Form 10-Q
Table of Contents

 

 

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, 2008

OR

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

  For transition period from              to             

Commission File Number 1-9853

EMC CORPORATION

(Exact name of registrant as specified in its charter)

 

Massachusetts   04-2680009

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification Number)

176 South Street

Hopkinton, Massachusetts

  01748
(Address of principal executive offices)   (Zip Code)

(508) 435-1000

(Registrant’s telephone number, including area code)

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 a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer  x

  Accelerated filer  ¨

Non-accelerated filer  ¨  (Do not check if a smaller reporting company)

  Smaller reporting company  ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

The number of shares of common stock, par value $.01 per share, of the registrant outstanding as of September 30, 2008 was 2,040,753,894.

 

 

 


Table of Contents

EMC CORPORATION

 

    

Page No.

PART I — FINANCIAL INFORMATION

  

Item 1. Financial Statements (unaudited)

  

Consolidated Balance Sheets at September 30, 2008 and December 31, 2007

   3

Consolidated Income Statements for the Three and Nine Months Ended
September 30, 2008 and 2007

   4

Consolidated Statements of Cash Flows for the Nine Months Ended
September 30, 2008 and 2007

   5

Consolidated Statements of Comprehensive Income for the Three and Nine Months Ended
September 30, 2008 and 2007

   6

Notes to Consolidated Financial Statements

   7

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

   21

Item 3. Quantitative and Qualitative Disclosures About Market Risk

   36

Item 4. Controls and Procedures

   36

PART II — OTHER INFORMATION

  

Item 1. Legal Proceedings

   37

Item 1A. Risk Factors

   37

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

   45

Item 3. Defaults Upon Senior Securities

   45

Item 4. Submission of Matters to a Vote of Security Holders

   45

Item 5. Other Information

   45

Item 6. Exhibits

   45

SIGNATURES

   46

EXHIBIT INDEX

   47

 

 
FACTORS THAT MAY AFFECT FUTURE RESULTS
 

This Quarterly Report on Form 10-Q contains forward-looking statements, within the meaning of the Federal securities laws, about our business and prospects. The forward-looking statements do not include the potential impact of any mergers, acquisitions, divestitures, securities offerings or business combinations that may be announced or closed after the date hereof or costs incurred in expense reduction initiatives. Any statements contained herein that are not statements of historical fact may be deemed to be forward-looking statements. Without limiting the foregoing, the words “believes,” “plans,” “intends,” “expects,” “goals” and similar expressions are intended to identify forward-looking statements, although not all forward-looking statements contain these words. Our future results may differ materially from our past results and from those projected in the forward-looking statements due to various uncertainties and risks, including those described in Item 1A of Part II (Risk Factors) of this Quarterly Report. The forward-looking statements speak only as of the date of this Quarterly Report and undue reliance should not be placed on these statements. We disclaim any obligation to update any forward-looking statements contained herein after the date of this Quarterly Report.

 

 

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Table of Contents

PART I

FINANCIAL INFORMATION

 

Item 1. FINANCIAL STATEMENTS

EMC CORPORATION

CONSOLIDATED BALANCE SHEETS

(in thousands, except per share amounts)

(unaudited)

 

     September 30,
2008
    December 31,
2007
 

ASSETS

    

Current assets:

    

Cash and cash equivalents

   $ 5,473,700     $ 4,482,211  

Short-term investments

     392,780       1,644,703  

Accounts and notes receivable, less allowance for doubtful accounts of $44,377 and $34,389

     2,064,551       2,307,512  

Inventories

     980,939       877,243  

Deferred income taxes

     478,496       475,544  

Other current assets

     336,498       265,889  
                

Total current assets

     9,726,964       10,053,102  

Long-term investments

     2,494,779       1,825,572  

Property, plant and equipment, net

     2,190,343       2,159,396  

Intangible assets, net

     873,509       940,077  

Other assets, net

     831,193       775,001  

Goodwill

     7,002,241       6,531,506  
                

Total assets

   $ 23,119,029     $ 22,284,654  
                

LIABILITIES AND STOCKHOLDERS’ EQUITY

    

Current liabilities:

    

Accounts payable

   $ 893,392     $ 840,886  

Accrued expenses

     1,572,805       1,696,309  

Income taxes payable

     66,246       146,104  

Deferred revenue

     1,926,232       1,724,909  
                

Total current liabilities

     4,458,675       4,408,208  

Income taxes payable

     265,860       246,951  

Deferred revenue

     1,168,364       1,053,394  

Deferred income taxes

     274,774       288,175  

Long-term convertible debt

     3,450,000       3,450,000  

Other liabilities

     148,427       127,621  
                

Total liabilities

     9,766,100       9,574,349  

Minority interest in VMware

     295,289       188,988  

Commitments and contingencies

    

Stockholders’ equity:

    

Preferred stock, par value $0.01; authorized 25,000 shares; none outstanding

            

Common stock, par value $0.01; authorized 6,000,000 shares; issued and outstanding 2,040,754 and 2,102,187 shares

     20,408       21,022  

Additional paid-in capital

     2,560,048       3,038,455  

Retained earnings

     10,527,872       9,470,289  

Accumulated other comprehensive loss, net

     (50,688 )     (8,449 )
                

Total stockholders’ equity

     13,057,640       12,521,317  
                

Total liabilities and stockholders’ equity

   $ 23,119,029     $ 22,284,654  
                

The accompanying notes are an integral part of the consolidated financial statements.

 

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EMC CORPORATION

CONSOLIDATED INCOME STATEMENTS

(in thousands, except per share amounts)

(unaudited)

 

     For the
Three Months Ended
    For the
Nine Months Ended
 
     September 30,
2008
    September 30,
2007
    September 30,
2008
    September 30,
2007
 

Revenues:

        

Product sales

   $ 2,492,941     $ 2,332,884     $ 7,295,022     $ 6,667,665  

Services

     1,222,651       966,870       3,564,503       2,731,766  
                                
     3,715,592       3,299,754       10,859,525       9,399,431  

Costs and expenses:

        

Cost of product sales

     1,156,063       1,056,714       3,350,199       3,131,434  

Cost of services

     500,809       421,396       1,512,641       1,175,600  

Research and development

     410,793       383,600       1,286,809       1,123,958  

Selling, general and administrative

     1,172,579       983,774       3,390,468       2,783,813  

In-process research and development

           800       79,204       800  

Restructuring charges (credits)

     4,398       (571 )     4,041       (3,241 )
                                

Operating income

     470,950       454,041       1,236,163       1,187,067  

Net gain on investments, including gain on sale of VMware stock

           137,330             137,330  

Investment income

     56,717       67,192       192,587       170,181  

Interest expense

     (18,492 )     (17,937 )     (55,328 )     (54,366 )

Other (expense) income, net

     (13,313 )     (6,857 )     (20,887 )     951  
                                

Income before taxes and minority interest in VMware

     495,862       633,769       1,352,535       1,441,163  

Income tax provision

     71,452       136,390       267,945       296,770  
                                

Income before minority interest in VMware

     424,410       497,379       1,084,590       1,144,393  

Minority interest in VMware, net of taxes

     (13,133 )     (4,459 )     (27,007 )     (4,459 )
                                

Net income

   $ 411,277     $ 492,920     $ 1,057,583     $ 1,139,934  
                                

Net income per weighted average share, basic

   $ 0.20     $ 0.24     $ 0.51     $ 0.55  
                                

Net income per weighted average share, diluted

   $ 0.20     $ 0.23     $ 0.50     $ 0.53  
                                

Weighted average shares, basic

     2,048,594       2,080,507       2,060,952       2,077,289  
                                

Weighted average shares, diluted

     2,077,474       2,177,259       2,095,116       2,140,555  
                                

The accompanying notes are an integral part of the consolidated financial statements.

 

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EMC CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(unaudited)

 

     For the Nine Months
Ended
 
     September 30,
2008
    September 30,
2007
 

Cash flows from operating activities:

    

Cash received from customers

   $ 11,437,259     $ 9,620,908  

Cash paid to suppliers and employees

     (8,842,798 )     (7,455,043 )

Dividends and interest received

     192,651       182,840  

Interest paid

     (55,270 )     (41,706 )

Income taxes paid

     (233,500 )     (159,106 )
                

Net cash provided by operating activities

     2,498,342       2,147,893  
                

Cash flows from investing activities:

    

Additions to property, plant and equipment

     (490,066 )     (501,462 )

Capitalized software development costs

     (209,441 )     (163,350 )

Purchases of short and long-term available for sale securities

     (2,200,508 )     (5,053,999 )

Sales and maturities of short and long-term available for sale securities

     2,766,087       5,871,715  

Proceeds from the sale of EMC’s interest in subsidiary to Cisco

           150,000  

Acquisitions, net of cash acquired

     (678,218 )     (508,574 )

Other

     (4,410 )     (10,860 )
                

Net cash used in investing activities

     (816,556 )     (216,530 )
                

Cash flows from financing activities:

    

Issuance of EMC’s common stock from the exercise of stock options

     176,774       553,319  

Proceeds from the sale of VMware’s common stock

           1,253,533  

Issuance of VMware’s common stock from the exercise of stock options

     167,417       2,760  

Repurchase of EMC’s common stock

     (1,119,986 )     (1,102,602 )

Excess tax benefits from stock-based compensation

     96,046       55,250  

Payment of short and long-term obligations

     (5,678 )     (4,369 )

Proceeds from short and long-term obligations

     2,125       19,550  
                

Net cash (used in) provided by financing activities

     (683,302 )     777,441  
                

Effect of exchange rate changes on cash and cash equivalents

     (6,995 )     9,100  
                

Net increase in cash and cash equivalents

     991,489       2,717,904  

Cash and cash equivalents at beginning of period

     4,482,211       1,828,106  
                

Cash and cash equivalents at end of period

   $ 5,473,700     $ 4,546,010  
                

Reconciliation of net income to net cash provided by operating activities:

    

Net income

   $ 1,057,583     $ 1,139,934  

Adjustments to reconcile net income to net cash provided by operating activities:

    

Minority interest in VMware

     27,007       4,459  

Net gain on investments, including gain on sale of VMware’s stock

           (137,330 )

Depreciation and amortization

     785,871       669,168  

Non-cash restructuring and in-process research and development

     80,705       800  

Stock-based compensation expense

     357,668       271,189  

Increase in provision for doubtful accounts

     16,615       2,605  

Deferred income taxes, net

     24,473       (31,495 )

Excess tax benefits from stock-based compensation

     (96,046 )     (55,250 )

Other

     (4,135 )     5,262  

Changes in assets and liabilities, net of acquisitions:

    

Accounts and notes receivable

     270,942       (188,486 )

Inventories

     4,039       (2,702 )

Other assets

     (68,180 )     (125,538 )

Accounts payable

     14,096       109,594  

Accrued expenses

     (286,691 )     (87,235 )

Income taxes payable

     4,326       169,065  

Deferred revenue

     290,177       407,357  

Other liabilities

     19,892       (3,504 )
                

Net cash provided by operating activities

   $ 2,498,342     $ 2,147,893  
                

The accompanying notes are an integral part of the consolidated financial statements.

 

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EMC CORPORATION

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(in thousands)

(unaudited)

 

     For the
Three Months Ended
    For the
Nine Months Ended
 
     September 30,
2008
    September 30,
2007
    September 30,
2008
    September 30,
2007
 

Net income

   $ 411,277     $ 492,920     $ 1,057,583     $ 1,139,934  

Other comprehensive (loss) income, net of tax:

        

Foreign currency translation adjustments

     (11,136 )     11,386       (10,249 )     7,480  

Changes in market value of investments, including unrealized gains and losses and reclassification adjustment to net income, net of tax of $(9,336), $3,300, $(20,873) and $(70)

     (15,424 )     16,208       (33,081 )     13,540  

Changes in market value of derivatives, net of tax of $148, $0, $121 and $(7)

     1,329       (348 )     1,091       (459 )
                                

Other comprehensive (loss) income

     (25,231 )     27,246       (42,239 )     20,561  
                                

Comprehensive income

   $ 386,046     $ 520,166     $ 1,015,344     $ 1,160,495  
                                

The accompanying notes are an integral part of the consolidated financial statements.

 

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EMC CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1.   Basis of Presentation

Company

EMC Corporation (“EMC”) develops, delivers and supports the Information Technology (“IT”) industry’s broadest range of information infrastructure technologies and solutions.

EMC’s Information Infrastructure business supports customers’ information lifecycle management (“ILM”) strategies and helps them build information infrastructures that store, protect, optimize and leverage their vast and growing quantities of information. EMC’s Information Infrastructure business consists of three segments – Information Storage, Content Management and Archiving and RSA Information Security.

EMC’s VMware Virtual Infrastructure business, which is represented by a majority equity stake in VMware, Inc. (“VMware”), is the leading provider of virtualization solutions that separate the operating system and application software from the underlying hardware to achieve significant improvements in efficiency, availability, flexibility and manageability.

General

The accompanying interim consolidated financial statements are unaudited and have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information. These consolidated financial statements include the accounts of EMC, its wholly-owned subsidiaries and VMware, a company majority-owned by EMC. All intercompany transactions have been eliminated.

Certain information and footnote disclosures normally included in our annual consolidated financial statements have been condensed or omitted. Accordingly, these interim consolidated financial statements should be read in conjunction with the audited consolidated financial statements for the year ended December 31, 2007 which are contained in our Annual Report on Form 10-K filed with the Securities and Exchange Commission on February 29, 2008.

The results of operations for the interim periods are not necessarily indicative of the results of operations to be expected for any future period or the entire fiscal year. The interim consolidated financial statements, in the opinion of management, reflect all adjustments necessary to fairly state the results as of and for the three- and nine-month periods ended September 30, 2008 and 2007.

Revenue Recognition Policy Update

In the second quarter of 2008, we acquired all of the outstanding capital stock of Iomega Corporation (“Iomega”), a global leader in reliable portable data storage (see Note 2 to the consolidated financial statements). Iomega’s customers include original equipment manufacturers (“OEMs”), retailers, distributors, value added resellers (“VARs”), mail order direct marketing resellers (“DMR channels”) and end users. Typically, retail and distribution customer agreements in the United States have provisions that allow the customer to return product under certain conditions within specified time periods. We have established reserves for estimated returns, which are reflected as a reduction of sales and trade receivables in our consolidated financial statements. Reserves for estimated returns are based on historical experience. In addition to reserves for estimated returns, we defer recognition of sales and costs of sales of Iomega’s additional inventory in the distribution, retail and DMR channels as the sales price of this additional inventory is not fixed or determinable. For this purpose, additional inventory is the amount of inventory that exceeds the channel’s four-week requirement. OEM and VAR customers are not considered to have additional inventory, as they usually do not carry more than four weeks of inventory.

Net Income Per Share

Basic net income per weighted average share has been computed using the weighted average number of shares of common stock outstanding during the period. Diluted net income per weighted average share is computed using the weighted average number of common and dilutive common equivalent shares outstanding during the period. Common equivalent shares consist of stock options, unvested restricted stock, our $1.725 billion 1.75% convertible senior notes due 2011 (the “2011 Notes”), our $1.725 billion 1.75% convertible senior notes due 2013 (the “2013 Notes” and, together with the 2011 Notes, the “Notes”), and associated warrants (the “Sold Warrants”). Additionally, for purposes of calculating diluted net income per weighted average share, net income is adjusted for the difference between VMware’s reported diluted and basic net income per weighted average share, if any, multiplied by the number of shares of VMware held by EMC.

 

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EMC CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

 

New Accounting Pronouncements

We adopted Financial Accounting Standards (“FAS”) No. 157, “Fair Value Measurements” (“FAS No. 157”) on January 1, 2008. FAS No. 157 defines fair value, establishes a methodology for measuring fair value and expands the required disclosure for fair value measurements. During 2008, the Financial Accounting Standards Board (“FASB”) issued the following amendments:

 

   

FASB Staff Position No. 157-1, “Application of FASB Statement No. 157 to FASB Statement No. 13 and Other Accounting Pronouncements That Address Fair Value Measurements for Purposes of Lease Classification or Measurement under Statement 13” amends FAS No. 157 to remove certain leasing transactions from its scope.

 

   

FASB Staff Position No. FAS 157-2, “Effective Date of FASB Statement No. 157” delays the effective date of FAS No. 157 from 2008 to 2009 for non-financial assets and non-financial liabilities, except for items that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually). We are currently evaluating the potential impact of FAS No. 157 for non-financial assets and non-financial liabilities on our financial position and results of operations.

 

   

FASB Staff Position No. 157-3, “Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active” (“FSP FAS No. 157-3”) clarifies the application of FAS No. 157 in a market that is not active and provides an example to illustrate key considerations in determining the fair value of a financial asset when the market for that financial asset is not active. FSP FAS No. 157-3 is effective October 2008, including prior periods for which financial statements have not been issued.

In December 2007, the FASB issued FAS No. 141 (revised 2007), “Business Combinations” (“FAS No. 141R”). This statement establishes principles and requirements for how the acquirer in a business combination (i) recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any noncontrolling interest in the acquiree, (ii) recognizes and measures the goodwill acquired in the business combination or a gain from a bargain purchase, and (iii) determines what information to disclose to enable users of the financial statements to evaluate the nature and financial effects of the business combination. FAS No. 141R is effective for fiscal years beginning after December 15, 2008. The impact of the standard on our financial position and results of operations will be dependent upon the number of and magnitude of the acquisitions that are consummated once the standard is effective.

In December 2007, the FASB issued FAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements – an amendment of Accounting Research Board (“ARB”) No. 51” (“FAS No. 160”). The objective of this statement is to improve the relevance, comparability and transparency of the financial information that a reporting entity provides in its consolidated financial statements by establishing accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. FAS No. 160 is effective for fiscal years beginning after December 15, 2008. We are currently evaluating the potential impact of FAS No. 160 on our financial position and results of operations.

In March 2008, the FASB issued FAS No. 161, “Disclosures about Derivative Instruments and Hedging Activities” (“FAS No. 161”). This statement changes the disclosure requirements for derivative instruments and hedging activities. Entities are required to provide enhanced disclosures about (a) how and why an entity uses derivative instruments, (b) how derivative instruments and related hedged items are accounted for under FAS No. 133, “Accounting for Derivative Instruments and Hedging Activities”, and its related interpretations, and (c) how derivative instruments and related hedged items affect an entity’s financial position, financial performance and cash flows. FAS No. 161 is effective for fiscal years ending after November 15, 2008. We do not expect FAS No. 161 to have a material impact on our financial position or results of operations.

In April 2008, the FASB issued FASB Staff Position (“FSP”) on FAS No. 142-3, “Determination of the Useful Life of Intangible Assets” (“FSP FAS No. 142-3”). FSP FAS No. 142-3 amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under FAS No. 142, “Goodwill and Other Intangible Assets” (“FAS No. 142”). The intent of FSP FAS No. 142-3 is to improve the consistency between the useful life of a recognized intangible asset under FAS No. 142 and the period of expected cash flows used to measure the fair value of the asset under FAS No. 141R and other U.S. generally accepted accounting principles. FSP FAS No. 142-3 is effective for financial statements issued for fiscal years beginning after December 15, 2008. We do not expect FSP FAS No. 142-3 to have a material impact on our financial position or results of operations.

 

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EMC CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

 

In May 2008, the FASB issued FSP APB 14-1, “Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement)” (“FSP APB 14-1”) which changes the accounting treatment for certain convertible securities which include our Notes. Under FSP APB 14-1, issuers are required to allocate the bond proceeds into a bond portion and a conversion option. The allocation of the bond portion is based upon determining the value of a bond based upon the issuance costs of debt with no conversion option. The residual value is allocated to the conversion option. As a result of this change, the bonds are recorded at a discount which is accreted to its face value over the term of the debt using the effective interest method resulting in additional interest expense. The separated conversion option will be recorded in equity and not marked to market provided that the requirement for equity classification is met. FSP APB 14-1 requires issuers to retroactively revise all periods presented. FSP APB 14-1 is effective for financial statements for fiscal years ended after December 15, 2008 and early adoption is not permitted. We plan to adopt FSP APB 14-1 on January 1, 2009.

Upon adoption of FSP APB 14-1, we will revise prior period financial statements by reclassifying $669.1 million of our Notes to additional paid-in capital. Our interest expense will increase by $9.2 million for 2006, $96.9 million for 2007 and $76.3 million for the nine months ended September 30, 2008.

2.   Acquisitions

In the first quarter of 2008, we acquired all of the outstanding capital stock of Pi Corporation (“Pi”), a developer of software and online services to enable individuals to control how they find, access, share and protect their increasing volumes of digital information. This acquisition is a key element of our newly formed Cloud Infrastructure and Services Division, which is reported within our Information Storage segment. At the time of the acquisition, Pi was considered a development stage enterprise that resulted in the recognition of this purchase as an acquisition of assets rather than a business combination.

In the first quarter of 2008, we acquired all of the outstanding capital stock of Document Sciences Corporation, a provider of document output management software that facilitates highly personalized, multi-channel communications to customers, partners and suppliers. The acquisition complements and extends our Content Management and Archiving segment’s position in the transactional content management marketplace.

In the first quarter of 2008, we acquired all of the outstanding capital stock of Infra Corporation Pty Limited (“Infra”), a provider of IT service management software. The acquisition of Infra will further enhance our software offerings we provide within the Information Storage segment.

In the second quarter of 2008, we acquired all of the outstanding capital stock of WysDM Software Inc., (“WysDM”), a developer of Data Protection Management (DPM) solutions. The acquisition of WysDM will further expand the storage and security strategy of our Information Storage segment.

In the second quarter of 2008, we acquired all of the outstanding capital stock of Conchango plc. (“Conchango”), a technology consulting firm specializing in the design, development and delivery of custom applications and digital experiences. The acquisition of Conchango will further enhance and expand our services we provide within the Information Storage segment.

In the second quarter of 2008, we acquired all of the outstanding capital stock of Iomega, a global leader in reliable portable data storage. Iomega solutions help consumers and home and small business customers to manage, preserve, use and share their digital content and data. Iomega will serve as the core of our new consumer/small business products division within our Information Storage segment.

In the first quarter of 2008, VMware acquired two businesses. One, a provider of virtualization technologies and services, allows VMware to leverage the acquired application and desktop virtualization services expertise to help VMware partners expand their virtualization services businesses. The other, a developer of application virtualization solutions, allows VMware to expand its growing virtualization capabilities.

During the third quarter of 2008, VMware acquired B-hive Networks (“B-hive”), an application performance management software company. The acquisition of B-hive will further enhance VMware’s growing virtualization capabilities.

 

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EMC CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

 

The aggregate purchase price, net of cash acquired for these acquisitions, was $708.2 million and includes $30.0 million payable in 2010 associated with one of the acquisitions. Based on our preliminary purchase price allocations, acquired amortizing intangibles totaling $138.5 million have been recorded with estimated useful lives of between one and ten years. The business combinations resulted in total goodwill of $430.6 million. In addition, $79.2 million was allocated to in-process research and development (“IPR&D”). Two IPR&D projects related to the acquisition of Pi and one IPR&D project related to the acquisition of Infra were identified and written off at the time of the respective date of each acquisition because they had no alternative uses and had not reached technological feasibility. The value assigned to the IPR&D was determined utilizing the income approach by determining cash flow projections relating to the identified IPR&D projects. The stage of completion of each in-process project was estimated to determine the discount rates to be applied to the valuation of the in-process technology. Based upon the level of completion and the risk associated with the in-process technology, we applied a discount rate of 50% for the Pi IPR&D projects and 20% for the Infra IPR&D project. The purchase price allocations are preliminary and a final determination of required purchase accounting adjustments will be made upon the finalization of our integration activities.

The results of the acquired companies have been included in our consolidated results of operations from their respective closing dates. The following pro forma information gives effect to the business combinations that were completed in the three and nine months ended September 30, 2008 as if the business combinations occurred at the beginning of the periods presented. The pro forma results are not necessarily indicative of what actually would have occurred had the business combinations been in effect for the periods presented (table in thousands, except per share data):

 

     Three Months Ended
September 30,
   Nine Months Ended
September 30,
     2008    2007    2008    2007

Revenue

   $ 3,719,642    $ 3,421,120    $ 11,052,092    $ 9,732,407

Net income

     410,553      480,380      1,038,843      1,104,642

Net income per weighted average share, basic

   $ 0.20    $ 0.23    $ 0.50    $ 0.53

Net income per weighted average share, diluted

   $ 0.20    $ 0.22    $ 0.49    $ 0.52

3.   Investments and Fair Value

In 2008, we adopted the provisions of FAS No. 157 with respect to only financial assets and liabilities. FAS No. 157 defines fair value, establishes a framework for measuring fair value under generally accepted accounting principles and enhances disclosures about fair value measurements. Fair value is defined under FAS No. 157 as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Valuation techniques used to measure fair value under FAS No. 157 must maximize the use of observable inputs and minimize the use of unobservable inputs. The standard describes a fair value hierarchy based on three levels of inputs, of which the first two are considered observable and the last is considered unobservable, that may be used to measure fair value:

 

   

Level 1 – Quoted prices in active markets for identical assets or liabilities.

 

   

Level 2 – Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

 

   

Level 3 – Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.

Our investments are comprised primarily of debt securities that are classified as available for sale and recorded at their fair market values. We utilize pricing services to assist us in determining the fair value of our short and long-term investments. Our pricing service vendors utilize the most recent observable market information when pricing securities. In the event the security is not listed, our investment advisors assess a variety of factors to determine the market value, including market values from recent transactions at which the security traded, the value of similar securities and pricing models. As part of our process to determine fair value, throughout the year we perform independent verifications of all of our holdings. In the event a price fails a pre-established tolerance check, it is researched so that we can assess the cause of the variance to determine what we believe is the appropriate fair market value.

 

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EMC CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

 

In general, investments with remaining effective maturities of 12 months or less from the balance sheet date are classified as short-term investments. Investments with remaining effective maturities of more than 12 months from the balance sheet date are classified as long-term investments. At December 31, 2007, our available for sale, short and long-term investments were recognized at fair value which was determined based upon quoted market prices. At September 30, 2008, all of our available for sale, short and long-term investments, excluding auction rate securities, were recognized at fair value which was determined based upon observable inputs from our pricing service vendors. At September 30, 2008, auction rate securities were valued using a discounted cash flow model.

Unrealized gains and temporary losses on investments classified as available for sale are included within accumulated other comprehensive loss, net of any related tax effect. Upon realization, those amounts are reclassified from accumulated other comprehensive loss to investment income. Realized gains and losses and other than temporary impairments are reflected in the income statement in investment income.

At December 31, 2007, we held $972.5 million of auction rate securities and classified these as short-term investments. We have liquidated a portion of these securities through September 30, 2008, reducing our holdings in auction rate securities to $212.7 million or 2.5% of our total cash, cash equivalents and investments of $8,361.3 million. As a result of the volatility in the credit markets, auction failures for our auction rate securities and the related impact on the liquidity of these securities, we classified our auction rate securities as long-term investments at September 30, 2008, and we recognized a $17.8 million temporary decrease in their value that is included within other comprehensive loss since we believe the impairment in value of these investments is only temporary. Our investment in auction rate securities is composed primarily of student loans that are supported by the federal government as part of the Federal Family Education Loan Program (“FFELP”) through the U.S. Department of Education and secondarily of obligations of municipalities rated single-A or higher. We believe the quality of the collateral underlying these securities will enable us to recover our principal balance.

The following tables summarize the composition of our investments at September 30, 2008 and December 31, 2007 (tables in thousands):

 

     September 30, 2008
     Amortized
Cost Basis
   Aggregate
Fair Value

U.S. government and agency obligations

   $ 994,371    $ 1,000,013

U.S. corporate debt securities

     216,612      211,338

Asset and mortgage-backed securities

     202,938      188,433

Municipal obligations

     1,231,739      1,227,473

Auction rate securities

     230,517      212,669

Foreign debt securities

     47,496      47,633
             

Total

   $ 2,923,673    $ 2,887,559
             

 

     December 31, 2007
     Amortized
Cost Basis
   Aggregate
Fair Value

U.S. government and agency obligations

   $ 578,547    $ 589,558

U.S. corporate debt securities

     188,512      189,772

Asset and mortgage-backed securities

     276,661      277,050

Municipal obligations

     1,387,711      1,392,252

Auction rate securities

     972,514      972,525

Foreign debt securities

     48,523      49,118
             

Total

   $ 3,452,468    $ 3,470,275
             

 

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EMC CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

 

Gross unrealized gains on all of our investments were $12.9 million and $22.0 million at September 30, 2008 and December 31, 2007, respectively. Gross unrealized losses on these investments were $49.0 million and $4.2 million at September 30, 2008 and December 31, 2007, respectively.

In accordance with FAS No. 157, the following table represents our fair value hierarchy for our financial assets and liabilities measured at fair value as of September 30, 2008 (in thousands):

 

     Level 1    Level 2     Level 3    Total  

Money market funds

   $ 3,923,289    $     $    $ 3,923,289  

U.S. government and agency obligations

     501,357      498,656            1,000,013  

U.S. corporate debt securities

          211,338            211,338  

Asset and mortgage-backed securities

          188,433            188,433  

Municipal obligations

          1,227,473            1,227,473  

Time deposits

          59,085            59,085  

Auction rate securities

                212,669      212,669  

Foreign debt securities

          47,633            47,633  

Strategic investments in publicly-traded companies

     523                 523  

Foreign exchange derivative assets

          53,677            53,677  

Foreign exchange derivative liabilities

          (50,684 )          (50,684 )

To determine the estimated fair value of our investment in auction rate securities, we used a discounted cash flow model. The assumptions used in preparing the discounted cash flow model include an incremental discount rate for the lack of liquidity in the market (“liquidity discount margin”) for an estimated period of time. The discount rate we selected was based on AA-rated banks as the majority of our portfolio is invested in student loans where EMC acts as a financier to these lenders. The liquidity discount margin represents an estimate of the additional return an investor would require for the lack of liquidity of these securities over an estimated two-year holding period. During the third quarter, we increased the liquidity discount margin from 2.0% to 3.0% as a result of declining market conditions. The following table provides a summary of changes in fair value of our Level 3 financial assets for each of the three and nine months ended September 30, 2008 (in thousands):

 

     Three months ended
September 30, 2008
    Nine months ended
September 30, 2008
 

Beginning balance

   $ 220,501     $  

Transfers in from Level 1

           288,500  

Sales

     (499 )     (57,983 )

Unrealized loss included in other comprehensive loss

     (7,333 )     (17,848 )
                

Balance at September 30, 2008

   $ 212,669     $ 212,669  
                

Unrealized losses on investments at September 30, 2008 by investment category and length of time the investment has been in a continuous unrealized loss position are as follows (table in thousands):

 

     Less Than 12 Months     12 Months or Greater     Total  
     Fair Value    Gross
Unrealized
Losses
    Fair
Value
   Gross
Unrealized
Losses
    Fair Value    Gross
Unrealized
Losses
 

U.S. government and agency obligations

   $ 397,182    $ (2,566 )   $ 498    $ (9 )   $ 397,680    $ (2,575 )

U.S. corporate debt securities

     140,348      (5,717 )     3,537      (93 )     143,885      (5,810 )

Asset and mortgage-backed securities

     144,672      (9,867 )     12,343      (4,754 )     157,015      (14,621 )

Municipal obligations

     701,100      (7,227 )     27,257      (677 )     728,357      (7,904 )

Auction rate securities

     202,419      (17,848 )                202,419      (17,848 )

Foreign debt securities

     25,108      (222 )                25,108      (222 )
                                             

Total

   $ 1,610,829    $ (43,447 )   $ 43,635    $ (5,533 )   $ 1,654,464    $ (48,980 )
                                             

 

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EMC CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

 

We evaluate investments with unrealized losses to determine if the losses are other than temporary. We have determined that the gross unrealized losses at September 30, 2008 are temporary. In making this determination, we considered the financial condition and near-term prospects of the issuers, the underlying collateral, the magnitude of the losses compared to the investments’ cost, the length of time the investments have been in an unrealized loss position and our ability and intent to hold the investment to maturity.

4.   Inventories

Inventories consist of (table in thousands):

 

     September 30,
2008
   December 31,
2007

Purchased parts

   $ 106,799    $ 70,981

Work-in-process

     494,329      484,929

Finished goods

     379,811      321,333
             
   $ 980,939    $ 877,243
             

5.   Property, Plant and Equipment

Property, plant and equipment consist of (table in thousands):

 

     September 30,
2008
    December 31,
2007
 

Furniture and fixtures

   $ 222,668     $ 217,503  

Equipment

     3,431,341       3,198,878  

Buildings and improvements

     1,272,356       1,182,648  

Land

     115,674       115,539  

Construction in progress

     85,427       92,183  
                
     5,127,466       4,806,751  

Accumulated depreciation and amortization

     (2,937,123 )     (2,647,355 )
                
   $ 2,190,343     $ 2,159,396  
                

Construction in progress at September 30, 2008 includes $62.5 million for a facility not yet placed in service that we are holding for future use.

6.   Accrued Expenses

Accrued expenses consist of (table in thousands):

 

     September 30,
2008
   December 31,
2007

Salaries and benefits

   $ 603,063    $ 672,715

Product warranties

     268,631      263,561

Restructuring (See Note 9)

     48,348      125,924

Other

     652,763      634,109
             
   $ 1,572,805    $ 1,696,309
             

Product Warranties

Systems sales include a standard product warranty. At the time of the sale, we accrue for the systems’ warranty costs. The initial systems’ warranty accrual is based upon our historical experience, expected future costs and specific identification of the systems’ requirements. Upon expiration of the initial warranty, we may sell additional maintenance contracts to our customers.

 

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EMC CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

 

Revenue from these additional maintenance contracts is deferred and recognized ratably over the service period. The following represents the activity in our warranty accrual for our standard product warranty (table in thousands):

 

     For the Three Months
Ended
    For the Nine Months
Ended
 
     September 30,
2008
    September 30,
2007
    September 30,
2008
    September 30,
2007
 

Balance, beginning of the period

   $ 274,741     $ 250,754     $ 263,561     $ 242,744  

Current period accrual

     34,072       36,105       123,520       107,284  

Amounts charged to the accrual

     (40,182 )     (32,553 )     (118,450 )     (95,722 )
                                

Balance, end of the period

   $ 268,631     $ 254,306     $ 268,631     $ 254,306  
                                

The provision includes amounts accrued for systems at the time of shipment, adjustments for changes in estimated costs for warranties on systems shipped in the period and changes in estimated costs for warranties on systems shipped in prior periods. It is not practical to determine the amounts applicable to each of the components. Additionally, the current period accrual for the nine months ended September 30, 2008 includes $6.3 million assumed in the acquisition of Iomega.

7.   Net Income Per Share

The reconciliation from basic to diluted earnings per share for both the numerators and denominators is as follows (table in thousands):

 

     For the Three Months
Ended
   For the Nine Months
Ended
     September 30,
2008
    September 30,
2007
   September 30,
2008
    September 30,
2007

Numerator:

         

Net income, as reported, basic

   $ 411,277     $ 492,920    $ 1,057,583     $ 1,139,934

Incremental dilution from VMware

     (1,176 )          (5,058 )    
                             

Net income, diluted

   $ 410,101     $ 492,920    $ 1,052,525     $ 1,139,934
                             

Denominator:

         

Basic weighted average common shares outstanding

     2,048,594       2,080,507      2,060,952       2,077,289

Weighted average common stock equivalents

     28,880       62,687      34,085       51,787

Assumed conversion of the Notes

           34,065      79       11,479
                             

Diluted weighted average shares outstanding

     2,077,474       2,177,259      2,095,116       2,140,555
                             

Options to acquire 154.1 million and 116.6 million shares of our common stock for the three and nine months ended September 30, 2008, respectively, and options to acquire 48.5 million and 108.1 million shares of our common stock for the three and nine months ended September 30, 2007, respectively, were excluded from the calculation of diluted earnings per share because of their antidilutive effect. For the three and nine months ended September 30, 2008, there were no shares and 0.1 million shares, respectively, potentially issuable under our Notes. For the three and nine months ended September 30, 2007, there were 34.1 million shares and 11.5 million shares, respectively, potentially issuable under our Notes. For the three and nine months ended September 30, 2008 and 2007, there were no shares potentially issuable under the Sold Warrants because these instruments were not “in the money”. As a result, the Sold Warrants were excluded from the calculation of diluted net income per weighted average share for the three and nine months ended September 30, 2008 and 2007. The incremental dilution from VMware represents the impact of VMware’s dilutive securities on EMC’s consolidated diluted net income per share and is calculated by multiplying the difference between VMware’s basic and diluted earnings per share by the number of VMware shares owned by EMC.

8.   Stockholders’ Equity

Repurchases of Common Stock

We utilize authorized and unissued shares (including repurchased shares) to satisfy all shares issued under our equity plans. Our Board of Directors authorized the repurchase of 250.0 million shares of our common stock in April 2006 and an additional 250.0 million shares of our common stock in April 2008. For the three and nine months ended September 30, 2008, we spent

 

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EMC CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

 

$433.0 million to repurchase 31.3 million shares of our common stock and $1.1 billion to repurchase 75.7 million shares of our common stock, respectively. Of the 500.0 million shares authorized for repurchase in 2006 and 2008, we have repurchased 274.9 million shares at a cost of $3.8 billion, leaving a remaining balance of 225.1 million shares.

9.   Restructuring Charges (Credits)

For the three months ended September 30, 2008, we recognized a restructuring charge of $4.4 million. For the three months ended September 30, 2007, we recognized a restructuring credit of $0.6 million. For the nine months ended September 30, 2008, we recognized a restructuring charge of $4.0 million. For the nine months ended September 30, 2007, we recognized a restructuring credit of $3.2 million.

The restructuring charge for the three months ended September 30, 2008 was primarily attributable to $5.5 million for employee termination benefits associated with a reduction in force of approximately 75 employees and $3.1 million for the consolidation of excess facilities and other items within our Information Storage, Content Management and Archiving and RSA Information Security segments across all major geographic regions. As of September 30, 2008, substantially all of these employees have been terminated. Partially offsetting this amount were net adjustments of $4.2 million primarily attributable to lower than expected severance payments associated with prior restructuring programs.

The restructuring credit for the three months ended September 30, 2007 was primarily attributable to lower than expected costs of vacating excess facilities in our prior restructuring programs.

The restructuring charge for the nine months ended September 30, 2008 was primarily attributable to $5.5 million for employee termination benefits associated with a reduction in force of approximately 75 employees and $3.1 million for the consolidation of excess facilities and other items within our Information Storage, Content Management and Archiving and RSA Information Security segments across all major geographic regions. Partially offsetting this amount were net adjustments of $4.6 million primarily due to lower than expected severance payments associated with prior restructuring programs.

The restructuring credit for the nine months ended September 30, 2007 was primarily attributable to lower than expected severance payments and lower than expected costs associated with vacating leased facilities in our prior restructuring programs.

2008 Restructuring Program

The activity for the 2008 restructuring program for both the three and nine months ended September 30, 2008 is presented in the following table below (table in thousands):

 

Category

   Initial
Provision
   Utilization
During 2008
    Ending
Balance
   Non-Cash
Portion of the
Provision

Workforce reductions

   $ 5,474    $ (569 )   $ 4,905    $ 1,285

Consolidation of excess facilities and other items

     3,118      (2,012 )     1,106      2,012
                            

Total

   $ 8,592    $ (2,581 )   $ 6,011    $ 3,297
                            

2007 Restructuring Program

The activity for the 2007 restructuring program for the three and nine months ended September 30, 2008, respectively, is presented below (tables in thousands):

Three Months Ended September 30, 2008

 

Category

   Balance as of
June 30,
2008
   Adjustment
to the
Provision
    Utilization     Balance as of
September 30,

2008

Workforce reductions

   $ 9,209    $ (2,018 )   $ (2,776 )   $ 4,415
                             

Total

   $ 9,209    $ (2,018 )   $ (2,776 )   $ 4,415
                             

 

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EMC CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

 

Nine Months Ended September 30, 2008

 

Category

   Balance as of
December 31,
2007
   Adjustment
to the
Provision
   Utilization     Balance as of
September 30,

2008

Workforce reductions

   $ 12,415    $ 4,344    $ (12,344 )   $ 4,415
                            

Total

   $ 12,415    $ 4,344    $ (12,344 )   $ 4,415
                            

The 2007 restructuring program commenced in the fourth quarter of 2007 and included approximately 450 employees. These actions impacted the Information Storage, Content Management and Archiving and RSA Information Security segments. The adjustments to the provision in 2008 were primarily attributable to finalizing severance payments. Substantially all employees included in this plan have been terminated, and the remaining cash portion owed is $4.3 million which is expected to be substantially paid out through December 31, 2008.

Prior Restructuring Programs

We implemented restructuring programs from 1998 through 2006. The activity for these programs for the three and nine months ended September 30, 2008 and 2007, respectively, is presented below (tables in thousands):

Three Months Ended September 30, 2008

 

Category

   Balance as of
June 30,

2008
   Adjustment
to the
Provision
    Utilization     Balance as of
September 30,

2008

Workforce reductions

   $ 24,994    $ (2,695 )   $ (5,945 )   $ 16,354

Consolidation of excess facilities

     21,220      519       (1,071 )     20,668

Other contractual obligations

     900                  900
                             

Total

   $ 47,114    $ (2,176 )   $ (7,016 )   $ 37,922
                             
Nine Months Ended September 30, 2008          

Category

   Balance as of
December 31,
2007
   Adjustment
to the

Provision
    Utilization     Balance as of
September 30,

2008

Workforce reductions

   $ 84,406    $ (10,289 )   $ (57,763 )   $ 16,354

Consolidation of excess facilities

     28,273      (29 )     (7,576 )     20,668

Other contractual obligations

     830      75       (5 )     900
                             

Total

   $ 113,509    $ (10,243 )   $ (65,344 )   $ 37,922
                             
Three Months Ended September 30, 2007          

Category

   Balance as of
June 30,

2007
   Adjustment
to the

Provision
    Utilization     Balance as of
September 30,

2007

Workforce reductions

   $ 91,207    $ (240 )   $ (13,057 )   $ 77,910

Consolidation of excess facilities

     35,816      (682 )     (3,734 )     31,400

Other contractual obligations

     799      351       (294 )     856
                             

Total

   $ 127,822    $ (571 )   $ (17,085 )   $ 110,166
                             
Nine Months Ended September 30, 2007          

Category

   Balance as of
December 31,
2006
   Adjustment
to the

Provision
    Utilization     Balance as of
September 30,

2007

Workforce reductions

   $ 148,288    $ (240 )   $ (70,138 )   $ 77,910

Consolidation of excess facilities

     45,769      (3,352 )     (11,017 )     31,400

Other contractual obligations

     5,481      351       (4,976 )     856
                             

Total

   $ 199,538    $ (3,241 )   $ (86,131 )   $ 110,166
                             

 

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EMC CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

 

The adjustment to the provision in 2008 results primarily from finalizing severance payments. Substantially all employees included in these programs have been terminated. The remaining cash balance associated with workforce reductions is $11.2 million and is expected to be substantially paid out through 2008. The remaining balance owed for the consolidation of excess facilities is expected to be paid out through 2018.

10.   Commitments and Contingencies

Line of Credit

We have available for use a credit line of $50.0 million in the United States. As of September 30, 2008, we had no borrowings outstanding on the line of credit. The credit line bears interest at the bank’s base rate and requires us, upon utilization of the credit line, to meet certain financial covenants with respect to limitations on losses. In the event the covenants are not met, the lender may require us to provide collateral to secure the outstanding balance, if any. At September 30, 2008, we were in compliance with the covenants.

Litigation

We are a party to various litigation matters which we consider routine and incidental to our business. Management does not expect the results of any of these actions to have a material adverse effect on our business, results of operations or financial condition.

11.   Segment Information

We manage our business in two broad categories: EMC Information Infrastructure and VMware Virtual Infrastructure. The EMC Information Infrastructure business operates in three segments: Information Storage, Content Management and Archiving and RSA Information Security, while VMware Virtual Infrastructure operates in a single segment. Our management measures are designed to assess performance of these operating segments excluding certain items. As a result, the corporate reconciling items are used to capture the items excluded from the segment operating performance measures, including stock-based compensation expense and acquisition-related intangible asset amortization expense. Additionally, in certain instances, IPR&D charges, restructuring charges and infrequently occurring gains or losses are also excluded from the measures used by management in assessing segment performance. As a result of preparing separate financial statements for VMware’s initial public offering in the third quarter of 2007, there have been some adjustments to VMware’s stand-alone consolidated financial statements that have been recorded in different periods by EMC and VMware. These differences are not material to the consolidated financial statements and segment disclosures of EMC. The VMware Virtual Infrastructure amounts represent the revenues and expenses of VMware as reflected within EMC’s consolidated financial statements. Research and development expenses, SG&A, and other income associated with the EMC Information Infrastructure business are not allocated to the segments within the EMC Information Infrastructure business, as they are managed centrally at the business unit level. For the three segments within the EMC Information Infrastructure business, gross profit is the segment operating performance measure.

 

17


Table of Contents

EMC CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

 

Our segment information for the three and nine months ended September 30, 2008 and 2007 is as follows (tables in thousands, except percentages):

 

    EMC Information Infrastructure                          
    Information
Storage
    Content
Management
and
Archiving
    RSA
Information
Security
    EMC
Information
Infrastructure
    VMware
Virtual
Infrastructure

within EMC
    Corp
Reconciling
Items
    Consolidated  

Three Months Ended:

                                         

September 30, 2008

                                         

Revenues:

             

Systems revenues

  $ 1,578,757     $ 185     $ 5,322     $ 1,584,264     $     $     $ 1,584,264  

Software revenues:

             

Software license

    477,741       62,391       83,457       623,589       285,088             908,677  

Software maintenance

    298,959       77,014       31,302       407,275       147,142             554,417  
                                                       

Total software revenues

    776,700       139,405       114,759       1,030,864       432,230             1,463,094  

Other services revenues

    552,866       48,479       27,259       628,604       39,630             668,234  
                                                       

Total revenues

    2,908,323       188,069       147,340       3,243,732       471,860             3,715,592  

Cost of sales

    1,411,369       74,875       43,885       1,530,129       64,954       61,789       1,656,872  
                                                       

Gross profit

  $ 1,496,954     $ 113,194     $ 103,455       1,713,603       406,906       (61,789 )     2,058,720  
                                                       

Gross profit percentage

    51.5 %     60.2 %     70.2 %     52.8 %     86.2 %           55.4 %

Research and development

          302,216       69,039       39,538       410,793  

Selling, general and administrative

          892,132       191,544       88,903       1,172,579  

Restructuring charges

                      4,398       4,398  
                                     

Total costs and expenses

          1,194,348       260,583       132,839       1,587,770  
                                     

Operating income

          519,255       146,323       (194,628 )     470,950  

Other income, net

          23,667       1,245             24,912  
                                     

Income before taxes and minority interest

        $ 542,922     $ 147,568     $ (194,628 )   $ 495,862  
                                     
    EMC Information Infrastructure                          
    Information
Storage
    Content
Management
and
Archiving
    RSA
Information
Security
    EMC
Information
Infrastructure
    VMware
Virtual
Infrastructure

within EMC
    Corp
Reconciling
Items
    Consolidated  

Three Months Ended:

                                         

September 30, 2007

                                         

Revenues:

             

Systems revenues

  $ 1,405,139     $ 1,485     $ 4,743     $ 1,411,367     $     $     $ 1,411,367  

Software revenues:

             

Software license

    515,055       79,247       82,979       677,281       244,236             921,517  

Software maintenance

    252,641       61,595       25,126       339,362       86,835             426,197  
                                                       

Total software revenues

    767,696       140,842       108,105       1,016,643       331,071             1,347,714  

Other services revenues

    450,452       46,985       20,016       517,453       23,220             540,673  
                                                       

Total revenues

    2,623,287       189,312       132,864       2,945,463       354,291             3,299,754  

Cost of sales

    1,277,492       65,702       38,610       1,381,804       50,891       45,415       1,478,110  
                                                       

Gross profit

  $ 1,345,795     $ 123,610     $ 94,254       1,563,659       303,400       (45,415 )     1,821,644  
                                                       

Gross profit percentage

    51.3 %     65.3 %     70.9 %     53.1 %     85.6 %           55.2 %

Research and development

          297,558       54,807       31,235       383,600  

Selling, general and administrative

          760,880       148,021       74,873       983,774  

In-process research and development

          800                   800  

Restructuring credits

          (571 )                 (571 )
                                     

Total costs and expenses

          1,058,667       202,828       106,108       1,367,603  
                                     

Operating income

          504,992       100,572       (151,523 )     454,041  

Other income, net

          41,860       538       137,330       179,728  
                                     

Income before taxes and minority interest

        $ 546,852     $ 101,110     $ (14,193 )   $ 633,769  
                                     

 

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EMC CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

 

    EMC Information Infrastructure                          
    Information
Storage
    Content
Management
and
Archiving
    RSA
Information
Security
    EMC
Information
Infrastructure
    VMware
Virtual
Infrastructure

within EMC
    Corp
Reconciling
Items
    Consolidated  

Nine Months Ended:

                                         

September 30, 2008

                                         

Revenues:

             

Systems revenues

  $ 4,535,642     $ 2,844     $ 13,913     $ 4,552,399     $     $     $ 4,552,399  

Software revenues:

             

Software license

    1,442,521       194,275       245,616       1,882,412       860,211             2,742,623  

Software maintenance

    873,807       226,432       90,195       1,190,434       394,926             1,585,360  
                                                       

Total software revenues

    2,316,328       420,707       335,811       3,072,846       1,255,137             4,327,983  

Other services revenues

    1,641,429       153,727       76,519       1,871,675       107,468             1,979,143  
                                                       

Total revenues

    8,493,399       577,278       426,243       9,496,920       1,362,605             10,859,525  

Cost of sales

    4,127,867       225,906       127,335       4,481,108       205,107       176,625       4,862,840  
                                                       

Gross profit

  $ 4,365,532     $ 351,372     $ 298,908       5,015,812       1,157,498       (176,625 )     5,996,685  
                                                       

Gross profit percentage

    51.4 %     60.9 %     70.1 %     52.8 %     84.9 %           55.2 %

Research and development

          902,141       260,995       123,673       1,286,809  

Selling, general and administrative

          2,583,605       542,647       264,216       3,390,468  

In-process research and development

                      79,204       79,204  

Restructuring (credits) charges

          (357 )           4,398       4,041  
                                     

Total costs and expenses

          3,485,389       803,642       471,491       4,760,522  
                                     

Operating income

          1,530,423       353,856       (648,116 )     1,236,163  

Other income, net

          108,926       7,446             116,372  
                                     

Income before taxes and minority interest

        $ 1,639,349     $ 361,302     $ (648,116 )   $ 1,352,535  
                                     

 

    EMC Information Infrastructure                          
    Information
Storage
    Content
Management
and
Archiving
    RSA
Information
Security
    EMC
Information
Infrastructure
    VMware
Virtual
Infrastructure

within EMC
    Corp
Reconciling
Items
    Consolidated  

Nine Months Ended:

                                         

September 30, 2007

                                         

Revenues:

             

Systems revenues

  $ 4,055,237     $ 3,261     $ 13,073     $ 4,071,571     $     $     $ 4,071,571  

Software revenues:

             

Software license

    1,514,135       216,765       246,213       1,977,113       618,981             2,596,094  

Software maintenance

    730,377       182,350       70,146       982,873       225,638             1,208,511  
                                                       

Total software revenues

    2,244,512       399,115       316,359       2,959,986       844,619             3,804,605  

Other services revenues

    1,278,484       132,736       48,248       1,459,468       63,787             1,523,255  
                                                       

Total revenues

    7,578,233       535,112       377,680       8,491,025       908,406             9,399,431  

Cost of sales

    3,747,940       193,737       103,796       4,045,473       130,947       130,614       4,307,034  
                                                       

Gross profit

  $ 3,830,293     $ 341,375     $ 273,884       4,445,552       777,459       (130,614 )     5,092,397  
                                                       

Gross profit percentage

    50.5 %     63.8 %     72.5 %     52.4 %     85.6 %           54.2 %

Research and development

          863,256       177,012       83,690       1,123,958  

Selling, general and administrative

          2,198,153       381,049       204,611       2,783,813  

In-process research and development

          800                   800  

Restructuring credits

          (3,241 )                 (3,241 )
                                     

Total costs and expenses

          3,058,968       558,061       288,301       3,905,330  
                                     

Operating income

          1,386,584       219,398       (418,915 )     1,187,067  

Other income (expense), net

          118,415       (1,649 )     137,330       254,096  
                                     

Income before taxes and minority interest

        $ 1,504,999     $ 217,749     $ (281,585 )   $ 1,441,163  
                                     

 

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EMC CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)

 

Our revenues are attributed to the geographic areas according to the location of the customers. Revenues by geographic area are included in the following table (table in thousands):

 

     For the Three Months Ended    For the Nine Months Ended
     September 30,
2008
   September 30,
2007
   September 30,
2008
   September 30,
2007

United States

   $ 2,024,975    $ 1,884,307    $ 5,837,510    $ 5,311,857

Europe, Middle East and Africa

     1,126,216      940,826      3,325,921      2,715,059

Asia Pacific

     397,447      334,375      1,218,080      1,001,940

Latin America, Mexico and Canada

     166,954      140,246      478,014      370,575
                           

Total

   $ 3,715,592    $ 3,299,754    $ 10,859,525    $ 9,399,431
                           

No country other than the United States accounted for 10% or more of revenues during the three and nine months ended September 30, 2008 or 2007.

Long-lived assets, excluding financial instruments and deferred tax assets in the United States were $9,287.8 million at September 30, 2008 and $9,006.5 million at December 31, 2007. No country other than the United States accounted for 10% or more of these assets at September 30, 2008 or December 31, 2007. Long-lived assets, excluding financial instruments and deferred tax assets, internationally were $1,609.5 million at September 30, 2008 and $1,379.5 million at December 31, 2007.

For the three and nine months ended September 30, 2008, sales to Dell Inc. accounted for 10.4% and 11.7%, respectively, of our total revenues. For the three and nine months ended September 30, 2007, sales to Dell Inc. accounted for 15.8% and 15.0%, respectively, of our total revenues.

12.   Income Taxes

Our effective income tax rates were 14.4% and 19.8% for the three and nine months ended September 30, 2008, respectively. Our effective income tax rates were 21.5% and 20.6% for the three and nine months ended September 30, 2007, respectively. The effective income tax rate is based upon the estimated income for the year, the composition of the income in different countries, and adjustments, if any, in the applicable quarterly periods for the potential tax consequences, benefits or resolutions of tax audits or other tax contingencies. For the three and nine months ended September 30, 2008 and 2007, the effective tax rate varied from the statutory tax rate as a result of the mix of income attributable to foreign versus domestic jurisdictions. Our aggregate income tax rate in foreign jurisdictions is lower than our income tax rate in the United States.

Our effective income tax rate decreased from the three months ended September 30, 2007 to the three months ended September 30, 2008 due to the change in the mix of income between our foreign and domestic jurisdictions and the recognition of discrete tax benefits of $28.6 million during the third quarter of 2008, principally from the utilization of foreign tax credits, which favorably impacted the tax rate by 5.8%. Partially offsetting these benefits was the loss of the U.S. federal research and development credit which expired at the end of 2007. Additionally, in 2007, our tax rate benefited from the release of a $29.3 million valuation reserve on a capital loss when we recognized taxes from the capital gain on the sale of VMware stock which had a net favorable impact on the 2007 tax rate of 1.5%.

Our effective income tax rate decreased from the nine months ended September 30, 2007 to the nine months ended September 30, 2008 due to the change in the mix of income between our foreign and domestic jurisdictions and the recognition of discrete tax benefits of $28.6 million during the third quarter of 2008, principally from the utilization of foreign tax credits, which favorably impacted the tax rate by 2.1%. Partially offsetting these benefits was the loss of the U.S. federal research and development credit which expired at the end of 2007 and non-deductible IPR&D charges totaling $79.2 million incurred in 2008. Additionally, in 2007, our tax rate benefited from the release of a $29.3 million valuation reserve on a capital loss when we recognized taxes from the capital gain on the sale of VMware stock which had a net favorable impact on the 2007 tax rate of 0.5%.

The “Emergency Economic Stabilization Act of 2008,” which contains the “Tax Extenders and Alternative Minimum Tax Relief Act of 2008,” was signed into law on October 3, 2008. Under the Act, the U.S. federal research and development credit which expired at the end of 2007 was retroactively extended for amounts paid or incurred after December 31, 2007 and before January 1, 2010. The effects of the change in the tax law will be recognized in EMC’s fourth quarter of 2008, which is the quarter in which the law was enacted.

 

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Table of Contents
Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

This Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) should be read in conjunction with our interim consolidated financial statements and notes thereto which appear elsewhere in this Quarterly Report on Form 10-Q and the MD&A contained in our Annual Report on Form 10-K filed with the Securities and Exchange Commission (the “SEC”) on February 29, 2008. The following discussion contains forward-looking statements and should also be read in conjunction with the risk factors set forth in Item 1A of Part II of this Quarterly Report on Form 10-Q. The forward-looking statements do not include the impact of any potential mergers, acquisitions, divestitures, securities offerings or business combinations that may be announced or closed after the date hereof or costs incurred in expense reduction initiatives.

All dollar amounts expressed numerically in the MD&A are in millions, except per share amounts.

Certain tables may not add due to rounding.

INTRODUCTION

We manage our business in two broad categories: EMC Information Infrastructure and VMware Virtual Infrastructure.

EMC Information Infrastructure

Our EMC Information Infrastructure business consists of three of our segments: Information Storage, Content Management and Archiving and RSA Information Security. Our long-term objective for our EMC Information Infrastructure business is to achieve profitable growth by increasing our operating income, measured on a cash basis, at a rate greater than our revenue growth. Management believes that by providing a combination of systems, software, services and solutions to meet customers’ needs, we will be able to profitably increase revenues in the long-term. Our efforts over the past few years have been primarily focused on growing revenues by enhancing and expanding our portfolio of offerings to satisfy our customers’ information infrastructure requirements. We have enhanced and expanded our portfolio of offerings through both internal research and development (“R&D”) and through acquisitions. We have increased our overall investment in R&D from $863.3 for the nine months ended September 30, 2007 to $902.1 for the nine months ended September 30, 2008. Additionally, we invested $587.6 on acquisitions during the nine months ended September 30, 2008. These R&D expenditures and acquisitions have enabled us and should continue to enable us to introduce new and enhanced offerings. We plan to continue our R&D efforts to enable further innovation so we can continue to introduce new and enhanced offerings. Revenue from new and enhanced product offerings introduced in the last 12 months, including all product revenues from companies acquired during the last 12 months, contributed $746.1 of revenue to the current quarter and $2,399.6 to the nine months ended September 30, 2008.

Concurrent with our objective of growing revenues, we are focusing on controlling costs. Beginning in 2006 and through 2007, we continued our implementation of an integration plan for the EMC Information Infrastructure business, including most of the acquisitions we had made over the prior three years. The objectives of the plan were to improve efficiencies across our EMC Information Infrastructure business and reduce costs, while presenting a more unified “One EMC” to our customers. The plan included a workforce reduction of approximately 1,350 employees worldwide, consolidation of facilities, termination of contracts and abandonment of assets from which we would no longer derive a benefit. Throughout 2008, we have continued our cost control initiatives by carefully managing headcount growth, driving productivity and optimizing our non-people spend across the business. In addition to these programs, we are now planning further expense reductions. We are in the process of reviewing our back office and infrastructure costs, as well as parts of the business with low productivity or high cost. While the current outcome of such plans has not yet been determined, the plans may result in additional costs being incurred as a result of these expense reduction initiatives. Additionally, such actions could result in the impairment of assets should management determine to change any of its operating business model.

VMware Virtual Infrastructure

Our VMware Virtual Infrastructure business has achieved significant revenue growth to date by focusing on delivering new virtual infrastructure software solutions technology and products, expanding its network of technology and distribution partners, increasing product awareness, promoting the adoption of virtualization and building long-term relationships with its customers through the adoption of enterprise license agreements (“ELAs”).

 

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Table of Contents

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS - (Continued)

 

The current financial focus of VMware is on revenue growth to generate cash flows to fund its expansion of industry segment share and its virtual infrastructure solutions. VMware expects to continue its revenue growth by broadening its virtual infrastructure software solutions technology and product portfolio for more uses to more users.

Although VMware is currently the leading provider of virtualization solutions, management believes the adoption by customers of virtualization solutions is at very early stages. The business expects to face competitive threats to its leadership position from a number of companies, some of whom may have significantly greater resources. As a result, management believes it is important to continue to invest in strategic initiatives related to research and product development, market expansion and the associated support functions to expand its leadership in providing virtualization solutions. This investment could result in contracting operating margins as VMware invests in its future.

RESULTS OF OPERATIONS

Revenues

The following table presents revenue by our segments:

 

     For the Three Months
Ended
   $
Change
    %
Change
 
   September 30,
2008
   September 30,
2007
    

Information Storage

   $ 2,908.3    $ 2,623.3    $ 285.0     10.9 %

Content Management and Archiving

     188.1      189.3      (1.2 )   (0.6 )

RSA Information Security

     147.3      132.9      14.4     10.8  

VMware Virtual Infrastructure

     471.9      354.3      117.6     33.2  
                        

Total revenues

   $ 3,715.6    $ 3,299.8    $ 415.8     12.6 %
                        
     For the Nine Months
Ended
   $
Change
    %
Change
 
   September 30,
2008
   September 30,
2007
    

Information Storage

   $ 8,493.4    $ 7,578.2    $ 915.2     12.1 %

Content Management and Archiving

     577.3      535.1      42.2     7.9  

RSA Information Security

     426.2      377.7      48.5     12.8  

VMware Virtual Infrastructure

     1,362.6      908.4      454.2     50.0  
                        

Total revenues

   $ 10,859.5    $ 9,399.4    $ 1,460.1     15.5 %
                        

The Information Storage segment revenues include systems, software and other services revenues. Systems revenues were $1,578.8 and $1,405.1 for the three months ended September 30, 2008 and 2007, respectively, representing an increase of 12.4% and were $4,535.6 and $4,055.2 for the nine months ended September 30, 2008 and 2007, respectively, representing an increase of 11.8%. The increases in systems revenues were due to greater demand for these products attributable to increased demand for our Information Technology (“IT”) infrastructure offerings and a broadened product portfolio. Software revenues were $776.7 and $767.7 for the third quarter of 2008 and 2007, respectively, representing an increase of 1.2% and were $2,316.3 and $2,244.5 for the first nine months of 2008 and 2007, respectively, representing an increase of 3.2%. The third quarter increase of 1.2% was due to a $46.3 or 18.3% increase in software maintenance revenues, partially offset by a decrease in software license revenues of $37.3 or 7.2%. The nine month increase of 3.2% was due to a $143.4 or 19.6% increase in software maintenance revenues, partially offset by a decrease in software license revenues of $71.6 or 4.7%. Software maintenance revenues increased due to continued demand for support and unspecified upgrades from our installed base. The decline in software license revenues was due to a combination of factors, including existing systems’ customers migrating to higher end systems while continuing to utilize their existing software licenses and increased lower-end systems sales which utilize less software. Revenue from new and enhanced product offerings introduced in the last 12 months, including all product revenue from companies acquired during the last 12 months, contributed $692.4 of revenue to the current quarter and $2,240.3 for the nine months ended September 30, 2008. Total other services were $552.9 and $450.5 for the three months ended September 30, 2008 and 2007, respectively, representing an

 

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increase of 22.7% and were $1,641.4 and $1,278.5 for the first nine months ended September 30, 2008 and 2007, respectively, representing an increase of 28.4%. Other services primarily consist of professional services and system maintenance. Professional services increased 24.8% and 32.6% for the three and nine months ended September 30, 2008, respectively, and system maintenance revenues increased 16.7% and 18.1% for the three and nine months ended September 30, 2008, respectively. The increase in professional services was partially attributable to greater demand for our professional services, largely to support and implement information lifecycle management-based solutions and to acquisitions consummated in 2007 and 2008. Total information storage revenue growth was also driven by higher sales volume from our channel partners. Our channel partners accounted for 49.5% and 48.4% of the revenue growth in the three and nine months ended September 30, 2008, respectively.

The Content Management and Archiving segment revenues primarily include software revenues and other services revenues. Total software revenues were $139.4 and $140.8 for the three months ended September 30, 2008 and 2007, respectively, representing a decrease of 1.0% and were $420.7 and $399.1 for the nine months ended September 30, 2008 and 2007, respectively, representing an increase of 5.4%. The 1.0% decrease in third quarter software revenues was primarily due to a decrease in software license revenues of $16.9 or 21.3% partially offset by an increase in software maintenance revenues of $15.4 or 25.0%. The 5.4% increase in software revenues for the nine months ended September 30, 2008 was due to an increase in software maintenance revenue of $44.1 or 24.2% partially offset by a $22.5 or 10.4% decrease in software license revenue. Software maintenance revenues increased due to continued demand for support and unspecified upgrades from our installed base. The decrease in software license revenues for both the three- and nine-month periods ended September 30, 2008 was attributable to lower demand for application software resulting from the current economic uncertainty. Revenue from new and enhanced product offerings introduced in the last 12 months, including all product revenues from companies acquired during the last 12 months, contributed $49.8 for the quarter ended September 30, 2008 and $144.8 for the nine months ended September 30, 2008. Other services revenues increased $1.5 or 3.2% and $21.0 or 15.8% for the three and nine months ended September 30, 2008, respectively, as a result of increased demand for professional services to support and implement solutions for managing increasing volumes of customers’ unstructured data.

The RSA Information Security segment revenues primarily include software revenues and other services revenues. Total software revenues were $114.8 and $108.1 for the three months ended September 30, 2008 and 2007, respectively, representing an increase of 6.2% and were $335.8 and $316.4 for the nine months ended September 30, 2008 and 2007, respectively, representing an increase of 6.1%. Revenue from new and enhanced product offerings introduced in the last 12 months, including all product revenues from companies acquired during the last 12 months, contributed $3.9 to the quarter ended September 30, 2008 and $14.5 for the nine months ended September 30, 2008. The 6.2% increase in third quarter software revenues was primarily due to an increase in software maintenance revenues of $6.2 or 24.6% and a $0.5 or 0.6% increase in software license revenues. The 6.1% increase in software revenues for the nine months ended September 30, 2008 was primarily due to an increase in software maintenance revenue of $20.0 or 28.6%, partially offset by a $0.6 or 0.2% decrease in software license revenue. Software maintenance revenues increased due to continued demand for support and unspecified upgrades from our installed base. The change in software license revenues for the nine months ended September 30, 2008 was impacted by lower demand in the first quarter of 2008 when compared to the first quarter of 2007. Other services revenues increased $7.2 or 36.2% and $28.3 or 58.6% for the three and nine months ended September 30, 2008, respectively, as a result of increased demand for professional services.

The VMware Virtual Infrastructure segment includes software license revenues and services revenues. Total revenues were $471.9 and $354.3 for the three months ended September 30, 2008 and 2007, respectively, representing an increase of 33.2% and were $1,362.6 and $908.4 for the nine months ended September 30, 2008 and 2007, respectively, representing an increase of 50.0%. Software license revenues were $285.1 and $244.2 for the three months ended September 30, 2008 and 2007, respectively, representing an increase of 16.7% and were $860.2 and $619.0 for the nine months ended September 30, 2008 and 2007, respectively, representing an increase of 39.0%. A significant majority of the revenue growth for the three and nine months ended September 30, 2008 compared to the prior year comparable periods is the result of greater demand for VMware’s virtualization product offerings attributable to wider industry acceptance of virtualization as part of organizations’ IT infrastructure, a broadened product portfolio and expansion of VMware’s network of indirect channel partners. VMware expects the rate of growth to decelerate due primarily to the size and scale of its business and lengthened sales cycles attributable to challenges its customers may face in the current uncertain economic environment, such as decreases in IT budgets and difficulties in obtaining financing. ELAs continue to be a significant component of VMware’s revenue growth. Under a typical ELA, a portion of the revenue is attributed to the license and recognized immediately, but the majority is deferred and recognized as services revenue in future periods. Although license revenue grew in the third quarter of 2008 when compared to the third quarter of 2007, license revenue remained relatively flat from the second quarter of 2008. At the end of the third quarter of 2008, VMware continued to observe the

 

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lengthening of the sales cycle on ELAs that VMware believes is primarily correlated to economic uncertainty, especially in the United States. In addition, some customers purchased VMware solutions in smaller quantities often through the channel to meet their immediate needs, forgoing larger discounts offered under ELAs. VMware believes this had a negative impact on its revenues and deferred revenue in the third quarter. VMware expects this trend to continue throughout 2008 and perhaps longer term.

VMware software maintenance and services revenues were $186.8 and $110.1 for the three months ended September 30, 2008 and 2007, respectively, representing an increase of 69.7% and were $502.4 and $289.4 for the nine months ended September 30, 2008 and 2007, respectively, representing an increase of 73.6%. Software maintenance and services revenues primarily consist of software maintenance and professional services revenues. This growth reflects the increase in VMware’s license revenues, as software maintenance services are generally purchased with licenses, the benefit from multi-year software maintenance contracts sold in previous periods and renewals of existing customer software maintenance contracts. Professional services revenue growth reflects increased demand for design and implementation services and training programs, as end-user organizations deployed virtualization across their organizations. Given the reasons cited previously, VMware expects that services revenue will compose a larger proportion of its revenue mix and revenue growth in 2008.

Consolidated revenues by geography were as follows:

 

     For the Three Months
Ended
   %
Change
 
   September 30,
2008
   September 30,
2007
  

United States

   $ 2,025.0    $ 1,884.3    7.5 %

Europe, Middle East and Africa

     1,126.2      940.8    19.7  

Asia Pacific

     397.4      334.4    18.8  

Latin America, Mexico and Canada

     167.0      140.2    19.1  
     For the Nine Months
Ended
   %
Change
 
   September 30,
2008
   September 30,
2007
  

United States

   $ 5,837.5    $ 5,311.9    9.9 %

Europe, Middle East and Africa

     3,325.9      2,715.1    22.5  

Asia Pacific

     1,218.1      1,001.9    21.6  

Latin America, Mexico and Canada

     478.0      370.6    29.0  

Revenue increased for the three and nine months ended September 30, 2008 compared to the same periods in 2007 in all of our markets due to greater demand for our products and services. Changes in exchange rates favorably impacted revenue growth by 1.2% and 2.0% for the three and nine months ended September 30, 2008, respectively. The impact of the change in rates in both periods was most significant in the European market, primarily Germany, France, Italy and the United Kingdom.

 

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Costs and Expenses

The following table presents our costs and expenses, other income and net income:

 

     For the Three Months
Ended
    $
Change
    %
Change
 
   September 30,
2008
    September 30,
2007
     

Cost of revenue:

        

Information Storage

   $ 1,411.4     $ 1,277.5     $ 133.9     10.5 %

Content Management and Archiving

     74.9       65.7       9.2     14.0  

RSA Information Security

     43.9       38.6       5.3     13.7  

VMware Virtual Infrastructure

     65.0       50.9       14.1     27.7  

Corporate reconciling items

     61.8       45.4       16.4     36.1  
                              

Total cost of revenue

     1,656.9       1,478.1       178.8     12.1  
                              

Gross margins:

        

Information Storage

     1,497.0       1,345.8       151.2     11.2  

Content Management and Archiving

     113.2       123.6       (10.4 )   (8.4 )

RSA Information Security

     103.5       94.3       9.2     9.8  

VMware Virtual Infrastructure

     406.9       303.4       103.5     34.1  

Corporate reconciling items

     (61.8 )     (45.4 )     (16.4 )   36.1  
                              

Total gross margin

     2,058.7       1,821.6       237.1     13.0  
                              

Operating expenses:

        

Research and development (1)

     410.8       383.6       27.2     7.1  

Selling, general and administrative (2)

     1,172.6       983.8       188.8     19.2  

In-process research and development

           0.8       (0.8 )   NM  

Restructuring charges (credits)

     4.4       (0.6 )     5.0     NM  
                              

Total operating expenses

     1,587.8       1,367.6       220.2     16.1  
                              

Operating income

     471.0       454.0       17.0     3.7  

Investment income, interest expense and other income, net (3)

     24.9       179.7       (154.8 )   (86.1 )
                              

Income before income taxes

     495.9       633.8       (137.9 )   (21.8 )

Provision for income taxes

     71.5       136.4       (64.9 )   (47.6 )

Minority interest, net of taxes

     (13.1 )     (4.5 )     (8.6 )   191.1  
                              

Net income

   $ 411.3     $ 492.9     $ (81.6 )   (16.6 )%
                              

 

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     For the Nine Months
Ended
    $
Change
    %
Change
 
   September 30,
2008
    September 30,
2007
     

Cost of revenue:

        

Information Storage

   $ 4,127.9     $ 3,747.9     $ 380.0     10.1 %

Content Management and Archiving

     225.9       193.7       32.2     16.6  

RSA Information Security

     127.3       103.8       23.5     22.6  

VMware Virtual Infrastructure

     205.1       130.9       74.2     56.7  

Corporate reconciling items

     176.6       130.6       46.0     35.2  
                              

Total cost of revenue

     4,862.8       4,307.0       555.8     12.9  
                              

Gross margins:

        

Information Storage

     4,365.5       3,830.3       535.2     14.0  

Content Management and Archiving

     351.4       341.4       10.0     2.9  

RSA Information Security

     298.9       273.9       25.0     9.1  

VMware Virtual Infrastructure

     1,157.5       777.5       380.0     48.9  

Corporate reconciling items

     (176.6 )     (130.6 )     (46.0 )   35.2  
                              

Total gross margin

     5,996.7       5,092.4       904.3     17.8  
                              

Operating expenses:

        

Research and development (4)

     1,286.8       1,124.0       162.8     14.5  

Selling, general and administrative (5)

     3,390.5       2,783.8       606.7     21.8  

In-process research and development

     79.2       0.8       78.4     9,800.0  

Restructuring charges (credits)

     4.0       (3.2 )     7.2     NM  
                              

Total operating expenses

     4,760.5       3,905.3       855.2     21.9  
                              

Operating income

     1,236.2       1,187.1       49.1     4.1  

Investment income, interest expense and other income, net (6)

     116.4       254.1       (137.7 )   (54.2 )
                              

Income before income taxes

     1,352.5       1,441.2       (88.7 )   (6.2 )

Provision for income taxes

     267.9       296.8       (28.9 )   (9.7 )

Minority interest, net of taxes

     (27.0 )     (4.5 )     (22.5 )   500.0  
                              

Net income

   $ 1,057.6     $ 1,139.9     $ (82.3 )   (7.2 )%
                              

 

(1) Amount includes reconciling items of $39.5 and $31.2 for the three months ended September 30, 2008 and 2007, respectively. See footnote 11 for additional information regarding corporate reconciling items.
(2) Amount includes reconciling items of $88.9 and $74.9 for the three months ended September 30, 2008 and 2007, respectively. See footnote 11 for additional information regarding corporate reconciling items.
(3) Amount includes reconciling items of $0.0 and $137.3 for the three months ended September 30, 2008 and 2007, respectively. See footnote 11 for additional information regarding corporate reconciling items.
(4) Amount includes reconciling items of $123.7 and $83.7 for the nine months ended September 30, 2008 and 2007, respectively. See footnote 11 for additional information regarding corporate reconciling items.
(5) Amount includes reconciling items of $264.2 and $204.6 for the nine months ended September 30, 2008 and 2007, respectively. See footnote 11 for additional information regarding corporate reconciling items.
(6) Amount includes reconciling items of $0.0 and $137.3 for the nine months ended September 30, 2008 and 2007, respectively. See footnote 11 for additional information regarding corporate reconciling items.

 

NM – not measurable

Gross Margins

Overall, our gross margin percentages were 55.4% and 55.2% for the third quarters of 2008 and 2007, respectively. The improvement in the gross margin percentage in the third quarter of 2008 compared to 2007 was attributable to the VMware Virtual Infrastructure segment, which contributed 110 basis points, and the RSA Information Security segment, which contributed 3 basis points. These improvements were partially offset by the margin impact of the Content Management and Archiving segment, which

 

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decreased overall gross margins by 28 basis points and the Information Storage segment which decreased overall gross margins by 18 basis points. The increase in corporate reconciling items, consisting of stock-based compensation and acquisition-related intangible asset amortization decreased the consolidated gross margin percentage by 47 basis points.

For the nine months ended September 30, 2008 and 2007, the overall gross margin percentages were 55.2% and 54.2%, respectively. The improvement in the gross margin percentage for the nine months ended September 30, 2008 compared to 2007 was attributable to the VMware Virtual Infrastructure segment, which contributed 130 basis points and the Information Storage segment which contributed 33 basis points. These improvements were partially offset by the margin impact of the Content Management and Archiving segment, which decreased overall gross margins by 13 basis points and the RSA Information Security segment which decreased overall gross margins by 3 basis points. The increase in corporate reconciling items, consisting of stock-based compensation and acquisition-related intangible asset amortization decreased the consolidated gross margin percentage by 47 basis points.

For segment reporting purposes, stock-based compensation and acquisition-related intangible asset amortization are recognized as corporate expenses and are not allocated among our various operating segments. The increase of $16.4 in the corporate reconciling items for the quarter ended September 30, 2008 was attributable to a $10.4 increase in intangible asset amortization expense associated with acquisitions and a $6.0 increase in stock-based compensation expense primarily attributable to VMware equity grants. The increase of $46.0 in the corporate reconciling items for the nine months ended September 30, 2008 was attributable to a $29.6 increase in intangible asset amortization expense associated with acquisitions and a $16.4 increase in stock-based compensation expense primarily attributable to VMware equity grants.

The gross margin percentages for the Information Storage segment were 51.5% and 51.3% for the third quarters of 2008 and 2007, respectively, and were 51.4% and 50.5% for the nine months ended September 30, 2008 and 2007, respectively. The increases in the gross margin percentage for both the three and nine months ended September 30, 2008 compared to the comparable 2007 periods were primarily attributable to our ability to achieve higher gross margins from our focus on selling overall solutions to our customers, partially offset by the negative margin impact from the acquisition of Iomega in June of 2008. The acquisition of Iomega in the second quarter of 2008 reduced gross margins by 100 basis points and 40 basis points for the three and nine months ended September 30, 2008, respectively. Iomega operates within the consumer and small business marketplace which historically has had lower gross margins than our traditional Information Storage segment.

The gross margin percentages for the Content Management and Archiving segment were 60.2% and 65.3% for the third quarters of 2008 and 2007, respectively, and were 60.9% and 63.8% for the nine months ended September 30, 2008 and 2007, respectively. The decreases in the gross margin percentage for both the three and nine months ended September 30, 2008 compared to the comparable 2007 periods were primarily attributable to a decline in software license revenues as a percentage of total segment revenues. Software license revenues as a percentage of total revenues decreased from 41.9% for the three months ended September 30, 2007 to 33.2% for the three months ended September 30, 2008. Software license revenues as a percentage of total revenues decreased from 40.5% for the nine months ended September 30, 2007 to 33.7% for the nine months ended September 30, 2008. Software license revenues generally provide a higher gross margin percentage than software maintenance and other services revenues.

The gross margin percentages for the RSA Information Security segment were 70.2% and 70.9% for the third quarters of 2008 and 2007, respectively, and were 70.1% and 72.5% for the nine months ended September 30, 2008 and 2007, respectively. The decreases in the gross margin percentage for the three and nine months ended September 30, 2008 compared to the comparable 2007 periods were primarily due to a decrease in software license and maintenance revenues as a percentage of total segment revenues. Software license and maintenance revenues generally provide a higher gross margin percentage than services revenues. Software license and maintenance revenues as a percentage of total revenues decreased from 81.4% for the three months ended September 30, 2007 to 77.9% for the three months ended September 30, 2008. Software license and maintenance revenues as a percentage of total revenues decreased from 83.8% for the nine months ended September 30, 2007 to 78.8% for the nine months ended September 30, 2008.

 

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The gross margin percentages for the VMware Virtual Infrastructure segment were 86.2% and 85.6% for the third quarters of 2008 and 2007, respectively, and were 84.9% and 85.6% for the nine months ended September 30, 2008 and 2007, respectively. The increase in the gross margin percentage for the three months ended September 30, 2008 compared to the comparable 2007 period was primarily due to a reclassification of immaterial costs of services to SG&A, partially offset by a reduction in software license revenues. Software license revenues as a percentage of total revenues decreased from 68.9% to 60.4% for the three months ended September 30, 2008. Software license and maintenance revenues generally provide a higher gross margin percentage than services revenues. The decrease in the gross margin percentage for the nine months ended September 30, 2008 compared to the comparable 2007 period was primarily due to a reduction in the mix of software license revenues. Software license revenues as a percentage of total revenues decreased from 68.1% to 63.1% for the nine months ended September 30, 2008.

Research and Development

As a percentage of revenues, R&D expenses were 11.1% and 11.6% for the three months ended September 30, 2008 and 2007, respectively, and were 11.8% and 12.0% for the nine months ended September 30, 2008 and 2007, respectively. R&D expenses increased $27.2 and $162.9 for the three and nine months ended September 30, 2008, respectively, compared to the same periods in 2007, primarily due to higher personnel-related costs, including salaries, benefits, recruiting, contract labor and consulting, and higher cost of facilities. Personnel-related costs increased by $49.4 and $189.5 and the cost of facilities increased by $7.0 and $21.0 for the three and nine months ended September 30, 2008, respectively, compared to the same periods in 2007. Partially offsetting the increases were an increase in capitalized software development costs of $25.2 and $46.1 for the three and nine months ended September 30, 2008, respectively, which reduce R&D costs and a reduction in the cost of materials to support new product development of $7.6 and $13.3 for the three and nine months ended September 30, 2008, respectively.

Corporate reconciling items within R&D consist of stock-based compensation and intangible asset amortization. These costs increased $8.3 and $40.0 to $39.5 and $123.7 for the three and nine months ended September 30, 2008, respectively. For the three months ended September 30, 2008, stock-based compensation expense increased $7.7 and intangible asset amortization increased $0.6. The increase in stock-based compensation expense consisted of a $5.2 increase within EMC’s Information Infrastructure business and a $2.5 increase within the VMware Virtual Infrastructure business. For the nine months ended September 30, 2008, stock-based compensation expense increased $37.8 and intangible asset amortization increased $2.2. The increase in stock-based compensation expense for the nine months ended September 30, 2008 consisted of a $28.6 increase within the VMware Virtual Infrastructure business and a $9.2 increase within EMC’s Information Infrastructure business. For segment reporting purposes, corporate reconciling items are not allocated to our various operating segments.

R&D expenses within EMC’s Information Infrastructure business, as a percentage of EMC’s Information Infrastructure business revenues, were 9.3% and 10.1% for the three months ended September 30, 2008 and 2007, respectively, and were 9.5% and 10.2% for the nine months ended September 30, 2008 and 2007, respectively. R&D expenses increased $4.7 and $38.9 for the three and nine months ended September 30, 2008, respectively, compared to the same periods in 2007. For the three months ended September 30, 2008, the increase was primarily due to higher personnel-related costs and increased facilities costs which increased by $21.1 and $0.8, respectively. Partially offsetting the increase was an increase in capitalized software development costs of $9.6 which reduced R&D costs and a reduction in the cost of materials to support new product development of $7.8. For the nine months ended September 30, 2008, the increase was primarily due to higher personnel-related costs and increased facilities cost which increased by $71.8 and $4.6, respectively. Partially offsetting the increase was a reduction in the costs of materials to support new product development of $14.8 and an increase in capitalized software development costs of $25.3 which reduced R&D costs.

R&D expenses within the VMware Virtual Infrastructure business, as a percentage of VMware’s revenues, were 14.6% and 15.5% for the three months ended September 30, 2008 and 2007, respectively, and were 19.2% and 19.5% for the nine months ended September 30, 2008 and 2007, respectively. R&D expenses increased $14.2 and $84.0 for the three and nine months ended September 30, 2008, respectively, compared to the same periods in 2007. The increase in R&D expenses was primarily attributable to incremental headcount to support the growth of the business, resulting in increased salaries and benefits expense. Partially offsetting these increases were software capitalization costs increases of $15.6 and $20.8 for the three and nine months ended September 30, 2008, respectively, which reduced R&D costs.

 

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Selling, General and Administrative

As a percentage of revenues, selling, general and administrative (“SG&A”) expenses were 31.6% and 29.8% for the three months ended September 30, 2008 and 2007, respectively, and were 31.2% and 29.6% for the nine months ended September 30, 2008 and 2007, respectively. SG&A expenses increased by $188.8 and $606.7 for the three and nine months ended September 30, 2008, respectively, compared to the same periods in 2007, primarily due to higher personnel-related costs, depreciation, travel costs, facilities costs to support the overall growth of the business and increased bad debt provisions. Personnel-related costs increased by $104.3 and $382.4, depreciation increased by $12.3 and $38.3, travel increased by $1.8 and $20.8, facilities increased by $10.0 and $27.0 and bad debt provisions increased by $12.3 and $16.6 for the three and nine months ended September 30, 2008, respectively, compared to the same periods in 2007.

Corporate reconciling items within SG&A consist of stock-based compensation and intangible asset amortization. These costs increased $14.0 and $59.6 for the three and nine months ended September 30, 2008, respectively, compared to the same periods in 2007. For the three months ended September 30, 2008, stock-based compensation increased $3.9 and intangible asset amortization increased $10.1. The increase in stock-based compensation consisted of a $4.1 increase within EMC’s Information Infrastructure business and a $0.2 decrease within the VMware Virtual Infrastructure business. For the nine months ended September 30, 2008, stock-based compensation increased $32.3 and intangible asset amortization increased $27.3. The increase in stock-based compensation consisted of a $24.3 increase within the VMware Virtual Infrastructure business and an $8.0 increase within EMC’s Information Infrastructure business. The increase in intangible asset amortization for the three and nine months ended September 30, 2008 was attributable to amortization of intangible assets associated with acquisitions by both EMC’s Information Infrastructure business and the VMware Virtual Infrastructure business. For segment reporting purposes, corporate reconciling items are not allocated to our various operating segments.

SG&A expenses within EMC’s Information Infrastructure business, as a percentage of EMC’s Information Infrastructure business revenues, were 27.5% and 25.8% for the three months ended September 30, 2008 and 2007, respectively, and were 27.2% and 25.9% for the nine months ended September 30, 2008 and 2007, respectively. SG&A expenses increased by $131.3 and $385.5 for the three and nine months ended September 30, 2008, respectively, compared to the same periods in 2007, primarily due to higher personnel-related costs, depreciation, travel costs, facilities costs to support the overall growth of the business and increased bad debt provisions. Personnel-related costs increased by $75.9 and $265.0, depreciation increased by $8.8 and $26.7, travel increased by $0.7 and $11.4, facilities increased by $9.1 and $18.6 and bad debt provisions increased by $18.5 and $22.5 for the three and nine months ended September 30, 2008, respectively, compared to the same periods in 2007.

SG&A expenses within the VMware Virtual Infrastructure business, as a percentage of VMware’s revenues, were 40.6% and 41.8% for the three months ended September 30, 2008 and 2007, respectively, and were 39.8% and 41.9% for the nine months ended September 30, 2008 and 2007, respectively. SG&A expenses increased $43.5 and $161.6 for the three and nine months ended September 30, 2008, respectively, compared to the same periods in 2007. The increase in SG&A expenses for both the three and nine months ended September 30, 2008 was primarily the result of higher salaries and benefits costs due to increases in sales, marketing and administrative personnel. The resources were added to support the growth of the business, including greater finance and legal personnel in response to being a public company, as well as higher commission expense resulting from increased sales volume. SG&A expenses also increased due to marketing expenses related to VMware’s international market expansion and VMware’s branding initiative.

In-Process Research and Development

In-process research and development (“IPR&D”) was $0.0 and $79.2 for the three and nine months ended September 30, 2008, respectively. IPR&D charges for both the three and nine months ended September 30, 2007 was $0.8. During the nine months ended September 30, 2008, two IPR&D projects related to the acquisition of Pi Corporation (“Pi”) and one IPR&D project related to the acquisition of Infra Corporation Pty Limited (“Infra”) were identified and written off at the time of the respective date of each acquisition because they had no alternative uses and had not reached technological feasibility. The value assigned to the IPR&D was determined utilizing the income approach by determining cash flow projections relating to the identified IPR&D projects. The stage of completion of each in-process project was estimated to determine the discount rates to be applied to the valuation of the in-process technology. Based upon the level of completion and the risk associated with the in-process technology, we applied a discount rate of 50% for the Pi IPR&D projects and 20% for the Infra IPR&D project. The increase in IPR&D for the nine months ended September 30, 2008 when compared to the same period in 2007 is primarily attributable to higher levels of in-process R&D of acquisitions consummated during the respective period.

 

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Restructuring Charges (Credits)

For the three months ended September 30, 2008, we recognized a restructuring charge of $4.4. For the three months ended September 30, 2007, we recognized a restructuring credit of $0.6. For the nine months ended September 30, 2008, we recognized a restructuring charge of $4.0. For the nine months ended September 30, 2007, we recognized a restructuring credit of $3.2.

The restructuring charge for the three months ended September 30, 2008 was primarily attributable to $5.5 for employee termination benefits associated with a reduction in force of approximately 75 employees and $3.1 for the consolidation of excess facilities and other items within our Information Storage, Content Management and Archiving and RSA Information Security segments across all major geographic regions. As of September 30, 2008, substantially all of these employees have been terminated. Partially offsetting this amount were net adjustments of $4.2 primarily attributable to lower than expected severance payments associated with prior restructuring programs.

The restructuring credit for the three months ended September 30, 2007 was primarily attributable to lower than expected costs of vacating excess facilities in our prior restructuring programs.

The restructuring charge for the nine months ended September 30, 2008 was primarily attributable to $5.5 for employee termination benefits associated with a reduction in force of approximately 75 employees and $3.1 for the consolidation of excess facilities and other items within our Information Storage, Content Management and Archiving and RSA Information Security segments across all major geographic regions. Partially offsetting this amount were net adjustments of $4.6 primarily due to lower than expected severance payments associated with prior restructuring programs.

The restructuring credit for the nine months ended September 30, 2007 was primarily attributable to lower than expected severance payments and lower than expected costs associated with vacating leased facilities in our prior restructuring programs.

2008 Restructuring Program

The activity for the 2008 restructuring program for both the three and nine months ended September 30, 2008 is presented in the following table below:

 

Category

   Initial
Provision
   Utilization
During 2008
    Ending
Balance
   Non-Cash
Portion of the
Provision

Workforce reductions

   $ 5.5    $ (0.6 )   $ 4.9    $ 1.3

Consolidation of excess facilities and other items

     3.1      (2.0 )     1.1      2.0
                            

Total

   $ 8.6    $ (2.6 )   $ 6.0    $ 3.3
                            

2007 Restructuring Program

The activity for the 2007 restructuring program for the three and nine months ended September 30, 2008, respectively, is presented below:

Three Months Ended September 30, 2008

 

Category

   Balance as of
June 30,
2008
   Adjustment
to the
Provision
    Utilization     Balance as of
September 30,

2008

Workforce reductions

   $ 9.2    $ (2.0 )   $ (2.8 )   $ 4.4
                             

Total

   $ 9.2    $ (2.0 )   $ (2.8 )   $ 4.4
                             

Nine Months Ended September 30, 2008

 

Category

   Balance as of
December 31,
2007
   Adjustment
to the
Provision
   Utilization     Balance as of
September 30,

2008

Workforce reductions

   $ 12.4    $ 4.3    $ (12.3 )   $ 4.4
                            

Total

   $ 12.4    $ 4.3    $ (12.3 )   $ 4.4
                            

 

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The 2007 restructuring program commenced in the fourth quarter of 2007 and included approximately 450 employees. These actions impacted the Information Storage, Content Management and Archiving and RSA Information Security segments. The adjustments to the provision in 2008 were primarily attributable to finalizing severance payments. Substantially all employees included in this plan have been terminated, and the remaining cash portion owed is $4.3 which is expected to be substantially paid out through December 31, 2008.

Prior Restructuring Programs

We implemented restructuring programs from 1998 through 2006. The activity for these programs for the three and nine months ended September 30, 2008 and 2007, respectively, is presented below:

Three Months Ended September 30, 2008

 

Category

   Balance as of
June 30,

2008
   Adjustment
to the
Provision
    Utilization     Balance as of
September 30,

2008

Workforce reductions

   $ 25.0    $ (2.7 )   $ (5.9 )   $ 16.4

Consolidation of excess facilities

     21.2      0.5       (1.1 )     20.7

Other contractual obligations

     0.9                  0.9
                             

Total

   $ 47.1    $ (2.2 )   $ (7.0 )   $ 37.9
                             
Nine Months Ended September 30, 2008          

Category

   Balance as of
December 31,
2007
   Adjustment
to the
Provision
    Utilization     Balance as of
September 30,

2008

Workforce reductions

   $ 84.4    $ (10.3 )   $ (57.8 )   $ 16.4

Consolidation of excess facilities

     28.3            (7.6 )     20.7

Other contractual obligations

     0.8      0.1             0.9
                             

Total

   $ 113.5    $ (10.2 )   $ (65.3 )   $ 37.9
                             
Three Months Ended September 30, 2007          

Category

   Balance as of
June 30,

2007
   Adjustment
to the

Provision
    Utilization     Balance as of
September 30,

2007

Workforce reductions

   $ 91.2    $ (0.2 )   $ (13.1 )   $ 77.9

Consolidation of excess facilities

     35.8      (0.7 )     (3.7 )     31.4

Other contractual obligations

     0.8      0.4       (0.3 )     0.9
                             

Total

   $ 127.8    $ (0.6 )   $ (17.1 )   $ 110.2
                             
Nine Months Ended September 30, 2007          

Category

   Balance as of
December 31,
2006
   Adjustment
to the

Provision
    Utilization     Balance as of
September 30,

2007

Workforce reductions

   $ 148.3    $ (0.2 )   $ (70.1 )   $ 77.9

Consolidation of excess facilities

     45.8      (3.4 )     (11.0 )     31.4

Other contractual obligations

     5.5      0.4       (5.0 )     0.9
                             

Total

   $ 199.5    $ (3.2 )   $ (86.1 )   $ 110.2
                             

The adjustment to the provision in 2008 results primarily from finalizing severance payments. Substantially all employees included in these programs have been terminated. The remaining cash balance associated with workforce reductions is $11.2 and is expected to be substantially paid out through 2008. The remaining balance owed for the consolidation of excess facilities is expected to be paid out through 2018.

 

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Investment Income

Investment income was $56.7 and $67.2 for the three months ended September 30, 2008 and 2007, respectively, and was $192.6 and $170.2 for the nine months ended September 30, 2008 and 2007, respectively. Investment income decreased for the three months ended September 30, 2008 compared to the comparable prior period primarily due to a decrease in the weighted average return on investments. Investment income increased for the nine months ended September 30, 2008 compared to the same period in 2007 primarily due to higher average outstanding cash and investment balances and improved returns on sales of investments, partially offset by a decrease in the weighted average return on investments. The weighted average return on investments, excluding realized losses and gains, was 3.0% and 4.3% for three months ended September 30, 2008 and 2007, respectively, and was 3.3% and 4.3% for the nine months ended September 30, 2008 and 2007, respectively. Net realized (losses) gains were $(0.9) and $(0.1) for the three months ended September 30, 2008 and 2007, respectively, and were $3.7 and $10.7 for the nine months ended September 30, 2008 and 2007, respectively.

Interest Expense

Interest expense was $18.5 and $17.9 for the three months ended September 30, 2008 and 2007, respectively, and was $55.3 and $54.4 for the nine months ended September 30, 2008 and 2007, respectively. Interest expense consists primarily of interest on the Notes.

Other (Expense) Income, Net

Other (expense) income, net was $(13.3) and $(6.9) for the three months ended September 30, 2008 and 2007, respectively, and was $(20.9) and $1.0 for the nine months ended September 30, 2008 and 2007, respectively. The changes were primarily attributable to an increase in foreign currency transaction losses.

Provision for Income Taxes

Our effective income tax rates were 14.4% and 19.8% for the three and nine months ended September 30, 2008, respectively. Our effective income tax rates were 21.5% and 20.6% for the three and nine months ended September 30, 2007, respectively. The effective income tax rate is based upon the estimated income for the year, the composition of the income in different countries, and adjustments, if any, in the applicable quarterly periods for the potential tax consequences, benefits or resolutions of tax audits or other tax contingencies. For the three and nine months ended September 30, 2008 and 2007, the effective tax rate varied from the statutory tax rate as a result of the mix of income attributable to foreign versus domestic jurisdictions. Our aggregate income tax rate in foreign jurisdictions is lower than our income tax rate in the United States.

Our effective income tax rate decreased from the three months ended September 30, 2007 to the three months ended September 30, 2008 due to the change in the mix of income between our foreign and domestic jurisdictions and the recognition of discrete tax benefits of $28.6 during the third quarter of 2008, principally from the utilization of foreign tax credits, which favorably impacted the tax rate by 5.8%. Partially offsetting these benefits was the loss of the U.S. federal research and development credit which expired at the end of 2007. Additionally, in 2007, our tax rate benefited from the release of a $29.3 valuation reserve on a capital loss when we recognized taxes from the capital gain on the sale of VMware stock, which had a net favorable impact on the 2007 tax rate of 1.5%.

Our effective income tax rate decreased from the nine months ended September 30, 2007 to the nine months ended September 30, 2008 due to the change in the mix of income between our foreign and domestic jurisdictions and the recognition of discrete tax benefits of $28.6 during the third quarter of 2008, principally from the utilization of foreign tax credits, which favorably impacted the tax rate by 2.1%. Partially offsetting these benefits was the loss of the U.S. federal research and development credit which expired at the end of 2007 and non-deductible IPR&D charges totaling $79.2 incurred in 2008. Additionally, in 2007, our tax rate benefited from the release of a $29.3 valuation reserve on a capital loss when we recognized taxes from the capital gain on the sale of VMware stock which had a net favorable impact on the 2007 tax rate of 0.5%.

The “Emergency Economic Stabilization Act of 2008,” which contains the “Tax Extenders and Alternative Minimum Tax Relief Act of 2008,” was signed into law on October 3, 2008. Under the Act, the U.S. federal research and development credit which expired at the end of 2007 was retroactively extended for amounts paid or incurred after December 31, 2007 and before

 

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January 1, 2010. The effects of the change in the tax law will be recognized in EMC’s fourth quarter of 2008, which is the quarter in which the law was enacted. We currently expect the research credit to favorably impact our tax rate by 1.8% for 2008.

We have substantially concluded all U.S. federal income tax matters for years through 2004 and are in the process of a U.S. federal income tax audit for 2005 and 2006. We have income tax audits in process in numerous state, local and international jurisdictions. Based on the timing and outcome of these examinations, the result of the expiration of statutes of limitations for specific jurisdictions or the timing and result of ruling requests from taxing authorities, it is reasonably possible that the related unrecognized tax benefits could change from those recorded in our statement of financial position. We anticipate that several of these audits may be finalized within the next 12 months. Based on the status of these examinations and the protocol of finalizing such audits, it is not possible to estimate the impact of any amount of such changes, if any, to our previously recorded uncertain tax positions. However, it is reasonably possible that up to $35.2 of reserves for unrecognized tax benefits may be released within one year as a result of the lapse of statutes of limitations and the resolution of agreements with various foreign tax authorities.

Minority Interest

Minority interest was $13.1 and $4.5 for the three months ended September 30, 2008 and 2007, respectively, and was $27.0 and $4.5 for the nine months ended September 30, 2008 and 2007, respectively. Minority interest increased for the three and nine months ended September 30, 2008 compared to the comparable prior periods primarily due to an increase in VMware’s net income for both the three and nine months ended September 30, 2008 when compared to the comparable prior periods and an increase in the weighted average minority interest in 2008 when compared to the comparable prior year period. VMware’s net income was $83.3 and $64.7 for the three months ended September 30, 2008 and 2007, respectively, representing an increase of 28.7% and was $178.7 and $140.0 for the nine months ended September 30, 2008 and 2007, respectively, representing an increase of 27.6%. The weighted average minority interest was approximately 16% and 7% for the three months ended September 30, 2008 and 2007, respectively, and was approximately 15% and 3% for the nine months ended September 30, 2008 and 2007, respectively. In the fourth quarter of 2008, we purchased 500,000 shares of VMware’s Class A common stock from Intel Capital Corporation. The purchase will reduce the minority interest percentage.

Financial Condition and Liquidity

Cash provided by operating activities was $2,498.3 and $2,147.9 for the nine months ended September 30, 2008 and 2007, respectively. Cash received from customers was $11,437.3 and $9,620.9 for the nine months ended September 30, 2008 and 2007, respectively. The increase in cash received from customers was attributable to higher sales volume and greater cash proceeds from the sale of maintenance contracts, which are typically billed and paid in advance of services being rendered. Cash paid to suppliers and employees was $8,842.8 and $7,455.0 for the nine months ended September 30, 2008 and 2007, respectively. The increase was partially attributable to higher headcount. Total headcount was approximately 41,900 and 36,200 at September 30, 2008 and 2007, respectively. The headcount increase was due to the growth of the business, as well as continued acquisition activity. Inventory increased from $877.2 at December 31, 2007 to $980.9 at September 30, 2008. The increase was attributable to the acquisition of Iomega Corporation which contributed $49.3 to the increase and higher inventory levels to ensure customer demand would be met. Cash received from dividends and interest was $192.7 and $182.8 for the nine months ended September 30, 2008 and 2007, respectively. For the nine months ended September 30, 2008 and 2007, we paid $233.5 and $159.1, respectively, in income taxes. These payments are comprised of estimated taxes for the current year, extension payments for the prior year and refunds or payments associated with income tax filings and tax audits.

Cash used in investing activities was $816.6 and $216.5 for the nine months ended September 30, 2008 and 2007, respectively. Cash paid for acquisitions, net of cash acquired was $678.2 and $508.6 for the nine months ended September 30, 2008 and 2007, respectively. Capitalized software development costs were $209.4 and $163.4 for the first nine months ended September 30, 2008 and 2007, respectively. The increase was attributable to a greater level of development costs being capitalized for VMware development activities. Net sales and maturities of investments were $565.6 and $817.7 for the first nine months ended September 30, 2008 and 2007, respectively. This activity varies from period to period based upon our cash collections, cash requirements and maturity dates of our investments. During the nine months ended September 30, 2007, we received $150.0 in net proceeds from the sale of 6.0 million shares of our interest in VMware to Cisco.

Cash used in financing activities was $683.3 for the nine months ended September 30, 2008 compared to cash provided of $777.4 for the nine months ended September 30, 2007. For the nine months ended September 30, 2008 and 2007, we spent $1,120.0 and $1,102.6 to repurchase 75.7 million and 73.3 million shares of our common stock, respectively. We plan to spend up to $1,500.0 on common stock repurchases during 2008; however, the number of shares purchased and timing of our purchases will

 

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be dependent upon a number of factors, including the price of our stock, market conditions, our cash position and alternative demands for our cash resources. We generated $344.2 and $556.1 during the nine months ended September 30, 2008 and 2007, respectively, from the exercise of stock options. Stock options exercises from VMware’s stock option grants contributed $167.4 to the $344.2 generated in cash from the exercise of options during the nine months ended September 30, 2008. Additionally, the exercising of stock options generated excess tax benefits of $96.0 for the nine months ended September 30, 2008 compared to $55.3 for the nine months ended September 30, 2007. The increase in excess tax benefits of $40.7 is primarily attributable to the exercising of VMware options at a per share price in excess of the Black-Sholes value at the date of the grant to the employee. During the nine months ended September 30, 2007, we received proceeds from the sale of VMware’s class A common stock in its IPO and to Intel of $1,253.5.

We have a credit line of $50.0 in the United States. As of September 30, 2008, we had no borrowings outstanding on the line of credit. The credit line bears interest at the bank’s base rate and requires us, upon utilization of the credit line, to meet certain financial covenants with respect to limitations on losses. In the event the covenants are not met, the lender may require us to provide collateral to secure the outstanding balance, if any. At September 30, 2008, we were in compliance with the covenants. As of September 30, 2008, the aggregate amount of liabilities of our subsidiaries was approximately $3,300.

At September 30, 2008, our total cash, cash equivalents, and short-term and long-term investments was $8,361.3. This balance includes approximately $1,691 held by VMware and $3,154 held by EMC in overseas entities. Our investments are comprised primarily of debt securities that are classified as available for sale and recorded at their fair market values. We utilize pricing services to assist us in determining the fair value of our short and long-term investments. Our pricing service vendors utilize the most recent observable market information when pricing securities. In the event the security is not listed, our investment advisors assess a variety of factors to determine the market value, including market values from recent transactions at which the security traded, the value of similar securities and pricing models. As part of our process to determine fair value, throughout the year we perform independent verifications of all of our holdings. In the event a price fails a pre-established tolerance check, it is researched so that we can assess the cause of the variance to determine what we believe is the appropriate fair market value.

At December 31, 2007, we held $972.5 of auction rate securities and classified these as short-term investments. We have liquidated a portion of these securities through September 30, 2008 reducing our holdings in auction rate securities to $212.7 or 2.5% of our total cash, cash equivalents and investments of $8,361.3. As a result of the volatility in the credit markets, auction failures for our auction rate securities and the related impact on the liquidity of these securities, we classified our auction rate securities as long-term investments at September 30, 2008 and recognized a $17.8 temporary decrease in their value that is included within other comprehensive loss since we believe the impairment in value of these investments is only temporary. Active quoted market prices are not currently available for auction rate securities. Therefore, to determine the estimated fair value of our investment in auction rate securities, we utilized a discounted cash flow model. The assumptions used in preparing the discounted cash flow model include an incremental discount rate for the lack of liquidity in the market (“liquidity discount margin”) for an estimated period of time. The discount rate we selected was based on AA-rated banks as the majority of our portfolio is invested in student loans where EMC acts as a financier to these lenders. The liquidity discount margin represents an estimate of the additional return an investor would require for the lack of liquidity of these securities over an estimated two-year holding period. During the third quarter, we increased the liquidity discount margin from 2.0% to 3.0% as a result of market conditions. We believe the underlying assumptions in the model, specifically the liquidity discount margin of 3.0% and an estimated holding period of two years, are reasonable based upon the estimated premium required to hold a similar investment with a similar duration and our experience in liquidating these investments since December 31, 2007. Our investment in auction rate securities is composed primarily of student loans that are supported by the federal government as part of the Federal Family Education Loan Program (“FFELP”) through the U.S. Department of Education and secondarily of obligations of municipalities rated single-A or higher. We believe the quality of the collateral underlying these securities will enable us to recover our principal balance. As of September 30, 2008, a 100 basis point change in the unobservable discount rate resulting from a different holding period would result in a change of approximately $3.0 in the fair value of the auction rate securities.

At September 30, 2008, we held $188.4 of asset- and mortgage-backed securities or 2.3% of our total cash, cash equivalents and investments of $8,361.3. We recognized a $14.5 temporary decrease in their fair value that is included within other comprehensive loss since we believe the impairment in value of these assets is only temporary. These asset- and mortgage-backed securities are primarily AAA-rated and the assets underlying these securities are generally residential or commercial mortgage obligations, automobile loans, credit card loans, equipment loans or home equity loans. The average maturity is 0.7 years and 1.5 years for the asset-backed and mortgaged-backed securities, respectively.

 

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At September 30, 2008, we held $5,473.7 of cash and cash equivalents with a maturity of 90 days or less. Due to the nature of these assets, we consider it reasonable to expect that their fair market values will not be significantly impacted by a change in interest rates.

The remaining $2,486.5 held at September 30, 2008 was invested in short and long-term investments consisting of U.S. government and agency obligations, U.S. corporate debt securities, municipal obligations and foreign debt securities.

To date, inflation has not had a material impact on our financial results.

New Accounting Pronouncements

We adopted Financial Accounting Standards (“FAS”) No. 157, “Fair Value Measurements” (“FAS No. 157”) on January 1, 2008. FAS No. 157 defines fair value, establishes a methodology for measuring fair value and expands the required disclosure for fair value measurements. During 2008, the Financial Accounting Standards Board (“FASB”) issued the following amendments:

 

   

FASB Staff Position No. 157-1, “Application of FASB Statement No. 157 to FASB Statement No. 13 and Other Accounting Pronouncements That Address Fair Value Measurements for Purposes of Lease Classification or Measurement under Statement 13” amends FAS No. 157 to remove certain leasing transactions from its scope.

 

   

FASB Staff Position No. FAS 157-2, “Effective Date of FASB Statement No. 157” delays the effective date of FAS No. 157 from 2008 to 2009 for non-financial assets and non-financial liabilities, except for items that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually). We are currently evaluating the potential impact of FAS No. 157 for non-financial assets and non-financial liabilities on our financial position and results of operations.

 

   

FASB Staff Position No. 157-3, “Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active” (“FSP FAS No. 157-3”) clarifies the application of FAS No. 157 in a market that is not active and provides an example to illustrate key considerations in determining the fair value of a financial asset when the market for that financial asset is not active. FSP FAS No. 157-3 is effective October 2008, including prior periods for which financial statements have not been issued.

In December 2007, the FASB issued FAS No. 141 (revised 2007), “Business Combinations” (“FAS No. 141R”). This statement establishes principles and requirements for how the acquirer in a business combination (i) recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any noncontrolling interest in the acquiree, (ii) recognizes and measures the goodwill acquired in the business combination or a gain from a bargain purchase, and (iii) determines what information to disclose to enable users of the financial statements to evaluate the nature and financial effects of the business combination. FAS No. 141R is effective for fiscal years beginning after December 15, 2008. The impact of the standard on our financial position and results of operations will be dependent upon the number of and magnitude of the acquisitions that are consummated once the standard is effective.

In December 2007, the FASB issued FAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements – an amendment of Accounting Research Board (“ARB”) No. 51” (“FAS No. 160”). The objective of this statement is to improve the relevance, comparability and transparency of the financial information that a reporting entity provides in its consolidated financial statements by establishing accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. FAS No. 160 is effective for fiscal years beginning after December 15, 2008. We are currently evaluating the potential impact of FAS No. 160 on our financial position and results of operations.

In March 2008, the FASB issued FAS No. 161, “Disclosures about Derivative Instruments and Hedging Activities” (“FAS No. 161”). This statement changes the disclosure requirements for derivative instruments and hedging activities. Entities are required to provide enhanced disclosures about (a) how and why an entity uses derivative instruments, (b) how derivative instruments and related hedged items are accounted for under FAS No. 133, “Accounting for Derivative Instruments and Hedging Activities”, and its related interpretations, and (c) how derivative instruments and related hedged items affect an entity’s financial position, financial performance and cash flows. FAS No. 161 is effective for fiscal years ending after November 15, 2008. We do not expect FAS No. 161 to have a material impact on our financial position or results of operations.

 

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS - (Continued)

 

In April 2008, the FASB issued FASB Staff Position (“FSP”) on FAS No. 142-3, “Determination of the Useful Life of Intangible Assets” (“FSP FAS No. 142-3”). FSP FAS No. 142-3 amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under FAS No. 142, “Goodwill and Other Intangible Assets” (“FAS No. 142”). The intent of FSP FAS No. 142-3 is to improve the consistency between the useful life of a recognized intangible asset under FAS No. 142 and the period of expected cash flows used to measure the fair value of the asset under FAS No. 141R and other U.S. generally accepted accounting principles. FSP FAS No. 142-3 is effective for financial statements issued for fiscal years beginning after December 15, 2008. We do not expect FSP FAS No. 142-3 to have a material impact on our financial position or results of operations.

In May 2008, the FASB issued FSP APB 14-1, which changes the accounting treatment for certain convertible securities which include our Notes. Under FSP APB 14-1, issuers are required to allocate the bond proceeds into a bond portion and a conversion option. The allocation of the bond portion is based upon determining the value of a bond based upon the issuance costs of debt with no conversion option. The residual value is allocated to the conversion option. As a result of this change, the bonds are recorded at a discount which is accreted to its face value over the term of the debt using the effective interest method resulting in additional interest expense. The separated conversion option will be recorded in equity and not marked to market provided that the requirement for equity classification is met. FSP APB 14-1 requires issuers to retroactively revise all periods presented. FSP APB 14-1 is effective for financial statements for fiscal years ended after December 15, 2008 and early adoption is not permitted. We plan to adopt FSP APB 14-1 on January 1, 2009.

Upon adoption of FSP APB 14-1, we will revise prior period financial statements by reclassifying $669.1 of our Notes to additional paid-in capital. Our interest expense will increase by $9.2 for 2006, $96.9 for 2007 and $76.3 for the nine months ended September 30, 2008.

 

Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

For quantitative and qualitative disclosures about market risk affecting us, see Item 7A “Quantitative and Qualitative Disclosures About Market Risk” in our Annual Report on Form 10-K filed with the SEC on February 29, 2008. Our exposure to market risks has not changed materially from that set forth in our Annual Report.

 

Item 4. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures. Our management, with the participation of our principal executive officer and principal financial officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)), as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on such evaluation, our principal executive officer and principal financial officer have concluded that as of such date, our disclosure controls and procedures were effective.

Changes in Internal Control Over Financial Reporting. There was no change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the period covered by this Quarterly Report on Form 10-Q that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

In making its assessment of the changes in internal control over financial reporting as of September 30, 2008, our management excluded the evaluation of the disclosure controls and procedures of Iomega Corporation, which was acquired by EMC on June 9, 2008. See Note 2 to the consolidated financial statements (Acquisitions) under Item 1 for a discussion of the acquisition.

 

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PART II

OTHER INFORMATION

 

Item 1. LEGAL PROCEEDINGS

We are a party to various litigation matters which we consider routine and incidental to our business. Management does not expect the results of any of these actions to have a material adverse effect on our business, results of operations or financial condition.

 

Item 1A. RISK FACTORS

The risk factors that appear below could materially affect our business, financial condition and results of operations. This description includes any material changes to and supersedes the description of the risk factors associated with our business previously disclosed in Item 1A of our Annual Report on Form 10-K for the fiscal year ended December 31, 2007. The risks and uncertainties described below are not the only risks and uncertainties facing us. Our business is also subject to general risks and uncertainties that affect many other companies.

Our business could be materially adversely affected as a result of general economic and market conditions, including the recent financial crisis.

We are subject to the effects of general global economic and market conditions. If these conditions remain uncertain or persist, spread or deteriorate further, our business, results of operations or financial condition could be materially adversely affected. In addition, the financial crisis in the banking sector and financial markets have resulted in a tightening in the credit markets, a low level of liquidity in many financial markets, and extreme volatility in fixed income, credit and equity markets. Possible consequences from the credit crisis on our business, including insolvency of key suppliers resulting in product delays, inability of customers to obtain credit to finance purchases of our products and/or customer insolvencies, and counterparty failures negatively impacting our treasury operations, could have a material adverse effect on our results of operations or financial condition.

Our business could be materially adversely affected as a result of a lessening demand in the information technology market.

Our revenue and profitability depend on the overall demand for our products and services. Delays or reductions in IT spending, domestically or internationally, could materially adversely affect demand for our products and services which could result in decreased revenues or earnings.

Our customers operate in a variety of markets, including the financial services, credit and housing and construction markets. Any adverse effects to such markets could materially adversely affect demand for our products and services which could result in decreased revenues or earnings.

Competitive pricing, sales volume, mix and component costs could materially adversely affect our revenues, gross margins and earnings.

Our gross margins are impacted by a variety of factors, including competitive pricing, component and product design costs as well as the volume and relative mixture of product and services revenues. Increased component costs, increased pricing pressures, the relative and varying rates of increases or decreases in component costs and product price, changes in product and services revenue mixture or decreased volume could have a material adverse effect on our revenues, gross margins or earnings.

The costs of third-party components comprise a significant portion of our product costs. While we generally have been able to manage our component and product design costs, we may have difficulty managing such costs if supplies of certain components become limited or component prices increase. Any such limitation could result in an increase in our component costs. An increase in component or design costs relative to our product prices could have a material adverse effect on our gross margins and earnings. Moreover, certain competitors may have advantages due to vertical integration of their supply chain, which may include disk drives, microprocessors, memory components and servers.

The markets in which we do business are highly competitive and we encounter aggressive price competition for all of our products and services from numerous companies globally. There also has been and may continue to be a willingness on the part of certain competitors to reduce prices or provide information infrastructure and virtual infrastructure products or services, together

 

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with other IT products or services, at minimal or no additional cost in order to preserve or gain market share. Such price competition may result in pressure on our product and service prices, and reductions in product and service prices may have a material adverse effect on our revenues, gross margins and earnings. We currently believe that pricing pressures are likely to continue.

Our financial performance may be impacted by the financial performance of VMware.

Because we consolidate VMware’s financial results in our results of operations, our financial performance will be impacted by the financial performance of VMware. VMware’s financial performance may be affected by a number of factors, including, but not limited to:

 

   

rates of customer adoption for virtualization solutions;

 

   

fluctuations in demand, adoption, sales cycles and pricing levels for VMware’s products and services;

 

   

fluctuations in foreign currency exchange rates;

 

   

changes in customers’ budgets for information technology purchases and in the timing of their purchasing decisions;

 

   

VMware’s ability to compete with existing or new competitors;

 

   

the timing of recognizing revenue in any given quarter as a result of software revenue recognition policies;

 

   

the sale of VMware products in the timeframes they anticipate, including the number and size of orders in each quarter;

 

   

VMware’s ability to develop, introduce and ship in a timely manner new products and product enhancements that meet customer demand, certification requirements and technical requirements;

 

   

the amount of equity-based compensation expense as a result of VMware equity grants;

 

   

VMware’s ability to effectively manage future growth and acquisitions;

 

   

changes to VMware’s effective tax rate;

 

   

the increasing scale of VMware’s business and its effect on VMware’s ability to maintain historical rates of growth;

 

   

the timing of the announcement or release of products or upgrades by VMware or by its competitors;

 

   

VMware’s ability to implement scalable systems of internal controls;

 

   

VMware’s ability to control costs, including its operating expenses;

 

   

VMware’s ability to attract and retain highly skilled employees, particularly those with relevant experience in software development and sales; and

 

   

general economic conditions in VMware’s domestic and international markets.

Our stock price is volatile and may be affected by the trading price of VMware Class A common stock and/or speculation about the possibility of future actions we might take in connection with our VMware stock ownership.

Our stock price, like that of other technology companies, is subject to significant volatility because of factors such as:

 

   

the announcement of acquisitions, new products, services or technological innovations by us or our competitors;

 

   

quarterly variations in our operating results;

 

   

changes in revenue or earnings estimates by the investment community; and

 

   

speculation in the press or investment community.

The trading price of our common stock has been and likely will continue to be affected by various factors related to VMware, including:

 

   

the trading price for VMware Class A common stock;

 

   

actions taken or statements made by us, VMware, or others concerning the potential separation of VMware from us, including by spin-off, split-off or sale; and

 

   

factors impacting the financial performance of VMware, including those discussed in the prior risk factor.

 

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In addition, although we own a majority of VMware and consolidate their results, our stock price may not reflect our pro rata ownership interest of VMware.

If our suppliers are not able to meet our requirements, we could have decreased revenues and earnings.

We purchase or license many sophisticated components and products from one or a limited number of qualified suppliers, including some of our competitors. These components and products include disk drives, high density memory components, power supplies and software developed and maintained by third parties. We have experienced delivery delays from time to time because of high industry demand or the inability of some vendors to consistently meet our quality or delivery requirements. If any of our suppliers were to cancel or materially change contracts or commitments with us or fail to meet the quality or delivery requirements needed to satisfy customer orders for our products, we could lose time-sensitive customer orders, be unable to develop or sell certain products cost-effectively or on a timely basis, if at all, and have significantly decreased quarterly revenues and earnings, which would have a material adverse effect on our business, results of operations and financial condition. Additionally, we periodically transition our product line to incorporate new technologies. The importance of transitioning our customers smoothly to new technologies, along with our historically uneven pattern of quarterly sales, intensifies the risk that the failure of a supplier to meet our quality or delivery requirements will have a material adverse impact on our revenues and earnings.

Our business could be materially adversely affected as a result of the risks associated with acquisitions and investments.

As part of our business strategy, we seek to acquire businesses that offer complementary products, services or technologies. These acquisitions are accompanied by the risks commonly encountered in an acquisition of a business, which may include, among other things:

 

   

the effect of the acquisition on our financial and strategic position and reputation;

 

   

the failure of an acquired business to further our strategies;

 

   

the failure of the acquisition to result in expected benefits, which may include benefits relating to enhanced revenues, technology, human resources, cost savings, operating efficiencies and other synergies;

 

   

the difficulty and cost of integrating the acquired business, including costs and delays in implementing common systems and procedures and costs and delays caused by communication difficulties or geographic distances between the two companies’ sites;

 

   

the assumption of liabilities of the acquired business, including litigation-related liability;

 

   

the potential impairment of acquired assets;

 

   

the lack of experience in new markets, products or technologies or the initial dependence on unfamiliar supply or distribution partners;

 

   

the diversion of our management’s attention from other business concerns;

 

   

the impairment of relationships with customers or suppliers of the acquired business or our customers or suppliers;

 

   

the potential loss of key employees of the acquired company; and

 

   

the potential incompatibility of business cultures.

These factors could have a material adverse effect on our business, results of operations or financial condition. To the extent that we issue shares of our common stock or other rights to purchase our common stock in connection with any future acquisition, existing shareholders may experience dilution. Additionally, regardless of the form of consideration issued, acquisitions could negatively impact our net income and our earnings per share.

In addition to the risks commonly encountered in the acquisition of a business as described above, we may also experience risks relating to the challenges and costs of closing a transaction. Further, the risks described above may be exacerbated as a result of managing multiple acquisitions at the same time.

In 2007, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards No. 141(R) “Business Combinations.” The standard, which is effective commencing in our 2009 fiscal year, will result in significant changes in accounting for acquisitions. Depending upon the number of and magnitude of acquisitions which we may consummate in 2009, the standard could have a material adverse effect on our business, results of operations and financial condition.

 

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We also seek to invest in businesses that offer complementary products, services or technologies. These investments are accompanied by risks similar to those encountered in an acquisition of a business.

We may be unable to keep pace with rapid industry, technological and market changes.

The markets in which we compete are characterized by rapid technological change, frequent new product introductions, evolving industry standards and changing needs of customers. There can be no assurance that our existing products will be properly positioned in the market or that we will be able to introduce new or enhanced products into the market on a timely basis, or at all. We spend a considerable amount of money on research and development and introduce new products from time to time. There can be no assurance that enhancements to existing products and solutions or new products and solutions will receive customer acceptance. As competition in the IT industry increases, it may become increasingly difficult for us to maintain a technological advantage and to leverage that advantage toward increased revenues and profits.

Risks associated with the development and introduction of new products include delays in development and changes in data storage, networking virtualization, infrastructure management, information security and operating system technologies which could require us to modify existing products. Risks inherent in the transition to new products include:

 

   

the difficulty in forecasting customer preferences or demand accurately

 

   

the inability to expand production capacity to meet demand for new products

 

   

the impact of customers’ demand for new products on the products being replaced, thereby causing a decline in sales of existing products and an excessive, obsolete supply of inventory

 

   

delays in initial shipments of new products

Further risks inherent in new product introductions include the uncertainty of price-performance relative to products of competitors, competitors’ responses to the introductions and the desire by customers to evaluate new products for extended periods of time. Our failure to introduce new or enhanced products on a timely basis, keep pace with rapid industry, technological or market changes or effectively manage the transitions to new products or new technologies could have a material adverse effect on our business, results of operations or financial condition.

The markets we serve are highly competitive and we may be unable to compete effectively.

We compete with many companies in the markets we serve, certain of which offer a broad spectrum of IT products and services and others which offer specific information storage, management or virtualization products or services. Some of these companies (whether independently or by establishing alliances) may have substantially greater financial, marketing and technological resources, larger distribution capabilities, earlier access to customers and greater opportunity to address customers’ various IT requirements than us. In addition, as the IT industry consolidates, companies may improve their competitive position and ability to compete against us. We compete on the basis of our products’ features, performance and price as well as our services. Our failure to compete on any of these bases could affect demand for our products or services, which could have a material adverse effect on our business, results of operations or financial condition.

Companies may develop new technologies or products in advance of us or establish business models or technologies disruptive to us. Our business may be materially adversely affected by the announcement or introduction of new products, including hardware and software products and services by our competitors, and the implementation of effective marketing or sales strategies by our competitors. The material adverse effect to our business could include a decrease in demand for our products and services and an increase in the length of our sales cycle due to customers taking longer to compare products and services and to complete their purchases.

We may have difficulty managing operations.

Our future operating results will depend on our overall ability to manage operations, which includes, among other things:

 

   

retaining and hiring, as required, the appropriate number of qualified employees

 

   

managing, protecting and enhancing, as appropriate, our infrastructure, including but not limited to, our information systems and internal controls

 

   

accurately forecasting revenues

 

   

training our sales force to sell more software and services

 

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successfully integrating new acquisitions

 

   

managing inventory levels, including minimizing excess and obsolete inventory, while maintaining sufficient inventory to meet customer demands

 

   

controlling expenses

 

   

managing our manufacturing capacity, real estate facilities and other assets

 

   

executing on our plans

An unexpected decline in revenues without a corresponding and timely reduction in expenses or a failure to manage other aspects of our operations could have a material adverse effect on our business, results of operations or financial condition.

Our investment portfolio could experience a decline in market value which could adversely affect our financial results.

We held $2.9 billion in short and long-term investments as of September 30, 2008. The investments are invested primarily in investment grade securities, and we limit the amount of investment with any one issuer. A further deterioration in the economy, including a continuing credit crisis or significant volatility in interest rates, could cause the investments to decline in value or could impact the liquidity of the portfolio. If market conditions deteriorate significantly, our results of operations or financial condition could be materially adversely affected.

If our cost cutting measures are not successful, our business could be adversely affected.

A variety of factors could prevent us from achieving our goal of better aligning our revenues and cost structure. We may not be able to identify and implement appropriate cost savings in a timely manner. Additionally, we may determine that the costs of implementing reductions outweigh the commensurate benefits. Should we implement certain cost reductions, there could be adverse consequences on our business which could have a material adverse effect on our results of operations or financial position.

Our business may suffer if we are unable to retain or attract key personnel.

Our business depends to a significant extent on the continued service of senior management and other key employees, the development of additional management personnel and the hiring of new qualified employees. There can be no assurance that we will be successful in retaining existing personnel or recruiting new personnel. The loss of one or more key or other employees, our inability to attract additional qualified employees or the delay in hiring key personnel could have a material adverse effect on our business, results of operations or financial condition.

In addition, we have historically used stock options and other equity awards as key elements of our compensation packages for many of our employees. As a result of the requirement to expense stock-based compensation, we have reduced and may further reduce the number of shares and type of equity awards granted to employees. Additionally, the value of our equity awards may be adversely affected by the volatility of our stock price. Changes to regulatory or stock exchange rules and regulations and in institutional shareholder voting guidelines on equity plans may result in additional requirements or limitations on our equity plans. These factors may impair our ability to attract, retain and motivate employees.

Changes in generally accepted accounting principles may adversely affect us.

From time to time, the FASB promulgates new accounting principles that could have a material adverse impact on our results of operations or financial condition. For example, in May 2008, the FASB voted to issue FASB Staff Position (“FSP”) APB 14-1, which changes the accounting treatment for certain convertible securities which include our Notes. See Note 1 to the consolidated financial statements (New Accounting Pronouncements) under Item 1.

Our quarterly revenues and earnings could be materially adversely affected by uneven sales patterns and changing purchasing behaviors.

Our quarterly sales have historically reflected an uneven pattern in which a disproportionate percentage of a quarter’s total sales occur in the last month and weeks and days of each quarter. This pattern makes prediction of revenues, earnings and working capital for each financial period especially difficult and uncertain and increases the risk of unanticipated variations in quarterly results and financial condition. We believe this uneven sales pattern is a result of many factors including:

 

   

the relative dollar amount of our product and services offerings in relation to many of our customers’ budgets, resulting in long lead times for customers’ budgetary approval, which tends to be given late in a quarter

 

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the tendency of customers to wait until late in a quarter to commit to purchase in the hope of obtaining more favorable pricing from one or more competitors seeking their business

 

   

the fourth quarter influence of customers’ spending their remaining capital budget authorization prior to new budget constraints in the first nine months of the following year

 

   

seasonal influences

Our uneven sales pattern also makes it extremely difficult to predict near-term demand and adjust manufacturing capacity accordingly. If predicted demand is substantially greater than orders, there will be excess inventory. Alternatively, if orders substantially exceed predicted demand, the ability to assemble, test and ship orders received in the last weeks and days of each quarter may be limited, which could materially adversely affect quarterly revenues and earnings.

In addition, our revenues in any quarter are substantially dependent on orders booked and shipped in that quarter and our backlog at any particular time is not necessarily indicative of future sales levels. This is because:

 

   

we assemble our products on the basis of our forecast of near-term demand and maintain inventory in advance of receipt of firm orders from customers

 

   

we generally ship products shortly after receipt of the order

 

   

customers may reschedule or cancel orders with little or no penalty

Loss of infrastructure, due to factors such as an information systems failure, loss of public utilities or extreme weather conditions, could impact our ability to ship products in a timely manner. Delays in product shipping or an unexpected decline in revenues without a corresponding and timely slowdown in expenses, could intensify the impact of these factors on our business, results of operations and financial condition.

In addition, unanticipated changes in our customers’ purchasing behaviors such as customers taking longer to negotiate and complete their purchases or making smaller, incremental purchases based on their current needs, also make the prediction of revenues, earnings and working capital for each financial period difficult and uncertain and increase the risk of unanticipated variations in our quarterly results and financial condition.

Risks associated with our distribution channels may materially adversely affect our financial results.

In addition to our direct sales force, we have agreements in place with many distributors, systems integrators, resellers and original equipment manufacturers to market and sell our products and services. We may, from time to time, derive a significant percentage of our revenues from such distribution channels. For the quarter ended September 30, 2008, Dell Inc., one of our channel partners, accounted for 10.4% of our revenues. Our financial results could be materially adversely affected if our contracts with channel partners were terminated, if our relationship with channel partners were to deteriorate, if the financial condition of our channel partners were to weaken, if our channel partners are not able to timely and effectively implement their planned actions or if the level of demand for our channel partners’ products and services decreases. In addition, as our market opportunities change, we may have an increased reliance on channel partners, which may negatively impact our gross margins. There can be no assurance that we will be successful in maintaining or expanding these channels. If we are not successful, we may lose sales opportunities, customers and market share. Furthermore, the partial reliance on channel partners may materially reduce the visibility to our management of potential customers and demand for products and services, thereby making it more difficult to accurately forecast such demand. In addition, there can be no assurance that our channel partners will not develop, market or sell products or services or acquire other companies that develop, market or sell products or services in competition with us in the future.

In addition, as we focus on new market opportunities and additional customers through our various distribution channels, including small-to-medium sized businesses, we may be required to provide different levels of service and support than we typically provided in the past. We may have difficulty managing directly or indirectly through our channels these different service and support requirements and may be required to incur substantial costs to provide such services which may adversely affect our business, results of operations or financial condition.

Changes in foreign conditions could impair our international operations.

A substantial portion of our revenues is derived from sales outside the United States. In addition, a substantial portion of our products is manufactured outside of the United States. Accordingly, our future results could be materially adversely affected by a

 

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variety of factors, including changes in foreign currency exchange rates, changes in a specific country’s or region’s political or economic conditions, trade restrictions, import or export licensing requirements, the overlap of different tax structures or changes in international tax laws, changes in regulatory requirements, compliance with a variety of foreign laws and regulations and longer payment cycles in certain countries.

Undetected problems in our products could directly impair our financial results.

If flaws in design, production, assembly or testing of our products (by us or our suppliers) were to occur, we could experience a rate of failure in our products that would result in substantial repair, replacement or service costs and potential damage to our reputation. Continued improvement in manufacturing capabilities, control of material and manufacturing quality and costs and product testing are critical factors in our future growth. There can be no assurance that our efforts to monitor, develop, modify and implement appropriate test and manufacturing processes for our products will be sufficient to permit us to avoid a rate of failure in our products that results in substantial delays in shipment, significant repair or replacement costs or potential damage to our reputation, any of which could have a material adverse effect on our business, results of operations or financial condition.

Our business could be materially adversely affected as a result of the risks associated with alliances.

We have alliances with leading information technology companies and we plan to continue our strategy of developing key alliances in order to expand our reach into markets. There can be no assurance that we will be successful in our ongoing strategic alliances or that we will be able to find further suitable business relationships as we develop new products and strategies. Any failure to continue or expand such relationships could have a material adverse effect on our business, results of operations or financial condition.

There can be no assurance that companies with which we have strategic alliances, certain of which have substantially greater financial, marketing or technological resources than us, will not develop or market products in competition with us in the future, discontinue their alliances with us or form alliances with our competitors.

Our business may suffer if we cannot protect our intellectual property.

We generally rely upon patent, copyright, trademark and trade secret laws and contract rights in the United States and in other countries to establish and maintain our proprietary rights in our technology and products. However, there can be no assurance that any of our proprietary rights will not be challenged, invalidated or circumvented. In addition, the laws of certain countries do not protect our proprietary rights to the same extent as do the laws of the United States. Therefore, there can be no assurance that we will be able to adequately protect our proprietary technology against unauthorized third-party copying or use, which could adversely affect our competitive position. Further, there can be no assurance that we will be able to obtain licenses to any technology that we may require to conduct our business or that, if obtainable, such technology can be licensed at a reasonable cost.

From time to time, we receive notices from third parties claiming infringement by our products of third-party patent or other intellectual property rights. Responding to any such claim, regardless of its merit, could be time-consuming, result in costly litigation, divert management’s attention and resources and cause us to incur significant expenses. In the event there is a temporary or permanent injunction entered prohibiting us from marketing or selling certain of our products or a successful claim of infringement against us requiring us to pay royalties to a third party, and we fail to develop or license a substitute technology, our business, results of operations or financial condition could be materially adversely affected.

We may become involved in litigation that may materially adversely affect us.

From time to time in the ordinary course of our business, we may become involved in various legal proceedings, including patent, commercial, product liability, employment, class action, whistleblower and other litigation and claims, and governmental and other regulatory investigations and proceedings. Such matters can be time-consuming, divert management’s attention and resources and cause us to incur significant expenses. Furthermore, because litigation is inherently unpredictable, there can be no assurance that the results of any of these actions will not have a material adverse effect on our business, results of operations or financial condition.

We may have exposure to additional income tax liabilities.

As a multinational corporation, we are subject to income taxes in both the United States and various foreign jurisdictions. Our domestic and international tax liabilities are subject to the allocation of revenues and expenses in different jurisdictions and the

 

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timing of recognizing revenues and expenses. Additionally, the amount of income taxes paid is subject to our interpretation of applicable tax laws in the jurisdictions in which we file. From time to time, we are subject to income tax audits. While we believe we have complied with all applicable income tax laws, there can be no assurance that a governing tax authority will not have a different interpretation of the law and assess us with additional taxes. Should we be assessed with additional taxes, there could be a material adverse effect on our results of operations or financial condition.

Changes in regulations could materially adversely affect us.

Our business, results of operations or financial condition could be materially adversely affected if laws, regulations or standards relating to us or our products are newly implemented or changed. In addition, our compliance with existing regulations may have a material adverse impact on us. Under applicable federal securities laws, including the Sarbanes-Oxley Act of 2002, we are required to evaluate and determine the effectiveness of our internal control structure and procedures for financial reporting. Should we or our independent auditors determine that we have material weaknesses in our internal controls, our results of operations or financial condition may be materially adversely affected or our stock price may decline.

Our pension and retirement benefit plan assets are subject to market volatility.

We have noncontributory defined benefit pension plans and a post-retirement benefit plan assumed as part of our Data General acquisition. The plans’ assets are invested in common stocks, bonds and cash. The expected long-term rate of return on the plans’ assets for 2008 is 8.25%. The actual long-term rate of return achieved on the plans’ assets for the ten years ended December 31, 2007 was 6.0%. Given current market conditions, should we not achieve the expected rate of return on our plans’ assets or if our plans experience a decline in the fair value of their assets, we may be required to contribute assets to the plan which could materially adversely affect our results of operations or financial condition.

Our business could be materially adversely affected as a result of war or acts of terrorism.

Terrorist acts or acts of war may cause damage or disruption to our employees, facilities, customers, partners, suppliers, distributors and resellers, which could have a material adverse effect on our business, results of operations or financial condition. Such conflicts may also cause damage or disruption to transportation and communication systems and to our ability to manage logistics in such an environment, including receipt of components and distribution of products.

 

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Item 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

ISSUER PURCHASES OF EQUITY SECURITIES IN THE THIRD QUARTER OF 2008

 

Period

   Total Number
of Shares
Purchased(1)
    Average Price
Paid per Share
   Total Number of
Shares Purchased as
Part of Publicly
Announced Plans or
Programs
   Maximum Number
of Shares that May
Yet Be Purchased
Under the Plans or

Programs

July 1, 2008 –
July 31, 2008

   11,288,704     $ 14.19    10,957,331    245,411,766

August 1, 2008 –
August 31, 2008

   108,991     $ 14.80       245,411,766

September 1, 2008 –
September 30, 2008

   20,294,785     $ 13.65    20,294,785    225,116,981
                

Total

   31,692,480 (2)   $ 13.84    31,252,116    225,116,981
                

 

(1) Except as noted in note (2), all shares were purchased in open-market transactions pursuant to previously announced authorizations by our Board of Directors in April 2006 and April 2008 to repurchase a combined 500.0 million shares of our common stock. These repurchase authorizations do not have a fixed termination date.
(2) Includes an aggregate of 440,364 shares withheld from employees for the payment of taxes.

 

Item 3. DEFAULTS UPON SENIOR SECURITIES

None.

 

Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

None.

 

Item 5. OTHER INFORMATION

None.

 

Item 6. EXHIBITS

(a) Exhibits

See index to Exhibits on page 47 of this report.

 

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Table of Contents

SIGNATURES

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.

 

        EMC CORPORATION

Date: November 7, 2008

  By:  

/s/ DAVID I. GOULDEN

      David I. Goulden
      Executive Vice President and Chief Financial Officer
      (Principal Financial Officer)

 

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Table of Contents

EXHIBIT INDEX

 

3.1    Restated Articles of Organization of EMC Corporation, as amended. (1)
3.2    Amended and Restated Bylaws of EMC Corporation. (2)
4.1    Form of Stock Certificate. (1)
31.1    Certification of Principal Executive Officer required by Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. (filed herewith)
31.2    Certification of Principal Financial Officer required by Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. (filed herewith)
32.1    Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (filed herewith)
32.2    Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (filed herewith)

 

(1) Incorporated by reference to EMC Corporation’s Annual Report on Form 10-K filed February 29, 2008 (No. 1-9853).
(2) Incorporated by reference to EMC Corporation’s Current Report on Form 8-K filed August 6, 2008 (No. 1-9853).

 

47