e10vq
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark One)
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þ |
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended July 2, 2005
or
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o |
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission file number 0-27892
Sipex Corporation
(Exact name of registrant as specified in its charter)
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Delaware
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04-6135748 |
(State or other jurisdiction of
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(IRS Employer |
incorporation or organization)
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Identification No.) |
233 South Hillview Drive,
Milpitas, California 95035
(Address of principal executive offices, including zip code)
Registrants telephone number, including area code:
(408) 934-7500
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 o No þ
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of accelerated filer and large
accelerated filer in Rule 12b-2 of the Exchange Act (Check one :).
Large accelerated filer o Accelerated filer þ Non-accelerated filer o
Indicate by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Act). Yes o No þ
Number of shares outstanding of the registrants common stock, $0.01 par value, as of the
latest practicable date.
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Class
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Outstanding at August 15, 2006 |
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Common Stock
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35,550,378 |
EXPLANATORY NOTE
On January 20, 2005, we announced that our audit committee had commenced an internal
investigation over the possible improper recognition of revenue on sales for which price
protection, stock rotation and return rights might have been granted. As a result of this
investigation, we restated our previously reported results of operations for the fiscal year ended
December 31, 2003 and restated quarterly information for all fiscal quarters in the year ended
December 31, 2003 and the fiscal quarters ended April 3, 2004, July 3, 2004 and October 2, 2004 in
our annual report on Form 10-K for the year ended January 1, 2005.
In addition, because of the internal investigation we delayed the timely filing of our Forms
10-K for the fiscal years ended January 1, 2005 and December 31, 2005, this quarterly report and
our quarterly reports on Forms 10-Q for the periods ended April 2, 2005, October 1, 2005, April 1,
2006 and July 1, 2006.
We are also filing our annual reports on Form 10-K for the years ended January 1, 2005 and
December 31, 2005 and our
quarterly reports on Forms 10-Q for the periods ended April 2, 2005 and October 1, 2005
concurrently with this quarterly report.
SIPEX CORPORATION
FORM 10-Q
THREE MONTHS ENDED JULY 2, 2005
INDEX
i
Part I: FINANCIAL INFORMATION
Item 1: Financial Statements
SIPEX CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except per share data)
(Unaudited)
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July 2, 2005 |
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January 1, 2005 |
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ASSETS |
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Current assets: |
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Cash and cash equivalents |
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$ |
5,368 |
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$ |
15,523 |
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Restricted cash |
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735 |
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613 |
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Short-term investment securities |
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249 |
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Accounts
receivable, less allowances of $757 and $1,143, respectively |
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4,861 |
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7,597 |
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Accounts receivable, related party, less allowances of $415 and $271,
respectively (Note 6) |
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4,190 |
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2,311 |
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Inventories |
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13,586 |
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13,141 |
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Prepaid expenses and other current assets |
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1,669 |
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1,604 |
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Total current assets |
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30,409 |
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41,038 |
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Property, plant, and equipment, net |
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33,386 |
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45,318 |
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Restricted cash noncurrent |
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1,103 |
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1,225 |
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Other assets |
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216 |
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485 |
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Total assets |
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$ |
65,114 |
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$ |
88,066 |
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LIABILITIES AND STOCKHOLDERS EQUITY |
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Current liabilities: |
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Accounts payable |
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$ |
8,211 |
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$ |
10,863 |
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Accrued expenses |
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6,251 |
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5,855 |
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Accrued restructuring costs |
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615 |
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566 |
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Deferred income, related party |
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6,104 |
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5,874 |
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Deferred income, other |
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3,600 |
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3,534 |
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Total current liabilities |
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24,781 |
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26,692 |
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Long-term accrued restructuring costs |
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983 |
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1,281 |
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Other long-term liabilities |
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40 |
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13 |
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Total liabilities |
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25,804 |
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27,986 |
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Commitments and contingencies (Note 13) |
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Stockholders equity: |
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Preferred stock, $0.01 par value, 1,000 shares authorized
and no shares issued or outstanding |
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Common stock, $0.01 par value, 60,000 shares authorized; 35,550
shares issued and outstanding at July 2, 2005 and 35,394 shares
issued and outstanding at January 1, 2005 |
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355 |
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354 |
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Additional paid-in capital |
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223,961 |
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223,479 |
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Accumulated deficit |
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(184,987 |
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(163,734 |
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Accumulated other comprehensive loss |
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(19 |
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(19 |
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Total stockholders equity |
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39,310 |
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60,080 |
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Total liabilities and stockholders equity |
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$ |
65,114 |
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$ |
88,066 |
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See accompanying notes to condensed consolidated financial statements
1
SIPEX CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
(Unaudited)
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For the Three Months Ended |
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For the Six Months Ended |
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July 3, 2004 |
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July 3, 2004 |
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July 2, 2005 |
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(Restated) |
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July 2, 2005 |
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(Restated) |
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Net sales |
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$ |
10,567 |
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$ |
8,409 |
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$ |
22,374 |
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$ |
19,341 |
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Net sales, related party (Note 6) |
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7,765 |
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8,100 |
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15,685 |
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15,319 |
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Total net sales |
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18,332 |
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16,509 |
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38,059 |
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34,660 |
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Cost of sales |
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8,966 |
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6,523 |
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18,312 |
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16,809 |
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Cost of sales, related party |
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6,121 |
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5,631 |
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11,125 |
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10,417 |
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Total cost of sales |
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15,087 |
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12,154 |
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29,437 |
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27,226 |
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Gross profit |
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3,245 |
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4,355 |
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8,622 |
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7,434 |
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Operating expenses: |
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Research and development |
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4,267 |
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3,809 |
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8,119 |
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7,463 |
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Marketing and selling |
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2,720 |
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2,239 |
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5,297 |
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4,279 |
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General and administrative |
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3,138 |
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1,578 |
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7,224 |
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4,194 |
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Restructuring |
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47 |
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42 |
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59 |
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24 |
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Impairment of fixed assets |
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9,377 |
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9,377 |
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Total operating expenses |
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19,549 |
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7,668 |
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30,076 |
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15,960 |
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Loss from operations |
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(16,304 |
) |
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(3,313 |
) |
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(21,454 |
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(8,526 |
) |
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Other income (expense): |
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Interest income |
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61 |
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37 |
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146 |
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82 |
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Interest expense |
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(5 |
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(13 |
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(17 |
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(111 |
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Other income, net |
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47 |
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52 |
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94 |
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107 |
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Total other income, net |
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103 |
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76 |
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223 |
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78 |
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Loss before income tax expense (benefit) |
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(16,201 |
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(3,237 |
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(21,231 |
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(8,448 |
) |
Income tax expense (benefit) |
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10 |
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(100 |
) |
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22 |
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(69 |
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Net loss |
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$ |
(16,211 |
) |
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$ |
(3,137 |
) |
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$ |
(21,253 |
) |
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$ |
(8,379 |
) |
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Net loss per common share basic and diluted |
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$ |
(0.46 |
) |
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$ |
(0.09 |
) |
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$ |
(0.60 |
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$ |
(0.26 |
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Weighted average common shares outstanding
basic and diluted |
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35,550 |
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33,089 |
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35,538 |
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31,849 |
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See accompanying notes to condensed consolidated financial statements
2
SIPEX CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
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For the Six Months Ended |
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July 3, 2004 |
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July 2, 2005 |
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(Restated) |
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Operating activities: |
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Net loss |
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$ |
(21,253 |
) |
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$ |
(8,379 |
) |
Adjustments to reconcile net loss to net cash used in operating activities: |
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Stock compensation expense |
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4 |
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44 |
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Depreciation and amortization |
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2,856 |
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3,427 |
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Provision for inventories |
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2,979 |
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1,029 |
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Provision for restructuring charges |
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59 |
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24 |
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Impairment of fixed assets |
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9,377 |
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Amortization of discount and issuance costs on notes payable |
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57 |
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Provision for uncollectible receivables and sales returns and allowances |
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829 |
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693 |
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Consulting services provided by related party |
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17 |
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|
89 |
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Changes in assets and liabilities: |
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Accounts receivable |
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28 |
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1,896 |
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Inventories |
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(3,424 |
) |
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(2,485 |
) |
Prepaid expenses and other current assets |
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(286 |
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321 |
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Other assets |
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269 |
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(276 |
) |
Accounts payable |
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(2,693 |
) |
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347 |
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Accrued expenses |
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396 |
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(125 |
) |
Accrued restructuring costs |
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(308 |
) |
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(224 |
) |
Deferred income |
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296 |
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153 |
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Other long-term liabilities |
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27 |
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(6 |
) |
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Net cash used in operating activities |
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(10,827 |
) |
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(3,415 |
) |
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Investing activities: |
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Proceeds from maturity of short-term investment securities |
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850 |
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4,000 |
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Purchase of short-term investment securities |
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(601 |
) |
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(3,998 |
) |
Restricted cash increase |
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(1,838 |
) |
Purchase of property, plant & equipment |
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(260 |
) |
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(1,322 |
) |
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Net cash used in investing activities |
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(11 |
) |
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(3,158 |
) |
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Financing activities: |
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Proceeds from issuance of common stock under employee stock plans |
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683 |
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|
345 |
|
Legal fees for conversion of note payable to common stock |
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(42 |
) |
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Net cash provided by financing activities |
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|
683 |
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303 |
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Effect of foreign currency exchange rate changes on cash
and cash equivalents |
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(12 |
) |
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Decrease in cash and cash equivalents |
|
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(10,155 |
) |
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(6,282 |
) |
Cash and cash equivalents at beginning of period |
|
|
15,523 |
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|
18,338 |
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Cash and cash equivalents at end of period |
|
$ |
5,368 |
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|
$ |
12,056 |
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Supplemental cash flow information: |
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Cash paid during the period for: |
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Income taxes |
|
$ |
29 |
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|
$ |
13 |
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Interest |
|
$ |
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|
$ |
5 |
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Supplemental disclosure of non-cash investing and financing activities: |
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Purchase of property, plant and equipment not paid at end of period |
|
$ |
154 |
|
|
$ |
444 |
|
|
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|
Conversion of convertible debt to common stock |
|
$ |
|
|
|
$ |
21,177 |
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|
|
|
|
|
|
|
See accompanying notes to condensed consolidated financial statements
3
SIPEX CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note 1 Description of Business and Basis of Presentation
Description of Business
Based in Milpitas, California, Sipex Corporation (Sipex or the Company) was incorporated
in May 1965 under the laws of the State of Massachusetts. The state of incorporation from
Massachusetts was changed to Delaware in October 2003. Sipex designs, manufactures and markets
high performance, analog integrated circuits or ICs that primarily are used by original equipment
manufacturers, or OEMs, operating in the computing, consumer electronics, communications and
networking infrastructure markets. Some of the end product applications that contain Sipexs ICs
are cellular phones, base stations, computers, DVD players, and digital cameras. Sipexs products
are sold either directly or through an international network of manufacturers representatives and
distributors.
The Companys wafer fabrication facility in Milpitas, California along with a number of
third-party contractors fabricate, package and test its ICs. In an effort to achieve significant
cost savings, in the third quarter of 2005 Sipex decided to close down the Milpitas wafer
fabrication facility and transfer the IC manufacturing processes from there to a wafer fabrication
facility operated by Hangzhou Silan Integrated Circuit Co., Ltd. (Silan) in Hangzhou, China and a
wafer fabrication facility operated by Episil Technologies, Inc. in Taiwan. Definitive agreements
regarding this transfer were entered into in February 2006, and the transition is expected to be
completed by the end of September 2006.
Basis of Presentation and Significant Accounting Policies
The accompanying interim unaudited condensed consolidated financial statements have been
prepared by Sipex without audit and reflect all adjustments, consisting only of normal recurring
adjustments which are, in the opinion of management, necessary for a fair presentation of the
Companys financial position, results of operations and cash flows for the interim periods
presented. The statements have been prepared in accordance with accounting principles generally
accepted in the United States of America (generally accepted accounting principles) for interim
financial information and in accordance with the instructions to Form 10-Q and Article 10-01 of
Regulation S-X. Accordingly, they do not include all information and footnotes required by
generally accepted accounting principles for annual consolidated financial statements.
The consolidated financial statements include the accounts of the Company and its
wholly-owned subsidiaries, Sipex GmbH and Sipex Nippon. All significant inter-company accounts and
transactions have been eliminated in consolidation.
Effective January 1, 2004, the Companys fiscal year was changed from a calendar year end to a
52 or 53-week fiscal year, which ends on the Saturday closest to December 31. As a result of the
change in the fiscal reporting period, the six months ended July 3, 2004 included 185 days and the
second quarter of 2004 covered 91 days from April 4, 2004 to July 3, 2004. The six months ended
July 2, 2005 included 182 days and the second quarter of fiscal year 2005 covered 91 days from
April 3, 2005 to July 2, 2005.
These unaudited interim financial statements should be read in conjunction with the audited
consolidated financial statements and accompanying notes included in the Companys Annual Report on
Form 10-K for the year ended January 1, 2005. The results of operations for the three and six
months ended July 2, 2005 are not necessarily indicative of the operating results to be expected
for the full fiscal year or future operating periods.
Revenue Recognition
The Company recognizes revenue in accordance with SEC Staff Accounting Bulletin (SAB) 104,
Revenue Recognition. SAB 104 requires that four basic criteria must be met before revenue can be
recognized: (1) persuasive evidence of an arrangement exists; (2) delivery has occurred or
services rendered; (3) the fee is fixed or determinable; and (4) collectibility is reasonably
assured.
4
Through the year ended December 31, 2002, the Company recognized revenue from distributors
other than Future Electronics Inc. (Future) upon title transfer and shipment because these
customers had no price protection and had limited return rights. Distributors were permitted to
return products limited to a percentage of their purchases over a specified period of time. The
Company was able to estimate and establish appropriate reserves for future returns from these
distributors, and historically the Company received stock rotation requests from its distributors
that were within the amounts estimated and contractually allowed. Starting in the first fiscal
quarter of 2003, the Company began entering into arrangements that were not within the original
contractual distributor agreements in that the Company allowed return rights and other concessions
beyond the levels provided in the distributor agreements. Due to this
change in customer arrangements, Company management concluded it is
unable to reasonably estimate sales returns for arrangements with its
distributors. This change was accounted for as a change in estimate
effective January 1, 2003, and resulted in sales and related
cost of sales on shipments to distributors being deferred until the
resale to the end customer.
Sales to Future are made under an agreement that provides protection against price reductions
of Sipexs products in Futures inventory. In addition, Future has stock rotation rights.
Pursuant to these stock rotation rights, Future is permitted on a quarterly basis to return for
credit up to 10% of its total purchases during the most recent three-month period. This credit
will be reduced to 5% applicable to all purchases made by Future from Sipex starting April 1, 2006.
Additionally, the Company is providing Future with a 2% scrap allowance also effective April 1,
2006. As the price of products sold to Future is not fixed or determinable until resold by Future
to the end customer, Sipex is using sell-through revenue recognition and deferring recognition of
such sales and related cost of goods sold until the product is sold by Future to its customers.
Under sell-through revenue accounting, accounts receivable are recognized and inventory is
relieved upon shipment to the distributor as title to the inventory is transferred upon shipment,
at which point the Company has a legally enforceable right to collection under normal terms. The
associated sales and cost of sales are deferred by recording deferred income (gross profit margin
on these sales) as shown on the face of the consolidated balance sheet. When the related product
is sold by the Companys distributors to their end customers, Sipex recognizes previously deferred
income as sales and cost of sales.
For non-distributor customers, the Company recognizes revenue when title to the product is
transferred to the customers, which occurs upon shipment or delivery, depending upon the terms of
the customer order, provided that persuasive evidence of a sales arrangement exists, the price is
fixed and determinable, title has transferred, collection of the resulting receivables is
reasonably assured, there are no customer acceptance requirements, and there are no remaining
significant obligations. Provisions for returns and allowances for non-distributor customers are
provided for at the time product sales are recognized. An allowance for sales returns and
allowances for customers is recorded based on historical experience or specific identification of
an event necessitating an allowance.
From time to time, Sipex develops custom products for various customers under engineering
service contracts culminating in delivery of known functional development samples. The Company
recognizes revenue under these agreements upon delivery of known functional development samples as
delivery of such represents the culmination of utility of the contract to the customer and agreed
to milestones. Sipex recognizes the costs as incurred associated with these contracts and presents
such costs as research and development expenses due to the uncertain nature of the development
efforts until delivery of the known functional development samples. Certain of these engineering
service contracts include payments in advance of delivery of known functional development samples.
These payments are recorded in deferred income, other, until the time of delivery of the functional
samples.
Note 2 Restatement
Subsequent to the issuance of the Companys condensed
consolidated financial statements for the quarter
ended July 3, 2004, management determined that such condensed
consolidated financial statements should be restated to correct
errors primarily related to revenue recognition. As a result, the
Companys condensed consolidated financial statements
for the three and six months ended July 3, 2004 have been restated.
5
Previously, the Companys revenue recognition policy was to record revenue upon shipment to
its distributors (the ship-to method) other than Future Electronics Inc. (Future). Subsequent
to the issuance of the Companys July 3, 2004 quarterly financial statements, the Companys
management became aware of certain sales return provisions that had been provided to distributors
for arrangements entered into after January 1, 2003. The Audit
Committee was informed by certain members of the management that
these provisions were granted and an investigation was
performed. Upon conclusion of the investigation, Company management determined that the sales
returns provisions granted impacted their ability to reasonably estimate the sales returns reserve.
As the Company could not estimate the sales returns reserve, the Company concluded that revenue
for these transactions could not be recognized upon shipment to the distributors, and should have
been deferred until the resale of the products to the end customers (the sell-through method).
The impact on the financial statements for correcting these errors primarily resulted in
deferring revenue that was previously recognized until later
periods and in certain cases permanent reductions in revenue.
In addition, the Company identified and corrected various other errors related to the
following revenue items: sales cut-off errors, reversal of revenue when collectibility was not
reasonably assured, reversal of revenue related to an undocumented sale, and deferral of
engineering service contract revenue. The Company also identified and corrected various other
errors related to the following items: errors in the recording of manufacturing personnel costs,
improperly capitalized fixed assets, errors in the calculation of depreciation, reclassification of
foreign exchange gains to general and administrative expenses, improper presentation of accrued
fixed asset additions, and certain other items.
The following are the restated operating results for the three and six months ended July 3,
2004 (in thousands, except net loss per share data):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended July 3, 2004 |
|
Six Months Ended July 3, 2004 |
|
|
Previously |
|
|
|
|
|
Net |
|
Previously |
|
|
|
|
|
Net |
|
|
Reported |
|
Restated |
|
Adjustment |
|
Reported |
|
Restated |
|
Adjustment |
Net sales |
|
$ |
7,847 |
|
|
$ |
8,409 |
|
|
$ |
562 |
|
|
$ |
18,374 |
|
|
$ |
19,341 |
|
|
$ |
967 |
|
Net sales, related party |
|
|
7,889 |
|
|
|
8,100 |
|
|
|
211 |
|
|
|
15,459 |
|
|
|
15,319 |
|
|
|
(140 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total net sales |
|
|
15,736 |
|
|
|
16,509 |
|
|
|
773 |
|
|
|
33,833 |
|
|
|
34,660 |
|
|
|
827 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of sales |
|
|
6,450 |
|
|
|
6,523 |
|
|
|
73 |
|
|
|
15,405 |
|
|
|
16,809 |
|
|
|
1,404 |
|
Cost of sales, related
party |
|
|
5,163 |
|
|
|
5,631 |
|
|
|
468 |
|
|
|
9,757 |
|
|
|
10,417 |
|
|
|
660 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cost of sales |
|
|
11,613 |
|
|
|
12,154 |
|
|
|
541 |
|
|
|
25,162 |
|
|
|
27,226 |
|
|
|
2,064 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit |
|
|
4,123 |
|
|
|
4,355 |
|
|
|
232 |
|
|
|
8,671 |
|
|
|
7,434 |
|
|
|
(1,237 |
) |
Research and development |
|
|
4,039 |
|
|
|
3,809 |
|
|
|
(230 |
) |
|
|
7,599 |
|
|
|
7,463 |
|
|
|
(136 |
) |
Marketing and selling |
|
|
2,178 |
|
|
|
2,239 |
|
|
|
61 |
|
|
|
4,153 |
|
|
|
4,279 |
|
|
|
126 |
|
General and
administrative |
|
|
1,711 |
|
|
|
1,578 |
|
|
|
(133 |
) |
|
|
4,439 |
|
|
|
4,194 |
|
|
|
(245 |
) |
Restructuring |
|
|
59 |
|
|
|
42 |
|
|
|
(17 |
) |
|
|
59 |
|
|
|
24 |
|
|
|
(35 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses |
|
|
7,987 |
|
|
|
7,668 |
|
|
|
(319 |
) |
|
|
16,250 |
|
|
|
15,960 |
|
|
|
(290 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss from operations |
|
|
(3,864 |
) |
|
|
(3,313 |
) |
|
|
551 |
|
|
|
(7,579 |
) |
|
|
(8,526 |
) |
|
|
(947 |
) |
Total other income, net |
|
|
79 |
|
|
|
76 |
|
|
|
(3 |
) |
|
|
84 |
|
|
|
78 |
|
|
|
(6 |
) |
Income tax benefit |
|
|
(100 |
) |
|
|
(100 |
) |
|
|
|
|
|
|
(69 |
) |
|
|
(69 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss |
|
$ |
(3,685 |
) |
|
$ |
(3,137 |
) |
|
$ |
548 |
|
|
$ |
(7,426 |
) |
|
$ |
(8,379 |
) |
|
$ |
(953 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss per common
share basic and
diluted |
|
$ |
(0.11 |
) |
|
$ |
(0.09 |
) |
|
$ |
0.02 |
|
|
$ |
(0.23 |
) |
|
$ |
(0.26 |
) |
|
$ |
(0.03 |
) |
Note 3 Recent Accounting Pronouncements
In March 2004, the Financial Accounting Standards Board (FASB) issued Emerging Issues Task
Force (EITF) Issue No. 03-1, or EITF 03-1, The Meaning of Other-Than-Temporary Impairment and Its
Application to Certain Investments which provided new guidance for assessing impairment losses on
investments. Additionally, EITF 03-1 includes new disclosure requirements for investments that are
deemed to be temporarily impaired. The disclosure requirements are effective for annual periods
ending after June 15, 2004. The adoption of EITF 03-1 did not have a material impact on the
Companys consolidated financial statements.
In October 2004, the FASB approved EITF Issue 04-10 Determining Whether to Aggregate
Operating Segments That Do Not Meet the Quantitative Thresholds which addresses an issue in the
application of paragraph 19 of Statement of Financial Accounting Standards (SFAS) No. 131,
Disclosures about Segments of an Enterprise and related information. EITF 04-10 is effective for
fiscal years ending after September 15, 2005. The adoption of this issue did not have a material
impact to the disclosures relating to the Companys consolidated financial statements.
In November 2004, the FASB issued SFAS No. 151, Inventory Costs, an Amendment of ARB No. 43,
Chapter 4. The amendments made by SFAS No. 151 are intended to improve financial reporting by
clarifying that abnormal amount of idle facility expense, freight, handling costs, and wasted
materials (spoilage) should be recognized as current-period charges and by requiring the allocation
of fixed production overheads to inventory based on the normal capacity of the production
facilities. The guidance is effective for inventory costs incurred beginning on January 1, 2006.
The adoption of SFAS No. 151 did not have a material impact on the Companys consolidated financial
statements.
In December 2004, the FASB issued SFAS 123R (revised 2004), Share-Based Payment. SFAS 123R
is a revision of FASB 123 and supersedes APB No. 25. SFAS 123R establishes standards for the
accounting for transactions in which an entity exchanges its equity instruments for goods or
services or incurs liabilities in exchange for goods or services that are based on the fair value
of the entitys equity instruments. SFAS 123R primarily focuses on accounting for transactions in
which an entity obtains employee services in share-based payment transactions. SFAS 123R requires
an entity to measure the cost of employee services received in exchange for an award of equity
instruments based on the grant-date fair value of the award over the period during which an
employee is required to provide service for the award. The grant-date fair value of employee share
options and similar instruments must be
estimated using option-pricing models adjusted for the unique characteristics of those
instruments unless observable market prices for the same or similar instruments are available. In
addition, SFAS
6
123R requires a public entity to measure the cost of employee services received in exchange for an award of liability
instruments based on its current fair value and that the fair value of that award will be re-measured subsequently at each
reporting date through the settlement date. The effective date of SFAS 123R for us is January 1, 2006. Due to the anticipated
increase in stock compensation costs, Sipex expects the adoption to have a significant impact on the Companys consolidated
operating results.
In December 2004, the FASB staff issued FSP FAS 109-1, Application of FASB Statement No. 109, Accounting for Income Taxes,
to the Tax Deduction on Qualified Production Activities Provided by the American Jobs Creation Act of 2004 (the FSP) to
provide guidance on the application of Statement 109 to the provision within the American Jobs Creation Act of 2004 (the Act)
that provides tax relief to U.S. domestic manufacturers. The FSP states that the manufacturers deduction provided for under
the Act should be accounted for as a special deduction in accordance with Statement 109 and not as a tax rate reduction. A
special deduction is accounted for by recording the benefit of the deduction in the year in which it can be taken in the
Companys tax return, rather than by adjusting deferred tax assets and liabilities in the period of the Acts enactment (which
would have been done if the deduction on qualified production activities were treated as a change in enacted tax rates). The
FSP was effective upon issuance. The adoption of the FSP did not have a material impact on the Companys consolidated financial
position or results of operations.
In December 2004, the FASB issued SFAS No. 153, Exchanges of Nonmonetary Assets, an amendment of Accounting Principles
Board (APB) No. 29, Accounting for Nonmonetary Transactions. SFAS No. 153 requires exchanges of productive assets to be
accounted for at fair value, rather than at carryover basis, unless (1) neither the asset received nor the asset surrendered
has a fair value that is determinable within reasonable limits, or (2) the transactions lack commercial substance. SFAS No.
153 is effective for non-monetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. The adoption of
the standard did not have a material effect on the Companys consolidated financial statements.
In May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error Corrections. SFAS No. 154 establishes new
standards on accounting for changes in accounting principles. Pursuant to the new rules, all such changes must be accounted for
by retrospective application to the financial statements of prior periods unless it is impracticable to do so. The Statement is
effective for accounting changes and error corrections made in fiscal years beginning after December 15, 2005, with early
adoption permitted for changes and corrections made in years beginning after May 2005. Adoption of SFAS No. 154 did not have a
material impact on the Companys consolidated financial position, results of operations or cash flows.
In November 2005, the FASB issued FSP Nos. FAS 115-1 and FAS 124-1, The Meaning of Other-Than-Temporary Impairment and Its
Application to Certain Investments (FSP 115-1), which replaces the measurement and recognition guidance set forth in the EITF
Issue No. 03-01, The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments, and codifies
certain existing guidance on investment impairment. FSP 115-1 clarifies that an investor should recognize an impairment loss no
later than when the impairment is deemed other-than-temporary, even if a decision to sell the security has not been made, and
also provides guidance on the subsequent accounting for an impaired debt security. FSP 115-1 also requires certain disclosures
about unrealized losses that have not been recognized as other-than-temporary impairments. The guidance in FSP 115-1 amends
SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities and is effective for reporting periods
beginning after December 15, 2005. Sipex adopted the provisions of FSP 115-1 beginning on January 1, 2006, and the adoption
did not have a material impact on the Companys financial condition or results of operations.
In February 2006, the FASB issued SFAS No. 155, Accounting for Certain Hybrid Financial Instruments, an amendment of FASB
Statements No. 133 and 140. SFAS No. 155 will be effective for the Company beginning in the first quarter of 2007. The
statement permits interests in hybrid financial instruments that contain an embedded derivative that would otherwise require
bifurcation, to be accounted for as a single financial instrument at fair value, with changes in fair value recognized in
earnings. This election is permitted on an instrument-by-instrument basis for all hybrid financial instruments held, obtained,
or issued as of the adoption date. The Company is assessing the impact of the statement.
In July 2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in Income Taxes (FIN 48) as an
interpretation of FASB Statement No. 109, Accounting for Income Taxes (SFAS 109). This Interpretation clarifies the
accounting for uncertainty in income taxes recognized by prescribing a recognition threshold and measurement attribute for the
financial statement recognition and measurement of a tax position taken
7
or expected to be taken in a tax return. This Interpretation also provides guidance on
de-recognition of tax benefits previously recognized and additional disclosures for unrecognized
tax benefits, interest and penalties. The evaluation of a tax position in accordance with this
Interpretation begins with a determination as to whether it is more likely than not that a tax
position will be sustained upon examination based on the technical merits of the position. A tax
position that meets the more-likely-than-not recognition threshold is then measured at the largest
amount of benefit that is greater than 50 percent likely of being realized upon ultimate settlement
for recognition in the financial statements. FIN 48 is effective no later than fiscal years
beginning after December 15, 2006, and is required to be adopted by the Company in the first
quarter of fiscal year 2007. The Company is currently assessing the impact of the adoption of FIN
48.
Note 4 Stock-Based Compensation
The Company measures compensation expense for its employee stock-based compensation plans
using the intrinsic value method prescribed by Accounting Principles Board (APB) Opinion No. 25,
Accounting for Stock Issued to Employees. The Company applies the disclosure provisions of
Statement of Financial Accounting Standards (SFAS) No. 123, Accounting for Stock-based
Compensation, as amended by SFAS No. 148, Accounting for Stock-based Compensation Transition
and Disclosure as if the fair value-based method had been applied in measuring compensation
expense.
Under APB Opinion No. 25, when the exercise price of the Companys employee stock options
equals the market price of the underlying stock on the date of the grant, no compensation expense
is recognized. In certain situations, under these plans, options to purchase shares of common
stock may be granted at less than fair market value, which results in compensation expense equal to
the difference between the market value on the date of grant and the purchase price. This expense
is recognized over the vesting period of the options on a straight-line basis and included in the
Companys results of operations.
As required under SFAS No. 123 and SFAS No. 148, the pro forma effects of stock-based
compensation on net income (loss) and earnings per common share for employee stock options granted
and employee stock purchase plan share purchases have been estimated at the date of grant and
beginning of the period, respectively, as if the Company had accounted for such awards under the
fair value method of SFAS No. 123 using the Black-Scholes option- pricing model. For purposes of
pro forma disclosures, the estimated fair value of the options and shares is amortized to pro forma
net income (loss) over the vesting period.
The Companys pro forma information for the three months and six months ended July 2, 2005 and
July 3, 2004 is as follows (in thousands, except per share data):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended |
|
|
For the Six Months Ended |
|
|
|
July 2, 2005 |
|
|
July 3, 2004 |
|
|
July 2, 2005 |
|
|
July 3, 2004 |
|
Net loss, as reported |
|
$ |
(16,211 |
) |
|
$ |
(3,137 |
) |
|
$ |
(21,253 |
) |
|
$ |
(8,379 |
) |
Add stock-based employee compensation included in reported net loss |
|
|
|
|
|
|
44 |
|
|
|
|
|
|
|
44 |
|
Less stock-based employee compensation determined under the
fair value method for all awards |
|
|
(1,045 |
) |
|
|
(1,494 |
) |
|
|
(2,280 |
) |
|
|
(3,253 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Pro forma net loss |
|
$ |
(17,256 |
) |
|
$ |
(4,587 |
) |
|
$ |
(23,533 |
) |
|
$ |
(11,588 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss per share: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted as reported |
|
$ |
(0.46 |
) |
|
$ |
(0.09 |
) |
|
$ |
(0.60 |
) |
|
$ |
(0.26 |
) |
Basic and diluted pro forma |
|
$ |
(0.49 |
) |
|
$ |
(0.14 |
) |
|
$ |
(0.66 |
) |
|
$ |
(0.36 |
) |
For pro forma net loss computation, the fair value for each option grant was estimated at
the date of grant using the Black-Scholes option-pricing model. The assumptions used to value the
option grants are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended |
|
For the Six Months Ended |
|
|
July 2, 2005 |
|
July 3, 2004 |
|
July 2, 2005 |
|
July 3, 2004 |
Expected life of options |
|
4 years |
|
5 years |
|
4 years |
|
5 years |
Volatility |
|
|
88 |
% |
|
|
61 |
% |
|
|
82 |
% |
|
|
62 |
% |
Risk-free interest rate |
|
|
3.8 |
% |
|
|
3.7 |
% |
|
|
3.8 |
% |
|
|
3.4 |
% |
Dividend yield |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
8
The weighted average fair value of options granted for the three months ended July 2,
2005 and July 3, 2004 was $1.10 and $3.23, respectively.
There were no purchases of common stock under the Companys Employee Stock Purchase Plan
(ESPP) in the second quarter of 2005. For the second quarter of 2004, the fair value of ESPP
shares was estimated on the date of grant using the Black-Scholes option-pricing model with the
following assumptions: volatility of 61%, risk free rate of 1.39%, no dividend yield and an option
life of six months. The weightedaverage fair value of ESPP shares for the second quarter of 2004
was $1.37.
Note 5 Net Loss Per Share
Basic net loss per share is based upon the weighted average number of common shares
outstanding. Diluted net loss per share is based upon the weighted average number of common and
common equivalent shares outstanding assuming dilution. Common equivalent shares, consisting of
outstanding stock options, convertible debt and warrants, are included in the per share
calculations where the effect of their inclusion would be dilutive. As the Company had net a loss
for the three and six months ended July 2, 2005 and July 3, 2004, the weighted average number of
common shares outstanding equals the weighted average number of common and common equivalent shares
assuming dilution.
Approximately 5,903,000 stock option shares were outstanding with an average exercise price of
$5.10 per share as of July 2, 2005 compared to approximately 6,679,000 stock option shares with an
average exercise price $5.52 per share at July 3, 2004.
Note 6 Related Party Transactions
Future is a related party as its affiliates own approximately 16.3 million shares or 46% of
Sipexs outstanding common stock as of July 2, 2005. Sipex has a distribution agreement that
provides for Future to act as the Companys sole distributor for certain products within North
America and Europe. Sales to Future are made under an agreement that provides protection against
price reduction for its inventory of Sipexs products. The Company recognizes revenue on sales to
Future under the distribution agreement when Future sells the products to end customers. Future has
historically accounted for a significant portion of the Companys revenues. It is the Companys
largest distributor worldwide and accounted for 39% of its total net sales for the year ended
January 1, 2005, and 42% and 49% of the Companys net sales during the three months ended July 2,
2005 and July 3, 2004, respectively. The Company anticipates that sales of its products to Future
will continue to account for a significant portion of its revenues.
From time to time, Future provides services and/or incurs expenses on behalf of the Company.
The fair value of the un-reimbursed expenses and uncompensated services rendered by Future has been
recorded in the Companys consolidated financial statements as capital contributions for which none
was recorded for the second quarter ended July 2, 2005 and $17,000 was for the six months ended
July 2, 2005, compared to $64,000 and $89,000 for the second quarter and six months ended July 3,
2004, respectively.
As discussed in Note 14, on January 19, 2006, Sipex announced the completion of a $7.0 million
private loan financing in which the Company issued a 9% secured note with convertible interest due
January 19, 2008 to the affiliates of Future, which could provide these affiliates with the
opportunity to obtain additional shares of Sipex common stock. The loan was repaid in March 2006
(See Note 14).
As discussed in Note 14, on May 16, 2006, Sipex placed $30.0 million of its 5.5% Convertible
Senior Notes (the 2006 Notes) due 2026 and related warrants in a private placement transaction to
accredited investors in reliance on Regulation D under the Securities Act. Rodfre Holdings LLC
(Rodfre), an affiliate of Alonim Investments Inc., Sipexs largest stockholder, and an affiliate
of Future, purchased 50% of the 2006 Notes or $15.0 million aggregate principal amount being placed
in this offering. The 2006 Notes will mature on May 18, 2026 and bear interest at an annual rate of
5.5% payable semi-annually on May 15 and November 15 of each year, beginning on November 15, 2006.
For the second quarter and six months ended July 2, 2005, Sipex
did not record any interest expense related to the debt with Future
as both convertible notes were subsequently extinguished and converted
into 4.6 million of the Companys common shares as of
February 18, 2004. For the six months ended July 3, 2004,
Sipex recorded interest expense for the debt with Future totaling
$58,000. There was no interest expense recorded for the second
quarter ended July 3, 2004.
9
Note 7 Restructuring and Impairment
The Company has established a restructuring reserve relating to the unused portion of its
leased facility in Billerica, Massachusetts. For the three and six months ended July 2, 2005, the
Company utilized $198,000 and $371,000, respectively, of restructuring reserves which were
primarily lease costs associated with the unused portion of the Billerica facility. The balance of
the restructuring accrual as of July 2, 2005 consisted principally of facility lease costs.
Below is a summary of the activities related to restructuring and impairment charges for the
six months ended July 2, 2005 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
Restructuring |
|
|
Fixed Asset |
|
|
|
Costs |
|
|
Impairment |
|
Accrual balance, January 1, 2005 |
|
$ |
1,847 |
|
|
$ |
|
|
Incurred in 2005 |
|
|
|
|
|
|
|
|
Charges utilized |
|
|
(173 |
) |
|
|
|
|
Sub-lease income received |
|
|
44 |
|
|
|
|
|
Adjustments to accrual |
|
|
12 |
|
|
|
|
|
|
|
|
|
|
|
|
Accrual balance, April 2, 2005 |
|
|
1,730 |
|
|
|
|
|
Incurred in 2005 |
|
|
|
|
|
|
9,377 |
|
Charges utilized |
|
|
(198 |
) |
|
|
(9,377 |
) |
Sub-lease income received |
|
|
19 |
|
|
|
|
|
Adjustments to accrual |
|
|
47 |
|
|
|
|
|
|
|
|
|
|
|
|
Accrual balance, July 2, 2005 |
|
$ |
1,598 |
|
|
|
|
|
|
|
|
|
|
|
|
Impairment Charges
In the second quarter of 2005, Sipex recognized a $9.4 million impairment charge for its
long-lived assets. Based on changes in the planned use for its wafer fabrication assets, the
Company performed an impairment evaluation in accordance with SFAS No. 144. Sipex determined that
the appropriate grouping for this impairment evaluation was the wafer fabrication assets taken
together and the associated cash flows for these assets. These assets were evaluated on a
held-for-use basis as the Company was required to operate its wafer fabrication facility until the
new wafer fabrication partner processes were qualified. As the carrying value exceeded the
undiscounted cash flows of the wafer fabrication assets for the period of planned use by the
Company, an impairment charge was recorded for the difference between the carrying value and the
fair value of the wafer fabrication assets which management determined with the assistance of an
independent appraisal firm. While the Company subsequently agreed to sell a substantial portion
of its wafer fabrication machinery and equipment to Silan by the end of the third quarter of 2006,
its wafer fabrication assets remain in use and Sipex will continue to record depreciation expense
based on the estimated remaining useful life at the time of impairment.
Note 8 Comprehensive Loss
Comprehensive income (loss) is the total of net income (loss) and all other revenue, expenses,
gains and losses recorded directly in equity. Sipexs other comprehensive loss consists of
foreign currency translation adjustments. There were no foreign currency translation adjustments
during the three and six month ended July 2, 2005, and no significant tax effect on the components
of other comprehensive loss for the three and six months ended July 2, 2005 and July 3, 2004.
The following table provides the comprehensive loss information (in thousands):
10
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended |
|
|
For the Six Months Ended |
|
|
|
July 2, 2005 |
|
|
July 3, 2004 |
|
|
July 2, 2005 |
|
|
July 3, 2004 |
|
Net loss |
|
$ |
(16,211 |
) |
|
$ |
(3,137 |
) |
|
$ |
(21,253 |
) |
|
$ |
(8,379 |
) |
Other comprehensive loss: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Foreign currency translation adjustment |
|
|
|
|
|
|
(18 |
) |
|
|
|
|
|
|
(12 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive loss |
|
$ |
(16,211 |
) |
|
$ |
(3,155 |
) |
|
$ |
(21,253 |
) |
|
$ |
(8,391 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Note 9 Inventories
Inventories are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
July 2, 2005 |
|
|
January 1, 2005 |
|
Raw materials |
|
$ |
242 |
|
|
$ |
482 |
|
Work-in-process |
|
|
9,550 |
|
|
|
9,512 |
|
Finished goods |
|
|
3,794 |
|
|
|
3,147 |
|
|
|
|
|
|
|
|
Total |
|
$ |
13,586 |
|
|
$ |
13,141 |
|
|
|
|
|
|
|
|
Note 10 Accrued Expenses
Accrued expenses are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
July 2, 2005 |
|
|
January 1, 2005 |
|
Accrued compensation and benefits |
|
$ |
2,436 |
|
|
$ |
2,177 |
|
Accrued audit fees |
|
|
1,784 |
|
|
|
1,643 |
|
Accrued legal fees |
|
|
475 |
|
|
|
158 |
|
Accrued royalties |
|
|
344 |
|
|
|
711 |
|
Accrued commissions |
|
|
323 |
|
|
|
318 |
|
Accrued warranty |
|
|
189 |
|
|
|
228 |
|
Other |
|
|
700 |
|
|
|
620 |
|
|
|
|
|
|
|
|
Total |
|
$ |
6,251 |
|
|
$ |
5,855 |
|
|
|
|
|
|
|
|
11
Note 11 Accrued Warranty
Products are sold with warranties ranging from one to two years depending upon the customers.
Reserve requirements are recorded in the period of sale and are based on an assessment of the
products sold with warranty and historical warranty costs incurred. The Company also assesses its
pre-existing warranty obligations and may adjust the amounts based on actual experience or changes
in future expectations.
The following table summarizes the activity in the warranty reserve for the six months ended
July 2, 2005 and July 3, 2004 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
July 2, 2005 |
|
|
July 3, 2004 |
|
Beginning accrued warranty |
|
$ |
228 |
|
|
$ |
195 |
|
Warranty claims |
|
|
(46 |
) |
|
|
(68 |
) |
Accruals for the period |
|
|
7 |
|
|
|
169 |
|
|
|
|
|
|
|
|
Ending accrued warranty |
|
$ |
189 |
|
|
$ |
296 |
|
|
|
|
|
|
|
|
Note 12 Segment Information and Major Customers
The Companys Chief Executive Officer (CEO) is considered to be the Companys chief
operating decision maker. The Company has organized its operations based on a single operating
segment: the development and delivery of high performance analog integrated circuits that are used
primarily by original equipment manufacturers operating in the computing, communications and
networking infrastructure markets. The CEO reviews financial information presented on a
consolidated basis accompanied by disaggregated information about revenues by product family and
geographic region for purposes of making operating decisions and assessing financial performance.
The disaggregated revenue information reviewed on a product family basis by the CEO includes the
interface, power management and optical storage families along with other legacy product families.
The disaggregated information reviewed on a product line basis by the CEO is as follows (in
thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended |
|
|
For the Six Months Ended |
|
|
|
July 2, 2005 |
|
|
July 3, 2004 |
|
|
July 2, 2005 |
|
|
July 3, 2004 |
|
Interface |
|
$ |
9,295 |
|
|
$ |
10,993 |
|
|
$ |
19,220 |
|
|
$ |
21,068 |
|
Power Management |
|
|
4,626 |
|
|
|
4,780 |
|
|
|
9,327 |
|
|
|
10,556 |
|
Optical Storage |
|
|
3,981 |
|
|
|
600 |
|
|
|
9,082 |
|
|
|
2,507 |
|
Other* |
|
|
430 |
|
|
|
136 |
|
|
|
430 |
|
|
|
529 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total net sales |
|
$ |
18,332 |
|
|
$ |
16,509 |
|
|
$ |
38,059 |
|
|
$ |
34,660 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
* |
|
Includes Legacy and other discontinued products. |
Although Sipex has operations in Malaysia, China, Taiwan, Japan, Germany, Canada and Belgium,
substantially all the Companys long-lived assets reside in the United States.
The Company markets its products primarily from its operations in the United States.
International sales are made primarily to customers in Asia and Europe. Information regarding the
Companys net sales derived from products shipped to different geographic regions is as follows (in
thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended |
|
|
For the Six Months Ended |
|
|
|
July 2, 2005 |
|
|
July 3, 2004 |
|
|
July 2, 2005 |
|
|
July 3, 2004 |
|
Japan |
|
$ |
4,769 |
|
|
$ |
2,241 |
|
|
$ |
10,347 |
|
|
$ |
5,410 |
|
United States |
|
|
3,414 |
|
|
|
4,623 |
|
|
|
7,276 |
|
|
|
7,915 |
|
United Kingdom |
|
|
2,766 |
|
|
|
2,482 |
|
|
|
5,670 |
|
|
|
4,841 |
|
China |
|
|
2,403 |
|
|
|
1,843 |
|
|
|
3,925 |
|
|
|
3,103 |
|
Singapore |
|
|
2,367 |
|
|
|
2,344 |
|
|
|
4,406 |
|
|
|
4,535 |
|
Taiwan |
|
|
958 |
|
|
|
1,872 |
|
|
|
2,988 |
|
|
|
5,101 |
|
Asia, other than Japan, China,Taiwan, & Singapore |
|
|
558 |
|
|
|
357 |
|
|
|
902 |
|
|
|
1,156 |
|
Rest of the world |
|
|
1,097 |
|
|
|
747 |
|
|
|
2,545 |
|
|
|
2,599 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total net sales |
|
$ |
18,332 |
|
|
$ |
16,509 |
|
|
$ |
38,059 |
|
|
$ |
34,660 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
12
Information on major customers which accounted for 10% or more of the Companys total net
sales and total gross accounts receivable is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
% of Total Net Sales |
|
% of Total Gross |
|
|
For the Three Months Ended |
|
For the Six Months Ended |
|
Accounts Receivable |
|
|
July 2, 2005 |
|
July 3, 2004 |
|
July 2, 2005 |
|
July 3, 2004 |
|
July 2, 2005 |
|
January 1, 2005 |
Future, a related party |
|
|
42 |
% |
|
|
49 |
% |
|
|
41 |
% |
|
|
44 |
% |
|
|
45 |
% |
|
|
23 |
% |
Microtek, Inc. |
|
|
13 |
% |
|
|
* |
|
|
|
18 |
% |
|
|
* |
|
|
|
* |
|
|
|
23 |
% |
Komatsu |
|
|
* |
|
|
|
* |
|
|
|
* |
|
|
|
* |
|
|
|
14 |
% |
|
|
* |
|
Note 13 Commitments and Contingencies
Commitments
On August 21, 2003, Sipex announced an exclusive sourcing agreement with PolarFab, a US-based
semiconductor foundry. The Company is under obligation to make minimum purchase commitments based
on quarterly rolling forecasts extending out to one year. The Company has also agreed to purchase
no less than 50% of the rolling forecast on an ongoing basis through the term of this agreement.
The initial term of the agreement is five years with renewals on a negotiated basis. As of July 2,
2005, the minimum purchase commitment with PolarFab was approximately $2.6 million for the
following twelve months.
On July 2, 2004, the Company entered into an agreement to use certain licensed tools for
circuit design and development as well as maintenance support for a total future payment commitment
of $2.5 million over the next three and one-half years. The contract requires the Company to
deposit 75% of the total commitment in a certificate of deposit account. As of July 2, 2005,
restricted cash consisted of $1.8 million held in a certificate of deposit as a guarantee of
payment to fulfill the terms of a software license agreement which is included in the condensed
consolidated balance sheet. The agreement expires on January 1, 2008.
Contingencies
Under the terms and conditions of the Companys sales agreements, Sipex has offered limited
intellectual property indemnification to its customers. The indemnity limits the time within which
an indemnification claim can be made and the amount of the claim. It is not possible to determine
the maximum potential amount due to the limited history of prior indemnification claims and the
unique facts and circumstances involved in each particular situation. Historically, payments made
by the Company for this type of claim have not had a material impact on its operating results or
financial position, and the Company is not aware of any significant claims or potential claims under the agreements.
Pending Litigation
The
Company is also subject to legal
proceedings, claims, and litigation arising in the course of business. The Company defends itself vigorously against
any such claims. The outcome of unresolved matters related to the
Companys legal proceedings, claims and litigation is currently not determinable, and
an unfavorable outcome could have a material adverse effect on the Companys consolidated financial
position, results of operations, or cash flows.
Class Action Securities Litigation
Beginning on or about January 24, 2005, four securities class action suits were filed against
Sipex and certain of its current and former officers and directors. All complaints were filed in
the United States District Court for the
Northern District of California, San Francisco. The captions of the cases were as follows:
Keller v. Sipex Corporation, et al., (05-CV-00331) (WHA), Coil Partners LLC v. Sipex Corporation,
et al., (05-CV-00392) (WHA), Levy v. Sipex Corporation, et al., (05-CV-00505) (WHA), and Jacobson
v. Sipex Corporation, et al., (05-CV-00712) (WHA).
The securities class action suits were filed on behalf of the purchasers of Sipexs common
stock in various class
13
periods, beginning on or about April 10, 2003 and ending on January 20, 2005. The plaintiffs
in these cases alleged, among other things, violations of sections 10(b) and 20(a) of the
Securities Exchange Act of 1934, as amended, and Rule 10b-5 promulgated there-under, and sought
unspecified monetary damages and other relief against all defendants. Specifically, the complaints
alleged that Sipex and the individual defendants made false or misleading public statements
regarding its financial results during the class periods.
On March 25, 2005, four lead plaintiff motions were filed asking the Court to consolidate the
class actions. Prior to the hearing on the lead plaintiff motions, the Levy and Keller plaintiffs
voluntarily agreed to dismiss their complaints. On May 12, 2005, the Court consolidated the
remaining cases under the caption In re Sipex Corporation Securities Litigation, Master File No.
05-CV-00392. Defendants Clyde Ray Wallin and Doug McBurnie were voluntarily dismissed from the
action on August 16, 2005, and defendant Phil Kagel was granted a motion to dismiss on November 17,
2005.
On January 18, 2006, the Court preliminarily approved the settlement of the class action
lawsuit. The settlement provides for a payment of $6.0 million to the plaintiffs and will be
entirely funded by proceeds from the Companys directors and officers insurance policy. The
specific terms for distribution of the settlement fund to class members were disclosed in a notice
which was sent to the class members. On April 6, 2006, the United States District Court for the
Northern District of California, San Francisco, approved the final settlement of the securities
class action lawsuit.
Stockholder
Derivative Litigation
On February 8, 2005, a putative stockholder derivative suit was filed in the Superior Court of
the State of California, County of San Mateo, on behalf of Sipex against certain of the Companys
current and former officers and directors for alleged fiduciary duty violations, gross negligence,
unjust enrichment and breach of contract (Lie v. McBurnie, et al., CIV444748). On March 25, 2005,
a second putative stockholder derivative suit was filed in the Superior Court of the State of
California, County of Santa Clara, on behalf of Sipex against certain of the Companys current and
former officers and directors for alleged fiduciary duty violations, abuse of control, gross
mismanagement, waste of corporate assets and unjust enrichment (Nagdev v. Maghribi, et al.,
105CV038114).
The derivative complaints are based on similar facts and events as those alleged in the
securities class actions complaints. Specifically, the complaints allege that the individual
defendants deliberately damaged Sipex by, among other things, causing Sipex to improperly recognize
and report revenue, causing the Company to issue false and misleading statements about its
financial results, exposing Sipex to liability for securities fraud, and damaging its reputation.
On April 22, 2005, defendants in the Lie derivative action filed a petition with the Judicial
Council of California to coordinate the cases in Santa Clara County Superior Court. The petition
was granted on July 13, 2005 and the actions had since been coordinated and consolidated before
Judge Komar in Santa Clara Superior Court, under the consolidated caption, Sipex Derivative Cases,
Judicial Council Coordination Proceeding No. 4431, Lead Case No. 1-05-CV-038114.
On January 23, 2006, the Court approved the settlement of the stockholder derivative action.
The settlement provided for a payment of $300,000 to the plaintiffs, pursuant to the terms of the
settlement agreement, and the adoption of certain corporate governance measures and the payment of
attorneys fees and expenses to the derivative plaintiffs counsel, all of which were funded
entirely by proceeds from Sipexs directors and officers insurance policy.
Government Investigation
On February 18, 2005, Sipex announced that the Securities and Exchange Commission (the SEC)
had commenced a formal investigation into the same matters as those that were the subject of the
Companys previously announced internal investigation into the Companys financial and
transactional records with regard to revenue recognition for the years ended December 31, 2003 and
January 1, 2005. The investigation is ongoing.
14
DiPietro v. Sipex
In April 2003, Plaintiff Frank DiPietro (former CFO of Sipex Corp.) brought an action against
Sipex for his severance benefits. Sipex counterclaimed for approximately $150,000 which was owed
under a promissory note signed by Mr. DiPietro. In August 2004, Sipex filed two motions for
summary judgment (one for Mr. DiPietros claims against it and one for its counterclaim against Mr.
DiPietro under the promissory note). In June 2005, the Middlesex Superior Court granted both
Sipexs Motions for Summary Judgment. As a result, Mr. DiPietro was ordered to pay Sipex $149,486
plus costs and interest which has now appreciated to approximately $204,000 as of June 2006.
Interest is added to this amount at twelve (12%) percent per year. Mr. DiPietro filed a notice of
appeal on July 19, 2005. In addition, the court has required Mr. DiPietro to post a bond in the
amount of $150,000.
Note 14 Subsequent Events
On July 21, 2005, Sipex entered into a Loan and Security Agreement, with Silicon Valley Bank.
The Loan and Security Agreement provides for a secured revolving line of credit with an aggregate
principal amount of up to $5.0 million, which may be used to borrow revolving loans or to issue
lines of credit on the Companys behalf. The Company has granted to Silicon Valley Bank a security
interest in all presently existing and later acquired collateral, including but not limited to
goods, equipment, inventory, contract rights, and financial assets, in order to secure the
obligations and duties of the Loan and Security Agreement. Advances accrue interest on the
outstanding principal balance at an annual interest rate equal to Silicon Valley Banks prime rate.
The Loan and Security Agreement matured on July 20, 2006, (see Amendment No. 5 below) at which
time all outstanding advances must be repaid, and all outstanding letters of credit must be cash
collateralized. The Loan and Security Agreement requires the Company to comply with a minimum
liquidity ratio and retain a minimum tangible net worth. The Loan and Security Agreement contains
additional affirmative covenants, including, among others, covenants regarding the payment of taxes
and other obligations, maintenance of insurance, reporting requirements and compliance with
applicable laws and regulations. In addition, the Loan and Security Agreement contains negative
covenants limiting the Companys ability to dispose of assets, change its business plans, be
acquired or beneficially owned, merge or consolidate, incur indebtedness, grant liens, make
investments, pay dividends, repurchase stock, and pay subordinated debt. The Loan and Security
Agreement contains events of default that include, among others, non-payment of principal, interest
or fees, inaccuracy of representations and warranties, violations of covenants, bankruptcy and
insolvency events, any material adverse change, material judgments, cross defaults to certain other
indebtedness and seizure of assets. The occurrence of an event of default will increase the
applicable rate of interest by 5.0 % and would, unless waived by Silicon Valley Bank, result in the
immediate payment of all of the Companys obligations under the Loan and Security Agreement.
On August 29, 2005, the board of directors of Sipex approved a plan to close its wafer
fabrication operations located in Milpitas, California and transfer the fabrication to Silan in
China to reduce costs and improve operating efficiencies. As a result, the Company recognized total
restructuring charges of approximately $871,000 in the second half of 2005 including severance and
retention benefits totaling $766,000 for approximately 70 employees and other exit costs of
$105,000. The Company currently anticipates that the facility closure activities will be
substantially completed by the end of third quarter of 2006. In addition, during the third quarter
of 2005, Sipex decided not to transfer the remaining operations in Billerica to Milpitas that was
originally anticipated to be completed by the end of 2005.
On August 29, 2005, Sipexs board of directors approved the repricing of the employee stock
options outstanding under its stock option plans, effective as of the close of business on
September 6, 2005 with the exception that options granted pursuant to the Sipex Corporation 1999
Stock Plan and options granted to Sipexs current CEO and directors would not be repriced. In
addition, outstanding options with current exercise prices below the fair market value of Sipexs
common stock at the close of business on September 6, 2005 will also not be subject to the
repricing. As such, approximately 2,456,000 options held by 235 employees, with a weighted-average
exercise price of $6.22 were modified on September 6, 2005 to lower the option exercise price to
$1.90 which equals to the fair market value of Sipexs common stock at the close of business as
disclosed on the Pink Sheets on that date. No other changes were made to the terms of the
repriced stock options. Compensation
expense associated with the option repricing will be recorded until the options are exercised,
cancelled, or otherwise expired and the expense or benefit for the increase or decrease,
respectively, in the fair market value of the Companys common stock in excess of the options
exercise price is recognized immediately for vested options and is recognized over the vesting
period using an accelerated method for unvested employee options. Management anticipates that the
variable accounting associated with the repriced options will cease upon the adoption of SFAS
15
No. 123R, effective January 1, 2006.
On October 7, 2005, Sipex entered into an Amendment No. 1 to the Loan and Security Agreement
with Silicon Valley Bank dated July 21, 2005. The Loan and Security Agreement was amended that the
Bank would make advances not exceeding the lesser of (i) the borrowing base (as defined in the
agreement) plus $500,000, and (ii) the committed revolving line, minus the sublimit utilization
amount. Amendment No. 1 also provided that the interest rate was amended at a per annum rate equal
to the Prime Rate plus one percent (1.00%). In addition, the Loan and Security Agreement was
amended to reflect a minimum liquidity ratio not less than 1.50:1.00 which is calculated as Sipexs
consolidated accounts divided by the obligations, as well as a minimum amount of tangible net worth
was required to be maintained for each quarter ended.
On November 10, 2005, Sipex entered into an Amendment No. 2 to the Loan and Security Agreement
with Silicon Valley Bank dated July 21, 2005 (amended by Amendment No. 1 dated October 7, 2005).
The Amendment No. 2 provided that the financial covenants section of the Loan and Security
Agreement was amended to reflect the calculation of minimum liquidity ratio as the sum of (i)
Sipexs unrestricted cash and cash equivalents and consolidated accounts divided by (ii) the
obligations. Sipex was required to maintain a pre-determined tangible net worth as of the last day
of each quarter. In addition, for purposes of such calculation, up to $5,000,000 in non-cash
charges relating to inventory write-downs might be added to the tangible net worth.
In November 2005, based on the previous decision to close the Companys wafer fabrication
operation located at its Milpitas, California headquarters facility, the Company decided to sell
this facility. As a result of this decision, the Company reduced the remaining estimated
depreciation life for its headquarters building and related improvements from 25 years to
approximately four months.
On January 19, 2006, Sipex announced the completion of a $7.0 million private loan financing
in which Sipex issued a 9% secured note with convertible interest due January 19, 2008 to an
affiliate of Future. The Note was secured by a deed of trust on the Companys headquarters
property located in Milpitas, California. Accrued interest on the Note was convertible into Sipexs
common stock at the option of the holder on January 19, 2007 and January 19, 2008. The conversion
price would be the volume weighted average price for sales of the common stock during the 20
trading days prior to the date of conversion. The holder of the note can require repayment of the
note in the event of a change of control of Sipex or the sale of the property subject to the deed
of trust. The note was subject to customary events of default. Interest on the note accrued at 9%
compounded quarterly and payable at maturity. This loan was subsequently terminated and paid off in
cash during March 2006 as described below.
On January 19, 2006, Sipex entered into an Amendment No. 3 to the Loan and Security Agreement
with Silicon Valley Bank dated July 21, 2005 (amended by Amendment No. 1 dated October 7, 2005 and
Amendment No. 2 dated November 10, 2005). In connection with the $7.0 million private loan
financing transaction mentioned above, Amendment No. 3 modified the Loan and Security Agreement to
permit the granting of a lien on Sipexs headquarters property in Milpitas, California, the sale of
the property and to make additional conforming changes. Amendment No. 3 also raises the interest
rate to the prime rate plus 2% from the prime rate plus 1%. The note holder and Silicon Valley Bank
also entered into a subordination agreement that sets out the inter-creditor arrangements between
the two lenders.
On February 27, 2006, Sipex entered into a definitive Master Agreement with Silan. This
transaction is related to the transaction Sipex announced in its Form 8-K filed on September 2,
2005, which reported that the board of directors of Sipex had approved a plan to close its wafer
fabrication operations located in Milpitas, California and that Sipex and Silan would work together
to enable Silan to manufacture semiconductor wafers using Sipexs process technology. The Master
Agreement includes a Production Equipment Sale Agreement, Process Technology Transfer and License
Agreement, Wafer Supply Agreement and Product License Agreement covering fabrication equipment
sales, process technology transfers and related licensing, foundry manufacturing and product
licenses, respectively. The initial term of the agreement is five years with renewals on a
negotiated basis. As part of this arrangement, Sipex will receive a payment of $1.2 million by
letter of credit upon delivery of certain manufacturing equipment to Silan. In addition, Silan will
pay Sipex a Process Technology Transfer Fee of $0.3 million.
The Process Technology Transfer and License Agreement contemplates the transfer of eight (8)
of Sipexs processes to Silan. After this transfer, Silan will commence the implementation of
these processes. Silan will deliver process qualification wafers to Sipex. Process qualification
shall be deemed to have occurred when Sipex confirms to Silan that the process qualification wafers
conform to Sipexs specifications. Once Sipex confirms to Silan that the process qualification
wafers conform to Sipexs specifications, Silan shall manufacture and deliver product qualification
wafers to Sipex. If such product qualification wafers achieve product qualification, Sipex
16
shall notify Silan thereof and the relevant Sipex product shall be deemed to be qualified and
Silan shall commence the commercial manufacture and supply of such Sipex product. Subject to
Sipexs option to suspend in whole or in part its purchase commitment if Silan fails to meet any
requirements under the wafer supply agreement, Sipex shall order an average of at least one
thousand (1000) equivalent wafers per week, calculated on a quarterly basis, for two years.
On March 9, 2006, Sipex entered into an Agreement for Purchase and Sale of Real Property with
Mission West Properties L.P. The agreement provides for the sale of Sipexs headquarters facility,
located at 233 South Hillview Drive in Milpitas, California, (the Hillview facility) to Mission
West Properties L.P. for a price of $13.4 million in cash. The Hillview facility primarily consists
of two buildings with approximately 95,690 total square feet (which includes 20,000 square feet of
Class 10 clean room), approximately 293 on-site surface parking spaces, and the underlying land
with improvements and all fixtures attached thereto. Simultaneously, Sipex entered into a Standard
Form Lease agreement to lease back the Hillview facility from Mission West Properties L.P. The
lease term is 60 months with average lease payments of approximately $1.4 million per year. In
addition, Sipex has provided a security deposit of $1,265,000 in the form of an irrevocable standby
letter of credit issued to Mission West Properties, L.P. under its $5.0 million line of credit with
Silicon Valley Bank. The security deposit is held as security for the faithful performance by Sipex
for all of the terms, covenants, and conditions prescribed under the lease agreement. Further,
Sipex will have an option to extend the lease for an additional five years when the current term
lease expires.
This
sale and leaseback arrangement is expected to be accounted for as a
financing obligation as a result of the Companys continuing
involvement in the arrangement.
The proceeds from the sale of the Companys Hillview facility were used to pay off and
terminate the $7.0 million private loan entered into on January 19, 2006, pursuant to a loan
financing (noted above) with an affiliate of Future in which it issued a 9% Secured Note With Convertible
Interest due January 19, 2008.
On May 16, 2006, the Company placed $30.0 million of 5.5% Convertible Senior Notes due 2026 in
a private placement. Rodfre, an affiliate of Future, purchased 50% of the 2006 Notes or $15,000,000
aggregate principal amount being sold in this offering. The remainder of the 2006 Notes were
purchased by other accredited investors. The Company intends to use the net proceeds from the
private placement for general corporate purposes. The 2006 Notes bear interest of 5.5% per year,
payable semi-annually on May 15 and November 15 of each year, commencing on November 15, 2006, and
mature on May 18, 2026. The 2006 Notes are convertible into common stock at any time at a fixed
conversion price of $2.68 per share. If fully converted, the principal amount of the 2006 Notes
would convert into approximately 11,194,030 shares of the Companys common stock. At any time
following the effectiveness of a registration statement related to the resale of the common stock
issuable upon the conversion of the 2006 Notes, the Company may, subject to certain conditions,
elect to automatically convert the 2006 Notes into common stock if the average price of the
Companys common stock exceeds 150% of the conversion price for at least 20 trading days during any
consecutive 30 trading-day period, ending within 5 days of the notice of automatic conversion. The
Company has the right to redeem the 2006 Notes at par plus accrued interest at anytime after May
15, 2009 and the purchasers have the right to require us to repurchase the 2006 Notes at par plus
accrued interest on May 15 in 2011, 2016 and 2021.
The Company also issued to the purchasers of the 2006 Notes, warrants to purchase an aggregate
of 1,679,104 shares of common stock of the Company at a rate of 55.97 warrants per $1,000 of
principal amount of 2006 Notes purchased. The warrants are exercisable at $3.216 per share and
expire in 2011. The Company has also agreed to file, by August 15, 2006, a registration statement
with the Securities and Exchange Commission covering the resale of the 2006 Notes, the warrants and
the common stock issuable upon conversion of the 2006 Notes and exercise of the warrants.
Upon
issuance of the 2006 Notes, it is expected that a beneficial
conversion feature will be recorded which will result in an increase
in additional paid-in capital with a corresponding increase to debt
discount to be amortized as interest expense. The Company is in the
process of estimating the value of the beneficial conversion feature.
In connection with the issuance of the $30.0 million 2006 Notes, on May 18, 2006, Sipex
entered into Amendment No. 4 to the Loan and Security Agreement with Silicon Valley Bank dated July
21, 2005 (as amended by Amendment No. 1 dated October 7, 2005, Amendment No. 2 dated November 10,
2005 and Amendment No. 3 dated January 19, 2006). Amendment No. 4 modifies the Loan and Security
Agreement to permit the 2006 Note transaction and the scheduled cash interest payments.
On August 1, 2006, Sipex entered into Amendment No. 5 to the Loan and Security Agreement with
Silicon Valley Bank dated July 21, 2005 (as amended by Amendment No. 1 dated October 7, 2005,
Amendment No. 2 dated November 10, 2005, Amendment No. 3 dated January 19, 2006 and Amendment No. 4
dated May 18, 2006).
17
Amendment No. 5 modifies the Loan and Security Agreement to: (1) extend the maturity date from
July 20, 2006 to September 30, 2006, (2) delete entirely the Tangible Net Worth covenant contained
in Section 6.7(b) and waive Sipexs non-compliance with such covenant for the periods ended April
1, 2006 and July 1, 2006 and (3) lower the interest rate to the prime rate from the prime rate plus
2%.
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
This section and other parts of this Form 10-Q contain forward-looking statements that involve
risks and uncertainties. The statements that are not purely historical are forward-looking
statements within the meaning of Section 27A of the Securities Act and Section 21E of the Exchange
Act, including, without limitation, statements regarding our expectations, beliefs, intentions or
strategies regarding the future. All forward-looking statements included in this Form 10-Q are
based on information available to us on the date hereof, and we assume no obligation to update any
such forward-looking statements. These statements involve known and unknown risks, uncertainties
and other factors, which may cause our actual results to differ materially from those implied by
the forward-looking statements. In some cases, you can identify forward-looking statements by
terminology such as may, will, should, expects, plans, anticipates, believes,
intends, estimates, predicts, potential, or continue or the negative of these terms or
other comparable terminology. Although we believe that the expectations reflected in the
forward-looking statements are reasonable, we cannot offer any assurance of future results, levels
of activity, performance or achievements. Moreover, neither any other person nor we assume
responsibility for the accuracy and completeness of such statements. Important factors that may
cause actual results to differ from expectations include those discussed in Risk Factors
beginning on Item 1A of Part II in this document. The terms Sipex, the Company, we, us,
its and our as used in this Form 10-Q refer to Sipex Corporation and its subsidiaries and its
predecessors as a combined entity, except where the context requires otherwise.
Available Information
Our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K,
and amendments to reports filed pursuant to Sections 13(a) and 15(d) of the Securities Exchange Act
of 1934, as amended, or the Exchange Act, are available on its website at www.sipex.com/investor
when such reports are available on the SEC website. The public may read and copy any materials
filed by us with the SEC at the SECs Public Reference Room at 450 Fifth Street, NW, Washington, DC
20549. The public may obtain information on the operation of the Public Reference Room by calling
the SEC at 1-800-SEC-0330. The SEC maintains an Internet site that contains reports, proxy and
information statements and other information regarding issuers that file electronically with the
SEC at http://www.sec.gov. The contents of these websites are not incorporated into this filing.
Further, our references to the Uniform Resource Locators (URLs) for these websites are intended to
be inactive textual references only.
As discussed in Note 2 to the condensed consolidated financial statements, our financial
statements for the three months ended April 3, 2004 and six months ended July 3, 2004 have been
restated. The accompanying managements discussion and analysis gives effect to that restatement.
Overview
On June 21, 2005, a Nasdaq Listings Qualification Panel, the Panel, notified us that the Panel
had denied our request for continued inclusion on the Nasdaq Global Market. Our common stock was
delisted from the Nasdaq Global Market effective with the beginning of trading on June 23, 2005.
We design, manufacture and market, high performance, analog ICs that are used primarily by
OEMs, operating in the computing, consumer, communications and networking infrastructure markets.
Some of the end product applications that contain our ICs are cellular phones, base stations,
computers, DVD players, and digital cameras. Our products fall into three major product families:
power management, interface and optical storage.
We focus on several key areas to drive operating and financial performance, including product
mix, new product introductions, capacity utilization, cost reductions and productivity. All of
these key areas are interrelated and important in achieving improved gross margin.
Product mix between our three product families and the sale of new products within each of our
product families can significantly impact overall gross margin. Power management product gross
margins have a wide
18
range depending on the mix of sales within this product family. The very high volume
commodity products sold into the Asian market, such as power regulators, have generally lower
margins. By contrast, our advanced power management product offerings, such as white LED (light
emitting diode) drivers, and our Power BloxTM family, are newer products, and contribute typically
higher margins. Interface products typically have more moderate margins, due to the multi-protocol
family and the new low voltage interface products. Optical storage product gross margins are
typically within range of our average margin. The products in this line are typically proprietary,
but alternative suppliers often introduce competitive solutions.
Capacity utilization of our wafer fabrication facility in Milpitas, California was
historically an important factor in driving gross margin improvement. In the past, a large portion
of our fabrication cost structure was fixed, such as depreciation and payroll expense for process
engineering and manufacturing support, and this structure provided for lower per unit costs as the
volume of completed wafers increased. In the third quarter of 2005, we decided to outsource all of
our wafer fabrication operations and to begin shutting down the Milpitas, California facility. We
expect this transition to be completed by the third quarter of 2006. We believe that this
transition will improve the margins of our interface products and certain of our commodity market
power management products which we historically manufactured at the Milpitas facility; however,
because of this transition away from the fixed cost structure, we will not recognize the same
decrease in per unit manufacturing costs as production volumes increase.
Cost reductions and productivity improvements are required in order to remain competitive in
our marketplace. Cost reductions are achieved in several ways, such as re-designing the products
to shrink the size of the die providing more individual products per wafer produced. This
generates increased output without adding significant incremental cost. Other cost reductions and
productivity improvements come through product assembly and test yield improvement and test time
reduction.
Net sales during the quarter ended July 2, 2005 were $18.3 million, an increase of $1.8
million or approximately 11% compared to the same period of 2004. The increase in sales for the
three month period was due primarily to a $3.4 million increase in sales of optical storage
products, partly offset by a $1.7 million and $154,000 decrease in sales of interface and power
management products, respectively. The demand for our optical storage products was driven by
continuing high volume production of DVD drives using our products. Geographically, in the United
States we experienced a sales decline of 26% for the second quarter compared to the same period in
2004. Net sales in Japan grew by 113% for the second quarter of 2005 compared to the same period
last year. This growth was driven by the strong demand for our optical storage products.
Gross profit of $3.2 million in the second quarter of 2005 decreased by $1.1 million, or 25%
from $4.4 million, in the corresponding period of 2004. The decrease in gross profit for the second
quarter was due primarily to a 24% increase in cost of sales. Our gross profit on sales of
interface products declined due to lower sales, partly offset by an increase in the gross profit
attributable to the higher sale of optical storage products.
As of July 2, 2005, we had cash and cash equivalents of $5.4 million compared to cash and cash
equivalents and short-term investments of $15.8 million at January 1, 2005. The decrease of $10.4
million was used principally to fund our ongoing operations. Net cash used in operations was $10.8
million for the six months ended July 2, 2005, resulting primarily from the $21.3 million net loss,
partially offset by $16.1 million non-cash expenses that were included in net loss, and the $5.7
million use of cash from the change in assets and liabilities.
Restructuring and Impairment
During the fourth quarter of 2003, we established a $1.0 million restructuring reserve for our
facility in Billerica, Massachusetts. This followed our 2002 restructuring initiative in which we
transferred our back end test operations to Asia in the first quarter of 2003 and began to
integrate other support activities to Milpitas, California. By the fourth quarter of 2003 we had
vacated and segregated approximately 75% of the Billerica, Massachusetts facility and are seeking a
lessee for this unoccupied space. The restructuring reserve represents the present value of future
lease payments subsequent to abandonment less any estimated sublease income net of associated
costs. To estimate future sublease income, we worked with an independent broker to estimate the
length of time to sublease the facility and the total amount to be received. However, our estimates
of expected sublease income could change in the future based on factors that affect our ability to
sublease this facility such as general economic conditions and the real estate market,
19
among others. During the third quarter of 2004, we entered into a sublease arrangement for a
portion of the facility and decided to relocate additional personnel to Milpitas, California. This
resulted in additional restructuring costs of $1.9 million for future lease payments, severance
payments and write-off of leasehold improvements in Billerica. For the three and six months ended
July 2, 2005, we respectively utilized $198,000 and $371,000 of restructuring reserves, which was
primarily the lease cost associated with the unused portion of our Billerica facility.
In the second quarter of 2005, we recognized a $9.4 million impairment charge for our
long-lived assets. Based on changes in the planned use for our wafer fabrication assets, we
performed an impairment evaluation in accordance with SFAS No. 144. We determined that the
appropriate grouping for this impairment evaluation was the wafer fabrication assets taken together
and the associated cash flows for these assets. These assets were evaluated on a held-for-use basis
as we were required to operate our wafer fabrication facility until the new wafer fabrication
partner processes were qualified. As the carrying value exceeded the undiscounted cash flows of
the wafer fabrication assets for the period of planned use by us, an impairment charge was recorded
for the difference between the carrying value and the fair value of the wafer fabrication assets
which our management determined with the assistance of an independent appraisal firm. While we
subsequently agreed to sell a substantial portion of our wafer fabrication machinery and equipment
to Silan by the end of the third quarter of 2006, our wafer fabrication assets remain in use and we
will continue to record depreciation expense based on the estimated remaining useful life at the
time of impairment.
Results of Operations
The table below presents the statements of operations for the three months and six months
ended July 2, 2005 and July 3, 2004, as a percentage of net sales:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended |
|
|
For the Six Months Ended |
|
|
|
July 2, 2005 |
|
|
July 3, 2004 |
|
|
July 2, 2005 |
|
|
July 3, 2004 |
|
Net sales |
|
|
100.0 |
% |
|
|
100.0 |
% |
|
|
100.0 |
% |
|
|
100.0 |
% |
Cost of sales |
|
|
82.3 |
|
|
|
73.6 |
|
|
|
77.3 |
|
|
|
78.6 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit |
|
|
17.7 |
|
|
|
26.4 |
|
|
|
22.7 |
|
|
|
21.4 |
|
Operating expenses: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Research and development |
|
|
23.3 |
|
|
|
23.1 |
|
|
|
21.4 |
|
|
|
21.5 |
|
Marketing and selling |
|
|
14.8 |
|
|
|
13.5 |
|
|
|
13.9 |
|
|
|
12.3 |
|
General and administrative |
|
|
17.1 |
|
|
|
9.5 |
|
|
|
19.0 |
|
|
|
12.1 |
|
Restructuring |
|
|
0.3 |
|
|
|
0.3 |
|
|
|
0.2 |
|
|
|
0.1 |
|
Impairment of fixed assets |
|
|
51.2 |
|
|
|
0.0 |
|
|
|
24.6 |
|
|
|
0.0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses |
|
|
106.7 |
|
|
|
46.4 |
|
|
|
79.1 |
|
|
|
46.0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss from operations |
|
|
(89.0 |
) |
|
|
(20.0 |
) |
|
|
(56.4 |
) |
|
|
(24.6 |
) |
Other income, net |
|
|
0.6 |
|
|
|
0.4 |
|
|
|
0.6 |
|
|
|
0.2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss before income taxes |
|
|
(88.4 |
)% |
|
|
(19.6 |
)% |
|
|
(55.8 |
)% |
|
|
(24.4 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Sales
Net sales during the quarter ended July 2, 2005 were $18.3 million, an increase of $1.8
million or approximately 11% compared to the same period of 2004. The increase in sales for the
three month period was due primarily to a $3.4 million increase in sales of optical storage
products, partly offset by a $1.7 million and $0.2 million decrease in sales of interface and power
management products, respectively. For the six months ended July 2, 2005, net sales also increased
9.8% to $38.1 million compared to $34.7 million for the six months ended July 3, 2004. Sales of
optical storage products for the six months ended July 2, 2005 increased by $6.6 million, but was
partly offset by the $1.8 million and $1.2 million decreases in sales of interface and power
management products, respectively. The demand for our optical storage products was driven by
continuing high volume production of DVD drives using our products.
Geographically, in the United States we experienced a sales decline of 26% for the second
quarter and 8.1% for the first six months of 2005 compared to the same period in 2004. Our
international net sales made up 81% and 72% of the total net sales for the second quarter of 2005
and 2004, respectively, and 81% and 77% for the six months ended July 2, 2005 and July 3, 2004,
respectively. In dollar terms, the international net sales were $14.9 million and $11.9 million for
the second quarter of 2005 and 2004, respectively. For the six months ended July 2,
20
2005 and July
3, 2004, international sales were $30.8 million and $26.7 million, respectively. Net sales in Japan
grew by 113% for the second quarter and 91% during the first six months of 2005 compared to the
same period last year. This growth was driven by the strong demand for our optical storage
products. Net sales in Asia other than Japan declined by 2% and 12% in the second quarter and first
six months of 2005, respectively, as compared to the same period in 2004 primarily as a result of
lower sales of power management and interface products in Taiwan.
Gross Profit
Gross profit of $3.2 million in the second quarter of 2005 decreased by $1.1 million, or 25%
from $4.4 million, in the corresponding period of 2004. For the six months ended July 2, 2005,
gross profit increased by 16% to $8.6 million compared to $7.4 million for the six months ended
July 3, 2004. For the second quarter of 2005, our gross profit on sales of interface products
declined due to lower sales, partly offset by an increase in the gross profit attributable to the
higher sale of higher margin optical storage products. The overall increase in gross profit for
the six months ended July 2, 2005 was primarily due to higher sales of optical storage products.
Research and Development
Research and development expenses were $4.3 million and $8.1 million for the second quarter
and six months ended July 2, 2005, respectively, compared to $3.8 million and $7.5 million for the
second quarter and six months ended July 3, 2004, respectively. The increase in expense for the
three and six months ended July 2, 2005 as compared to the three and six months ended July 3, 2004,
resulted primarily from an increase in spending for outside engineering design services, prototype
wafers and new wafer mask sets, for new product development programs, partly offset by decreases in
salaries and benefits, rent and maintenance expenses. The increase of $0.7 million in research and
development expense for the six-month period was due primarily to an increase in product
development and consulting services, partly offset by lower spending in salaries, depreciation,
building rent and maintenance expenses.
Marketing and Selling
Marketing and selling expenses were $2.7 million and $2.2 million for the second quarters of
2005 and 2004, respectively. The increase was primarily attributable to an increase in salaries and
benefits for additional sales and marketing personnel compared to the corresponding period of 2004,
as well as an increase in consulting fees in our Companys German sales subsidiary. For the
six-month period, expenses were $1.0 million higher than prior year due primarily to higher
salaries, travel and consulting expenses.
As a percentage of net sales, marketing and sales were approximately 15% during the second
quarter of 2005 compared to approximately 14% during the corresponding period of 2004, and 14% and
12% of net sales during the first six months of 2005 and 2004, respectively. These percentage and
absolute dollar increases were primarily driven by higher spending on personnel in marketing and
sales as well as higher consulting expenses incurred during the second quarter of 2005.
General and Administrative
General and administrative expenses were $3.1 million and $1.6 million for the second quarter
of 2005 and 2004, respectively. The increase of $1.5 million for the quarter was primarily driven
by higher legal and accounting fees incurred related to our internal investigations relating to the
restatement of our prior years financial statements and fees for litigation. Expenses of $7.2
million during the six months ended July 2, 2005 were $3.0 million higher than the prior years
comparable period due primarily to higher legal and professional services fees for audits,
litigation and investigation related expenses. This was partly offset by decreases in bad debt
expense, depreciation, telephone and salaries expense.
As a percentage of net sales, general and administrative expense for the second quarter of
2005 increased from 10% in the second quarter of 2004 to 17% in the second quarter of 2005, and
from 12% during the first half of 2004 to approximately 19% during the same period in 2005 for the
same reasons as noted above.
Restructuring and Impairment
21
In 2005, the restructuring charges of $47,000 and $59,000 to the three and six months ended
July 2, 2005, respectively related to accruals for estimated expenses and adjustments to facility
lease costs relating to our Billerica, Massachusetts facility, net of sublease income. In 2004, the
charges of $42,000 and $24,000 to the three and six months ended
July 3, 2004, respectively, related
to accruals for estimated expenses and adjustments to facility lease costs relating to our
Billerica, Massachusetts facility, net of sublease income and income from sale of excess equipment.
In the second quarter of 2005, we recognized a $9.4 million impairment charge for our
long-lived assets. Based on changes in the planned use for our wafer fabrication assets, we
performed an impairment evaluation in accordance with SFAS No. 144. We determined that the
appropriate grouping for this impairment evaluation was the wafer fabrication assets taken together
and the associated cash flows for these assets. These assets were evaluated on a held-for-use basis
as we were required to operate our wafer fabrication facility until the new wafer fabrication
partner processes were qualified. As the carrying value exceeded the undiscounted cash flows of
the wafer fabrication assets for the period of planned use by us, an impairment charge was recorded
for the difference between the carrying value and the fair value of the wafer fabrication assets
which our management determined with the assistance of an independent appraisal firm. While we
subsequently agreed to sell a substantial portion of our wafer fabrication machinery and equipment
to Silan by the end of the third quarter of 2006, our wafer fabrication assets remain in use and we
will continue to record depreciation expense based on the estimated remaining useful life at the
time of impairment.
Other Income, Net
Other income (expense), net, was $103,000 and $76,000 in the second quarter of 2005 and 2004,
respectively, and $223,000 and $78,000 during six months ended July 2, 2005 and July 3, 2004. The
increase was due primarily to an increase in interest income resulting from rising interest rates
and decrease in interest expense related to the convertible debt issued to the affiliates of Future
which was converted to our common stock in February of 2004.
Income Tax Expense (Benefit)
Income tax expense consisted principally of accruals for income taxes relating to our
international locations. Income tax expense for the second quarter of 2005 was $10,000 compared to
a net tax benefit of $100,000 in the same quarter last year. Income tax expense for the six months
ended July 2, 2005 was $22,000 compared to a net tax benefit of $69,000 for the same period in
2004. For the prior year, the income tax benefit resulted from the favorable resolution of certain
prior year foreign taxes at less than estimated amounts.
Liquidity and Capital Resources
As of July 2, 2005, we had cash and cash equivalents of $5.4 million compared to cash and cash
equivalents and short-term investments of $15.8 million at January 1, 2005. The decrease of $10.4
million was used principally to fund our ongoing operations.
Net cash used in operations was $10.8 million for the six months ended July 2, 2005, resulting
primarily from the $21.3 million net loss, partially offset by $16.1 million non-cash expenses that
were included in net loss. Non-cash expense items primarily included $9.4 million impairment charge
relating to the planned closure of our wafer
fabrication facility in Milpitas, California, $3.0 million in provision for inventories,
depreciation and amortization of $2.9 million and $0.8 million provision for uncollectible
receivables and sales returns and allowances. The cash used in the change in assets and liabilities
of $5.7 million included $3.4 million increase in inventories and $2.7 million decrease in accounts
payable. In comparison, net cash used in operating activities for the six months ended July 3,
2004 was $3.4 million, resulting primarily from the $8.4 million net loss, partially offset by $5.4
million in non-cash items. Non-cash items during the first half of 2004 included $3.4 million in
depreciation and amortization, an increase in provision for uncollectible receivables and sales
returns and allowances of $0.7 million, and an increase in provision for inventories of $1.0
million. The cash used in the change in assets and liabilities of $0.4 million included a $1.9
million decrease in accounts receivable, partially offset by a $2.5 million increase in
inventories.
Net cash used in investing activities was $11,000 for the six months ended July 2, 2005. The
change was made up primarily of $0.6 million purchase of short-term investment securities and $0.3
million purchase of property, plant and equipment, reduced by $0.9 million proceeds from maturity
of short-term investment securities. For the
22
six months ended July 3, 2004, we used $3.2 million
cash in investing activities primarily to purchase $4.0 million in short-term investment
securities, $1.8 million deposited in a restricted cash account to guarantee payment of contractual
obligations with a supplier and the purchase of $1.3 million in property, plant and equipment.
Net cash received from financing activities for the six months ended July 2, 2005 was $0.7
million derived from the issuance of stock under the employee stock option plan. Net cash provided
by financing activities during the same period in 2004 was $0.3 million and included $0.3 million
from issuance of common stock under employee stock plans, partly offset by legal fees of $42,000
incurred on conversion of convertible debt to common stock.
On July 21, 2005,
we entered into a Loan and Security Agreement, with Silicon Valley Bank, and
this agreement was subsequently amended on October 7, 2005, November 10, 2005, January 19, 2006,
May 18, 2006, and August 1, 2006. The agreement currently provides for a secured revolving line of
credit with an aggregate principal amount of up to $5,000,000, which may be used to borrow
revolving loans or to issue lines of credit on our behalf. We have granted to Silicon Valley Bank a
security interest in all presently existing and later acquired collateral, including but not
limited to goods, equipment, inventory, contract rights, and financial assets, in order to secure
the obligations and duties under such loan and security agreement. Advances accrue interest on the
outstanding principal balance at an annual rate equal to Silicon Valley Banks prime rate. The
agreement matures on September 30, 2006 at which time all outstanding advances must be repaid, and
all outstanding letters of credit must be cash collateralized. The agreement requires us to comply
with a minimum liquidity ratio. It also required us to retain a minimum tangible net worth.
However, the latest amendment dated August 1, 2006, has modified the agreement to delete the
requirement for a minimum tangible net worth and waive our non-compliance with the financial
covenant on tangible net worth for the periods ended April 1, 2006 and July 1, 2006. The agreement
contains additional affirmative covenants, including, among others, covenants regarding the payment
of taxes and other obligations, maintenance of insurance, reporting requirements and compliance
with applicable laws and regulations. In addition, the agreement contains negative covenants
limiting our ability to dispose of assets, change our business plans, be acquired or beneficially
owned, merge or consolidate, incur indebtedness, grant liens, make investments, pay dividends,
repurchase stock, and pay subordinated debt. The agreement contains events of default that include,
among others, non-payment of principal, interest or fees, inaccuracy of representations and
warranties, violations of covenants, bankruptcy and insolvency events, any material adverse change,
material judgments, cross defaults to certain other indebtedness and seizure of assets. The
occurrence of an event of default will increase the applicable rate of interest by 5.0 % and would,
unless waived by Silicon Valley Bank, result in the immediate payment of all of our obligations
under the agreement.
On January 19, 2006, we announced the completion of a $7.0 million private loan financing in
which we issued a 9% secured note with convertible interest due January 19, 2008 to Rodfre, an
affiliate of Future. The note was secured by a deed of trust on our headquarters property located
in Milpitas, California. The holder of the note could require repayment of the loan in the event
of, among other things, the sale of the property subject to the deed of trust. On March 9, 2006,
we entered into an Agreement for Purchase and Sale of Real Property with Mission West Properties
L.P. The agreement provides for the sale of Sipexs Hillview facility to Mission West Properties
L.P. for a price of $13.4 million in cash. We used the proceeds from the sale of our Hillview
facility to pay off and terminate this loan. The remaining balance of $6.4 million from the sale
of the property will be used for operating activities.
Simultaneously
with the sale of the Hillview property (See Note 14 of condensed
consolidated financial statements), we entered into a Standard Form Lease
agreement to lease back the facility from Mission West Properties L.P. The lease term is 60
months. In addition, we have provided a
security deposit of $1,265,000 in the form of an irrevocable standby letter of credit issued
to Mission West Properties, L.P. under our line of credit with Silicon Valley Bank. The security
deposit is held as security for our faithful performance of the terms, covenants, and conditions
prescribed under the lease agreement.
On May 16, 2006 we sold $30.0 million of 5.5% Convertible Senior Notes due 2026, or the 2006
Notes, in a private placement. The 2006 Notes bear interest of 5.5% per year, payable
semi-annually on May 15 and November 15 of each year, commencing on November 15, 2006, and mature
on May 16, 2026. The 2006 Notes are convertible into common stock at any time at a fixed conversion
price of $2.68 per share. If fully converted, the principal amount of the Notes would convert into
approximately 11,194,030 shares of our common stock. At any time following the effectiveness of a
registration statement related to the resale of the common stock issuable upon the conversion of
the 2006 Notes, we may, subject to certain conditions, elect to automatically convert the 2006
Notes into common stock if the average price of our common stock exceeds 150% of the conversion
price for at least 20 trading days during any consecutive 30 trading-day period, ending within 5
days of the notice of automatic conversion. We have the right to
23
redeem the 2006 Notes at par plus
accrued interest at anytime after May 15, 2009 and the purchasers have the right to require us to
repurchase the 2006 Notes at par plus accrued interest on May 15 in 2011, 2016 and 2021.
The 2006 Notes provide that since we were not current in our SEC filings by August 15, 2006,
we will pay additional interest on the 2006 Notes at an annual rate of 1.5% for the period
beginning August 15, 2006 through the date that our filings become current. In addition, if our
common stock is not listed on the Nasdaq Global Market, the New York Stock Exchange or another
national exchange or automated quotation system by December 31, 2006, we will pay additional
interest on the 2006 Notes at an annual rate of 1.5% for the period beginning December 31, 2006
through the date that our common stock becomes listed for trading on one of the national exchanges.
Likewise, the Registration Rights Agreement entered into in connection with the 2006 Notes
provides that since we have not filed a registration statement for the shares of our common stock
issuable upon conversion of the 2006 Notes or exercise of the warrants issued in connection with
the 2006 Notes as of August 15, 2006, we will pay additional payments to the noteholders equal to a per annum rate of
0.8% times the principal amount of the Notes for the period beginning on August 15, 2006 through
the date that the registration statement is filed; provided, however, that we may face increased
payments if the filing of the registration statement is delayed by over 60 days, or if the
registration statement is not declared effective by December 31, 2006.
A more detailed description of the terms of the 2006 Notes is presented in Note 14 to our
condensed consolidated financial statements included in this 10-Q filing and in our Form 8-K filing with the
Securities and Exchange Commission on May 22, 2006.
We believe that our existing cash and cash equivalents are adequate to fund operations,
capital expenditures and research and development efforts for the next twelve months. We also
believe that our management has taken and will continue to take appropriate actions to improve
operations and obtain the necessary funds to finance our operations, capital expenditures and
research and development efforts. However, in the event that we need to secure additional funds for
operations, there is no guarantee that financing will be available or that it will be on terms that
we will accept. In the long-term, management believes that the results of its recent years
restructuring activities, cost control actions and revised product line focus will eventually
result in a return to positive cash flow from operations at which time it anticipates that
additional equity or debt financing would become available for financing working capital
requirements and capital expenditure plans. However, there is no guarantee that we will return to
positive cash flow from operations or that financing, if required, will be available or that it
will be on terms that we will accept.
Critical Accounting Estimates and Policies
Our condensed consolidated financial statements have been prepared in accordance with
accounting principles generally accepted in the United States of America. The preparation of such
statements requires us to make estimates and assumptions that affect the reported amounts of
revenues and expenses during the reporting period and the reported amounts of assets and
liabilities as of the date of the financial statements. Our estimates are based on historical
experience and other assumptions that we consider to be appropriate in the circumstances. However,
actual future results may vary from our estimates.
We believe that the following accounting policies are critical as defined by the
Securities and Exchange Commission, in that they are both highly important to the portrayal of our
financial condition and results, and require difficult management judgments and assumptions about
matters that are inherently uncertain. We also have other important policies, including those
related to derivative instruments and concentration of credit risk. However, these policies do not
meet the definition of critical accounting policies because they do not generally require us to
make significant estimates or judgments that are difficult or subjective. These policies are
discussed in the Notes to the consolidated financial statements, which are included in our annual
report on Form 10-K for the year ended January 1, 2005.
We believe the accounting policies below are the ones that most frequently require us to
make estimates and judgments, and therefore are critical to the understanding of our results of
operations:
|
1. |
|
revenue recognition; |
|
|
2. |
|
valuation of inventories; |
|
|
3. |
|
restructuring and fixed asset impairment; and, |
|
|
4. |
|
income taxes. |
There have been no significant changes to these policies from the disclosure noted in our
annual report on Form 10-K for the year ended January 1, 2005.
Recent Accounting Pronouncements
Please refer to Note 3 of Notes to condensed financial statements included in Item 1 of Part I
for a discussion of the expected impact of recently issued accounting standards.
24
Contractual Obligations and Commitments
As of July 2, 2005, there have been no significant changes to our contractual obligations as provided in
Management Discussion and Analysis of Financial Condition and Result of Operations of our Form
10-K for the year ended January 1, 2005.
As of July 2, 2005, we have no off-balance sheet arrangements as defined in Item 303(a) (4) of
the SECs Regulation S-K.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Market Risk
We invest excess cash in financial investments that are sensitive to market risks as part of
our investment strategy. None of these market-sensitive instruments are held for trading purposes.
We do not own derivative financial instruments in our portfolio. The investment portfolio contains
instruments that are subject to the risk of a decline in interest rates. As required by our
investment policy, available funds are invested in a manner that assures maximum safety and
liquidity and, secondarily, maximizes yield within such constraints.
Interest Rate Risk
Our financial investments consist primarily of high quality commercial paper and money market
funds. We believe we have no material exposure to interest rate risk.
Our exposure to market risk for changes in interest rates relates primarily to the increase or
decrease in the amount of interest income we can earn on our investment portfolio and interest
expense we are charged on borrowings. We do not use derivative financial instruments or engage in
hedging activities in our investment portfolio. We ensure the safety and preservation of our
invested principal funds by limiting default risks, market risk and reinvestment risk. We mitigate
default risk by investing in safe and high-credit quality securities.
We had no investment in short term securities at July 2, 2005.
In 2005 we entered into a Loan and Security Agreement, as amended, with Silicon Valley Bank
which provides us with a line of credit up to $5,000,000 and charges interest at the prime rate.
However, we do not believe that a hypothetical increase in market interest rates by 10% from
current levels would result in a material increase in our overall expenses.
On May 16, 2006 we placed $30.0 million of 5.5% Convertible Senior Notes due 2026. Although
the rate may be increased if we do not meet certain conditions, the 2006 Notes provide for a fixed
interest rate. A more detailed description of the terms of our 2006 Notes is provided in our
annual report on Form 10-K for the year ended January 1, 2005 and in our Form 8-K filed with the
Securities and Exchange Commission on May 22, 2006. Because the interest rates of the 2006 Notes
were fixed, a hypothetical 10% increase in interest rates will not have a material effect on our
financials.
Since
we were not current in our SEC filings by August 15, 2006, we will pay additional interest on the 2006 Notes at an annual
rate of 1.5% for the period beginning August 15, 2006 through the date that our filings become current. In addition, if our common stock is not listed on the Nasdaq Global Market, the New York Stock Exchange or another national exchange or
automated quotation system by December 31, 2006, we will pay additional interest on the 2006 Notes at an annual rate of 1.5% for the period beginning December 31, 2006 through the date that our common stock becomes listed for trading on one of the national exchanges.
25
Foreign Currency Exchange Risk
The majority of our sales, expense, and capital purchasing activities are transacted in
U.S. dollars. However, since a portion of our operations consists of sales activities outside of
the U.S., we enter into transactions in other currencies. We are primarily exposed to changes in
exchange rates for the euro, Japanese yen, and British pound. Currently, we have no plan to enter
into any foreign currency hedging program since the amounts involved have not been material.
Foreign currency fluctuations did not have a material impact on our consolidated financial
position, results of operations or cash flows for the quarters ended July 2, 2005 and July 3, 2004.
Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
We evaluated the design and operating effectiveness of our disclosure controls and procedures
as of July 2, 2005, under the supervision and with the participation of our management, pursuant to
Rule 13a-15(b) of the Exchange Act.
Based on this evaluation, our Chief Executive Officer (CEO) and Chief Financial Officer (CFO)
concluded that our disclosure controls and procedures as defined in Rule 13a-15(e) were not
effective in ensuring that information required to be included in our periodic SEC filings is
recorded, processed, summarized, and reported within the time periods specified in the Commissions
rules and forms and is accumulated and communicated to our management, including our CEO and CFO,
as appropriate to allow timely decisions regarding required disclosure, due to certain material
weaknesses in our internal controls over financial reporting described in Managements Report On
Internal Control Over Financial Reporting in Item 9A of our annual report on Form 10-K for the year
ended January 1, 2005 that have not been remediated. Notwithstanding managements assessment that
our disclosure controls and procedures as of July 2, 2005 were ineffective due to the material
weaknesses that existed as of January 1, 2005, as described in our annual report on Form 10-K for
the year then ended, we believe that the condensed consolidated financial statements contained in
this report present fairly our financial condition, results of operations and cash flows for the
periods covered thereby in all material respects in accordance with
generally accepted accounting principles.
The
material weaknesses in our internal control over financial reporting
as of January 1, 2005 identified by our management related to
the design and operation of controls in the following areas: (i)
entity level controls, (ii) revenue accounting, and (iii) financial
closing process - use of estimates.
Changes in Internal Control over Financial Reporting
Our management has committed considerable resources to the design, implementation,
documentation, and testing of our internal controls. Additional efforts were also required to
address certain internal control deficiencies. Our management believes that these
efforts have or are reasonably likely to have, once implemented, a
material effect on our internal control over financial reporting.
For the
quarter ended July 2, 2005, our management took the following
steps to address the
material weaknesses that existed as of January 1, 2005:
|
|
|
Our new CEO, Ralph Schmitt, was hired in June 2005; |
|
|
|
|
As part of our adoption of sell-through revenue accounting, noted in our Quarterly
Report on Form 10-Q for the period ended April 2, 2005, we engaged an outside company to
conduct inventory cycle counts on a rotating basis at all of our distributors warehouses
to verify quantities; |
|
|
|
|
Our key financial managers began making periodic visits to our distributors by to
emphasize the terms of the distribution agreements and the revenue reporting requirements
of Sipex as a public company; |
|
|
|
|
We implemented a process for conducting formal revenue recognition training sessions
for key finance, sales and marketing personnel; |
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|
|
|
We implemented annual ethics training for all employees and we engaged a compliance
firm to ensure that all employees read, understand and confirm critical accounting and
ethics policies. All employees must now annually reaffirm our Code of Conduct, legal
compliance policy and whistleblower procedures; |
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|
|
|
We increased management oversight by expanding our disclosure process to include all
senior managers and sales and marketing personnel with responsibility for responding to
issues raised during the financial reporting process and we require certifications from
all executive management and key sales and marketing personnel; |
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|
|
|
We improved the documentation, communication and periodic review of our accounting
policies throughout our domestic and international locations for consistency and
compliance with generally accepted accounting principles; |
|
|
|
|
We enhanced the training and education for our international finance and accounting
personnel and new hire additions to the worldwide finance team; |
26
During the first fiscal quarter of 2005, our management took the following additional steps to
address the material weaknesses that existed as of January 1, 2005:
|
|
|
We adopted sell-through revenue recognition for our sales to distributors other than
Future. As part of this adoption, we advised our distributors that the terms of the
distribution agreement are binding and any changes to those terms must be approved in
writing by both our CEO and CFO. Additionally, we implemented more stringent policies
and procedures regarding revenue accounting and oversight of contractual arrangements by
requiring the review and approval from our CEO and CFO on non-standard sales terms and
conditions of a significant nature; |
During
the remainder of 2005, our management took the following additional
steps to address
the material weaknesses that existed as of January 1, 2005:
|
|
|
We re-engineered the sales administration function so that all finance-related
activities are performed by the finance staff. The finance department assumed
responsibility for the customer credit issuance and tracking process and the external
sales representative commission calculation; |
During
2006, our management took the following additional steps to address the material
weaknesses that existed as of January 1, 2005:
|
|
|
We conducted a formal review of the foreign locations in which we are doing business,
evaluated the appropriate and necessary legal and tax structure for these foreign
locations and then implemented such structure and the related internal controls to
ensure compliance with local laws and regulations. |
Our management is dedicated to improving our internal controls over financial reporting and
intends to continue monitoring and upgrading our internal controls as necessary or appropriate for
our business.
The
nature and significance of the material weaknesses may prevent
successful remediation of all the material weaknesses during fiscal
year 2005.
27
Part II: OTHER INFORMATION
Item 1. Legal Proceedings
The information included in Note 13 of Notes to condensed consolidated financial statements
under the caption Pending Litigation in Item 1 is incorporated herein by reference.
Item 1A. Risk Factors
There have been no material changes to the risk factors set forth under Item 1A. Risk
Factors included in our annual report on Form 10-K for the year ended January 1, 2005.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
None.
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
|
|
|
Exhibit Number |
|
Title |
|
31.1
|
|
Certification of Chief Executive Officer pursuant to
Section 302(a) of the Sarbanes-Oxley Act of 2002 |
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|
|
31.2
|
|
Certification of Chief Financial Officer pursuant to
Section 302(a) of the Sarbanes-Oxley Act of 2002 |
|
|
|
32.1
|
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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 |
|
|
|
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 |
28
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.
|
|
|
|
|
|
SIPEX CORPORATION
|
|
DATE: August 17, 2006 |
/s/ Clyde R. Wallin
|
|
|
Clyde R. Wallin |
|
|
Chief Financial Officer and
Senior Vice President, Finance
(Duly Authorized Officer &
Principal Financial Officer) |
|
29
EXHIBIT INDEX
|
|
|
Exhibit Number |
|
Title |
|
31.1
|
|
Certification of Chief Executive Officer pursuant to
Section 302(a) of the Sarbanes-Oxley Act of 2002 |
|
|
|
31.2
|
|
Certification of Chief Financial Officer pursuant to
Section 302(a) of the Sarbanes-Oxley Act of 2002 |
|
|
|
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 |
|
|
|
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 |
30