SWKS

Business Context and Reporting Period

Company: Skyworks Solutions, Inc.
Filing Type: Form 10-K (Annual Report)
Period Ended: September 27, 2002
Business Overview: Skyworks is a leading wireless semiconductor company focused on radio frequency (RF) and complete cellular system solutions for mobile communications. The company was formed on June 25, 2002, through the merger of the wireless communications business of Conexant Systems, Inc. and Alpha Industries, Inc. (which changed its name to Skyworks). The company operates in a single segment, designing, developing, manufacturing, and marketing semiconductor products for wireless handset and infrastructure customers.

Key Financial Metrics

Note: Fiscal 2002 results include the impact of the reverse acquisition of Alpha Industries, Inc. on June 25, 2002. Historical financial statements reflect the Washington/Mexicali business for periods prior to the merger.

Material Changes vs. Prior Period

• Revenue Growth: Total net revenues increased 75.8% to $457.8 million, driven by a 94.1% increase in third-party revenues to $418.3 million. This growth reflects renewed demand for wireless products and the reduction of excess channel inventories that plagued the industry in 2001.
• Profitability Improvement: The company moved from a gross margin loss of $51.1 million in 2001 to a gross profit of $126.2 million in 2002. This turnaround was aided by improved manufacturing utilization and the sale of inventories previously written down to zero cost in 2001.
• Special Charges: Fiscal 2002 included $116.3 million in special charges, primarily consisting of a $66.0 million impairment of the Mexicali assembly and test facility and a $45.8 million write-off of goodwill related to the Philsar Semiconductor acquisition. Fiscal 2001 included $88.9 million in special charges, mainly for the impairment of the Newbury Park wafer fabrication facility.
• Balance Sheet Expansion: Total assets increased significantly from $314.3 million to $1.35 billion, largely due to the accounting treatment of the reverse merger which recognized the fair value of Alpha's assets and goodwill.

Guidance, Outlook, Risks, and Unusual Items

Recent Developments and Liquidity

On November 13, 2002 (subsequent to the fiscal year-end), Skyworks closed a private placement of $230 million in 4.75% convertible subordinated notes due 2007. Proceeds were used to prepay $170 million of debt owed to Conexant and retain $53 million for working capital. The remaining $45 million Conexant debt was exchanged for 15% convertible senior subordinated notes due 2005.

Management Commentary and Outlook

Management anticipates continued cyclical fluctuations in the wireless semiconductor industry. While demand has recovered from the 2001 downturn, the company faces challenges including price erosion, rapid technological change, and the need to achieve substantial revenue growth to sustain profitability. The company expects to generate sufficient operating cash to meet short-term and long-term requirements following the debt refinancing.

Key Risks and Contingencies

• Accounting Changes: The company must adopt SFAS No. 142 (Goodwill and Other Intangible Assets) in fiscal 2003. This requires a transitional impairment test on approximately $907.5 million of goodwill and intangible assets, which could result in a substantial non-cash charge.
• Customer Concentration: Samsung Electronics Co. accounted for 38% of third-party revenues in 2002, and Motorola accounted for 12%. Loss of these customers would materially impact operations.
• Supply Agreements: The company has minimum purchase obligations with Jazz Semiconductor (a Conexant joint venture) totaling approximately $64 million in 2003, $39 million in 2004, and $13 million in 2005. Excess costs of $5.1 million were accrued in 2002.
• Intellectual Property: The semiconductor industry is characterized by vigorous IP protection. The company faces potential litigation risks, including a resolved trademark dispute with Skyworks Technologies, Inc. (STI).

Investor Verification Checklist

• Goodwill Impairment Risk: Verify the impact of the upcoming SFAS 142 adoption on fiscal 2003 earnings, given the $907.5 million carrying value of goodwill.
• Debt Structure: Confirm the terms of the new $230 million convertible notes and the $45 million 15% senior notes issued to Conexant, including conversion prices and maturity dates.
• Customer Dependency: Monitor the stability of relationships with Samsung and Motorola, which collectively represented 50% of third-party revenues.
• Manufacturing Utilization: Assess whether the improved gross margins in 2002 are sustainable given the history of facility impairments (Mexicali and Newbury Park) and the cyclical nature of the industry.
• Inventory Valuation: Review the remaining inventory written down to zero cost basis ($5.4 million) and the potential for future write-downs if demand softens.