1
Exhibit 13.1
MANAGEMENT ANALYSIS
COMPANY OVERVIEW
Analog Devices, Inc. (Analog, ADI or the Company) is a semiconductor company
that designs, manufactures and markets precision high-performance integrated
circuits (ICs) used in analog and digital signal processing (DSP). Virtually all
of ADI's products are components, which are typically incorporated by original
equipment manufacturers (OEMs) in a wide range of equipment and systems for use
in communications, computer, industrial, instrumentation, military/aerospace,
automotive and high-performance consumer electronics applications.
The Company's principal products include general-purpose, standard-function
analog and mixed-signal ICs and DSP ICs. DSP ICs include general-purpose digital
signal processing ICs and application-specific devices that typically
incorporate analog and mixed-signal circuitry and a DSP core.
The Company sells its products worldwide through a direct sales force,
third-party industrial distributors and independent sales representatives.
Approximately 50% of fiscal 1998 revenue was derived from customers in North
America, while most of the balance was derived from customers in Western Europe
and the Far East.
RESULTS OF OPERATIONS
Sales were $1,231 million in fiscal 1998, $1,243 million in fiscal 1997 and
$1,194 million in fiscal 1996. Demand in fiscal 1998 started off strong and
declined in the second half of the year, due to a cyclical downturn in the
semiconductor industry. As a result, sales in 1998 declined 1% from the prior
year. However, excluding sales from the disk drive IC business, which was
disposed of early in 1998, sales increased by 3% year on year.
Sales of analog IC products increased 5% during fiscal 1998 and 8% during fiscal
1997. The majority of the analog IC product revenue increase in both of these
years was attributable to the increasing use of analog ICs in the growing
communications, computer and computer peripherals markets, offset by a decline
in revenue in industrial markets. Analog IC revenue represented between 70% and
75% of the Company's total revenue during fiscal 1998, 1997 and 1996.
DSP IC product sales declined 7% during fiscal 1998, primarily due to a decline
in sales of Global System for Mobile Communications (GSM) cellular phone
chipsets. Excluding the impact of the reduction of GSM revenue, DSP IC revenue
increased 32% in fiscal 1998. In fiscal 1997, DSP IC revenue declined 13%
primarily as a result of a decline in sales of computer audio products, GSM
chipsets and products used in automatic test equipment. DSP IC revenue was
between 18% and 23% of the Company's total revenue during fiscal 1998, 1997 and
1996.
Sales of micromachined products represented less than 5% of the Company's
revenue in fiscal 1998, 1997 and 1996.
Sales of assembled products declined from 5% in fiscal 1996 to less than 5% of
the Company's total revenue during fiscal 1998 and fiscal 1997. Assembled
products include multi-chip modules, hybrids and printed circuit board modules.
In fiscal 1998, sales to North American customers increased significantly over
fiscal 1997, principally as a result of increased sales of analog IC products.
Sales in Europe declined from the prior year as GSM sales declined. Sales in
Japan remained essentially flat in comparison to the prior year. Sales declined
in other Southeast Asian countries, primarily due to the decline in sales of
disk drive IC products (as a result of the sale of that business in early 1998),
offset by increases in the sales of analog IC products.
Sales in North America increased from fiscal 1996 to fiscal 1997 as a result of
an increase in sales of analog IC products. Sales in Europe and Japan remained
essentially flat from fiscal 1996 to fiscal 1997. Sales declines in Southeast
Asia (SEA) from fiscal 1996 to fiscal 1997 were the result of a decline in
computer audio sales partially offset by an increase in sales of analog IC
products in the region.
1
2
Gross margin declined to 47.8% of sales in fiscal 1998, from 49.9% in fiscal
1997. This decline was principally due to a reduction in demand in 1998, which
caused the Company to reduce production rates, particularly in the second half
of the year. The gross margin ratio in fiscal 1997 remained essentially flat in
comparison to fiscal 1996. It is anticipated that gross margin will be adversely
impacted by lower production rates until sales growth resumes.
Research and development (R&D) expenses increased approximately 12% in fiscal
1998 to $219 million, or 17.8% of sales. This increase was due to the continued
development of innovative products and processes and higher spending in the
development of new products and technologies targeted for the communications,
computer and automotive markets, including initiatives in general-purpose
digital signal processing, ICs for modem and wireless communications
applications, RF signal processing, broadband wired communications,
micromachining technology and accelerometer products. The Company believes that
a continued commitment to research and development is essential in order to
maintain product leadership in its existing products and to provide innovative
new product offerings, and therefore expects to continue to make significant
investments in research and development in the future. However, because of the
decline in demand in the second half of fiscal 1998, the Company decided to
curtail further increases in R&D spending. In fiscal 1997, R&D expenses
increased 10% to $196 million or 15.8% of sales, up from 14.9% in fiscal 1996.
Selling, marketing, general and administrative (SMG&A) expenses were $207
million in fiscal 1998, an increase of $15 million from the $192 million
recorded in the prior year. This increase was primarily attributable to a $6
million charge related to the realignment of the Company's sales and
distribution organizations, and an $8 million charge related to collection
difficulties the Company experienced with customers whose business and financing
had been adversely affected by the Southeast Asian economic situation. As a
result, SMG&A expense as a percentage of sales increased from 15.4% in fiscal
1997 to 16.9% in fiscal 1998. In fiscal 1997, SMG&A expenses decreased by $4
million from the $196 million incurred in fiscal 1996 and represented 15.4 % of
sales, down from 16.4% in fiscal 1996.
During fiscal 1998, the Company completed the sale of its disk drive IC business
to Adaptec, Inc. The Company received approximately $27 million in cash for the
disk drive product line and, after providing for the write-off of inventory,
fixed assets and other costs incurred to complete the transaction, recorded a
net gain of approximately $13 million. The Company also entered into other
arrangements with Adaptec that provide for payments to the Company aggregating
$13 million, of which $10 million was earned in fiscal 1998, for assisting
Adaptec in research and development efforts.
The Company recorded a restructuring charge of $17 million during the third
quarter of fiscal 1998. Of this charge, $7 million related to a worldwide
workforce reduction of approximately 350 employees, which was completed during
the fourth quarter of fiscal 1998, in the manufacturing, selling and general and
administrative areas. This action is expected to result in annual savings of
approximately $10 million. In addition, the Company performed a review of its
business strategy and concluded that the key to success in the DSP market is to
focus on opportunities in the general-purpose DSP market that can provide
consistent growth, while at the same time being more selective in pursuing
vertical market DSP opportunities. As a result of this review, the Company
scaled back its efforts in some of the higher volume, lower margin, shorter life
cycle product areas and wrote off $10 million, which was the carrying value of
specific assets associated with these businesses.
Including the impact of both the restructuring charge and the net gain on the
sale of the disk drive IC business, the Company's operating income was 12.8% of
sales for fiscal 1998, compared to 18.8% for fiscal 1997. The Company's
operating income was 19.0% of sales for fiscal 1996.
The Company's equity interest in the WaferTech facility resulted in a loss of
$9.8 million in fiscal 1998, compared to income of $0.2 million in fiscal 1997.
This change was a result of increased costs incurred by WaferTech as they ramped
up their facility during fiscal 1998.
Due to a shift in the mix of worldwide income and the utilization of $5.6
million capital loss carryforwards for tax purposes, the effective income tax
rate decreased to 20.6% in fiscal 1998, from 24.4% in fiscal 1997. Accordingly,
the Company's valuation allowance was reduced from $5.6 million at November 1,
1997 to $0 at October 31, 1998.
2
3
In the fourth quarter of fiscal 1998, the Company changed its accounting method
for recognizing revenue on all shipments to international distributors and
certain shipments to domestic distributors. The change was made with an
effective date of November 2, 1997 (the beginning of fiscal 1998). While the
Company has historically deferred revenue on most shipments made to domestic
distributors until the products were resold by the distributors to end users, it
recognized revenue on shipments to international distributors and certain
shipments to domestic distributors upon shipment to the distributors, net of
appropriate reserves for returns and allowances. As a result of this accounting
change, revenue recognition on shipments to distributors worldwide will be
deferred until the products are resold to the end users. The Company believes
that deferral of revenue on shipments to distributors and related gross margin
until the product is shipped by the distributors is a more meaningful
measurement of results of operations because it better conforms to the substance
of the transaction considering the changing business environment in the
international marketplace; is consistent with industry practice; and will,
accordingly, better focus the entire organization on sales to end users and,
therefore, is a preferable method of accounting. The cumulative effect in prior
years of the change in accounting principle was a charge of approximately $37
million (net of $20 million of income taxes) or $0.21 per diluted share.
Net income before the cumulative effect of the change in accounting principle
decreased 33% to $119 million and diluted earnings per share was $0.71 for
fiscal 1998. Net income after the cumulative effect of the change in accounting
principle decreased 54% to $82 million and diluted earnings per share was $0.50
for fiscal 1998. Net income was $178 million in fiscal 1997 and $172 million in
fiscal 1996 and diluted earnings per share was $1.04 in fiscal 1997 and $1.03 in
fiscal 1996.
Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive
Income" will be adopted in the first quarter of fiscal 1999 and the Company will
provide the additional disclosure as required. Statement of Financial Accounting
Standards No. 131, "Disclosures about Segments of an Enterprise and Related
Information" also requires adoption in fiscal 1999 and the Company is in the
process of determining the effects of this disclosure on its consolidated
financial statements. In February 1998, the Financial Accounting Standards Board
issued Statement of Financial Accounting Standards No. 132, "Pension and Other
Postretirement Benefit Plans", which requires adoption in fiscal 1999 and the
Company will provide additional disclosure as required. In June 1998, the
Financial Accounting Standards Board issued Statement of Financial Accounting
Standards No. 133, (FAS 133), "Accounting for Derivative Instruments and Hedging
Activities", which requires adoption in periods beginning after June 15, 1999
and earlier adoption is permitted. The Company has not determined the timing of
the adoption of FAS 133 or the impact of such adoption on its financial
statements. In March 1998, Statement of Position, (SOP), 98-1 "Accounting for
the Cost of Computer Software Developed for or Obtained for Internal Use" was
issued. The Company is required to adopt SOP 98-1 in fiscal 2000. The Company
has not determined the timing of the adoption of SOP 98-1 or the impact of such
adoption on its financial statements.
The impact of inflation on the Company's business during the past three years
has not been significant.
LIQUIDITY AND CAPITAL RESOURCES
At October 31, 1998, the Company had $305 million of cash, cash equivalents and
short-term investments compared to $341 million at November 1, 1997. The
Company's operating activities generated net cash of $225 million, or 18% of
sales, and $286 million, or 23% of sales, in fiscal 1998 and fiscal 1997,
respectively. Investing activities used $187 million in fiscal 1998 and $226
million in fiscal 1997 while financing activities used $62 million in fiscal
1998 and generated $15 million in fiscal 1997. The Company's primary source of
funds in fiscal 1998 and fiscal 1997 was net cash generated by operations.
Accounts receivable of $207 million at the end of fiscal 1998 decreased $49
million or 19% from $256 million at the end of fiscal 1997. This decrease
resulted principally from a $35 million decrease in sales from the fourth
quarter of fiscal 1997 to the fourth quarter of fiscal 1998 and a reduction in
the number of days sales outstanding from 70 at the end of fiscal 1997 to 63 at
the end of fiscal 1998. As a percentage of annualized fourth quarter sales,
accounts receivable was 17.4% at the end of fiscal 1998, down from 19.2% at the
end of fiscal 1997.
3
4
Inventories rose $49 million or 22% over the prior year to $275 million at the
end of fiscal 1998. Inventories as a percentage of annualized fourth quarter
sales increased to 23% for the year ended October 31, 1998 from 17% for the year
ended November 1, 1997. Most of the increase occurred in the first half of
fiscal 1998 in anticipation of increased demand. When demand declined in the
second half of fiscal 1998, production rates were curtailed and the inventory
levels were held relatively flat.
Accounts payable and accrued liabilities at the end of fiscal 1998 decreased $34
million or 20% compared to the balance at the end of fiscal 1997, due
principally to decreased expense activity related to lower revenue and tighter
cost constraints as well as decreased capital expenditures in the fourth quarter
of fiscal 1998 when compared to the year earlier period.
The Company continued to improve its manufacturing facilities during fiscal 1998
and incurred capital expenditures of $167 million during the year, down from the
$179 million incurred in fiscal 1997. The Company currently plans to make
capital expenditures of approximately $100 million in fiscal 1999, primarily in
connection with the continued improvement of its manufacturing facilities.
Depreciation expense is expected to increase to approximately $140 million in
fiscal 1999.
During fiscal 1998, the Company made the final payment of $56 million in
accordance with a previous joint venture agreement with Taiwan Semiconductor
Manufacturing Co., Ltd., (TSMC), and other investors for the construction and
operation of a semiconductor fabrication facility in Camas, Washington. For a
total investment of $140 million, the Company acquired an 18% equity ownership
in the joint venture, known as WaferTech. The first installment of $42 million
was paid in fiscal 1996, and the second installment of $42 million was paid in
fiscal 1997. Subsequent to the year ended October 31, 1998, the Company
concluded an agreement to sell 14% of its 18% equity ownership in WaferTech, for
cash equal to the carrying value of the 14% equity ownership at October 31,
1998, to other WaferTech partners. This sale is expected to be completed by the
end of the first quarter of fiscal 1999.
In fiscal 1998, financing activities used cash of $62 million and this included
$84 million used to buy back 4.4 million shares of the Company's common stock at
an average price of $19.13 per share. In May and October 1998, the Board of
Directors authorized the Company to repurchase up to 4 million and 8 million
shares, respectively, of common stock over the succeeding 12 months. The
issuance of common stock under stock purchase and stock option plans generated
cash of $28 million, and $12 million of cash was used for the repayment of
capital lease obligations.
At October 31, 1998, the Company's principal sources of liquidity included $305
million of cash, cash equivalents and short-term investments. Short-term
investments at the end of fiscal 1998 consisted of commercial paper,
certificates of deposit and Euro time deposits with maturities greater than
three months and less than six months at the time of acquisition. The Company
also has various lines of credit both in the U.S. and overseas, including a $60
million credit facility in the U.S. which expires in 2000, all of which were
substantially unused at the end of fiscal 1998. At the end of fiscal 1998, the
Company's debt-to-equity ratio was 31%.
The Company believes that its existing sources of liquidity and cash expected to
be generated from future operations, together with current and anticipated
available long-term financing, will be sufficient to fund operations, capital
expenditures and research and development efforts for the foreseeable future.
QUALITATIVE AND QUANTITATIVE DISCLOSURE ABOUT MARKET RISK
The Company has fixed rate debt obligations and related interest rate swap and
cap agreements. An increase in interest rates would not significantly increase
interest expense due to the fixed nature of the Company's debt obligations.
Because of the size and structure of these obligations, a 100 basis point
increase in interest rates would not result in a material change in the
Company's interest expense or the fair value of the debt obligations and related
interest rate swap and cap agreements. The fair value of the Company's
investment portfolio or related interest income would not be significantly
impacted by either a 100 basis point increase or decrease in interest rates due
mainly to the short-term nature of the major portion of the Company's investment
portfolio and the relative insignificance of interest income to consolidated
pre-tax income, respectively.
As more fully described in Note 2 (g) in the Notes to the Company's Consolidated
Financial Statements, the Company regularly hedges its non-U.S. dollar-based
exposures by entering into forward foreign exchange contracts, foreign currency
option contracts and currency swap agreements. The terms of these contracts
typically are for periods matching the duration of the underlying exposure and
generally range from three months up to one year. The short-term nature of
4
5
these contracts has resulted in these instruments having insignificant fair
values at October 31, 1998 and November 1, 1997. The Company's largest foreign
currency exposure is against the Japanese yen, primarily because Japan has a
higher proportion of local currency denominated sales. Relative to foreign
currency exposures existing at October 31, 1998 and November 1, 1997, a 10%
unfavorable movement in foreign exchange rates would not expose the Company to
significant losses in earnings or cash flows or significantly diminish the fair
value of its foreign currency financial instruments, primarily due to the short
lives of the affected financial instruments that effectively hedge substantially
all of the Company's year-end exposures to fluctuations in foreign currency
exchange rates. The calculation assumes that each exchange rate would change in
the same direction relative to the U.S. dollar. In addition to the direct
effects of changes in exchange rates, such changes typically affect the volume
of sales or the foreign currency sales price as competitors' products become
more or less attractive. The Company's sensitivity analysis of the effects of
changes in foreign currency exchange rates does not factor in a potential change
in sales levels or local currency selling prices.
LITIGATION
For information concerning certain pending litigation involving the Company, see
Note 11 of the Notes to the Company's Consolidated Financial Statements.
FORWARD-LOOKING STATEMENTS
The "Management Analysis" and other sections of this report contain
forward-looking statements that are based on current expectations, estimates,
forecasts and projections about the industry and markets in which the Company
operates, management's beliefs and assumptions made by management. In addition,
other written or oral statements which constitute forward-looking statements may
be made by or on behalf of the Company. Words such as "expects", "anticipates",
"intends", "plans", "believes", "seeks", "estimates", variations of such words
and similar expressions are intended to identify such forward-looking
statements. These statements are not guarantees of future performance and
involve certain risks, uncertainties and assumptions which are difficult to
predict. (See "Factors Which May Affect Future Results" below.) Therefore,
actual outcomes and results may differ materially from what is expressed or
forecasted in such forward-looking statements. The Company undertakes no
obligation to update publicly any forward-looking statements, whether as a
result of new information, future events or otherwise.
FACTORS WHICH MAY AFFECT FUTURE RESULTS
The Company's future operating results are difficult to predict and may be
affected by a number of factors including the timing of new product
announcements or introductions by the Company and its competitors, competitive
pricing pressures, fluctuations in manufacturing yields, adequate availability
of wafers and manufacturing capacity, changes in product mix and economic
conditions in the United States and international markets, such as the recent
economic downturn in Southeast Asia and the outcome and impact of the Year 2000.
In addition, the semiconductor market has historically been cyclical and subject
to significant economic downturns at various times. The Company is exposed to
the risk of obsolescence of its inventory depending on the mix of future
business. As a result of these and other factors, there can be no assurance that
the Company will not experience material fluctuations in future operating
results on a quarterly or annual basis.
The Company's success depends in part on its continued ability to develop and
market new products. There can be no assurance that the Company will be able to
develop and introduce new products in a timely manner or that such products, if
developed, will achieve market acceptance. In addition, the Company's growth is
dependent on its continued ability to penetrate new markets such as the
communications, computer and automotive segments of the electronics market,
where the Company has limited experience and competition is intense. There can
be no assurance that the markets being served by the Company will grow in the
future; that the Company's existing and new products will meet the requirements
of such markets; that the Company's products will achieve customer acceptance in
such markets; that competitors will not force prices to an unacceptably low
level or take market share from the Company; or that the Company can achieve or
maintain profits in these markets. Also, some of the customers in these markets
are less well established which could subject the Company to increased credit
risk.
The semiconductor industry is intensely competitive. Certain of the Company's
competitors have greater technical, marketing, manufacturing and financial
resources than the Company. The Company's competitors also include emerging
companies attempting to sell products to specialized markets such as those
served by the Company. Competitors of the Company have, in some cases, developed
and marketed products having similar design and functionality as the
5
6
Company's products. There can be no assurance that the Company will be able to
compete successfully in the future against existing or new competitors or that
the Company's operating results will not be adversely affected by increased
price competition.
The Company has increased substantially its manufacturing capacity through both
expansion of its production facilities and increased access to third-party
foundries. However, the Company can give no assurance that it will not encounter
unanticipated production problems at either its own facilities or at third-party
foundries, or that the increased capacity will be sufficient to satisfy demand
for its products. The Company relies, and plans to continue to rely, on assembly
and test subcontractors and on third-party wafer fabricators to supply most of
its wafers that can be manufactured using industry-standard digital processes,
and such reliance involves several risks, including reduced control over
delivery schedules, manufacturing yields and costs. In addition, the Company's
capacity additions resulted in a significant increase in operating expenses, and
if revenue levels do not increase to offset these additional expense levels, the
Company's future operating results could be adversely affected. In addition,
asset values could be impaired if the additional capacity is underutilized for
an extended period of time. Also, non-compliance with "take or pay" covenants in
certain of its supply agreements, could adversely impact operating results. The
Company's business is subject to rapid technological changes and there can be no
assurance that products stocked in inventory will not be rendered obsolete
before they are shipped by the Company. The Company also believes that other
semiconductor manufacturers have expanded their production capacity over the
past several years, and there can be no assurance that the expansion by the
Company and its competitors will not lead to overcapacity in the Company's
target markets, which could lead to price erosion that would adversely affect
the Company's operating results.
In fiscal 1998, 50% of the Company's revenues were derived from customers in
international markets. The Company has manufacturing facilities outside the U.S.
in Ireland, the Philippines and Taiwan. The Company also has supply agreements
that include "take or pay" covenants with suppliers located in SEA and as part
of these arrangements, the Company has $26 million on deposit with two of these
suppliers. The Company also has a $21 million investment in one of these
suppliers. In addition, the Company's major partner in its joint venture,
WaferTech, is TSMC which is located in the SEA region. As well as being exposed
to the ongoing economic cycles in this industry, the Company is also subject to
the economic and political risks inherent in international operations, including
the risks associated with the ongoing uncertainties in the economies in SEA.
These risks include air transportation disruptions, expropriation, currency
controls and changes in currency exchange rates, tax and tariff rates and
freight rates. Although the Company engages in certain hedging transactions to
reduce its exposure to currency exchange rate fluctuations, there can be no
assurance that the Company's competitive position will not be adversely affected
by changes in the exchange rate of the U.S. dollar against other currencies.
The semiconductor industry is characterized by frequent claims and litigation
involving patent and other intellectual property rights. The Company has from
time to time received, and may in the future receive, claims from third parties
asserting that the Company's products or processes infringe their patents or
other intellectual property rights. In the event a third party makes a valid
intellectual property claim and a license is not available on commercially
reasonable terms, the Company's operating results could be materially and
adversely affected. Litigation may be necessary to enforce patents or other
intellectual property rights of the Company or to defend the Company against
claims of infringement, and such litigation can be costly and divert the
attention of key personnel. See Note 11 of the Notes to the Company's
Consolidated Financial Statements, for information concerning certain pending
litigation involving the Company. An adverse outcome in such litigation, may, in
certain cases, have a material adverse effect on the Company's consolidated
financial position or on its consolidated results of operations or cash flows in
the period in which the litigation is resolved.
The Company's software applications have been updated to accommodate the new
Euro currency. System testing was completed during the fourth quarter of
calendar 1998 and the Euro functionality was implemented as planned on January
1, 1999. No major system-related issues were encountered and none are
anticipated. The impact, either positive or negative, of the Euro on the
European economy generally and on the Company's operations in Europe in the
future is unknown at this time.
Because of these and other factors, past financial performance should not be
considered an indicator of future performance. Investors should not use
historical trends to anticipate future results and should be aware that the
trading price of the Company's common stock may be subject to wide fluctuations
in response to quarter-to-quarter variations in operating results, general
conditions in the semiconductor industry, changes in earnings estimates and
recommendations by analysts or other events.
6
7
YEAR 2000
Over the past five years the Company has made significant investments in new
manufacturing, financial and operating hardware and software. These investments
were made to support the growth of its operations; however, the by-product of
this effort is that the Company now has year 2000 compliant hardware and
software running on many of its major platforms.
The Company has made the year 2000 issue a significant priority and a task force
is engaged in the ongoing effort to reduce the year 2000 related risk in the
balance of the Company's systems and equipment. It is estimated that the cost of
this project, which essentially commenced at the beginning of fiscal 1998, is
approximately $10 million in total, for fiscal 1998 and fiscal 1999. The task
force's efforts are concentrated in six separate areas. The status of each area
as of December 31, 1998 is summarized below.
Centrally Managed Global Systems
Centrally managed global systems are the enterprisewide, centrally managed
operating systems, which include customer service, customer order entry,
work-in-progress (WIP) tracking, warehousing, production planning, and financial
systems. These systems have been split into "mission critical" and "non-mission
critical". Mission critical is defined as systems that can seriously impair the
Company's ability to conduct its business. Of the 15 mission critical
applications identified as of August 1, 1998, three systems were not Y2K
compliant, Promis (WIP tracking), the order entry system in Japan and the
Electronic Data Interchange (EDI) translator. Since that time Promis system
upgrades have been completed in three of the five manufacturing sites, and the
remaining two are scheduled to be upgraded in early 1999. Also scheduled in
early 1999 is the migration to SAP for order entry in Japan and the upgrade of
the EDI translator. These actions will result in 100% compliance for mission
critical systems. In addition, several mission critical systems, such as SAP,
Forecasting, Data Warehouse and Distributor Management systems have been
specifically tested and certified to be year 2000 compliant. The Company is on
schedule towards retiring its non-compliant mainframe in early 1999. Non-mission
critical is defined as systems which would not cause serious impairment to the
organization. The task force is continually reviewing and re-prioritizing the
non-mission critical systems to ensure that the appropriate items are receiving
the proper attention.
Design and Engineering Systems
The Company's Computer Aided Design (CAD) Council is leading a worldwide year
2000 compliancy review of hardware and software related to design and
engineering systems. The team has completed its analysis and the required
changes to CAD operating systems are underway. The systems are expected to be
compliant in early 1999, even though some reporting tools will not be available
until June 1999. Critical CAD applications software packages have all been
certified Y2K compliant. Migration to these new packages, however, will proceed
over the next 8 to 10 months. The Company believes that if all design
engineering systems are not compliant in time, this will result in inconvenience
and inefficiencies rather than any significant risk to operations.
Site Based Manufacturing Systems
Manufacturing site managers are committed to ensuring a successful transition of
operations in the year 2000. All critical manufacturing equipment has been
identified and analyzed. The analysis process includes ensuring that date
compliance is necessary. The Company is considering "rolling back" the internal
date mechanism as a contingency plan for some equipment and the task force is in
the process of testing the effects of this solution. All manufacturing sites are
performing Y2K compliance testing and this effort is expected to continue
through the first quarter of fiscal 1999. All testing is being done to the
latest vendor specifications and by using the suite of test programs provided by
Sematech, a semiconductor research organization. Thus far, no crucial piece of
equipment has been identified where there is a Y2K compliance problem for which
no solution exists. In all instances where a Y2K compliance issue has arisen,
the Company has been able to develop a solution, without having to replace the
equipment. While the review is not yet complete, the Company does not foresee
any manufacturing equipment-related obstacles which would prevent the
continuation of operations in Year 2000.
7
8
Personal Computers (PCs)
The Company has a PC Standards Committee, comprised of participants from various
Company locations. This committee has selected a tool and developed a hardware
and software certification plan. This plan requires certification of PC Basic
Input/Output System (BIOS), software applications and user files. The Company
has targeted the first quarter of 1999 to certify the BIOS on its 3,500
networked PCs and will issue a tool to assist users to analyze their data files
for potential year 2000 issues. In addition, a year 2000 "patch" is available
for the Microsoft Office Suite (Excel, Word and Access) and this is scheduled to
be implemented in April 1999. The Company does not foresee any year 2000 issues
in this area.
Facility Related Systems
Systems such as heating, sprinklers, elevators and card-key access are also
being reviewed by site teams. Each team has a designated facilitator and there
are representatives from each department participating. All of the teams have
taken a thorough inventory of their site's systems and the Company expects to be
100% compliant by December 31, 1999 with 80% of the facility systems to be
compliant by the second quarter of 1999.
Third Party
The corporate year 2000 task force is also reviewing third-party connectivity
issues. The Company's EDI translator supplier, Harbinger, has been successfully
tested for Y2K compliance. The EDI carrier, GEIS, has notified the Company that
it is compliant as well. Other external service providers, primarily financial
and human resource services, as well as outside vendors, have also been surveyed
as to their state of readiness and most expect to be Y2K compliant. In addition,
the Company was able to test its financial interface for Y2K compliance with its
major financial services provider and the results were successful.
The Company currently believes that its most reasonably likely worst case year
2000 scenario would relate to problems with systems of third parties which would
create the greatest risks with infrastructure, including water and sewer
services, electricity, transportation, telecommunications and critical supplies
or raw materials and spare parts. Because the Company's ability to eliminate
these problems is limited, contingency plans are limited to ensuring that
adequate supplies of critical raw materials and spare parts are in stock at
December 31, 1999. The Company is assessing various scenarios and contingency
planning will continue during 1999 as the Company completes the remedial work on
its internal systems and assesses the state of readiness of its third-party
suppliers.
Summary
The Company believes that the year 2000 issue will not pose significant
operational problems. However, year 2000 issues could have a significant impact
on the Company's operations and its financial results if modifications to
internal systems and equipment cannot be completed on a timely basis; unforeseen
needs or problems arise; or if the systems operated by third parties are not
year 2000 compliant.
All trademarked Analog Devices products are the property of Analog Devices Inc.
All other trademarks are the property of their respective holders.
8