SMTC

Business Context and Reporting Period

Semtech Corporation (Semtech) designs, produces, and markets semiconductor products for computer, communications, and industrial markets. This Form 10-Q covers the third quarter and the first three quarters ended October 31, 2004. The third quarter consisted of 14 weeks, while the prior year's third quarter consisted of 13 weeks. The company operates in two segments: Standard Semiconductor Products (96% of sales) and Rectifier, Assembly and Other Products.

Key Financial Metrics

Liquidity: As of October 31, 2004, Semtech held $79.4 million in cash and cash equivalents and $216.4 million in investments. The company has no long-term debt outstanding. Operating cash flow for the first three quarters of 2004 was $54.9 million, a significant increase from $17.6 million in the prior year period.

Material Changes vs. Prior Period

• Revenue Growth: Net sales increased 35% in Q3 and 43% YTD compared to the prior year, driven by strong demand in cellular phones, communications infrastructure, and military/industrial sectors. Sales to the Asia-Pacific region accounted for the majority of foreign sales.
• Profitability: Operating income increased 53% in Q3 and 102% YTD. This was driven by revenue growth and operating expenses decreasing as a percentage of sales (31% in Q3 2004 vs. 35% in Q3 2003).
• Interest Income: Net interest and other income improved significantly due to higher investment balances and the absence of the $6.8 million pre-tax charge incurred in the prior year for the retirement of convertible subordinated notes.
• Inventory: Inventories increased by $7.6 million YTD to support new products and anticipated higher shipment rates.

Guidance, Outlook, Risks, and Unusual Items

Management Commentary: Management attributes the strong performance to macro-economic recovery and specific end-market strength. The company continues to invest in product development and capital equipment to expand test capacity. No specific forward-looking financial guidance was provided in this filing.

Unusual Items:

• Stock Repurchases: The company repurchased 611,700 shares in Q3 at a cost of $11.5 million under a $50 million program authorized in early 2004. Approximately $22.4 million remains available under this program.
• Customer Settlement: The company paid the second installment of a $12.0 million customer settlement in Q1 2004. No material rebates were accrued through Q3 2004.

Risks and Contingencies:

• Supply Chain Concentration: Approximately 63% of silicon wafers are supplied by a single third-party foundry in China. Disruption here could materially impact operations.
• Customer Concentration: One Asian distributor accounted for 12% of Q3 net sales and 15% of accounts receivable.
• Environmental: The company is a potentially responsible party for the Davis Chemical Company site cleanup in Los Angeles, though no reserve has been established as costs are not yet estimable.
• Accounting Changes: The company is evaluating the impact of new FASB standards on share-based payments, expected to be adopted in Q3 of fiscal 2006, which will likely reduce reported earnings.

Investor Verification Checklist

• Verify the sustainability of the 35% Q3 revenue growth, particularly in the cellular and communications sectors.
• Monitor the concentration risk associated with the single Chinese foundry supplying 63% of silicon wafers.
• Review the impact of the upcoming adoption of fair-value accounting for stock options on future reported earnings.
• Assess the status of the Davis Chemical environmental liability and potential future costs.
• Track the company's ability to maintain gross margins amidst industry-wide price erosion.