UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] Quarterly report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended: September 30, 2004 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: 0-25426
-------------------
NATIONAL INSTRUMENTS CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 74-1871327
- ---------------------------------------- -----------------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
11500 North MoPac Expressway
Austin, Texas 78759
- ---------------------------------------- -----------------------------------
(address of principal executive (zip code)
offices)
Registrant's telephone number, including area code: (512) 338-9119
--------------------------
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 by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). 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.
Class Outstanding at October 27, 2004
Common Stock - $0.01 par value 79,149,984
NATIONAL INSTRUMENTS CORPORATION
INDEX
Page No.
PART I. FINANCIAL INFORMATION
Item 1 Financial Statements:
Consolidated Balance Sheets(unaudited)
September 30, 2004 and December 31, 2003.................. 3
Consolidated Statements of Income (unaudited)
Three months and nine months ended September 30, 2004
and 2003.................................................. 4
Consolidated Statements of Cash Flows (unaudited)
Nine months ended September 30, 2004 and 2003............. 5
Notes to Consolidated Financial Statements................ 6
Item 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations......................... 12
Item 3 Quantitative and Qualitative Disclosures About Market Risk.. 22
Item 4 Controls and Procedures..................................... 22
PART II. OTHER INFORMATION
Item 1 Legal Proceedings........................................... 23
Item 2 Unregistered Sales of Equity Securities and Use of Proceeds. 24
Item 5 Other Information........................................... 24
Item 6 Exhibits.................................................... 25
Signature................................................... 26
PART I - FINANCIAL INFORMATION
ITEM 1. Financial Statements
NATIONAL INSTRUMENTS CORPORATION
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
(unaudited)
September 30, December 31,
2004 2003
------------- ------------
Assets
Current assets:
Cash and cash equivalents...................... $ 53,104 $ 53,446
Short-term investments......................... 147,186 141,227
Accounts receivable, net....................... 75,921 77,970
Inventories, net............................... 59,198 38,813
Prepaid expenses and other current assets...... 20,897 9,742
Deferred income tax, net....................... 11,411 9,927
------------- ------------
Total current assets........................ 367,717 331,125
Property and equipment, net....................... 150,623 151,612
Intangibles, net and other assets................. 42,360 42,414
------------- ------------
Total assets................................ $ 560,700 $ 525,151
============= ============
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable............................... $ 29,240 $ 29,567
Accrued compensation........................... 21,810 12,302
Deferred revenue............................... 9,825 8,148
Accrued expenses and other liabilities......... 13,473 16,271
Income taxes payable........................... 1,947 --
Other taxes payable............................ 8,742 9,507
------------- ------------
Total current liabilities................... 85,037 75,795
Deferred income taxes............................. 10,446 9,904
------------- ------------
Total liabilities........................... 95,483 85,699
------------- ------------
Commitments and contingencies
Stockholders' equity:
Preferred stock: par value $0.01; 5,000,000
shares authorized; 0 shares issued and
outstanding, respectively...................... -- --
Common Stock: par value $0.01; 180,000,000
shares authorized; 78,690,261 and 78,269,235
shares issued and outstanding, respectively.... 787 783
Additional paid-in capital........................ 94,072 95,070
Retained earnings................................. 371,615 349,994
Accumulated other comprehensive loss.............. (1,257) (6,395)
------------- ------------
Total stockholders' equity.................. 465,217 439,452
------------- ------------
Total liabilities and stockholders' equity.. $ 560,700 $ 525,151
============= ============
The accompanying notes are an integral part of these financial statements.
NATIONAL INSTRUMENTS CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except per share data)
(unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
---------------------- ----------------------
2004 2003 2004 2003
---------- ---------- ---------- ----------
Net sales...................... $ 125,348 $ 104,644 $ 377,113 $ 303,983
Cost of sales.................. 34,247 27,434 99,142 80,598
---------- ---------- ---------- -----------
Gross profit.............. 91,101 77,210 277,971 223,385
---------- ---------- ---------- -----------
Operating expenses:
Sales and marketing......... 46,378 40,282 140,123 116,951
Research and development.... 21,737 18,370 63,072 50,497
General and administrative.. 12,949 8,800 33,386 29,040
---------- ---------- ---------- -----------
Total operating expenses.. 81,064 67,452 236,581 196,488
---------- ---------- ---------- -----------
Operating income.......... 10,037 9,758 41,390 26,897
Other income (expense):
Interest income, net........ 582 570 2,012 1,876
Net foreign exchange
gain (loss)................. (85) (209) (831) 116
Other income, net........... 48 486 261 606
---------- ---------- ---------- -----------
Income before income taxes..... 10,582 10,605 42,832 29,495
Provision for income taxes..... 2,645 2,651 10,708 7,374
---------- ---------- ---------- -----------
Net income............... $ 7,937 $ 7,954 $ 32,124 $ 22,121
========== ========== ========== ===========
Basic earnings per share....... $ 0.10 $ 0.10 $ 0.41 $ 0.29
========== ========== ========== ===========
Weighted average shares
outstanding-basic.............. 78,671 77,298 78,637 77,202
========== ========== ========== ===========
Diluted earnings per share..... $ 0.10 $ 0.10 $ 0.39 $ 0.27
========== ========== ========== ===========
Weighted average shares
outstanding-diluted............ 81,749 80,898 82,209 80,579
========== ========== ========== ===========
Dividends declared per share... $ 0.05 $ 0.03 $ 0.13 $ 0.03
========== ========== ========== ===========
The accompanying notes are an integral part of these financial statements.
NATIONAL INSTRUMENTS CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
Nine Months Ended
September 30,
----------------------
2004 2003
---------- ----------
Cash flow from operating activities:
Net income........................................... $ 32,124 $ 22,121
Adjustments to reconcile net income to net cash
provided by operating activities:
Charges (benefits) to income not requiring cash:
Depreciation and amortization................... 18,505 18,787
Benefit from deferred income taxes.............. (937) (514)
Tax benefit from stock option plans............. 1,983 2,565
Changes in operating assets and liabilities:
Decrease (increase) in accounts receivable...... 2,049 (5,332)
Decrease (increase) in inventories.............. (20,385) 799
Decrease (increase) in prepaid expense and
other assets.................................... (7,262) 4,071
Increase (decrease) in current liabilities...... 9,242 (4,384)
---------- ----------
Net cash provided by operating activities......... 35,319 38,113
---------- ----------
Cash flow from investing activities:
Payment for acquisitions, net of cash received....... -- (5,316)
Capital expenditures................................. (11,338) (12,870)
Capitalization of internally developed software...... (4,199) (9,449)
Additions to other intangibles....................... (685) (1,022)
Purchases of short-term investments.................. (167,403) (105,626)
Sales and maturities of short-term investments....... 161,444 81,054
---------- ----------
Net cash used in investing activities............. (22,181) (53,229)
---------- ----------
Cash flow from financing activities:
Proceeds from issuance of common stock............... 11,168 11,476
Repurchase of common stock........................... (14,145) --
Dividends paid....................................... (10,503) (2,585)
---------- ----------
Net cash provided by (used in) financing
activities........................................ (13,480) 8,891
---------- ----------
Net decrease in cash and cash equivalents............... (342) (6,225)
Cash and cash equivalents at beginning of period........ 53,446 40,240
---------- ----------
Cash and cash equivalents at end of period.............. $ 53,104 $ 34,015
========== ==========
The accompanying notes are an integral part of these financial statements.
NATIONAL INSTRUMENTS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - Basis of Presentation
The accompanying unaudited consolidated financial statements should be read in
conjunction with the consolidated financial statements and notes thereto for the
year ended December 31, 2003, included in the Company's annual report on Form
10-K, filed with the Securities and Exchange Commission on January 27,2004. In
the opinion of management, the accompanying consolidated financial statements
reflect all adjustments (consisting only of normal recurring items) considered
necessary to present fairly the financial position of National Instruments
Corporation and its consolidated subsidiaries at September 30, 2004 and December
31, 2003, and the results of operations for the three-month and nine-month
periods ended September 30, 2004 and 2003, and the cash flows for the nine-month
periods ended September 30, 2004 and 2003. Operating results for the three-month
and nine-month periods ended September 30, 2004 are not necessarily indicative
of the results that may be expected for the year ending December 31, 2004.
NOTE 2 - Earnings Per Share
Basic earnings per share ("EPS") is computed by dividing net income by the
weighted average number of common shares outstanding during each period. Diluted
EPS is computed by dividing net income by the weighted average number of common
shares and common share equivalents outstanding (if dilutive) during each
period. Common share equivalents include stock options. The number of common
share equivalents outstanding relating to stock options is computed using the
treasury stock method.
The reconciliation of the denominators used to calculate basic EPS and diluted
EPS for the three-month and nine-month periods ended September 30, 2004 and
2003, respectively, are as follows (in thousands):
Three Months Ended Nine Months Ended
September 30, September 30,
---------------------- ----------------------
(unaudited) (unaudited)
2004 2003 2004 2003
---------- ---------- ---------- ----------
Weighted average shares
outstanding-basic............... 78,671 77,298 78,637 77,202
Plus: Common share equivalents
Stock options................ 3,078 3,600 3,572 3,377
---------- ---------- ---------- ----------
Weighted average shares
outstanding-diluted............. 81,749 80,898 82,209 80,579
========== ========== ========== ==========
Stock options to acquire 3,062,000 and 2,079,000 shares for the quarters ended
September 30, 2004 and 2003, respectively, and 1,773,000 and 2,255,000 shares
for the nine months ended September 30, 2004 and 2003, respectively, were
excluded from the computations of diluted EPS because the effect of including
the stock options would have been anti-dilutive.
NOTE 3 - Inventories, net
Inventories, consist of the following (in thousands):
September 30, December 31,
2004 2003
------------------------------
(unaudited)
------------------------------
Raw materials...................... $ 23,595 $ 17,513
Work-in-process.................... 3,489 1,625
Finished goods..................... 32,114 19,675
-------------- --------------
$ 59,198 $ 38,813
============== ==============
NOTE 4 - Comprehensive Income
The Company's comprehensive income is comprised of net income, foreign currency
translation and unrealized gains and losses on forward and option contracts and
securities available for sale. Comprehensive income for the three-month and
nine-month periods ended September 30, 2004 and 2003 was as follows (in
thousands):
Three Months Ended Nine Months Ended
September 30, September 30,
---------------------- ----------------------
(unaudited) (unaudited)
2004 2003 2004 2003
---------- ---------- ---------- ----------
Comprehensive income:
Net income.................... $ 7,937 $ 7,954 $ 32,124 $ 22,121
Foreign currency translation.. 393 951 (223) 3,116
Unrealized gains (losses) on
derivative instruments........ 362 (558) 5,651 (1,920)
Unrealized losses on available
for sale securities........... 135 (32) (290) (91)
---------- ---------- ---------- ----------
Total comprehensive income...... $ 8,827 $ 8,315 $ 37,262 $ 23,226
========== ========== ========== ==========
NOTE 5 - Stock-Based Compensation Plans
The Company has two active stock-based compensation plans and one inactive plan.
The two active stock-based compensation plans are the 1994 Incentive Plan and
the Employee Stock Purchase Plan. The Company follows the disclosure-only
provisions of SFAS No. 123, Accounting for Stock-Based Compensation, as amended
by SFAS No. 148, Accounting for Stock-Based Compensation - Transition and
Disclosure. As allowed by SFAS No. 123, the Company continues to apply the
provisions of Accounting Principles Board Opinion No. 25, Accounting for Stock
issued to Employees, and related interpretations in accounting for its plans.
Accordingly, compensation cost for stock options is measured as the excess, if
any, of the quoted market price of the Company's stock at the date of the grant
over the amount an employee must pay to acquire the stock. No compensation cost
has been recognized in the Company's financial statements for the stock option
plan and the stock purchase plan. If compensation cost for the Company's two
active stock-based compensation plans were determined based on the fair value at
the grant date for awards under those plans consistent with the method
established by SFAS No. 123, the Company's net income and earnings per share
would approximate the pro-forma amounts below (in thousands, except per share
data):
Three Months Ended Nine Months Ended
September 30, September 30,
---------------------- ----------------------
(unaudited) (unaudited)
2004 2003 2004 2003
---------- ---------- ---------- ----------
Net income, as reported.......... $ 7,937 $ 7,954 $ 32,124 $ 22,121
Stock-based compensation
included inreported net income,
net of related tax effects....... -- -- -- --
Total stock-based compensation
expense determined under fair
value method for all awards,
net of related tax effects....... (4,009) (2,928) (9,524) (9,599)
---------- ---------- ---------- ----------
Pro-forma net income............. $ 3,928 $ 5,026 $ 22,600 $ 12,522
---------- ---------- ---------- ----------
Earnings per share:
Basic - as reported.............. $ 0.10 $ 0.10 $ 0.41 $ 0.29
Basic - pro-forma................ $ 0.05 $ 0.07 $ 0.29 $ 0.16
Diluted - as reported............ $ 0.10 $ 0.10 $ 0.39 $ 0.27
Diluted - pro-forma.............. $ 0.05 $ 0.06 $ 0.27 $ 0.16
NOTE 6 - Authorized Preferred Stock and Preferred Stock Purchase Rights Plan
National Instruments has 5,000,000 authorized shares of preferred stock. On
January 21, 2004, the Board of Directors of National Instruments designated
750,000 of these shares as Series A Participating Preferred Stock in conjunction
with its adoption of a Preferred Stock Rights Agreement (the "Rights Agreement")
and declaration of a dividend of one preferred share purchase right (a "Right")
for each share of common stock outstanding held as of May 10, 2004 or issued
thereafter. Each Right will entitle its holder to purchase one one-thousandth of
a share of National Instruments' Series A Participating Preferred Stock at an
exercise price of $200, subject to adjustment, under certain circumstances. The
Rights Agreement was not adopted in response to any effort to acquire control of
National Instruments.
The Rights only become exercisable in certain limited circumstances following
the tenth day after a person or group announces acquisitions of or tender offers
for 20% or more of National Instruments' common stock. In addition, if an
acquirer (subject to certain exclusions for certain current stockholders of
National Instruments, an "Acquiring Person") obtains 20% or more of National
Instruments' common stock, then each Right (other than the Rights owned by an
Acquiring Person or its affiliates) will entitle the holder to purchase, for the
exercise price, shares of National Instruments common stock having a value equal
to two times the exercise price. Under certain circumstances, the National
Instruments' Board of Directors may redeem the Rights, in whole, but not in
part, at a purchase price of $0.01 per Right. The Rights have no voting
privileges and are attached to and automatically traded with National
Instruments common stock until the occurrence of specified trigger events. The
Rights will expire on the earlier of May 10, 2014 or the exchange or the
redemption of the Rights.
NOTE 7 - Commitments and Contingencies
The Company offers a one or two-year limited warranty on most hardware products
and a 90-day warranty on software products, which is included in the sales price
of many of its products. Provision is made for estimated future warranty costs
at the time of sale.
The warranty reserve was as follows (in thousands):
Nine Months Ended
September 30,
----------------------
(unaudited)
2004 2003
---------- ----------
Balance at the beginning of the period........... $ 715 $ 715
Accruals for warranties issued during the
period........................................... 1,137 805
Settlements made (in cash or in kind) during
the period....................................... (1,037) (805)
---------- ----------
Balance at the end of the period................. $ 815 $ 715
========== ==========
As of September 30, 2004, the Company has outstanding guarantees for payment of
foreign leases, customs and foreign grants totaling approximately $4.0 million.
The terms of the guarantees are for up to 40 months.
As of September 30, 2004, the Company has non-cancelable purchase commitments
with various suppliers of customized inventory and inventory components totaling
approximately $5.5 million over the next twelve months.
NOTE 8 - Segment Information
While the Company sells its products to many different markets, its management
has chosen to organize the Company by geographic areas, and as a result has
determined that it has one reportable segment. Substantially all of the interest
income, interest expense, depreciation and amortization is recorded in the
Americas. Net sales, operating income and identifiable assets, classified by the
major geographic areas in which the Company operates, are as follows (in
thousands):
Three Months Ended Nine Months Ended
September 30, September 30,
---------------------- ----------------------
(unaudited) (unaudited)
2004 2003 2004 2003
---------- ---------- ---------- ----------
Net sales:
Americas:
Unaffiliated customer sales... $ 62,636 $ 50,828 $ 182,744 $ 147,049
Geographic transfers.......... 21,119 15,803 63,228 42,933
---------- ---------- ---------- ----------
$ 83,755 $ 66,631 $ 245,972 $ 189,982
---------- ---------- ---------- ----------
Europe:
Unaffiliated customer sales... $ 36,372 $ 31,701 $ 116,623 $ 94,154
Geographic transfers.......... 40,721 14,195 73,590 37,212
---------- ---------- ---------- ----------
$ 77,093 $ 45,896 $ 190,213 $ 131,366
---------- ---------- ---------- ----------
Asia Pacific:
Unaffiliated customer sales... $ 26,340 $ 22,115 $ 77,746 $ 62,780
---------- ---------- ---------- ----------
Eliminations.................... (61,840) (29,998) (136,818) (80,145)
---------- ---------- ---------- ----------
$ 125,348 $ 104,644 $ 377,113 $ 303,983
========== ========== ========== ==========
Three Months Ended Nine Months Ended
September 30, September 30,
---------------------- ----------------------
(unaudited) (unaudited)
2004 2003 2004 2003
---------- ---------- ---------- ----------
Operating income:
Americas........................ $ 11,569 $ 9,787 $ 40,744 $ 25,022
Europe.......................... 10,571 9,695 35,187 27,304
Asia Pacific.................... 9,634 8,646 28,531 25,068
Unallocated:
Research and development
expenses........................ (21,737) (18,370) (63,072) (50,497)
---------- ---------- ---------- ----------
$ 10,037 $ 9,758 $ 41,390 $ 26,897
========== ========== ========== ==========
September 30, December 31,
2004 2003
-----------------------------
(unaudited)
-----------------------------
Identifiable assets:
Americas........................ $ 437,789 $ 420,082
Europe.......................... 78,059 77,963
Asia Pacific.................... 44,852 27,106
------------ ------------
$ 560,700 $ 525,151
============ ============
Total sales outside the United States for the quarter and nine months ended
September 30, 2004 were $68.3 million and $211.7 million, respectively, and for
the quarter and nine months ended September 30, 2003 were $58.3 million and
$170.4 million, respectively.
NOTE 9 - Litigation
The Company has filed two complaints against The MathWorks, Inc. ("MathWorks")
for patent infringement. In both complaints, the Company claimed the MathWorks
infringes certain of its U.S. patents and the MathWorks challenged the validity
and enforceability of those patents and asserts that it does not infringe the
claims of those patents.
The first complaint was filed on January 25, 2001 in the U.S. District Court,
Eastern District of Texas (Marshall Division). On January 30, 2003, the jury
found infringement by the MathWorks of three of the patents involved and awarded
the Company specified damages. On June 23, 2003, the District Court entered
final judgment in favor of the Company in an amount of approximately $4 million
and entered an injunction against MathWorks' sale of its Simulink and related
products. The District Court stayed the injunction pending appeal of the case
and required the MathWorks to pay a specified royalty on its U.S. sales of the
same products during the pendency of appeal. The initial judgment and the
royalties on the sales of infringing products through June 30, 2004 total $6.9
million and are escrowed. On July 22, 2003, MathWorks filed its Notice of
Appeal. On September 3, 2004, the U.S. Court of Appeal for the Federal Circuit
affirmed the District Court's final judgment and injunction in all respects.
Subsequently on October 14, 2004, the District Court lifted its stay of the
injunction so as to place into effect the injunction against MathWorks' U.S.
sales of its Simulink and related products. The final judgment has not been
recorded in the financial statements of the Company pending release of the funds
from escrow.
On September 22, 2004, MathWorks filed a complaint against the Company in the
U.S. District Court, Eastern District of Texas (Marshall Division), claiming
that on that day it had released modified versions of its Simulink and related
product and seeking a declaratory judgment that the modified products do not
infringe the three patents adjudged infringed in the District Court's decision
on June 23, 2003, and affirmed by the Court of Appeals on September 3, 2004.
MathWorks has not served the complaint, nor has the Company answered the
complaint. The Company has publicly stated its position that MathWorks' modified
products do not avoid the injunction. The Company has also publicly announced
its intent to file a motion asking the District Court to hold MathWorks in
contempt for violating the injunction. It is also the Company's position that
this dispute over MathWorks' modified products should be resolved in the context
of the Company's planned motion for contempt, rather than in a new lawsuit as
sought by MathWorks by way of its complaint filed on September 22, 2004.
The second complaint was filed October 21, 2002, also in the U.S. District
Court, Eastern District of Texas (Marshall Division) and on August 27, 2003, the
complaint was dismissed by agreement of the parties.
On January 15, 2003, SoftWIRE Technology, LLC ("SoftWIRE") and Measurement
Computing Corporation ("MCC") filed a complaint against the Company in the U.S.
District Court for the District of Massachusetts asking the court to declare
that SoftWIRE does not infringe certain of the Company's U.S. patents and that
such patents are invalid and unenforceable. On February 21, 2003, the Company
filed a complaint against SoftWIRE and MCC in the U.S. District Court, Eastern
District of Texas (Marshall Division) claiming that both SoftWIRE and MCC
infringe the same and certain other of the Company's U.S. patents. SoftWIRE and
MCC challenge the validity and enforceability of these patents and assert that
they do not infringe any of these patents. In the Eastern District action, the
Company seeks monetary damages and injunction of the sale of certain products of
SoftWIRE and MCC as well as attorney's fees and costs. By order of the Court,
the Eastern District action was transferred to the U.S. District Court for the
District of Massachusetts on May 9, 2003, and has been consolidated with the
previously-filed SoftWIRE action, which also includes counterclaims by the
Company that are the same in substance as the Company's claims in the Eastern
District action. On June 12, 2003, SoftWIRE moved for leave to amend its
complaint in order to allege that the Company infringes two U.S. patents that
SoftWIRE acquired by purchase on May 23, 2003. On November 5, 2003, the Court
granted SoftWIRE's motion to amend, thereby adding SoftWIRE's two patents to the
litigation. With respect to those two SoftWIRE patents, SoftWIRE seeks monetary
damages and injunction of the sale of the Company's LabVIEW software products,
as well as attorney's fees and costs. The Company challenges the validity,
enforceability and alleged infringement of those patents and intends to
vigorously defend against SoftWIRE's claims. Discovery in the litigation remains
underway and is expected to continue through 2005. No trial date has been set.
During the fourth quarter of 2003, the Company accrued $3.8 million related to
its probable loss from this contingency, which consists solely of anticipated
patent defense costs that are probable of being incurred. On October 6, 2004 the
court extended the discovery period through 2005. Because of the extended
discovery period, the Company estimates that additional legal costs will be
incurred. Accordingly, during the third quarter of 2004 the Company increased
its accrual for these additional patent defense costs that are probable of being
incurred by $2.5 million. However, the outcome of any litigation is inherently
uncertain and there can be no assurance as to the ultimate outcome of this
matter or any other litigation. The Company charged approximately $1.1 million
against this accrual during the third quarter of 2004. The Company has charged a
total of $2.4 million against this accrual through September 30, 2004.
NOTE 10 - Subsequent Event
The Company's Board of Directors approved on October 20, 2004, a quarterly cash
dividend of $0.05 per common share, payable on November 29, 2004, to
shareholders of record on November 8, 2004.
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
This Quarterly Report on Form 10-Q contains forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933 and Section 21E
of the Securities Exchange Act of 1934. Any statements contained herein
regarding the future financial performance or operations of the Company
(including, without limitation, statements to the effect that the Company
"believes," "expects," "plans," "may," "will," "projects," "continues," or
"estimates" or other variations thereof or comparable terminology or the
negative thereof) should be considered forward-looking statements. Actual
results could differ materially from those projected in the forward-looking
statements as a result of a number of important factors. For a discussion of
important factors that could affect the Company's results, please refer to the
Market Risk section, the Factors Affecting the Company's Business and Prospects
section and financial statement line item discussions below. Readers are also
encouraged to refer to the documents regularly filed by the Company with the
Securities and Exchange Commission, including the Company's Annual Report on
Form 10-K for further discussion of the Company's business and the risks
attendant thereto.
Overview
National Instruments designs, develops, manufactures and markets
instrumentation and automation software and hardware for general commercial,
industrial and scientific applications. The Company offers hundreds of products
used to create virtual instrumentation systems for measurement and automation.
The Company has identified a large and diverse market for test and measurement
("T&M") and industrial automation ("IA") applications. The Company's products
are used in a variety of applications from research and development to
production testing, monitoring and industrial control. In T&M applications, the
Company's products can be used to monitor and control traditional instruments or
to create computer-based instruments that can replace traditional instruments.
In IA applications, the Company's products can be used in the same ways as in
test and measurement and can also be used to integrate measurement functionality
with process automation capabilities. The Company sells to a large number of
customers in a wide variety of industries. No single customer accounted for more
than 3% of the Company's sales in 2003, 2002 or 2001.
The Company has been profitable in every year since 1990. However, there
can be no assurance that the Company's net sales will grow or that the Company
will remain profitable in future periods. As a result, the Company believes
historical results of operations should not be relied upon as indications of
future performance.
Results of Operations
The following table sets forth, for the periods indicated, the percentage
of net sales represented by certain items reflected in the Company's
consolidated statements of income:
Three Months Ended Nine Months Ended
September 30, September 30,
------------------ ------------------
2004 2003 2004 2003
-------- -------- -------- --------
Net sales:
Americas 50.0% 48.6% 48.5% 48.4%
Europe 29.0 30.3 30.9 31.0
Asia Pacific 21.0 21.1 20.6 20.6
-------- -------- -------- --------
Consolidated net sales 100.0 100.0 100.0 100.0
Cost of sales 27.3 26.2 26.3 26.5
-------- -------- -------- --------
Gross profit 72.7 73.8 73.7 73.5
-------- -------- -------- --------
Operating expenses:
Sales and marketing 37.0 38.5 37.2 38.5
Research and development 17.3 17.6 16.7 16.6
General and administrative 10.4 8.4 8.8 9.6
-------- -------- -------- --------
Total operating expenses 64.7 64.5 62.7 64.7
-------- -------- -------- --------
Operating income 8.0 9.3 11.0 8.8
Other income (expense):
Interest income, net 0.5 0.5 0.5 0.6
Net foreign exchange gain (loss) (0.1) (0.2) (0.2) 0.1
Other income, net 0.0 0.5 0.1 0.2
-------- -------- -------- --------
Income before income taxes 8.4 10.1 11.4 9.7
Provision for income taxes 2.1 2.5 2.9 2.4
-------- -------- -------- --------
Net income 6.3% 7.6% 8.5% 7.3%
======== ======== ======== ========
Net Sales. Consolidated net sales increased by $20.7 million or 20% for the
three months ended September 30, 2004 to $125.3 million from $104.6 million for
the three months ended September 30, 2003, and increased $73.1 million or 24% to
$377.1 million for the nine months ended September 30, 2004 from $304.0 million
for the comparable period in the prior year. The Company believes that the
increases in sales for the three and nine months ended September 30, 2004 were
primarily attributable to the introduction of new and upgraded products, the
increase in unit volume from the increased market acceptance of the Company's
products in all regions and the strength of the euro. Sales in the Americas in
the third quarter of 2004 increased by 23% from the third quarter of 2003 and
sales in the Americas for the nine months ended September 30, 2004 increased by
24% from the nine months ended September 30, 2003.
Sales outside of the Americas, as a percentage of consolidated sales for
the quarter ended September 30, 2004 decreased to 50.0% from 51.4% for the
quarter ended September 30, 2003 as a result of stronger sales in the Americas.
Sales outside of the Americas as a percentage of consolidated sales for the nine
months ended September 30, 2004 decreased to 51.5% from 51.6% in the comparable
2003 period as a result of stronger sales in the Americas. Compared to the
corresponding periods in 2003, the Company's European sales increased by 15% to
$36.4 million for the quarter ended September 30, 2004 and increased by 24% to
$116.6 million for the nine months ended September 30, 2004. Sales in Asia
Pacific increased by 19% to $26.3 million for the quarter ended September 30,
2004 compared to the same period in 2003 and increased 24% to $77.7 million for
the nine months ended September 30, 2004 compared to the same period in 2003.
The Company expects sales outside of North America to continue to represent a
significant portion of its revenue. The Company intends to continue to expand
its international operations by increasing its presence in existing markets,
adding a presence in some new geographical markets and continuing the use of
distributors to sell its products in some countries.
Sales made by the Company's direct sales offices in Europe and Asia Pacific
are denominated in local currencies, and accordingly, the U.S. dollar equivalent
of these sales is affected by changes in the foreign currency exchange rates.
Between the third quarter of 2003 and the third quarter of 2004, net of hedging
results, the change in the exchange rates had the effect of increasing the
Company's consolidated sales by 4%; increasing European sales by 10% and
increasing sales in Asia Pacific by 3%. For 2004, year-to-date sales, net of
hedging results, the change in exchange rates had the effect of increasing the
Company's consolidated sales by 6%. The increase in sales in Europe and Asia as
a result of the change in exchange rates was partially offset by the decrease in
local currency product pricing in each region. Since most of the Company's
international operating expenses are also incurred in local currencies, the
change in exchange rates had the effect of increasing operating expenses $4.5
million, or 3%, for the nine months ended September 30, 2004 and by $800,000, or
2%, for the quarter ended September 30, 2004 compared to the comparable prior
year periods.
Gross Profit. As a percentage of net sales, gross profit decreased to 72.7%
for the third quarter of 2004 from 73.8% for the third quarter of 2003 and for
the first nine months of 2004 remained relatively constant at 73.7% for the
first nine months of 2004 compared to 73.5% for the first nine months of 2003.
The decrease in the gross margin for the third quarter of 2004 compared to the
comparable prior year period is primarily attributable to the unfavorable impact
of fixed charges relative to sales volume, partially offset by the effects of
favorable foreign currency exchange rates and the favorable impact of higher
sales volume. There can be no assurance that the Company will maintain its
historical margins. The Company believes its current manufacturing capacity is
adequate to meet current needs.
Sales and Marketing. Sales and marketing expenses for the third quarter of
2004 increased to $46.4 million, a 15% increase, compared to the third quarter
of 2003 and increased 20% to $140.1 million for the first nine months of 2004
from the comparable 2003 period. As a percentage of net sales, sales and
marketing expenses were 37.0% and 38.5% for the quarters ended September 30,
2004 and 2003, respectively, and 37.2% and 38.5% for the nine months ended
September 30, 2004 and 2003, respectively. Approximately 80% of the increase in
sales and marketing expenses for the quarter ended September 30, 2004 from the
prior year period is attributable to increases in sales and marketing personnel
costs due to the increase in sales and marketing personnel, the increase in
variable compensation from higher sales volume and from the effects of the
change in currency exchange rates, with the remaining fraction of the increase
attributable to increases in advertising, tradeshows and special events.
Approximately 60% of the increase in sales and marketing expenses for the nine
months ended September 30, 2004 from the prior year period is attributable to
the increase in sales and marketing personnel costs due to the increase in sales
and marketing personnel, the increase in variable compensation from higher sales
volume and from the effects of the change in currency exchange rates, with the
remaining fraction of the increase attributable to increases in advertising,
tradeshows and special events. The Company expects sales and marketing expenses
in future periods to increase in absolute dollars, and to fluctuate as a
percentage of sales based on recruiting, initial marketing and advertising
campaign costs associated with major new product releases and entry into new
market areas, investment in web sales and marketing efforts, increasing product
demonstration costs and the timing of domestic and international conferences and
trade shows.
Research and Development. Research and development expenses increased to
$21.7 million for the quarter ended September 30, 2004, an 18% increase,
compared to $18.4 million for the three months ended September 30, 2003, and
increased 25% to $63.1 million for the nine months ended September 30, 2004 from
$50.5 million in the comparable 2003 period. As a percentage of net sales,
research and development expenses represented 17.3% and 17.6% for the third
quarters ended September 30, 2004 and 2003, respectively, and 16.7% and 16.6%
for the nine months ended September 30, 2004 and 2003, respectively. The
increase in research and development costs in absolute amounts in each period
and as a percentage of sales for the nine months ended September 30, 2004 from
the prior year period is primarily due to increases in personnel costs from the
hiring of additional product development engineers and from the decrease in the
capitalization of software development costs. The Company plans to continue
making a significant investment in research and development in order to remain
competitive and support revenue growth.
The Company capitalizes software development costs in accordance with SFAS
No. 86, Accounting for the Costs of Computer Software to be Sold, Leased, or
Otherwise Marketed. The Company amortizes such costs over the related product's
estimated economic useful life, generally three years, beginning when a product
becomes available for general release. Software amortization expense totaled
$2.0 million and $1.8 million for the quarters ended September 30, 2004 and
2003, respectively, and $5.6 million and $4.0 million during the nine months
ended September 30, 2004 and 2003, respectively. Software development costs
capitalized were $786,000 and $1.0 million for the quarters ended September 30,
2004 and 2003, respectively, and $4.2 million and $9.4 million for the first
nine months of 2004 and 2003, respectively.
General and Administrative. General and administrative expenses for the
quarter ended September 30, 2004 increased 47% to $12.9 million from $8.8
million for the comparable prior year period. For the first nine months of 2004,
general and administrative expenses increased 15% to $33.4 million from $29.0
million for the first nine months of 2003. As a percentage of net sales, general
and administrative expenses increased to 10.4% for the quarter ended September
30, 2004 from 8.4% for the third quarter of 2003. During the first nine months
of 2004, general and administrative expenses decreased as a percentage of sales
to 8.8% from 9.6% in the comparable prior year period. The increases in general
and administrative expenses in absolute amounts and as a percentage of sales for
the quarter ended September 30, 2004 from the comparable prior year period are
attributable to increased litigation costs of $2.2 million, associated with the
SoftWIRE patent defense lawsuit (See Note 9 - Litigation) and increased
personnel costs. The increase in general and administrative expenses in absolute
amounts for the nine month period ended September 30, 2004 from the comparable
prior year period is primarily attributable to unfavorable foreign exchange
rates and increased international personnel costs. The decrease in general and
administrative expenses as a percentage of sales for the nine months ended
September 30, 2004 from the comparable prior year period was primarily
attributable to higher sales volume. The Company expects that general and
administrative expenses in future periods will fluctuate in absolute amounts and
as a percentage of revenue.
Interest Income, Net. Net interest income in the third quarter of 2004
increased to $582,000 from $570,000 in the third quarter of 2003 and increased
to $2.0 million for the first nine months of 2004 from $1.9 million for the
comparable 2003 period. The increases in interest income for the quarter and
nine months ended September 30, 2004 were due to higher yields on increased
invested funds. The primary source of interest income is from the investment of
the Company's cash.
Net Foreign Exchange Gain (Loss). The Company experienced net foreign
exchange losses of $85,000 in the third quarter of 2004 compared to losses of
$209,000 in the third quarter of 2003. Net foreign exchange losses of $831,000
were recognized for the first nine months of 2004 compared to gains of $116,000
for the first nine months of 2003. These results are attributable to movements
between the U.S. dollar and the local currencies in countries in which the
Company's sales subsidiaries are located. The Company recognizes the local
currency as the functional currency of its international subsidiaries.
The Company utilizes foreign currency forward contracts to hedge a majority
of its foreign currency-denominated receivables in order to reduce its exposure
to significant foreign currency fluctuations. The Company typically limits the
duration of its "receivables" foreign currency forward contracts to 90 days.
The Company also utilizes foreign currency forward contracts and foreign
currency purchased option contracts in order to reduce its exposure to
fluctuations in future foreign currency cash flows. The Company purchases these
contracts for up to 100% of its forecasted cash flows in selected currencies
(primarily the euro, yen and pound sterling) and limits the duration of these
contracts to 40 months. The foreign currency purchased option contracts are
purchased "at-the-money" or "out-of-the-money." As a result, the Company's
hedging activities only partially address its risks in foreign currency
transactions, and there can be no assurance that this strategy will be
successful. The Company does not invest in contracts for speculative purposes.
The Company's hedging strategy reduced the foreign exchange gains by $497,000
during the quarter ended September 30, 2004, and increased the foreign exchange
losses by $271,000 for the nine months ended September 30, 2004.
Provision for Income Taxes. The provision for income taxes reflects an
effective tax rate of 25% for the three and nine months ended September 30, 2004
and 25% for the three and nine months ended September 30, 2003. The Company's
effective tax rate is lower than the U.S. federal statutory rate of 35%
primarily as a result of the extraterritorial income exclusion, tax-exempt
interest and reduced tax rates in certain foreign jurisdictions.
Liquidity and Capital Resources
The Company is currently financing its operations and capital expenditures
through cash flow from operations. At September 30, 2004, the Company had
working capital of approximately $282.7 million compared to $255.3 million at
December 31, 2003. Net cash provided by operating activities for the nine month
periods ended September 30, 2004 and 2003 totaled $35.3 million and $38.1
million, respectively.
Accounts receivable decreased to $75.9 million at September 30, 2004 from
$78.0 million at December 31, 2003. Days sales outstanding decreased to 59 at
September 30, 2004 compared to 60 at September 30, 2003. Consolidated inventory
balances increased to $59.2 million at September 30, 2004 from $38.8 million at
December 31, 2003. The increase in inventory was due to a planned increase in
safety stock. Inventory turns of 2.3 at September 30, 2004 represent a decrease
from turns of 2.8 at September 30, 2003. Cash used in the first nine months of
2004 for the purchase of property and equipment totaled $11.3 million, for the
capitalization of internally developed software costs totaled $4.2 million, and
for additions to other intangibles totaled $685,000. Cash used in the first nine
months of 2003 for the purchase of property and equipment totaled $12.9 million,
for the capitalization of internally developed software costs totaled $9.4
million, acquisitions totaled $5.3 million and additions to other intangibles
totaled $1.0 million.
Cash provided by the issuance of common stock totaled $11.2 million and
$11.5 million for the first nine months of 2004 and 2003, respectively. The
issuance of common stock was to employees under the Company's Employee Stock
Purchase Plan and 1994 Incentive Plan. Cash used for the repurchase of common
stock totaled $14.1 million and $0 for the first nine months of 2004 and 2003,
respectively. Cash used for the payment of dividends totaled $10.5 million and
$2.6 million for the first nine months of 2004 and 2003, respectively.
The Company currently expects to fund expenditures for capital requirements
as well as liquidity needs created by changes in working capital from a
combination of available cash and short-term investment balances and internally
generated funds. As of September 30, 2004 and 2003, the Company had no debt
outstanding. The Company believes that its cash flow from operations, if any,
existing cash balances and short-term investments will be sufficient to meet its
cash requirements for at least the next twelve months. Cash requirements for
periods beyond the next twelve months will depend on the Company's
profitability, its ability to manage working capital requirements and its rate
of growth.
Financial Risk Management
The Company's international sales are subject to inherent risks, including
fluctuations in local economies; difficulties in staffing and managing foreign
operations; greater difficulty in accounts receivable collection; costs and
risks of localizing products for foreign countries; unexpected changes in
regulatory requirements, tariffs and other trade barriers; difficulties in the
repatriation of earnings and burdens of complying with a wide variety of foreign
laws. The Company's sales outside of North America are denominated in local
currencies, and accordingly, the Company is subject to the risks associated with
fluctuations in currency rates. In particular, increases in the value of the
dollar against foreign currencies decrease the U.S. dollar value of foreign
sales requiring the Company either to increase its price in the local currency,
which could render the Company's product prices noncompetitive, or to suffer
reduced revenues and gross margins as measured in U.S. dollars. These dynamics
have adversely affected revenue growth in international markets in previous
years. The Company's foreign currency hedging program includes both foreign
currency forward and purchased option contracts to reduce the effect of exchange
rate fluctuations. However, the hedging program will not eliminate all of the
Company's foreign exchange risks. (See "Net Foreign Exchange Gain (Loss)").
The marketplace for the Company's products dictates that many of the
Company's products be shipped very quickly after an order is received. As a
result, the Company is required to maintain significant inventories. Therefore,
inventory obsolescence is a risk for the Company due to frequent engineering
changes, shifting customer demand, the emergence of new industry standards and
rapid technological advances including the introduction by the Company or its
competitors of products embodying new technology. While the Company maintains
valuation allowances for excess and obsolete inventories and management
continues to monitor the adequacy of such valuation allowances, there can be no
assurance that such valuation allowances will be sufficient.
The Company has no debt or off-balance sheet debt. As of September 30,
2004, the Company did not have any relationships with any unconsolidated
entities or financial partnerships, such as entities often referred to as
structured finance entities, which would have been established for the purpose
of facilitating off-balance sheet arrangements. As such, the Company is not
exposed to any financing, liquidity, market or credit risk that could arise if
the Company were engaged in such relationships.
Market Risk
The Company is exposed to a variety of risks, including foreign currency
fluctuations and changes in the market value of its investments. In the normal
course of business, the Company employs established policies and procedures to
manage its exposure to fluctuations in foreign currency values and changes in
the market value of its investments.
Foreign Currency Hedging Activities. The Company's objective in managing
its exposure to foreign currency exchange rate fluctuations is to reduce the
impact of adverse fluctuations in such exchange rates on the Company's earnings
and cash flow. Accordingly, the Company utilizes purchased foreign currency
option contracts and forward contracts to hedge its exposure on anticipated
transactions and firm commitments. The principal currencies hedged are the euro,
British pound and Japanese yen. The Company monitors its foreign exchange
exposures regularly to ensure the overall effectiveness of its foreign currency
hedge positions. However, there can be no assurance the Company's foreign
currency hedging activities will substantially offset the impact of fluctuations
in currency exchange rates on its results of operations and financial position.
Based on the foreign exchange instruments outstanding at September 30, 2004, an
adverse change (defined as 20% in the Asian currencies and 10% in all other
currencies) in exchange rates would result in a decline in the aggregate fair
market value of all instruments outstanding of approximately $6.6 million.
However, as the Company utilizes foreign currency instruments for hedging
anticipated and firmly committed transactions, management believes that a loss
in fair value for those instruments will be substantially offset by increases in
the value of the underlying exposure.
Short-term Investments. The fair value of the Company's investments in
marketable securities at September 30, 2004 was $147.2 million. Investments with
maturities beyond one year are classified as short-term based on their highly
liquid nature and because such marketable securities represent the investment of
cash that is available for current operations. The Company's investment policy
is to manage its investment portfolio to preserve principal and liquidity while
maximizing the return on the investment portfolio through the full investment of
available funds. The Company diversifies its marketable securities portfolio by
investing in multiple types of investment-grade securities. The Company's
investment portfolio is primarily invested in securities with at least an
investment grade rating to minimize interest rate and credit risk as well as to
provide for an immediate source of funds. Based on the Company's investment
portfolio and interest rates at September 30, 2004, a 100 basis point increase
or decrease in interest rates would result in a decrease or increase of
approximately $736,000, respectively, in the fair value of the investment
portfolio. Although changes in interest rates may affect the fair value of the
investment portfolio and cause unrealized gains or losses, such gains or losses
would not be realized unless the investments are sold.
Factors Affecting the Company's Business and Prospects
U.S./Global Economic Changes. As occurred in recent years, the markets in
which the Company does business could again experience the negative effects of a
slowdown in the U.S., and/or global economies. Additionally, the Company could
be impacted by the effects of any recurrence of the SARS virus or the occurence
of any similar virus, either through increased difficulty or costs of the export
of products into affected regions, the import of components used in the
Company's products from affected regions, and/or the effects the virus or costs
to contain the virus have on the economy in regions in which the Company does
business, particularly Asia, which has been the highest growth region of the
Company over the past three years. The Company could also be subject to or
impacted by acts of terrorism and/or the effects that war or continued U.S.
military action would have on the U.S. and/or global economies. The worsening of
the U.S. or global economies could result in reduced purchasing and capital
spending in any of the markets served by the Company which could have a material
adverse effect on the Company's operating results.
Budgets. The Company has established an operating budget for 2004. The
Company's spending for the remainder of the year could exceed this budget due to
a number of factors, including: additional marketing costs for conferences and
tradeshows; increased costs from the over-hiring of product development
engineers or other personnel; increased manufacturing costs resulting from
component supply shortages and/or component price fluctuations and/or additional
expenses related to intellectual property litigation. Any future decreased
demand for the Company's products could result in decreased revenue and could
require the Company to revise its budget and reduce expenditures. Exceeding the
established operating budget or failing to reduce expenditures in response to
any decrease in revenue could have a material adverse effect on the Company's
operating results.
Risk of Component Shortages. As has occurred in the past and as may be
expected to occur in the future, supply shortages of components used in our
products, including sole source components, can result in significant additional
costs and inefficiencies in manufacturing. If the Company is unsuccessful in
resolving any such component shortages, it will experience a significant impact
on the timing of revenue and/or an increase in manufacturing costs, either of
which would have a material adverse impact on the Company's operating results.
Fluctuations in Quarterly Results. The Company's quarterly operating
results have fluctuated in the past and may fluctuate significantly in the
future due to a number of factors, including: changes in the mix of products
sold; the availability and pricing of components from third parties (especially
sole sources); the timing of orders; level of pricing of international sales;
fluctuations in foreign currency exchange rates; the difficulty in maintaining
margins, including the higher margins traditionally achieved in international
sales; and changes in pricing policies by the Company, its competitors or
suppliers. Specifically, if the local currencies in which the Company sells
weaken against the U.S. dollar, and if the local sales prices cannot be raised,
the Company will experience a deterioration of its gross and net profit margins.
If the U.S. dollar strengthens in the future, it could have a material adverse
effect on gross and net profit margins.
As has occurred in the past and as may be expected to occur in the future,
new software products of the Company or new operating systems of third parties
on which the Company's products are based, often contain bugs or errors that can
result in reduced sales and/or cause the Company's support costs to increase,
either of which could have a material adverse impact on the Company's operating
results. Furthermore, the Company has significant revenues from customers in
industries such as semiconductors, automated test equipment, telecommunications,
aerospace, defense and automotive which are cyclical in nature. Downturns in
these industries could have a material adverse effect on the Company's operating
results.
In recent years, the Company's revenues have been characterized by
seasonality, with revenues typically being relatively constant in the first,
second and third quarters, growing in the fourth quarter and being relatively
flat or declining from the fourth quarter of the year to the first quarter of
the following year. The Company believes the seasonality of its revenue results
from the international mix of its revenue and the variability of the budgeting
and purchasing cycles of its customers throughout each international region. In
addition, total operating expenses have in the past tended to be higher in the
second and third quarters of each year, due to recruiting and increased intern
personnel expenses.
New Product Introductions and Market Acceptance. The market for the
Company's products is characterized by rapid technological change, evolving
industry standards, changes in customer needs and frequent new product
introductions, and is therefore highly dependent upon timely product innovation.
The Company's success is dependent on its ability to successfully develop and
introduce new and enhanced products on a timely basis to replace declining
revenues from older products, and on increasing penetration in domestic and
international markets. In the past, the Company has experienced significant
delays between the announcement and the commercial availability of new products.
Any significant delay in releasing new products could have a material adverse
effect on the ultimate success of a product and other related products and could
impede continued sales of predecessor products, any of which could have a
material adverse effect on the Company's operating results. There can be no
assurance that the Company will be able to introduce new products in accordance
with announced release dates, that new products will achieve market acceptance
or that any such acceptance will be sustained for any significant period.
Failure of new products to achieve or sustain market acceptance could have a
material adverse effect on the Company's operating results. Moreover, there can
be no assurance that the Company's international sales will continue at existing
levels or grow in accordance with the Company's efforts to increase foreign
market penetration.
Risks Associated with the Company's Web Site. The Company devotes resources
to maintain its Web site as a key marketing and sales tool and expects to
continue to do so in the future. There can be no assurance that the Company will
be successful in its attempt to leverage the Web to increase sales. The Company
hosts its Web site internally. Any failure to successfully maintain the Web site
could have a significant adverse impact on the Company's operating results.
Operation in Intensely Competitive Markets. The markets in which the
Company operates are characterized by intense competition from numerous
competitors, some of which are divisions of large corporations having far
greater resources than the Company, and the Company expects to face further
competition from new market entrants in the future. A key competitor is Agilent
Technologies Inc. ("Agilent"). Agilent offers its own line of instrument
controllers and also offers hardware and software add-on products for
third-party desktop computers and workstations that provide solutions that
directly compete with the Company's virtual instrumentation products. Agilent is
aggressively advertising and marketing products that are competitive with the
Company's products. Because of Agilent's strong position in the instrumentation
business, changes in its marketing strategy or product offerings could have a
material adverse effect on the Company's operating results.
The Company believes its ability to compete successfully depends on a
number of factors both within and outside its control, including: new product
introductions by competitors; product pricing; quality and performance; success
in developing new products; adequate manufacturing capacity and supply of
components and materials; efficiency of manufacturing operations; effectiveness
of sales and marketing resources and strategies; strategic relationships with
other suppliers; timing of new product introductions by the Company; protection
of the Company's products by effective use of intellectual property laws;
general market and economic conditions; and government actions throughout the
world. There can be no assurance that the Company will be able to compete
successfully in the future.
Management Information Systems. The Company relies on three primary
regional centers for its management information systems. As with any information
system, unforeseen issues may arise that could affect management's ability to
receive adequate, accurate and timely financial information, which in turn could
inhibit effective and timely decisions. Furthermore, it is possible that one or
more of the Company's three regional information systems could experience a
complete or partial shutdown. If such a shutdown occurred near the end of a
quarter it could impact the Company's product shipments and revenues, as product
distribution is heavily dependent on the integrated management information
systems in each region. Accordingly, operating results in that quarter would be
adversely impacted. The Company is working to maintain reliable regional
management information systems to control costs and improve its ability to
deliver its products in its markets worldwide. No assurances can be given that
the Company's efforts will be successful. The failure to receive adequate,
accurate and timely financial information could inhibit management's ability to
make effective and timely decisions.
During the quarter ending March 31, 2005, the Company will be upgrading its
European business applications suite to Oracle's latest web-based release, 11i.
There can be no assurance that the Company will not experience difficulties
implementing the new system. Difficulties or delays in the implementation may
interrupt normal Company operations, including the ability to provide quotes,
process orders, ship products, provide services and support to its customers,
bill and track its customers, fulfill contractual obligations and otherwise run
its business. Any disruptions occurring in the implementation of the system may
have a material adverse effect on the Company's operating results.
Risks Associated with International Operations and Foreign Economies.
International sales are subject to inherent risks, including fluctuations in
local economies, difficulties in staffing and managing foreign operations,
greater difficulty in accounts receivable collection, costs and risks of
localizing products for foreign countries, unexpected changes in regulatory
requirements, tariffs and other trade barriers, difficulties in the repatriation
of earnings and the burdens of complying with a wide variety of foreign laws.
The Company must also comply with various import and export regulations. Failure
to comply with these regulations could result in fines and/or termination of
import and export privileges, which could have a material adverse effect on the
Company's operating results. Additionally, the regulatory environment in some
countries is very restrictive as their governments try to protect their local
economy and value of their local currency against the U.S. dollar. Sales made by
the Company's international direct sales offices are denominated in local
currencies, and accordingly, the U.S. dollar equivalent of these sales is
affected by changes in the foreign currency exchange rates. Between the third
quarter of 2003 and the third quarter of 2004, net of hedging results, the
change in exchange rates had the effect of increasing the Company's consolidated
sales in the third quarter of 2004 by $2.2 million, or 4% compared to the third
quarter of 2003. Since most of the Company's international operating expenses
are also incurred in local currencies, the change in exchange rates had the
effect of increasing operating expenses by $800,000 for the quarter ended
September 30, 2004 compared to the comparable prior year period. If the U.S.
dollar weakens in the future, it could result in the Company's having to reduce
prices locally in order for its products to remain competitive in the local
marketplace. If the U.S. dollar strengthens in the future, and the Company is
unable to successfully raise its international selling prices it could have a
materially adverse effect on the Company's operating results.
Expansion of Manufacturing Capacity. During 2001, the Company completed
construction of a second manufacturing facility. This facility is located in
Hungary and became operational in the fourth quarter of 2001. This facility
sources a significant portion of the Company's sales. Currently the Company is
continuing to develop and implement information systems to support the operation
of this facility. This facility and its operation are also subject to risks
associated with a relatively new manufacturing facility and with doing business
internationally, including difficulty in managing manufacturing operations in a
foreign country, difficulty in achieving or maintaining product quality,
interruption to transportation flows for delivery of components to us and
finished goods to our customers, and changes in the country's political or
economic conditions. No assurance can be given that the Company's efforts will
be successful. Accordingly, a failure to deal with these factors could result in
interruption in the facility's operation or delays in expanding its capacity,
either of which could have a material adverse effect on the Company's operating
results.
Income Tax Rate. The Company established a manufacturing facility in
Hungary in 2001. As a result of certain foreign investment incentives available
under Hungarian law, the profit from the Company's Hungarian operation is
currently exempt from income tax. These benefits may not be available in the
future due to changes in Hungary's political condition and/or tax laws. The
reduction or elimination of these foreign investment incentives would result in
the reduction or elimination of certain tax benefits thereby increasing the
Company's future effective income tax rate, which could have a material adverse
effect on the Company's operating results.
The Company receives a substantial income tax benefit from the
extraterritorial income exemption ("ETI") under U.S. law. The ETI rules provide
that a percentage of the profits from products and intangibles exported from the
U.S. are exempt from U.S. tax. This benefit will not be available in the future
as ETI has been repealed by the American Jobs Creation Act of 2004 which is
expected to be signed into law by the President of the United States. ETI will
be phased out over the next two years and will cease to be available as of
December 31, 2006. The repeal of the ETI will increase the Company's future
effective income tax rate, which could have a material adverse effect on the
Company's operating results.
Products Dependent on Certain Industries. Sales of the Company's products
are dependent on customers in certain industries, particularly the
telecommunications, semiconductor, automotive, automated test equipment, defense
and aerospace industries. As experienced in the past, and as may be expected to
occur in the future, downturns characterized by diminished product demand in any
one or more of these industries could result in decreased sales, which could
have a material adverse effect on the Company's operating results.
Dependence on Key Suppliers. The Company's manufacturing processes use
large volumes of high-quality components and subassemblies supplied by outside
sources. Several of these components are available through sole or limited
sources. Sole-source components purchased by the Company include custom
application-specific integrated circuits ("ASICs") and other components. The
Company has in the past experienced delays and quality problems in connection
with sole-source components, and there can be no assurance that these problems
will not recur in the future. Accordingly, the failure to receive sole-source
components from suppliers could result in a material adverse effect on the
Company's revenues and operating results.
Stock-based Compensation Plans. The Company has two active stock-based
compensation plans and one inactive plan. The two active stock-based
compensation plans are the 1994 Incentive Plan and the Employee Stock Purchase
Plan. The Company currently adheres to the disclosure only provisions of SFAS
No. 123, as amended by SFAS No. 148, Accounting for Stock-Based Compensation -
Transition and Disclosure, and as such, no compensation cost has been recognized
in the Company's financial statements for the stock option plan and the stock
purchase plan. The Company is currently monitoring the recent proposal requiring
changes in the accounting treatment for stock options. The Company will comply
with any changes in the accounting of stock options required by the FASB and the
Securities and Exchange Commission.
Provisions in Our Charter Documents and Delaware Law and Our Stockholder
Rights Plan May Delay or Prevent an Acquisition of Us. Our certificate of
incorporation and bylaws and Delaware law contain provisions that could make it
more difficult for a third party to acquire us without the consent of our Board
of Directors. These provisions include a classified Board of Directors,
prohibition of stockholder action by written consent, prohibition of
stockholders to call special meetings and the requirement that the holders of at
least 80% of our shares approve any business combination not otherwise approved
by two-thirds of the Board of Directors. Delaware law also imposes some
restrictions on mergers and other business combinations between us and any
holder of 15% or more of our outstanding common stock. In addition, our Board of
Directors has the right to issue preferred stock without stockholder approval,
which could be used to dilute the stock ownership of a potential hostile
acquirer. Our Board of Directors adopted a new stockholders rights plan on
January 21, 2004, pursuant to which we declared a dividend of one right for each
share of our common stock outstanding as of May 10, 2004. This rights plan
replaced a similar rights plan that had been in effect since our initial public
offering in 1995. Unless redeemed by us prior to the time the rights are
exercised, upon the occurrence of certain events, the rights will entitle the
holders to receive upon exercise thereof shares of our preferred stock, or
shares of an acquiring entity, having a value equal to twice the then-current
exercise price of the right. The issuance of the rights could have the effect of
delaying or preventing a change of control of us.
Proprietary Rights and Intellectual Property Litigation. The Company's
success depends on its ability to obtain and maintain patents and other
proprietary rights relative to the technologies used in its principal products.
Despite the Company's efforts to protect its proprietary rights, unauthorized
parties may have in the past infringed or violated certain of the Company's
intellectual property rights. The Company from time to time engages in
litigation to protect its intellectual property rights. In monitoring and
policing its intellectual property rights, the Company has been and may be
required to spend significant resources. The Company from time to time may be
notified that it is infringing certain patent or intellectual property rights of
others. There can be no assurance that the SoftWIRE case and/or other existing
litigation, or any other intellectual property litigation initiated in the
future, will not cause significant litigation expense, liability, injunction
against some of the Company's products, and a diversion of management's
attention, any of which may have a material adverse effect on the Company's
operating results.
Section 404 of the Sarbanes-Oxley Act of 2002. While we believe we
currently have adequate internal control over financial reporting, we are
required to evaluate our internal control under Section 404 of the
Sarbanes-Oxley Act of 2002 and any adverse results from such evaluation could
result in a loss of investor confidence in our financial reports and have an
adverse effect on our stock price.
Pursuant to Section 404 of the Sarbanes-Oxley Act of 2002, beginning with
the Company's Annual Report on Form 10-K for the fiscal year ending December 31,
2004, we will be required to furnish a report by our management on the Company's
internal control over financial reporting. Such report will contain, among other
matters, an assessment of the effectiveness of our internal control over
financial reporting as of the end of the Company's fiscal year, including a
statement as to whether or not the Company's internal control over financial
reporting is effective. This assessment must include disclosure of any material
weaknesses in the Company's internal control over financial reporting identified
by management. Such report must also contain a statement that the Company's
auditors have issued an attestation report on management's assessment of such
internal controls. Auditing Standard No. 2 provides the professional standards
and related performance guidance for auditors to attest to, and report on,
management's assessment of the effectiveness of internal control over financial
reporting under Section 404.
While we currently believe our internal control over financial reporting is
effective, we are still performing the system and process documentation and
evaluation needed to comply with Section 404, which is both very costly and very
challenging. During this process, if our management identifies one or more
material weaknesses in our internal control over financial reporting, as
prescribed by Section 404, we will be unable to assert such internal control is
effective. If we are unable to assert that our internal control over financial
reporting is effective as of December 31, 2004 (or if our auditors are unable to
attest that our management's report is fairly stated or they are unable to
express an opinion on the effectiveness of our internal controls), we could lose
investor confidence in the accuracy and completeness of our financial reports,
which would have an adverse effect on our stock price.
While we currently are on schedule for completion of and anticipate being
able to satisfy the requirements of Section 404 in a timely fashion, we cannot
be certain as to the timing of completion of our evaluation, testing and any
required remediation due in large part to the fact that there is no precedent
available by which to measure compliance with the new Auditing Standard No. 2.
In this regard, we recently received a letter from our auditors informing us
that it is of critical importance that we continue diligently to complete our
Section 404 work and to provide our results and assessments to our auditors on a
timely basis so that our auditors can have available the staff necessary to
complete their work and issue their attestation report by the required date. If
we are not able to comply with the requirements of Section 404 in a timely
manner or if our auditors are not able to complete the procedures required by
Audit Standard No. 2 to support their attestation report, we would likely lose
investor confidence in the accuracy and completeness of our financial reports,
which would have an adverse effect on our stock price.
Dependence on Key Management and Technical Personnel. The Company's success
depends to a significant degree upon the continued contributions of its key
management, sales, marketing, research and development and operational
personnel, including Dr. Truchard, the Company's Chairman and Chief Executive
Officer, and other members of senior management and key technical personnel. The
Company has no agreements providing for the employment of any of its key
employees for any fixed term and the Company's key employees may voluntarily
terminate their employment with the Company at any time. The loss of the
services of one or more of the Company's key employees in the future could have
a material adverse affect on the Company's operating results. The Company also
believes its future success will depend upon its ability to attract and retain
additional highly skilled management, technical, marketing, research and
development, and operational personnel with experience in managing large and
rapidly changing companies, as well as training, motivating and supervising
employees. In addition, the recruiting environment for software engineering,
sales and other technical professionals is very competitive. Competition for
qualified software engineers is particularly intense and is likely to result in
increased personnel costs. Failure to attract or retain qualified software
engineers could have an adverse effect on the Company's operating results. The
Company also recruits and employs foreign nationals to achieve its hiring goals
primarily for engineering and software positions. There can be no guarantee that
the Company will continue to be able to recruit foreign nationals at the current
rate. These factors further intensify competition for key personnel, and there
can be no assurance that the Company will be successful in retaining its
existing key personnel or attracting and retaining additional key personnel.
Failure to attract and retain a sufficient number of the Company's key personnel
could have a material adverse effect on the Company's operating results.
Risk of Product Liability Claims. The Company's products are designed to
provide information upon which the users may rely. The Company attempts to
assure the quality and accuracy of the processes contained in its products, and
to limit its product liability exposure through contractual limitations on
liability, including disclaimers in its "shrink wrap" license agreements with
end-users. If future products contain errors that produce incorrect results on
which users rely, customer acceptance of the Company's products could be
adversely affected. Further, the Company could be subject to liability claims
that could have a material adverse effect on the Company's operating results or
financial position. Although the Company maintains liability insurance, there
can be no assurance that such insurance or the contractual provisions used by
the Company to limit its liability will be sufficient.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Response to this item is included in "Item 2 - Management's Discussion and
Analysis of Financial Conditions and Results of Operations - Market Risk" above.
Item 4. Controls and Procedures
The Company's Chief Executive Officer and Chief Financial Officer, based on
the evaluation of the Company's disclosure controls and procedures (as defined
in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as
amended) required by paragraph (b) of Rule 13a-15 or Rule 15d-15, as of
September 30, 2004, have concluded that the Company's disclosure controls and
procedures were effective to ensure the timely collection, evaluation and
disclosure of information relating to the Company that would potentially be
subject to disclosure under the Securities Exchange Act of 1934, as amended, and
the rules and regulations promulgated thereunder. We continue to enhance our
internal control over financial reporting by adding resources in key functional
areas with the goal of bringing our operations up to the level of documentation,
segregation of duties, and systems security necessary, as well as transactional
control procedures required under the new Auditing Standard No. 2 issued by the
Public Company Accounting Oversight Board. We discuss and disclose these matters
to the audit committee of our board of directors and to our auditors. During the
quarter ended September 30, 2004, there were no significant changes in the
Company's internal control over financial reporting identified in connection
with the evaluation required by paragraph (d) of the Rule 13a-15 or Rule 15d-15
that has materially affected, or is reasonably likely to materially affect, the
internal controls over financial reporting.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company has filed two complaints against The MathWorks, Inc. ("MathWorks")
for patent infringement. In both complaints, the Company claimed the MathWorks
infringes certain of its U.S. patents and the MathWorks challenged the validity
and enforceability of those patents and asserts that it does not infringe the
claims of those patents.
The first complaint was filed on January 25, 2001 in the U.S. District Court,
Eastern District of Texas (Marshall Division). On January 30, 2003, the jury
found infringement by the MathWorks of three of the patents involved and awarded
the Company specified damages. On June 23, 2003, the District Court entered
final judgment in favor of the Company in an amount of approximately $4 million
and entered an injunction against MathWorks' sale of its Simulink and related
products. The District Court stayed the injunction pending appeal of the case
and required the MathWorks to pay a specified royalty on its U.S. sales of the
same products during the pendency of appeal. The initial judgment and the
royalties on the sales of infringing products through June 30, 2004 total $6.9
million and are escrowed. On July 22, 2003, MathWorks filed its Notice of
Appeal. On September 3, 2004, the U.S. Court of Appeal for the Federal Circuit
affirmed the District Court's final judgment and injunction in all respects.
Subsequently on October 14, 2004, the District Court lifted its stay of the
injunction so as to place into effect the injunction against MathWorks' U.S.
sales of its Simulink and related products. The final judgment has not been
recorded in the financial statements of the Company pending release of the funds
from escrow.
On September 22, 2004, MathWorks filed a complaint against the Company in the
U.S. District Court, Eastern District of Texas (Marshall Division), claiming
that on that day it had released modified versions of its Simulink and related
product and seeking a declaratory judgment that the modified products do not
infringe the three patents adjudged infringed in the District Court's decision
on June 23, 2003, and affirmed by the Court of Appeals on September 3, 2004.
MathWorks has not served the complaint, nor has the Company answered the
complaint. The Company has publicly stated its position that MathWorks' modified
products do not avoid the injunction. The Company has also publicly announced
its intent to file a motion asking the District Court to hold MathWorks in
contempt for violating the injunction. It is also the Company's position that
this dispute over MathWorks' modified products should be resolved in the context
of the Company's planned motion for contempt, rather than in a new lawsuit as
sought by MathWorks by way of its complaint filed on September 22, 2004.
The second complaint was filed October 21, 2002, also in the U.S. District
Court, Eastern District of Texas (Marshall Division) and on August 27, 2003, the
complaint was dismissed by agreement of the parties.
On January 15, 2003, SoftWIRE Technology, LLC ("SoftWIRE") and Measurement
Computing Corporation ("MCC") filed a complaint against the Company in the U.S.
District Court for the District of Massachusetts asking the court to declare
that SoftWIRE does not infringe certain of the Company's U.S. patents and that
such patents are invalid and unenforceable. On February 21, 2003, the Company
filed a complaint against SoftWIRE and MCC in the U.S. District Court, Eastern
District of Texas (Marshall Division) claiming that both SoftWIRE and MCC
infringe the same and certain other of the Company's U.S. patents. SoftWIRE and
MCC challenge the validity and enforceability of these patents and assert that
they do not infringe any of these patents. In the Eastern District action, the
Company seeks monetary damages and injunction of the sale of certain products of
SoftWIRE and MCC as well as attorney's fees and costs. By order of the Court,
the Eastern District action was transferred to the U.S. District Court for the
District of Massachusetts on May 9, 2003, and has been consolidated with the
previously-filed SoftWIRE action, which also includes counterclaims by the
Company that are the same in substance as the Company's claims in the Eastern
District action. On June 12, 2003, SoftWIRE moved for leave to amend its
complaint in order to allege that the Company infringes two U.S. patents that
SoftWIRE acquired by purchase on May 23, 2003. On November 5, 2003, the Court
granted SoftWIRE's motion to amend, thereby adding SoftWIRE's two patents to the
litigation. With respect to those two SoftWIRE patents, SoftWIRE seeks monetary
damages and injunction of the sale of the Company's LabVIEW software products,
as well as attorney's fees and costs. The Company challenges the validity,
enforceability and alleged infringement of those patents and intends to
vigorously defend against SoftWIRE's claims. Discovery in the litigation remains
underway and is expected to continue through 2005. No trial date has been set.
During the fourth quarter of 2003, the Company accrued $3.8 million related to
its probable loss from this contingency, which consists solely of anticipated
patent defense costs that are probable of being incurred. On October 6, 2004 the
court extended the discovery period through 2005. Because of the extended
discovery period, the Company estimates that additional legal costs will be
incurred. Accordingly, during the third quarter of 2004 the Company increased
its accrual for these additional patent defense costs that are probable of being
incurred by $2.5 million. However, the outcome of any litigation is inherently
uncertain and there can be no assurance as to the ultimate outcome of this
matter or any other litigation. The Company charged approximately $1.1 million
against this accrual during the third quarter of 2004. The Company has charged a
total of $2.4 million against this accrual through September 30, 2004.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Maximum number
Total number of of shares that
shares purchased may yet be
Total Average as part of a purchased under
number of price paid publicly announced the plan or
Period shares per share plan or program program
- ------------------ ---------- ---------- ------------------ ----------------
July 1, 2004 to
July 31, 2004.... -- -- -- 2,765,750
August 1, 2004 to
August 31, 2004 251,000 $26.85 251,000 2,514,750
September 1, 2004..
to September 30,
2004............. -- -- -- 2,514,750
--------- -----------------
Total.............. 251,000 $26.85 251,000
========= =================
The Company's share repurchase plan was announced on October 17, 2002. Under the
plan, the Company has authorization to repurchase up to 3,000,000 shares of
National Instruments stock. The plan has no expiration date.
ITEM 5. OTHER INFORMATION
From time to time the Company's directors, executive officers and other insiders
may adopt stock trading plans pursuant to Rule 10b5-1(c) promulgated by the
Securities and Exchange Commission under the Securities Exchange Act of 1934, as
amended. Jeffrey L. Kodosky and James J. Truchard have made periodic sales of
the Company's stock pursuant to such plans.
ITEM 6. EXHIBITS
(a) Exhibits.
3.1(2) Certificate of Incorporation, as amended, of the Company.
3.2(2) Amended and Restated Bylaws of the Company.
3.3(4) Certificate of Designation of Rights, Preferences and Privileges of
Series A Participating Preferred Stock of the Company.
4.1(1) Specimen of Common Stock certificate of the Company.
4.2(3) Rights Agreement dated as of January 21, 2004, between the Company
and EquiServe Trust Company, N.A.
10.1(1) Form of Indemnification Agreement.
10.2(5) 1994 Incentive Plan, as amended.*
10.3(1) 1994 Employee Stock Purchase Plan.*
31.1 Certification of Chief Executive Officer Pursuant to 18 U.S.C.
Section 1350, as Adopted Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.2 Certification of Chief Financial Officer Pursuant to 18 U.S.C.
Section 1350, as Adopted Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
32.1 Certification of Chief Executive Officer and Chief Financial
Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
(1) Incorporated by reference to the Company's Registration Statement
on Form S-1 (Reg. No. 33-88386) declared effective March 13, 1995.
(2) Incorporated by reference to the same-numbered exhibit filed with
the Company's Annual Report on Form 10-K for the fiscal year
ended December 31, 2003.
(3) Incorporated by reference to exhibit 4.1 filed with the
Company's Current Report on Form 8-K filed on January 28, 2004.
(4) Incorporated by reference to the same-numbered exhibit filed with
the Company's Form 8-A on April 27, 2004.
(5) Incorporated by reference to the same-numbered exhibit filed with
the Company's Form 10-Q on August 5, 2004.
* Management Contract or Compensatory Plan or Arrangement.
(b) Reports on Form 8-K.
In connection with the Company's earning press release for the quarter
ended June 30, 2004, the Company furnished a Current Report on Form 8-K on
July 27, 2004.
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 INSTRUMENTS CORPORATION
Registrant
BY: /s/ Alex Davern
Alex Davern
Chief Financial Officer and Treasurer
(principal financial and accounting officer)
Dated: October 29, 2004