxes 9.3 12.1 Other non-current liabilities 40.0 41.4 ------- ------- Total liabilities 1,165.8 1,080.8 ------- ------- Commitments and contingencies Shareholders' equity: Common stock 70.4 68.4 Additional paid-in capital 973.1 926.9 Retained earnings 618.6 581.9 ------- ------- Total shareholders' equity 1,662.1 1,577.2 ------- ------- Total liabilities and shareholders' equity $2,827.9 $2,658.0 ======== ======== See accompanying Notes to Condensed Consolidated Financial Statements <PAGE 4> NATIONAL SEMICONDUCTOR CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (in millions) Nine Months Ended -------------------- Feb. 23 Feb. 25, 1997 1996 ------- ------- Cash flows from operating activities: Net Income $ 42.0 $ 176.3 Adjustments to reconcile net income with net cash provided by operations: Depreciation and amortization 172.0 169.4 Gain on investments (1.0) (5.2) Tax benefit associated with stock options 10.0 12.8 In-process research and development charge 10.6 11.4 Loss on disposal of equipment 3.4 2.6 Restructuring charges 64.3 - Other, net (3.3) (4.1) Changes in certain assets and liabilities, net: Receivables (47.9) (11.4) Inventories 74.0 (78.0) Other current assets 13.0 (39.9) Accounts payable and accrued expenses 0.8 (74.4) Current and deferred income taxes (7.2) 17.7 Other non-current liabilities (1.4) (1.9) ------- ------- Net cash provided by operating activities 329.3 175.3 ------- ------- Cash flows from investing activities: Purchase of property, plant and equipment (446.6) (423.1) Proceeds from sale of equipment - 24.6 Proceeds from the sale and maturity of marketable investments 904.7 578.2 Purchase of marketable investments (889.5) (630.1) Proceeds from sale of net assets of DynaCraft, Inc. - 70.0 Proceeds from sale of investments 5.0 7.8 Business acquisitions (15.4) (19.2) Purchase of investments and other, net (12.2) (10.7) ------- ------- Net cash used by investing activities (454.0) (402.5) ------- ------- Cash flows from financing activities: Proceeds from issuance of convertible subordinated notes, less issuance costs - 253.3 Proceeds from the issuance of debt 52.2 42.0 Repayment of debt (19.7) (20.9) Issuance of common stock, net 33.6 29.3 Purchase of treasury stock - (63.0) Payment of preferred dividends - (5.6) ------- ------- Net cash provided by financing activities 66.1 235.1 ------- ------- Net change in cash and cash equivalents (58.6) 7.9 Cash and cash equivalents at beginning of period 442.4 420.3 ------- ------- Cash and cash equivalents at end of period $ 383.8 $ 428.2 ======= ======= See accompanying Notes to Condensed Consolidated Financial Statements <PAGE 5> Note 1. Summary of Significant Accounting Policies In the opinion of management, the accompanying condensed consolidated financial statements contain all adjustments necessary to present fairly the financial position and results of operations of National Semiconductor Corporation and its subsidiaries ("National" or the "Company"). Interim results of operations are not necessarily indicative of the results to be expected for the full year. This report should be read in conjunction with the consolidated financial statements and notes thereto included in the annual report on Form 10-K for the fiscal year ended May 26, 1996. Property, plant and equipment: Effective the beginning of fiscal 1997, the Company adopted Statement of Financial Accounting Standards ("SFAS") No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of," which requires recognition of impairment of long-lived assets in the event the net book value of such assets exceeds the future undiscounted cash flows attributable to such assets. SFAS No. 121 also requires, among other provisions, that long-lived assets and certain identifiable intangibles that are to be disposed of, which are not covered by Accounting Principles Board Opinion No. 30, "Reporting the Results of Operations - Reporting the Effects of Disposal of a Segment of Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions," be reported at the lower of the asset's carrying amount or its fair value less cost to sell. Adoption of SFAS 121 had no material impact on the carrying values of the Company's assets. In connection with the Company's announcement that it had formed the Fairchild Semiconductor organization ("Fairchild") and was pursuing a sale or partial financing of all or a portion of the Fairchild businesses and related assets, the Company recorded a $189.1 million charge in the first quarter of fiscal 1997 to write down related assets held for sale to estimated fair value less cost to sell (see Note 5). Note 2. Components of Inventories The components of inventories were: (in millions) Feb. 23, May 26, 1997 1996 ------- ------- Raw materials $ 25.6 39.1 Work in process 172.4 208.5 Finished goods 53.7 78.1 ----- ------ Total inventories $ 251.7 $ 325.7 ======= ======= Note 3. Other income, net Components of other income, net were: (in millions) Three Months Ended Nine Months Ended ------------------ ------------------ Feb. 23, Feb. 25, Feb. 23, Feb. 25, 1997 1996 1997 1996 -------- -------- -------- -------- Net intellectual property income $ .3 $ 2.5 $ 2.0 $ 13.3 Gain on sale of investments, net 4.0 - 1.0 5.2 Other - 1.5 1.6 1.5 ------- ------- ------- ------- Total other income, net $ 4.3 $ 4.0 $ 4.6 $ 20.0 ======= ======= ======= ======= <PAGE 6> Note 4. Statement of Cash Flows Information (in millions) Nine Months Ended ------------------ Feb. 23, Feb. 25, 1997 1996 -------- -------- Supplemental disclosure of cash flow information: Cash paid for: Interest $ 15.4 $ 3.7 Interest on tax settlements .1 12.1 Income taxes 4.5 22.8 Supplemental schedule of non-cash investing and financing activities: Issuance of stock for employee benefit plans $ 3.2 $ 4.3 Tax benefit for employee stock option plans 10.0 12.8 Retirement of treasury stock - 119.1 Unrealized gain (loss) on available-for-sale securities (5.3) (4.7) Unearned compensation charge relating to restricted stock issuance 8.1 - Amortization of unearned compensation charge 1.4 - Note 5. Restructuring of Operations One-time Charge: In June 1996, the Company announced the formation of the Fairchild Semiconductor organization ("Fairchild") to consist of the Company's family logic, memory and discrete product lines and indicated it was pursuing a sale or partial financing of all or a portion of the Fairchild businesses. Included in the results of operations for the nine months ended February 23, 1997, is a $275 million one-time charge that the Company recorded in the first quarter in connection with this reorganization. The one-time charge included a restructuring charge of $256.3 million for the write down of Fairchild assets to estimated fair value, costs associated with staffing reductions and other exit costs necessary to reduce the Company's infrastructure in both Fairchild and the remaining National core business areas. The Company expects to have reduced its work force by approximately 1,400 employees in manufacturing support, selling, general and administrative areas of both the Fairchild and National core business organizations by the time it completes all activities connected with the Fairchild divestiture. Of the restructuring charge, approximately $67 million represents cash charges and $189 million represents fixed asset write downs and other non-cash items. The remaining components of the $275 million one-time charge have been recorded in cost of sales and consist of $15.1 million to write down certain Fairchild inventory to net realizable value and $3.6 million for other cost reduction activities. As part of the restructuring noted above, the Company recorded charges of $177.7 million and $11.4 million to write down certain fixed assets of Fairchild and the National core businesses, respectively, to estimated fair value in contemplation of the sale or partial financing of all or a portion of the Fairchild businesses and related assets. The adjustments to the carrying value of these assets held for disposal were determined based on estimated fair value of the individual businesses of Fairchild. The Fairchild fixed assets include land, building and building improvements, and equipment associated with its 4-inch, 5-inch and 6-inch wafer fabrication operations in South Portland, Maine, its 6- inch wafer fabrication operation in Salt Lake City, Utah and its assembly and test operations in Penang, Malaysia and Cebu, Philippines. <PAGE 7> The National core business assets written down in connection with this action primarily include software and leasehold improvements. The Company also expects to pay approximately $5.2 million in retention bonuses to certain Fairchild employees. These employee bonuses will be expensed to operations ratably over the employee's service period up through the final date of disposition. The Company has restated its financial statements for the third quarter and first nine months ended February 23, 1997, to adjust the carrying value of the Fairchild assets as a result of the March 11, 1997 disposition transaction (see Note 7). Since the Company achieved a price that was above the original carrying cost of the Fairchild assets, it will not utilize $158 million of the valuation allowance originally recorded to write down the assets of the Fairchild business to estimated fair value and it will not utilize $10 million of the $15.1 million provision that was originally recorded to write down the Fairchild inventory to net realizable value. Accordingly, the Company has adjusted the carrying value of the Fairchild fixed assets as of February 23, 1997, to their original cost of $318.5 million. Additionally, the Company has reversed $34.0 million of excess reserves for severance and other exit costs attributable to the Fairchild businesses, including costs to dispose of the Fairchild fixed assets. These adjustments result in a revised total one-time charge of $73 million for the first nine months ended February 23, 1997, which includes a restructuring charge of $64.3 million and a charge to cost of sales of $5.1 million to write down certain Fairchild inventory to net realizable value and $3.6 million for other cost reduction activities. The following table provides a summary of restructuring of operations activity during the nine months ended February 23, 1997: Fairchild National Semiconductor Core Total Organization Businesses Company (in millions) ------------- ---------- ------- Restructuring of Operations: Write down of assets to estimated fair value less costs to sell $177.7 $ 11.4 $189.1 Staffing reductions and severance 18.6 36.6 55.2 Other exit costs 9.8 2.2 12.0 ------- ------ ------- 206.1 50.2 256.3 Adjustment for the reversal of the allowance to write down assets and excess reserves for severance and other exit costs (192.0) - (192.0) ------ ------ ------ $ 14.1 $ 50.2 $ 64.3 ====== ====== ====== In addition, the Company has adjusted its financial statements to exclude from operating results the depreciation expense on the property and equipment of the Fairchild businesses held for disposition in the amounts of $17.1 million and $34.4 million, respectively, for the third quarter and first nine months ended February 23, 1997. The combined effect of all of the above adjustments results in an increase to net income of $164.3 million and $177.3 million, respectively, and an increase to earnings per share, fully diluted, of $1.09 and $1.27, respectively, for the third quarter and first nine months ended February 23, 1997, as compared to amounts previously reported for these periods. <PAGE 8> The following table provides detail of the net book value of the Fairchild property and equipment held for disposition: --------------------------------------- (in millions) Logic Memory Discrete Total ----- ------ -------- ----- Property and equipment, net $204.9 $ 66.1 $ 47.5 $318.5 ====== ====== ====== ====== As a result of the work force reduction actions that occurred in the first nine months of fiscal 1997, the Company paid $15.7 million of severance to approximately 450 terminated employees. To date the Company has also paid $1.1 million for other exit costs. Included in accrued liabilities at February 23, 1997 is $16.4 million related to remaining severance and other costs of restructuring activities that are related to the realignment of the Company's selling, general and administrative expenses after taking into effect the Company's adjustment to amend its third quarter financial statements. These costs are expected to paid over the next twelve to eighteen months. Selected Pro Forma Financial Information: The following table summarizes selected financial information for the Fairchild businesses, the National core businesses and the Company as a whole excluding in each case the effect of the one-time charges. Included in the Fairchild amounts is financial information related to certain businesses the Company has exited that were previously managed under the Fairchild organization, but were not a part of the Fairchild divestiture. Three Months Ended Nine Months Ended ---------------------- -------------------------- ($ in millions) Fair- Nat'l Total Fair- Nat'l Total child Core Co. child Core Co. ------ ------ ------ ------ -------- ------- Fiscal 1997 - ----------- Period Ended February 23, 1997: Net sales $147.5 $533.0 $680.5 $434.2 $1,473.9 $1,908.1 Gross margin 35.8% 41.2% 40.0% 31.2% 39.1% 37.3% Fiscal 1996 - ----------- Period Ended February 25, 1996: Net sales $157.8 $442.5 $600.3 $534.6 $1,476.1 $2,010.7 Gross margin 28.2% 42.3% 38.6% 33.0% 45.3% 42.1% The financial information presented for Fairchild and the National core businesses is pro forma and represents sales and cost of sales of the product portfolios of Fairchild and the National core businesses. As such, sales and related cost of sales for certain Fairchild products manufactured by the National core business are included in the Fairchild Semiconductor product portfolio pro forma financial information and sales and related cost of sales for certain National core business products manufactured by Fairchild are included in the National core business product portfolio pro forma financial information. The pro forma information is not necessarily indicative of the sales and gross margin the Company would have achieved or would achieve in any future period excluding the Fairchild businesses. Gross margin for the Fairchild businesses for the three months and nine months ended February 23, 1997 does not include depreciation expense on <PAGE 9> the fixed assets held for disposition. Had the Company continued to record depreciation expense on those assets during the three month and nine months ended February 23, 1997, gross margin would have been 24.2 percent and 23.3 percent for the Fairchild businesses, respectively. Note 6. Contingencies In July 1996, the Company received notices of assessment totaling approximately $59.2 million from the Malaysian Inland Revenue Department relating to the Company's manufacturing operations in Malaysia, which the Company believes are without merit and intends to contest. The Company believes it has adequate tax reserves to satisfy any ultimate resolution of the assessments. Note 7. Subsequent Events On March 11, 1997, the Company completed the disposition of Fairchild under a recapitalization transaction with Sterling, LLC, a Citicorp Venture Capital, Ltd. investment portfolio company in related businesses, and Fairchild's management. The recapitalization was valued at $550 million. In addition to retaining a 15 percent equity interest in Fairchild for which the Company paid $12.9 million, the Company received cash of $401 million and a promissory note with a face value of $77 million, and certain liabilities were assumed by Fairchild. The Company expects to record a gain of approximately $40 million from the disposition in the fourth quarter of fiscal 1997. The Company believed the disposition of the Fairchild businesses would be completed in two or more separate transactions. Consequently, the Company originally anticipated losses on the disposition of the logic and memory businesses and a gain from the disposition of the discrete business. The gain on disposition arose since the Company was able to achieve a higher price than it had originally anticipated. It achieved a higher price because the final transaction resulted in the combined disposition of all three Fairchild businesses, which provided unanticipated synergy to the new majority owners of the collective Fairchild businesses. In connection with the Fairchild transaction, Fairchild and the Company have entered into a manufacturing agreement under which the Company will purchase goods and services from Fairchild during the first 39 months after the transaction. Historically, these services provided by Fairchild have been provided at cost. Under the agreement the Company has committed to purchase goods and services based on specified wafer prices. On March 17, 1997, the Company acquired Mediamatics, Inc., a Fremont, California company that is a major provider of MPEG audio/video capabilities to the personal computer market. The Company completed the acquisition by issuing or reserving for future issuance an aggregate of 3.4 million shares of common stock, with 1.6 million of these shares reserved for stock options and employee retention arrangements. The acquisition will be accounted for using the purchase accounting method with a net adjusted purchase price after acquisition expenses of $74.5 million. The Company will incur a one-time charge to expense in the fourth quarter of the fiscal year for in-process research and development of approximately $62.0 million. In connection with the acquisition, the Company will also record $23.5 million of deferred compensation related to employee retention arrangements which will be charged to operating expenses, primarily research and development, over the next 30 months. Note 8. Restatement of Second Quarter Statement of Operations In connection with the Company's adjustment of depreciation expense for the third quarter and first nine months ended February 23, 1997 (see <PAGE 10> Note 5), the Company also revised its statement of operations for the second quarter ended November 24, 1996 to reflect the cessation of depreciation expense on the property and equipment of the Fairchild businesses held for disposition. The following table provides detail information of the effect of this adjustment: Three Months Ended November 24, 1996 ---------------------------------------- As Originally Reported Adjustment As Revised ------------- ---------- ---------- Net sales $ 661.5 - $ 661.5 Cost of sales 430.7 (17.3) 413.4 Research and development 89.0 - 89.0 Selling, general and administrative 106.4 - 106.4 ------- ------- ------- Operating income 35.4 17.3 52.7 Interest income, net 1.0 - 1.0 Other income, net 3.0 - 3.0 ------- ------- ------- Income before income taxes 39.4 17.3 56.7 Income tax provision 9.9 4.3 14.2 ------- ------- ------- Net income $ 29.5 $ 13.0 $ 42.5 ======= ======= ======= Earning per share: Primary $ .21 $ .30 Fully diluted $ .21 $ .30 Weighted average shares: Primary 141.6 141.6 Fully diluted 142.6 142.6 The adjustments discussed above are included in the adjustments to the statement of operations for the nine months ended February 23, 1997, discussed in Note 5. <PAGE 11> MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION SALES National Semiconductor Corporation ("National" or the "Company") recorded net sales of $680.5 million and $1,908.1 million for the third quarter and first nine months of fiscal 1997, respectively, an increase of 13.4 percent from net sales for the third quarter of fiscal 1996 and a decrease of 5.1 percent from net sales for the first nine months of fiscal 1996. Although net sales year over year declined slightly, the increase in net sales quarter over quarter reflects an improvement in new order rates that began mid-summer 1996. New orders were strong and remained stable through third quarter. As a result, third quarter net sales actually grew over net sales for the second quarter, overriding the seasonal dip the Company has typically experienced in past years. Beginning in fiscal 1997, the Company reorganized its structure by consolidating its seven former operating divisions into the following four business groups: the Analog Group, the Communications and Consumer Group, and the Personal Systems Group, all of which represent National's core businesses, and the Fairchild Semiconductor Group ("Fairchild"), which was formed as a separate organization consisting of the Company's family logic, memory and discrete product lines. The Company believes this structure will enhance the focus and support of the Company's strength in analog and mixed signal technologies and help further its strategy to develop application specific integrated products for the personal systems, communications and consumer markets. The sales discussion that follows is based on this new structure. Sales for the third quarter and first nine months of fiscal 1997 for National's core businesses as described above were $533.0 million or 78.3 percent of total sales and $1,473.9 million or 77.2 percent of total sales, respectively. This compares to $442.5 million or 73.7 percent of total sales and $1,476.1 or 73.4 percent of total sales for the same periods of fiscal 1996. Despite the slight decline in these sales year over year for the first nine months, the increase in sales quarter over quarter reflects the continued growth in sales for local area network products and wide area network products, including wireless communication products, each of which grew with increases of 62.4 percent and 9.5 percent, respectively, for the third quarter of fiscal 1997 over the comparable quarter of fiscal 1996 and 34.9 percent and 7.1 percent, respectively, year over year. In addition, sales strengthened for personal computer products, which grew 44.6 percent and 28.8 percent in the third quarter and first nine months of fiscal 1997, respectively, over the comparable periods of fiscal 1996. Sales increases for all of these product areas were the result of increased unit shipments. Overall, increased unit shipments for the National core businesses resulted in increased sales for the third quarter while some modest price declines, particularly in multimarket analog products, resulted in the slight decline in sales year over year. Sales for Fairchild were $147.5 million or 21.7 percent of total sales and $434.2 million or 22.8 percent of total sales for the third quarter and first nine months of fiscal 1997, respectively. This compares to $157.8 million or 26.3 percent of total sales and $534.6 million or 26.6 percent of total sales for the same periods of fiscal 1996. Overall decreases in unit shipments as older product lines continue to be trimmed, together with some modest price declines, resulted in decreased sales for Fairchild for both quarter to quarter and year over year periods. GROSS MARGIN Gross margin as a percentage of sales was 41.5 percent and 36.8 percent for the third quarter and first nine months of fiscal 1997, respectively, compared to 38.6 percent and 42.1 percent for the comparable periods of fiscal 1996. Gross margin for the third quarter and first nine months of fiscal 1997 reflects the Company's adjustment <PAGE 12> to cease the depreciation expense on the property and equipment of the Fairchild businesses. Had the Company continued to record depreciation expense on those assets during the third quarter and first nine months of fiscal 1997, gross margin would have been 37.5 percent and 34.5 percent, respectively. Although gross margin excluding the effect of the depreciation adjustment was slightly less than the quarter a year ago, it reflects a recovery in gross margin since the beginning of the fiscal year when factory utilization was reduced due to the slowdown in new orders as customers and distributors reduced inventories. Wafer fab capacity utilization reached 75 percent in the current quarter as new order rates that began improving during fiscal 1997 remained stable through the current quarter. The Company also achieved some product pricing improvements in the third quarter. Also included in cost of sales for the first nine months of fiscal 1997 was $8.7 million of the one-time charge recorded in the first quarter of fiscal 1997 related to the reorganization and the formation of Fairchild (see Restructuring of Operations). Excluding this $8.7 million charge, gross margin as a percentage of total sales would have been 37.3 percent for the first nine months of fiscal 1997 (See Note 5). For the Company's continuing businesses excluding Fairchild, the gross margin was 41.2 percent and 39.1 percent for the third quarter and first nine months of fiscal 1997, compared with 42.3 percent and 45.3 percent for the comparable periods of fiscal 1996. RESEARCH AND DEVELOPMENT Research and development ("R&D") expenses for the third quarter decreased by 3.7 percent from the third quarter of fiscal 1996 and increased by 3.4 percent year over year for the first nine months. As a percentage of sales, this represents a decrease to 13.7 percent for the third quarter of fiscal 1997 and an increase to 14.7 percent for the first nine months of fiscal 1997 compared to 16.1 percent and 13.5 percent for the comparable periods of fiscal 1996. However, R&D expenses for the first nine months of fiscal 1997 include a $10.6 million charge for in-process R&D related to the acquisition of PicoPower in the first quarter of fiscal 1997 and R&D expenses for the third quarter and first nine months of fiscal 1996 include an $11.4 million charge for in-process R&D related to the acquisition of Sitel Sierra B.V. in the third quarter a year ago. Without the effect of these one-time charges, R&D expenses for the third quarter and first nine months of fiscal 1997 actually increased 9.1 percent and 3.9 percent over the comparable periods of fiscal 1996. Overall, the increase in fiscal 1997 R&D expenses reflects the Company's accelerated investment in advanced submicron CMOS process technology, as well as its continued investment in the development of new analog and mixed signal based products for applications in the personal systems, communications and consumer markets. SELLING, GENERAL and ADMINISTRATIVE Selling, general and administrative ("SG&A") expenses for fiscal 1997 decreased 0.5 percent and 15.7 percent from the third quarter and first nine months of fiscal 1996, respectively. As a percentage of sales SG&A expenses decreased to 16.4 percent and 16.3 percent of sales for the third quarter and first nine months from 18.7 percent and 18.4 percent of sales for the comparable periods of fiscal 1996. The decrease is attributable to certain ongoing cost reduction actions that were implemented in response to the recent slowdown in market conditions and the reduction of the Company's infrastructure in both Fairchild and the continuing National core business areas. The decrease quarter over quarter was partially offset by additional compensation bonuses related to the Fairchild divestiture. RESTRUCTURING OF OPERATIONS In June 1996, the Company announced the formation of the Fairchild organization to consist of The Company's family logic, memory and discrete product lines. In connection with <PAGE 13> this reorganization, the Company originally recorded a $275 million one- time charge that included a restructuring charge of $256.3 consisting of the write down of Fairchild assets to estimated fair value, costs associated with staffing reductions and other exit costs necessary to reduce the Company's infrastructure in both Fairchild and the remaining National core business areas. The remaining components of the $275 million one-time charge have been included in cost of sales and consist of $15.1 million to write down certain Fairchild inventory to net realizable value and $3.6 million for other cost reduction activities. As discussed in Note 5, the Company reversed $192 million of the original $256.3 million restructure charge. This included the release of $158 million of the asset write down and $34 million in excess reserves for severance and other exit costs. The Company also reversed $10 million of the original $15.1 million provision to write down Fairchild inventory to net realizable value. The total revised one-time charge for the first nine months of fiscal 1997 was $73 million. Excluding the effect of the $73 million one-time charge and the $10.6 million one-time charge related to the PicoPower acquisition that was included in R&D expenses, net income for the first nine months would have been $104.7 million, or $.74 per share. INTEREST INCOME AND INTEREST EXPENSE Net interest income was $2.3 million and $4.6 million for the third quarter and first nine months of fiscal 1997, respectively, compared to $4.1 million and $9.9 million for the comparable periods of fiscal 1996. The decrease is due to reduced interest income on lower cash balances in fiscal 1997 and higher interest expense associated with the $258.8 million convertible subordinated notes issued by the Company in September 1995, as well as other borrowings related to the Company's continued investment in plant and equipment. OTHER INCOME , NET Other income, net was $4.3 million and $4.6 million for the third quarter and first nine months of fiscal 1997, respectively, compared to $4.0 million and $20.0 million for the comparable periods of fiscal 1996. For the third quarter of fiscal 1997, other income, net included a gain of $4.0 million from the sale of stock of one of the Company's investment holdings and $0.3 million of net intellectual property income. This compares to $2.5 million of net intellectual property income plus a realized gain of $1.5 million primarily arising from the sale of the assets of DynaCraft, Inc. ("DCI"), a wholly owned subsidiary of the Company, for the third quarter of fiscal 1996. In addition to the $4.0 million gain from the sale of stock, other income, net for the first nine months of fiscal 1997 also included $2.0 million of net intellectual property income, $1.6 million of dividend income from an investment holding offset by a net loss on investments of $3.0 million primarily attributable to the write down of an investment to net realizable value. This compares to $13.3 million of net intellectual property income, $5.2 million of realized gains from sale of investments, net of losses and the $1.5 million gain from the sale of DCI assets for the first nine months of fiscal 1996. INCOME TAX EXPENSE Consistent with fiscal 1996, the Company's effective tax rate for fiscal 1997 is 25 percent. FINANCIAL CONDITION During the first nine months of fiscal 1997, cash and cash equivalents decreased $58.6 million compared to a $7.9 million increase for the first nine months of fiscal 1996. The decrease was primarily the result of the Company's continued investment in property, plant and equipment of $446.6 million that more than offset <PAGE 14> the cash flows generated from operations of $329.3 million and proceeds from the draw down of $50.2 million in November 1996 on a new equipment loan. This compares to $175.3 million generated from cash flows from operations plus $253.3 million of net proceeds from the convertible subordinated notes issued by the Company in September 1995, offset by capital expenditures of $423.1 million for the first nine months of fiscal 1996. Management foresees significant cash outlays for plant and equipment throughout fiscal 1997. Management continues to critically review its planned capital investments in light of business conditions, and expects the fiscal 1997 capital expenditure rate to be at a slightly lower level than fiscal 1996. Existing cash and investment balances, together with existing lines of credit, are felt to be sufficient to finance the fiscal 1997 capital expenditures. OUTLOOK The statements contained in this Outlook and in the Financial Condition section of Management's Discussion and Analysis immediately above are forward looking based on current expectations and management's estimates. Actual results may differ materially from those set forth in such forward looking statements. In addition to the risk factors discussed in the Outlook and Financial Condition sections of Management's Discussion and Analysis of Results of Operations and Financial Condition on pages 18 through 21 of the Company's 1996 Annual Report to Shareholders, the following factors may affect the Company's operating results for fiscal 1997. The Company intends to continue to focus on major customers in the personal systems, communications and consumer markets with continued emphasis in analog and mixed signal market opportunities. The Company expects to grow at or above market rates of growth in particular segments of analog and mixed signal. During the current fiscal year the Company has experienced significant improvement in order rates that began mid-summer. New orders were strong and remained stable through the third quarter. Going into the spring season, the semiconductor industry generally experiences a seasonal upturn in new orders. Although the Company believes that this trend will be evidenced in its three key markets of personal systems, communication and consumer, and analog, revenue growth will be dependent on the momentum in new orders through the end of the fiscal year. While business conditions and overall market pricing have a major influence on gross margin, the Company's planned expansion and modernization of current facilities, improvements in manufacturing efficiency, focus on analog and mixed signal products and introduction of new products are expected to result in future gross margin improvement. Future gross margin improvement is also predicated on increased new order rates in future periods, particularly in the higher margin multi-market analog products. In addition, the Company anticipates bringing new manufacturing capacity on line in early fiscal 1998 with its accelerated investment in its eight-inch wafer fabrication facility in South Portland, Maine, which will utilize advanced .35 submicron CMOS process technology. The failure of management to balance the fixed costs associated with the realignment of its wafer fabrication facilities to fill this new facility with new products going into fiscal 1998 may have an unfavorable impact on future gross margin. The Company's significant investment in advanced process technology together with its accelerated investment in its new eight-inch wafer fabrication facility has caused the Company to evaluate and rationalize its existing front-end manufacturing and wafer fabrication capability. This evaluation process may result in decisions to de-emphasize or eliminate previous investments in certain fabrication processes or manufacturing technology and may have an unfavorable impact on the <PAGE 15> Company's financial performance in future periods. The Company expects the first phase of this evaluation to be completed in the fourth quarter of fiscal 1997. On March 11, 1997, the Company completed the disposition of Fairchild under a recapitalization transaction with Sterling, LLC, a Citicorp Venture Capital, Ltd. portfolio investment company in related businesses, and Fairchild's management. The recapitalization was valued at $550 million. In addition to retaining a 15 percent equity interest in Fairchild for which the Company paid $12.9 million, the Company received cash of $401 million and a promissory note with a face value of $77 million, and certain liabilities were assumed by Fairchild. The Company expects to record a gain of approximately $40 million on the disposition in the fourth quarter of fiscal 1997. Although the Company has sold four manufacturing facilities as a part of the Fairchild divestiure, the Company believes that its remaining captive manufacturing capacity and its third-party subcontract manufacturing arrangements, including the manufacturing contract with Fairchild, will be adequate to supply the needs of its core business operations. Moreover, the Company believes the portfolio of products for its core businesses provides the Company opportunity to improve future profitablity since such products have higher margins historically than those of the Fairchild businesses. As part of the Fairchild disposition, the Company has agreed not to compete with Fairchild for five years in any business for products with substantially the same specifications as the products comprising the Fairchild business immediately prior to the disposition. Fairchild has agreed it will not compete with the Company in certain products for a period of thirty-nine (39) months. The Company has also agreed not to solicit any Fairchild customer, supplier, licensor, licensee or anyone else having a business relationship with Fairchild to cease its business relationship with Fairchild. Inasmuch as the Company had determined to exit the logic, memory and discrete business, the Company does not believe the noncompetition and nonsolicitation covenants will materially impact the ongoing operations of the Company. In connection with the Fairchild transaction, Fairchild and the Company have entered into a manufacturing agreement under which the Company will purchase goods and services from Fairchild during the first 39 months after the transaction. Historically, these services provided by Fairchild have been provided at cost. Under the agreement the Company has committed to purchase goods and services based on specified wafer prices. Such prices may have an unfavorable impact on gross margin. The Company also has certain continuing obligations arising from the Fairchild transaction that include providing certain transition services to Fairchild and indemnification of environmental and legal matters that may have an unknown negative impact on the Company's future results of operations. On March 17, 1997, the Company acquired Mediamatics, Inc., a Fremont, California company that is a major provider of MPEG audio/video capabilities to the personal computer market. The Company completed the acquisition by issuing or reserving for future issuance an aggregate of 3.4 million shares of common stock, with 1.6 million of these shares reserved for stock options and employee retention arrangements. The acquisition will be accounted for using the purchase accounting method with a net adjusted purchase price after acquisition expenses of $74.5 million. The Company will incur a one-time charge to expense in the fourth quarter of the fiscal year for in-process research and development of approximately $62.0 million. In connection with the acquisition, the Company will also record $23.5 million of deferred compensation related to employee retention arrangements which will be charged to operating expenses, primarily research and development, over the next 30 months. <PAGE 16> The Company has received notices of tax assessments from certain governments of countries within which the Company operates. There can be no assurance that these governments or other government entities will not serve future notices of assessments on the Company, or that the amounts of such assessments and the failure of the Company to favorably resolve such assessments would not have a material adverse effect on the Company's financial condition or results of operations. The forward looking statements discussed or incorporated by reference in this outlook involve a number of risks and uncertainties. Other risks and uncertainties include, but are not limited to, the general economy, regulatory and international economic conditions, changing environment of the semiconductor industry, competitive products and pricing, growth in the personal computer and communications industries, the effects of legal and administrative cases and proceedings, and such other risks and uncertainties as may be detailed from time to time in the Company's SEC reports and filings. <PAGE 17> PART II. OTHER INFORMATION Item 1. Legal Proceedings - -------------------------- There have been no material developments in the legal proceedings reported in Item 3 in the Company's Annual Report on Form 10-K for the year ended May 26, 1996. Item 6. Exhibits and Reports on Form 8-K - ----------------------------------------- (a) Exhibits -------- 3.1 Second Restated Certificate of Incorporation of the Company as amended (incorporated by reference from the Exhibits to the Company's Registration Statement on Form S-3 Registration No. 33-52775, which became effective March 22, 1994); Certificate of Amendment of Certificate of Incorporation dated September 30, 1994 (incorporated by reference from the Exhibits to the Company's Registration Statement on Form S-8 Registration No. 333-09957, which became effective August 12, 1996). 3.2 By-Laws of the Company (incorporated by reference from the Exhibits to the Company's 10-Q Form for the quarter ended November 24, 1996, filed December 20, 1996). 4.1 Rights Agreement (incorporated by reference from the Exhibits to the Company's Registration Form 8-A filed August 10, 1988). First Amendment to the Rights Agreement (incorporated by reference from the Exhibits to the Amendment No. 1 to the Company's Registration Statement on Form 8-A filed December 11, 1995). Second Amendment to the Rights Agreement dated as of December 17, 1996 (incorporated by reference from the Exhibits to the Company's Amendment No. 2 to the Registration Statement on Form 8-A filed January 17, 1997). 4.2 Form of Common Stock Certificate (incorporated by reference from the Exhibits to the Company's Registration Statement on Form S-3 Registration No. 33-48935, which became effective October 5, 1992). 10.1 Agreement and Plan of Recapitalization between Sterling Holding Company, LLC and National Semiconductor Corporation (incorporated by reference from the Exhibits to the Company's Form 8-K dated March 11, 1997). 10.2 Asset Purchase Agreement between National Semiconductor Corporation and Fairchild Semiconductor Corporation. * ** 10.3 Transition Services Agreement between National Semiconductor Corporation and Fairchild Semiconductor Corporation. * ** 10.4 Fairchild Assembly Services Agreement between National Semiconductor Corporation and Fairchild Semiconductor Corporation. * ** <PAGE 18> 10.5 National Assembly Services Agreement between National Semiconductor Corporation and Fairchild Semiconductor Corporation. * ** 10.6 Fairchild Foundry Services Agreement between National Semiconductor Corporation and Fairchild Semiconductor Corporation. * ** 10.7 National Foundry Services Agreement between National Semiconductor Corporation and Fairchild Semiconductor Corporation. * ** 10.8 Mil Aero Wafer and Services Agreement between National Semiconductor Corporation and Fairchild Semiconductor Corporation. * ** 10.9 Management Contract or Compensatory Plan or Agreement: Amendments to Retention Agreement with Kirk P. Pond. ** 11.0 Additional Fully Diluted Calculation of Earnings Per Share. 27.0 Financial Data Schedule. * Exhibits and Schedules to referenced Agreements will be filed upon request. ** Previously filed. (b) Reports on Form 8-K ------------------- A report on Form 8-K was filed on January 28, 1997 concerning the Company's announcement that it had signed an agreement to dispose of its family logic, memory and discrete businesses, known as Fairchild Semiconductor, in a recapitalization transaction with Sterling, LLC, a Citicorp Venture Capital Ltd. investment portfolio company. The Company indicated it expected the transaction to close before the end of its 1997 fiscal year and that it expected to record a gain on the disposition after determining final divestiture costs and transition liabilities. No financial statements were filed with the Form 8-K. <PAGE 19> 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. NATIONAL SEMICONDUCTOR CORPORATION Date: May 30, 1997 /s/ Richard D. Crowley ---------------------------------- Richard D. Crowley Vice President and Controller Signing on behalf of the registrant and as principal accounting officer <PAGE 20> NATIONAL SEMICONDUCTOR CORPORATION Exhibit 11.0 ADDITIONAL FULLY DILUTED CALCULATION OF EARNINGS PER SHARE (1) (in millions, except per share amounts) Three Months Ended Nine Months Ended ------------------ -------------------- Feb. 23, Feb. 25, Feb. 23, Feb. 25, 1997 1996 1997 1996 -------- -------- -------- -------- Net income(loss) used in fully diluted earnings per share (reflecting adjustment for interest on convertible notes) $208.6 $ 24.7 $ 47.9 $ 180.1 ======== ======== ======== ======== Number of shares: Weighted average common shares outstanding 140.1 135.1 139.0 127.1 Weighted average common equivalent shares 3.7 2.7 2.1 4.0 -------- -------- -------- -------- Weighted average common and common equivalent shares 143.8 137.8 141.1 131.1 Additional weighted average common equivalent shares assuming full dilution .2 .1 .4 - Shares issuable from assumed conversion of Preferred shares - - - 8.1 Convertible notes 6.0 6.0 6.0 3.4 -------- -------- -------- -------- Additional weighted average common equivalent shares assuming full dilution 150.0 143.9 147.5 142.6 ======== ======== ======== ======== Income(loss) per share assuming full dilution $1.39 $ .17 $ .33 $ 1.26 ======== ======== ======== ======== (1) For the three months ended February 25, 1996 and the nine months ended February 23, 1997, this calculation is submitted in accordance with Regulation S-K Item 601(b)(11) although it is contrary to paragraph 40 of the APB Opinion No. 15 because it produces an antidilutive result. <PAGE 21>