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POLYCOM INC - 10-K - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Edgar Glimpses Via Acquire Media NewsEdge)
YOU SHOULD READ THE FOLLOWING DISCUSSION AND ANALYSIS IN CONJUNCTION WITH OUR
CONSOLIDATED FINANCIAL STATEMENTS AND RELATED NOTES. EXCEPT FOR HISTORICAL
INFORMATION, THE FOLLOWING DISCUSSION CONTAINS FORWARD-LOOKING STATEMENTS WITHIN
THE MEANING OF SECTION 27A OF THE SECURITIES ACT OF 1933 AND SECTION 21E OF THE
SECURITIES EXCHANGE ACT OF 1934. WHEN USED IN THIS REPORT, THE WORDS "MAY,"
"BELIEVE," "COULD," "ANTICIPATE," "WOULD," "MIGHT," "PLAN," "EXPECT," "WILL,"
"INTEND," "POTENTIAL," "OBJECTIVE," "STRATEGY," "GOAL," "SHOULD," "VISION,"
"DESIGNED," AND SIMILAR EXPRESSIONS OR THE NEGATIVE OF THESE TERMS ARE INTENDED
TO IDENTIFY FORWARD-LOOKING STATEMENTS. THESE FORWARD-LOOKING STATEMENTS,
INCLUDING, AMONG OTHER THINGS, STATEMENTS REGARDING OUR ANTICIPATED PRODUCTS,
CUSTOMER AND GEOGRAPHIC REVENUE LEVELS AND MIX, GROSS MARGINS, OPERATING COSTS
AND EXPENSES AND OUR CHANNEL INVENTORY LEVELS, INVOLVE RISKS AND UNCERTAINTIES.
OUR ACTUAL RESULTS MAY DIFFER SIGNIFICANTLY FROM THOSE PROJECTED IN THE
FORWARD-LOOKING STATEMENTS. FACTORS THAT MIGHT CAUSE FUTURE RESULTS TO DIFFER
MATERIALLY FROM THOSE DISCUSSED IN THE FORWARD-LOOKING STATEMENTS INCLUDE, BUT
ARE NOT LIMITED TO, THOSE DISCUSSED IN "RISK FACTORS" IN THIS DOCUMENT, AS WELL
AS OTHER INFORMATION FOUND ELSEWHERE IN THIS ANNUAL REPORT ON FORM 10-K.
Overview
We are a global leader in open, standards-based unified communications and
collaboration ("UC&C") solutions for voice and video collaboration. Our
solutions are powered by the Polycom ® RealPresence® Platform, comprehensive
software infrastructure and rich application programming interfaces ("APIs")
that interoperate with a broad set of communication, business, mobile, and cloud
applications and devices to deliver secure face-to-face video collaboration
across different environments. With Polycom® RealPresence® video and voice
solutions, from infrastructure to endpoints for all environments, people all
over the world can collaborate face-to-face without being in the same physical
location. Individuals and teams can connect, communicate, and collaborate
through a high-definition visual experience from their desktops, meeting rooms,
classrooms, home offices, mobile devices, web browsers, and specialized
solutions such as video carts for healthcare applications. By removing the
barriers of distance and time, connecting experts to where they are needed most,
and creating greater trust and understanding through visual connection, we
enable people to make better decisions faster and to increase their productivity
while saving time and money and being environmentally responsible.
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We sell our solutions globally through a high-touch sales model that leverages
our broad network of channel partners, including distributors, value-added
resellers, system integrators, leading communications services providers, and
retailers. We manufacture our products through an outsourced model optimized for
quality, reliability, and fulfillment agility.
We believe important drivers for the adoption of Polycom UC&C solutions include:
• growth of video as a preferred method of communication everywhere,
• increasing presence of video on the desktop,
• growth of video-capable mobile devices (including tablets and smartphones),
• expansion of social business tools with integrated web-based video collaboration,
• adoption of UC&C by small and medium businesses and governments globally,
• growth of the number of teleworkers globally,
• emergence of Bring Your Own Device (BYOD) programs in businesses of all
sizes,
• demand for UC&C solutions for business-to-business communications and the
move of consumer applications into the business space, and
• continued commitment by organizations and individuals to reduce their carbon footprint and expenses by choosing remote connectivity over travel.
We believe we are uniquely positioned as the UC&C ecosystem partner of choice
through our strategic partnerships, support of open standards, innovative
technology and customer-centric go-to-market capabilities.
In 2012, we made strategic investments and executed on five key strategic
imperatives to capture the emerging network effect of UC&C adoption by
enterprise, public sector, service providers, SMBs, mobile and remote employees,
and social business users. These five key strategic imperatives included:
• Cloud-Based UC&C solutions;
• Mobile UC&C solutions;
• Focused Ecosystem Partnerships;
• Polycom®RealPresence® Platform; and
• Growth Markets.
On December 4, 2012, we completed the sale of our enterprise wireless voice
solutions ("EWS") business to a third party. The decision to divest EWS reflects
our focus on initiatives that we expect to extend our leadership in our core
unified communications business. The products and services that comprise our
core unified communications business have historically experienced stronger
sales growth and higher gross margins than our EWS products and services. Our
EWS product portfolio, which was part of the UC personal devices product
category, included Wi-Fi and DECT handsets, related infrastructure and
accessories, and generated revenues of approximately $71.1 million,
$93.6 million and $99.6 million, in 2012, 2011, and 2010, respectively. We have
reported the results of operations and financial position of EWS as discontinued
operations within the consolidated statements of operations and balance sheets
for all periods presented. See Note 3 of Notes to Consolidated Financial
Statements for further discussion of our discontinued operations. The following
discussion of our results of operations is based upon the results from our
continuing operations unless otherwise indicated.
Revenues for 2012 were $1.4 billion, a decrease of $9.6 million, or 1%, from
2011. On a year-over-year basis, our total product revenues declined while
service revenues increased in all of our segments. The decrease in product
revenues was primarily a result of lower sales of our UC group systems products
and UC platform
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products, partially offset by an increase in product revenues from UC personal
devices products. The increase in service revenues was driven primarily by
increased maintenance revenues on a larger installed base, as well as an
increase in managed service revenues as a result of our acquisition of the
Hewlett-Packard visual collaboration ("HPVC") business in the third quarter of
2011.
Revenues decreased across all of our segments in 2012 as compared to 2011. Our
Americas, EMEA, and APAC segment revenues, which accounted for 49%, 25%, and
26%, respectively, of our revenues in 2012, all decreased by 1%, as compared to
2011. Our Americas segment revenues were negatively impacted, in part, by lower
U.S. Federal and public sector revenues. The decline in EMEA segment revenues
was driven by a difficult macroeconomic environment. The decline in our APAC
segment revenues was due primarily to reduced government spending and elongated
sales cycles, particularly in China. Over the past several quarters, we have
seen increased conservatism from our China end users and partners due to the
current government transition. We believe this conservatism will persist through
the first quarter of 2013. See Note 15 of Notes to Consolidated Financial
Statements for further information on our segments, including a summary of our
segment revenues, segment contribution margin and segment accounts receivable.
The discussion of results of operations at the consolidated level is also
followed by a discussion of results of operations by segment for the three years
ended December 31, 2012.
During 2012, we experienced a slight decline in total revenues compared to
revenue growth of 25% in 2011 and 28% in 2010. We believe the revenue decline
was due to several factors, including a company and industry transition from
point products to solution selling which resulted in some customers requiring
additional time to consider a more UC&C-centric strategy versus point product or
end point only deployments; lower revenues in our EMEA segment impacted by the
recent economic conditions in Europe; and lower spending in other key
geographies such as China, India, Australia and the United States.
Operating margins decreased by 9 percentage points in 2012 as compared to 2011.
These decreases are primarily due to operating expenses increasing in absolute
dollars by 13% year-over-year while revenues were down 1% year-over-year.
Operating expenses increased as a percentage of revenues to 59% in 2012 from 52%
in 2011. The increases in operating expenses in both absolute dollars and as a
percentage of revenues were primarily due to increased headcount-related costs,
including stock-based compensation, increased restructuring costs, including the
consolidation of certain facilities, and increased sales and marketing expenses
as a result of our recent rebranding and product launches, as well as increased
telemarketing expenses. These increases were in continuing support of our key
strategic initiatives and in anticipation of revenue growth. Gross margins were
two percentage points lower in 2012 as compared to 2011, which also contributed
to the lower operating margins. Lower gross margins were primarily due to lower
overall revenue levels and change in product mix in 2012 as compared to 2011.
During 2012, we generated approximately $187.0 million in cash flow from
operating activities which, after the impact of cash received from sale of our
wireless business, cash paid for share repurchases, and other financing and
investing activities described in further detail under "Liquidity and Capital
Resources," resulted in a $101.6 million net increase in our total cash and cash
equivalents.
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Results of Operations for the Three Years Ended December 31, 2012
The following table sets forth, as a percentage of total revenues (unless
indicated otherwise), consolidated statements of operations data for the periods
indicated.
Year Ended December 31,
2012 2011 2010
Revenues
Product revenues 75 % 81 % 84 %
Service revenues 25 % 19 % 16 %
Total revenues 100 % 100 % 100 %
Cost of revenues
Cost of product revenues as % of product revenues 41 % 39 % 38 %
Cost of service revenues as % of service revenues 41 % 39 % 47 %
Total cost of revenues 41 % 39 % 39 %
Gross profit 59 % 61 % 61 %
Operating expenses
Sales and marketing 33 % 30 % 33 %
Research and development 15 % 14 % 12 %
General and administrative 7 % 6 % 7 %
Acquisition-related costs 1 % 1 % - %
Amortization of purchased intangibles 1 % - % - %
Restructuring costs 2 % 1 % 1 %
Litigation reserves and payments - % - % - %
Total operating expenses 59 % 52 % 53 %
Operating income - % 9 % 8 %
Interest and other income (expense), net - % - % (1 )%
Income from continuing operations before provision
for income taxes - % 9 % 7 %
Provision for income taxes 3 % - % 1 %
Income (loss) from continuing operations, net of
income taxes (3 )% 9 % 6 %
Income from operations of discontinued operations,
net of taxes
1 % 1 % - %
Gain from sale of discontinued operations, net of
taxes 3 % - % - %
Net income 1 % 10 % 6 %
Revenues
We manage our business primarily on a geographic basis, organized into three
geographic segments. Our net revenues, which include product and service
revenues, for each segment are summarized in the following table:
Increase
(Decrease) From
Year Ended December 31, Prior Year
$ in thousands 2012 2011 2010 2012 2011
Americas $ 689,099 $ 693,288 $ 586,475 (1 )% 18 %
% of revenues 49 % 49 % 52 %
EMEA $ 345,723 $ 347,703 $ 274,228 (1 )% 27 %
% of revenues 25 % 25 % 25 %
APAC $ 357,806 $ 361,198 $ 258,169 (1 )% 40 %
% of revenues 26 % 26 % 23 %
Total revenues $ 1,392,628 $ 1,402,189 $ 1,118,872 (1 )% 25 %
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Total revenues for 2012 were $1.4 billion, a decrease of $9.6 million, or 1%,
from 2011. The overall decrease in revenues in 2012 from 2011 was due to
decreases in product revenues of $95.6 million, or 8%, largely offset by
increases in service revenues of $86.0 million, or 33%, in 2012 as compared with
2011. Product revenues decreased in 2012 primarily as a result of decreases in
revenues from UC group systems, and, to a lesser extent, decreases in UC
platform revenues, partially offset by increased product revenues from UC
personal devices. The increases in service revenues were primarily due to
increased maintenance revenues on larger installed base and increased managed
service revenues as a result of the HPVC business acquisition that we completed
in the third quarter of 2011.
From a segment perspective, total revenues decreased across all segments in 2012
as compared to 2011. Our Americas, EMEA, and APAC segment revenues decreased by
$4.2 million, $2.0 million, and $3.4 million, respectively, in 2012 as compared
to 2011, a sequential decline of 1% year-over-year in each segment. The
decreases were driven by decreased revenues across many of our key geographic
markets, including the United States, Australia, Brazil, the Nordics, the Middle
East/Africa and Turkey, India, Japan, and China. Overall, product revenues
decreased and service revenues increased across all segments in 2012 as compared
to 2011.
Total revenues for 2011 were $1.4 billion, an increase of $283.3 million, or
25%, over 2010, driven by increases in both product and services revenues.
Product revenues increased by $200.9 million, or 21%, and service revenues
increased by $82.4 million, or 45%, in 2011 as compared with 2010. The increase
in revenues in 2011 from 2010 was across all segments, most predominantly in the
APAC segment, primarily as a result of investments made in our go-to-market
capabilities which resulted in increased sales volumes while average selling
prices remained relatively stable and, to a lesser extent, driven by revenues
from the HPVC acquisition in the third quarter of 2011. Our Americas, EMEA, and
APAC segment revenues increased by $106.8 million, or 18%, $73.5 million, or
27%, and $103.0 million, or 40%, respectively, in 2011 as compared to 2010.
These increases were driven by increased revenues across many of our key
geographic markets, including the United States, China, Australia, Brazil,
Russia, the United Kingdom, India, Germany, and the Nordics.
In 2012, 2011, and 2010, one channel partner, ScanSource Communications, in our
Americas segment accounted for 14% of our total revenues. We believe it is
unlikely that the loss of any of our channel partners would have a long-term
material adverse effect on our consolidated revenues or segment revenues as we
believe end-users would likely purchase our products from a different channel
partner. However, a loss of any one of these channel partners could have a
material adverse impact during the transition period.
In addition to the primary view on a geographic basis, we also track revenues by
groups of similar products and services for various purposes. The following
table presents revenues for groups of similar products and services:
Increase
(Decrease) From
Year Ended December 31, Prior Year
$ in thousands 2012 2011 2010 2012 2011
UC group systems $ 956,153 $ 971,753 $ 795,807 (2 )% 22 %
UC personal devices 180,939 175,673 139,449 3 % 26 %
UC platform 255,536 254,763 183,616 - 39 %
Total revenues $ 1,392,628 $ 1,402,189 $ 1,118,872 (1 )% 25 %
UC group systems include all immersive telepresence, group video and group voice
systems products and the related service elements. The decrease in UC group
systems of $15.6 million, or 2%, in 2012 from 2011 was primarily driven by
decreases in sales of our group video systems products and related services in
all our geographic segments and, to a lesser extent, by decreases in sales of
our group voice systems products and related services in our Americas and EMEA
segments. Those decreases were partially offset by increases in sales
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of our immersive telepresence products and related services across all segments,
and, to a lesser extent, an increase in sales of group voice systems products
and related services in our APAC segment. The increase in UC group systems of
$175.9 million, or 22%, in 2011 from 2010 was primarily driven by increases in
sales of our group video and our immersive telepresence products and related
services and, to a lesser extent, increases in revenues from our group voice
products and related services.
UC personal devices include desktop video devices and desktop voice products and
the related service elements. The increase in UC personal devices of $5.3
million, or 3%, in 2012 from 2011 was primarily due to increased sales of our
desktop voice products and related services in our Americas and EMEA segments,
partially offset by decreased revenues from desktop video products and related
services in all our geographic segments and, to a lesser extent decreased
revenues from desktop voice products and related services in APAC. The increase
in UC personal devices of $36.2 million, or 26%, in 2011 over 2010 was primarily
due to increased sales of our desktop voice products and related services in all
our geographic segments, driven by the continued adoption of VoIP.
UC platform includes our RealPresence platform hardware and software products
and the related service elements. UC platform revenues remained relatively flat
in 2012 as compared to 2011, primarily due to increases in revenues from our
Americas and APAC segments being largely offset by decreases in revenues from
our EMEA segment. The increase in UC platform revenues of $71.1 million, or 39%,
in 2011 over 2010 was driven by increased revenues from our UC platform products
and related services in all our segments.
Cost of Revenues and Gross Margins
Increase
(Decrease) From
Year Ended December 31, Prior Year
$ in thousands 2012 2011 2010 2012 2011 Product cost of revenues $ 426,369 $ 439,995 $ 353,273 (3)% 25%
% of product revenues 41 % 39 % 38 % 2pts 1pt
Product gross margins 59 % 61 % 62 % (2)pts (1)pt
Service cost of revenues $ 142,827 $ 103,930 $ 85,317 37% 22%
% of service revenues 41 % 39 % 47 % 2pts (8)pts
Service gross margins 59 % 61 % 53 % (2)pts 8pts
Total cost of revenues $ 569,196 $ 543,925 $ 438,590 5% 24%
% of total revenues 41 % 39 % 39 % 2pts -
Total gross margin 59 % 61 % 61 % (2)pts -
Cost of Product Revenues and Product Gross Margins
Cost of product revenues consists primarily of contract manufacturer costs,
including material and direct labor, our manufacturing organization, tooling
depreciation, warranty expense, freight, royalty payments, amortization of
certain intangible assets, stock-based compensation costs, and an allocation of
overhead expenses, including facilities and IT costs. Cost of product revenues
and product gross margins included charges for stock-based compensation of $3.6
million, $2.5 million, and $2.3 million for the years ended December 31, 2012,
2011, and 2010, respectively. Cost of product revenues at the segment level
consists of the standard cost of product revenues and does not include items
such as warranty expense, royalties, and the allocation of overhead expenses,
including facilities and IT costs.
Overall, product gross margins decreased by 2 percentage points in 2012 as
compared to 2011, primarily due to lower than expected product sales, and
increases in amortization of purchased intangibles and royalties, partially
offset by lower warranty expense. From a segment perspective, product gross
margins decreased in our Americas and APAC segments and increased in our EMEA
segment in 2012 as compared to 2011.
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Overall, product gross margins decreased by 1 percentage point in 2011 as
compared to 2010, primarily due to increases in warranty expenses and royalties,
amortization of purchased intangibles and other cost of sales, partially offset
by higher product revenues. From a segment perspective, product gross margins
increased slightly as a percentage of revenue in our EMEA and APAC segments and
remained flat in our Americas segment in 2012 as compared to 2011.
Our December 31, 2012, finished goods inventory levels were higher than the
December 31, 2011 levels and inventory turns decreased from 6.4 turns at
December 31, 2011 to 5.7 turns at December 31, 2012. The decreased inventory
turns were as a result of higher inventory levels in 2012 as compared to 2011
primarily due to an increase in UC group product inventories related to our new
product introductions. Inventory turns in the future may fluctuate depending on
our ability to reduce lead times, changes in product mix, the flexibility
required to respond to the increased demands of our growing business, and the
sustainability of the global economic recovery.
Cost of Service Revenues and Service Gross Margins
Cost of service revenues consists primarily of material and direct labor,
including stock-based compensation costs, depreciation, and an allocation of
overhead expenses, including facilities and IT costs. The majority of our
service revenues are related to maintenance agreements on new product sales, and
the renewal of existing maintenance agreements, as well as managed services
offerings. Cost of service revenues and service gross margins included charges
for stock-based compensation of $6.6 million, $3.8 million, and $3.8 million for
the years ended December 31, 2012, 2011, and 2010, respectively.
Overall, service gross margins decreased by 2 percentage points in 2012 from
2011. The decrease was primarily due to the lower margin managed services
business we acquired as part of the HPVC acquisition in 2011. Direct spending
costs increased primarily as a result of increased headcount-related costs,
including stock-based compensation costs, as well as IT and facilities
allocations as a result of a 21% increase in services organization headcount
from December 31, 2011 to December 31, 2012. Service gross margins decreased in
our EMEA and APAC segments, but were up in the Americas segment in 2012 as
compared to 2011.
Overall, service gross margins increased by 8 percentage points in 2011 over
2010. Services gross margins increased in all of our geographic segments
primarily as a result of increased revenues from our maintenance services and
decreased costs as a percentage of revenue associated with the delivery of
services due to higher productivity of services employees, improvements in
product quality and lower outside services.
Total Cost of Revenues and Total Gross Margins
Overall, total gross margins as a percentage of revenues decreased by 2
percentage points in 2012 as compared to 2011, due to decreases in both product
and service gross margins, as discussed under Cost of Product Revenues and
Product Gross Margins and Cost of Services Revenues and Service Gross Margins.
Total gross margins as a percentage of revenues remained flat in 2011 as
compared to 2010.
We expect gross margins to remain relatively flat in the near term as compared
to 2012. Forecasting future gross margin percentages is difficult, and there are
a number of risks related to our ability to maintain or improve our current
gross margin levels. Our cost of revenues as a percentage of revenue can vary
significantly based upon a number of factors such as the following:
uncertainties surrounding revenue levels, including future pricing and/or
potential discounts as a result of the economy or in response to the
strengthening of the U.S. dollar in our international markets, and related
production level variances; competition; the extent to which new services sales
accompany our product sales, as well as maintenance renewal rates; changes in
technology; changes in product mix; variability of stock-based compensation
costs; the potential of royalties to third parties; utilization of our
professional services personnel as we develop our professional services practice
and as we make investments to expand our professional services offerings;
increasing costs for freight and repair costs; our
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ability to achieve greater efficiencies in the installations of our immersive
telepresence products; manufacturing efficiencies of subcontractors;
manufacturing and purchase price variances; warranty and recall costs and the
timing of sales. In addition, we may experience higher prices on commodity
components that are included in our products. In order to control expenses in
any given quarter, we have taken actions to reduce costs such as imposing travel
restrictions, postponing salary increases, requesting employees to use paid time
off or implementing other cost control measures. Such actions may not be able to
be implemented in a timely manner or may not be successful in completely
offsetting the impact of lower-than-anticipated revenues.
Sales and Marketing Expenses
Increase (Decrease)
Year Ended December 31, From Prior Year
$ in thousands 2012 2011 2010 2012 2011
Expenses $ 464,353 $ 428,829 $ 371,488 8 % 15 %
% of Total Revenues 33 % 30 % 33 % 3pts (3 )pts
Sales and marketing expenses consist primarily of salaries and commissions for
our sales force, including stock-based compensation costs, advertising and
promotional expenses, product marketing expenses, and an allocation of overhead
expenses, including facilities and IT costs. Sales and marketing expenses,
except for direct sales and marketing expenses, are not allocated to our
segments. Sales and marketing expenses included charges for stock-based
compensation of $36.8 million, $27.0 million, and $25.2 million for the years
ended December 31, 2012, 2011, and 2010, respectively.
Sales and marketing expenses increased by 3 percentage points as a percentage of
revenue and increased by 8% in absolute dollars in 2012 as compared to 2011, due
primarily to increased compensation-related costs, including commissions and
stock-based compensation costs. Other factors contributing to the increase
include consulting and outside services related to our recent rebranding and
product launches, as well as increased telemarketing expenses. Facilities and IT
allocations also increased. These increases were partially offset by a decrease
in training expenses.
Sales and marketing expenses as a percentage of revenues decreased by 3
percentage points but increased in absolute dollars by 15% in 2011 as compared
to 2010, due primarily to increased headcount and compensation-related costs,
including commissions. Sales and marketing headcount increased by 11% from
December 31, 2010 to December 31, 2011. Depreciation and facilities allocations
also increased as a result of headcount increases, as well as due to the
expansion of our demonstration center capabilities in support of our
go-to-market strategy.
We expect our sales and marketing expenses to remain relatively flat in absolute
dollars in the near term. Expenses will fluctuate depending on revenue levels
achieved, as certain expenses, such as commissions, are determined based on
revenues achieved.
Forecasting sales and marketing expenses as a percentage of revenue is highly
dependent on expected revenue levels and could vary significantly depending on
actual revenues achieved in any given quarter. Marketing expenses will also
fluctuate depending upon the timing and extent of marketing programs as we
market new products. Sales and marketing expenses may also fluctuate due to
increased international expenses and the impact of changes in foreign currency
exchange rates. In order to control expenses in any given quarter, we have taken
actions to reduce costs such as imposing travel restrictions, postponing salary
increases, requesting employees to use paid time off or implementing other cost
control measures. Such actions may not be able to be implemented in a timely
manner or may not be successful in completely offsetting the impact of lower
than anticipated revenues.
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Research and Development Expenses
Year Ended December 31, Increase From Prior Year
$ in thousands 2012 2011 2010 2012 2011
Expenses $ 208,510 $ 190,322 $ 137,965 10 % 38 %
% of Total Revenues 15 % 14 % 12 % 1pt 2pts
Research and development costs are expensed as incurred and consist primarily of
compensation costs, including stock-based compensation costs, outside services,
expensed materials, depreciation and an allocation of overhead expenses,
including facilities and IT costs. Research and development costs are not
allocated to our segments. Research and development expenses included charges
for stock-based compensation of $20.2 million, $14.9 million, and $9.7 million
for the years ended December 31, 2012, 2011, and 2010, respectively.
Research and development expenses increased by $18.2 million, or 10%, in 2012 as
compared to 2011, and increased by 1 percentage point, as a percentage of
revenues, in 2012 as compared to 2011. The increase in absolute dollars was
primarily due to increased compensation costs associated with increased
headcount and compensation-related costs, including stock-based compensation,
increased outside services and development expenses in support of our key
strategic initiatives. Research and development headcount increased by 3% from
December 31, 2011 to December 31, 2012. Depreciation and overhead allocations
also increased in 2012 over 2011 as a result of headcount increases and
increased capital investments in support of our development projects.
Research and development expenses increased by $52.4 million, or 38%, in 2011 as
compared to 2010, and increased by 2 percentage points, as a percentage of
revenues, in 2011 as compared to 2010. The increase in absolute dollars was
primarily due to increased compensation costs associated with increased
headcount and increased development expenses in support of our key strategic
initiatives, including our strategic partnerships as part of our UC&C ecosystem,
cloud-based and mobile UC&C solutions and RealPresence platform hardware and
software products. Research and development headcount increased by 41% from
December 31, 2010 to December 31, 2011. Depreciation and overhead allocations
also increased in 2011 over 2010 as a result of headcount increases and
increased capital investments in support of our development projects.
We believe that innovation and technological leadership is critical to our
future success, and we are committed to continuing a significant level of
research and development to develop new technologies and products to combat
competitive pressures, such as the new Scalable Video Coding standard to address
the device, application and network requirements of mobile, SMB and consumer
networks, and other technologies incorporated into our next-generation products.
We are also investing more heavily in research and development as a result of
increased business opportunities with strategic partners, and mobile and service
provider customers as a result of our strategic initiatives in these areas. We
expect that research and development expenses in absolute dollars will remain
relatively flat in the near term but will fluctuate depending on the timing and
number of development activities in any given quarter. Research and development
expenses as a percentage of revenue is highly dependent on expected revenue
levels and could vary significantly depending on actual revenues achieved in any
given quarter. In order to control expenses in any given quarter, we have from
time to time taken actions to reduce costs such as imposing travel restrictions,
postponing salary increases, requesting employees to use paid time off or
implementing other cost control measures. Such actions may not be able to be
implemented in a timely manner or may not be successful in completely offsetting
the impact of lower than anticipated revenues.
General and Administrative Expenses
Increase (Decrease)
Year Ended December 31, From Prior Year
$ in thousands 2012 2011 2010 2012 2011
Expenses $ 98,285 $ 81,661 $ 73,379 20 % 11 %
% of Total Revenues 7 % 6 % 7 % 1pt (1 )pt
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General and administrative expenses consist primarily of compensation costs,
including stock-based compensation costs, professional service fees, allocation
of overhead expenses, including facilities and IT costs, and litigation costs
and bad debt expense. General and administrative expenses are not allocated to
our segments. General and administrative expenses included charges for
stock-based compensation of $21.6 million, $15.7 million, and $12.8 million for
the years ended December 31, 2012, 2011, and 2010, respectively.
General and administrative expenses increased by $16.6 million, or 20%, in 2012
as compared to 2011, and increased by 1 percentage point as a percentage of
revenues in 2012 as compared to 2011. The increase in absolute dollars was
primarily due to increased compensation-related costs including stock-based
compensation. General and administrative headcount increased by 14% from
December 31, 2011 to December 31, 2012. The remaining increases in general and
administrative expenses were attributed to increases in legal and bad debt
expenses and allocation expenses as a result of increased headcount and our new
headquarters building in San Jose, California.
General and administrative expenses increased in absolute dollars by $8.3
million, or 11%, but decreased by 1 percentage point as a percentage of revenue
in 2011 as compared to 2010. The primary driver of the increase in absolute
dollars was related to the 14% increase in headcount and related increases in
compensation and other headcount-related expenses, including increased overhead
allocations. This increase was partially offset by decreased expenses for legal
and outside services. Further, in 2010, we incurred severance, legal and other
costs associated with our CEO transition in May 2010.
Significant future charges due to costs associated with litigation or
uncollectability of our receivables could increase our general and
administrative expenses and negatively affect our profitability in the quarter
in which they are recorded. Additionally, predicting the timing of litigation
and bad debt expense associated with uncollectible receivables is difficult. The
increase in international revenues has resulted in longer credit terms and
increased credit risk, which could result in an increased level of bad debt
expense in the future. Future general and administrative expense increases or
decreases in absolute dollars are difficult to predict due to the lack of
visibility of certain costs, including legal costs associated with defending
claims against us, as well as legal costs associated with asserting and
enforcing our intellectual property portfolio and other factors.
We expect that our general and administrative expenses will remain relatively
flat in absolute dollar amounts in the near term, but could fluctuate depending
on the level and timing of additional investments required to support strategic
initiatives. In order to control expenses in any given quarter, we have taken
actions to reduce costs such as imposing travel restrictions, postponing salary
increases, requesting employees to use paid time off or implementing other cost
control measures. Such actions may not be able to be implemented in a timely
manner or may not be successful in completely offsetting the impact of lower
than anticipated revenues.
Acquisition-related Costs
We expense all acquisition and other transaction related costs as incurred.
These costs generally include fees for outside legal and accounting services and
other integration services. In addition, we have incurred costs related to
planning and executing the divestiture of our enterprise wireless solutions
business that was announced in May 2012 and closed in December 2012, including
legal costs associated with enforcing the terms of the agreement. We have spent
and will continue to spend significant resources identifying and acquiring
businesses.
During 2012, we recorded $14.1 million of acquisition-related costs, primarily
associated with planning and executing the divestiture of our enterprise
wireless solutions business. See Note 3 of Note to Consolidated Financial
Statements for further information. During 2011, we recorded $9.7 million of
acquisition-related costs. These costs were primarily related to our acquisition
of Accordent which closed in March 2011, our acquisition of HPVC which closed in
July 2011, and our acquisition of ViVu which closed in October 2011. No such
activities occurred in 2010. See Note 2 of Notes to Consolidated Financial
Statements for further information.
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Amortization of Purchased Intangibles
In 2012, 2011, and 2010, we recorded $9.8 million, $5.5 million, and $1.4
million, respectively, in operating expenses for amortization of purchased
intangibles acquired in our acquisitions. In addition to the amounts recorded as
operating expenses in 2012, 2011 and 2010, we recorded amortization expenses
totaling $7.6 million, $5.7 million, and $2.6 million, respectively, related to
certain technology intangibles in cost of product revenues. The sequential
increases year-over-year from 2010 to 2012 were primarily due to the
amortization of purchased intangibles acquired from Accordent in the first
quarter of 2011, from HPVC in the third quarter of 2011, and from ViVu in the
fourth quarter of 2011. Purchased intangible assets are being amortized to
expense over their estimated useful lives, which range from several months to
six years.
We evaluate our purchased intangibles for possible impairment on an ongoing
basis. When impairment indicators exist, we perform an assessment to determine
if the intangible asset has been impaired and to what extent. The assessment of
purchased intangibles impairment is conducted by first estimating the
undiscounted future cash flows to be generated from the use and eventual
disposition of the purchased intangibles and comparing this amount with the
carrying value of these assets. If the undiscounted cash flows are less than the
carrying amounts, impairment exists, and future cash flows are discounted at an
appropriate rate and compared to the carrying amounts of the purchased
intangibles to determine the amount of the impairment. No impairment charges
were recognized for all periods presented.
Restructuring Costs
In 2012, 2011, and 2010, we recorded $22.0 million, $9.4 million, and $8.1
million, respectively, related to restructuring actions which resulted from the
consolidation of certain facilities and the elimination or relocation of various
positions as part of restructuring plans approved by management. These actions
are generally intended to streamline and focus our efforts and more properly
align our cost structure with our projected revenue streams.
In 2012, we completed the consolidation and elimination of certain facilities in
order to gain efficiencies, including the combination of our headquarters in San
Jose and Santa Clara, California into one new location in San Jose, California.
As a result, we recorded approximately $8.9 million (net of $2.8 million of
deferred rent) in restructuring charges related to idle facilities upon vacating
these facilities in the second quarter of 2012. In addition, we recorded
approximately $13.1 million of charges, primarily for severance and other
employee benefits, related to restructuring actions approved by management in
October 2011 and July 2012. The action plan approved in July 2012 resulted in
the elimination of approximately four percent of our global workforce, enabling
us to focus resources on our product development and product launch initiatives.
In 2011, we completed the consolidation of our Colorado facilities and began the
transition of certain engineering and product management and related support
functions in our Andover, Massachusetts facility to other locations in order to
achieve efficiencies. Restructuring charges relating to these actions primarily
included costs for idle facilities and, to a lesser extent, severance and
relocation costs for impacted individuals. Additionally, in October 2011, we
committed to a restructuring plan designed to better align and allocate
resources to more strategic growth areas of the business. These actions were
primarily related to the reorganization of our global go-to-market and other
organizations. The restructuring plan resulted in the elimination of
approximately seven percent of our global workforce with the majority of the
reductions taking effect in the fourth quarter of 2011 and first quarter of
2012, enabling the creation of new positions that better aligned with our
strategic initiatives. In 2011, we recorded approximately $8.7 million of
restructuring charges related to severance and other employee benefits and $0.7
million related to idle facilities.
In 2010, we committed to several restructuring plans to eliminate, relocate
positions, or to enable the hiring of additional positions to better align with
the execution of our strategic initiatives. The restructuring plans included the
elimination of approximately two percent of our global workforce. As a result of
the actions taken in 2010, we recorded restructuring charges of $8.1 million
during 2010, primarily related to severance and other employee termination
benefits.
See Note 7 of Notes to Consolidated Financial Statements for further information
on restructuring costs.
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We currently expect to record additional restructuring charges of between $10.0
million and $15.0 million in 2013, primarily related to the elimination or
consolidation of certain facilities to gain efficiencies. In the first quarter
of 2013, we also currently expect to record restructuring charges between
approximately $4.0 million and $6.0 million related to severance and other
employee termination benefits, primarily related to the elimination or
relocation of engineering positions as a result of downsizing our Burnaby,
Canada location.
In the future, we may take additional restructuring actions to gain operating
efficiencies or reduce our operating expenses, while simultaneously implementing
additional cost containment measures and expense control programs. Such
restructuring actions are subject to significant risks, including delays in
implementing expense control programs or workforce reductions and the failure to
meet operational targets due to the loss of employees or a decrease in employee
morale, all of which would impair our ability to achieve anticipated cost
reductions. If we do not achieve the anticipated cost reductions, our business
could be harmed.
Litigation Reserves and Payments
We recorded $1.2 million in 2010 in litigation reserves and payments in the
Consolidated Statements of Operations related to the settlement of legal matters
during the period. There were no such expenses in 2012 and 2011. See Note 9 of
Notes to Consolidated Financial Statements for further information.
We are also subject to a variety of other claims and suits that arise from time
to time in the ordinary course of our business. These matters are subject to
inherent uncertainties and management's view of these matters may change in the
future and could result in charges that would have a material adverse impact on
our financial position, our results of operations, or our cash flows.
Interest and Other Income (Expense), Net
Interest and other income (expense), net, consists primarily of interest earned
on our cash and cash equivalents and investments less bank charges resulting
from the use of our bank accounts, gains and losses on investments, non-income
related taxes and fees as well as foreign exchange related gains and losses.
Interest and other income (expense), net, was a net expense of $3.9 million,
$1.7 million, and $7.9 million in 2012, 2011, and 2010, respectively.
The increase in net expenses in interest and other income (expense), net, in
2012 from 2011 was primarily due to higher non-income related taxes and bank
charges as well as higher foreign exchange related losses in 2012 as compared to
2011, partially offset by an increase in interest income. The decrease in net
expenses in interest and other income (expense), net, in 2011 from 2010 was
primarily due to a write-down in 2010 of other-than temporarily impaired
investments that did not recur in 2011, partially offset by a decrease in
interest income.
Interest and other income (expense), net, will fluctuate due to changes in
interest rates and returns on our cash and investments, any future impairment of
investments, foreign currency rate fluctuations on un-hedged exposures,
fluctuations in costs associated with our hedging program and timing of
non-income related taxes and license fees. The cash balance could also decrease
depending upon the amount of cash used in any future acquisitions, our stock
repurchase activity and other factors, which would also impact our interest
income.
Provision for Income Taxes from Continuing Operations
Year Ended December 31,
2012 2011 2010
Income tax expense from continuing operations $ 38,056 $ 5,246 $ 12,159
Effective tax rate 1,523.5 % 4.0 % 15.4 %
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The increase in the effective tax rate in 2012 as compared to 2011 was related
primarily to $38.8 million in federal and state taxes recorded on $103.3 million
related to the tax consequences of a global restructuring project affecting the
existing legal entity structure that is designed to accommodate the trend
towards more software and virtual based solutions versus our traditional
hardware distribution model. In addition to taxes recorded related to the global
restructuring, the effective tax rate was also impacted by the benefit of
entities in countries with tax rates lower than the U.S. statutory rate, an
increase in non-deductible share based compensation, an increase in
non-deductible acquisition and divestiture related expenses, a decrease in
reserve reversals and the expiration of the federal research and development tax
credit in 2012 as compared to 2011.
The decrease in the effective tax rate in 2011 as compared to 2010 was due to a
relative increase in foreign earnings which are subject to lower tax rates, an
increase in U.S. research and development tax credits, and an increase in the
release of uncertain tax positions inclusive of related interest and penalties
of $8.9 million in 2011 as compared to $4.9 million in 2010, partially offset by
U.S. taxes accrued on the intercompany sale of intellectual properties.
As of December 31, 2012, we had approximately $1.9 million in tax effected net
operating losses, $1.4 million in tax effected capital loss carryforwards and
$13.0 million in tax effected credit carryforwards. The capital and net
operating loss carryforward assets and tax credit carryforwards begin to expire
in 2015. Included in the net deferred tax asset balance is a $3.2 million
valuation allowance related primarily to research credits in a jurisdiction with
a history of credits in excess of taxable profits. See Note 14 of Notes to
Consolidated Financial Statements for further information.
We provide for U.S. income taxes on the earnings of foreign subsidiaries unless
they are considered permanently invested outside of the U.S. At December 31,
2012, the cumulative amount of earnings upon which U.S. income tax has not been
provided is approximately $320.0 million. It is not practicable to determine the
income tax liability that might be incurred if these earnings were to be
repatriated to the U.S.
In 2012, we recorded reserve reductions of $10.0 million, $0.8 million of which
was paid in settlement of a multi-year state tax audit, and $5.7 million of
which was due to a reduction in unrecognized tax benefits for research credits
from acquired companies. The expiration of statutes of limitation in both the
U.S. and foreign jurisdictions also resulted in reserve releases of $3.5
million.
In 2011, we recorded reserve releases of $8.1 million, $6.9 million of which was
due to the resolution of multi-year tax audits. The expiration of statutes of
limitation in both the U.S. and foreign jurisdictions resulted in reserve
releases of $0.8 million, and $0.4 million in reduction in reserves was due to
changes in foreign exchange rates.
In 2010, the California Franchise Tax Board completed its audit of the 2005 and
2006 tax years. The audit resulted in a payment of $0.8 million. Certain other
audit issues were also settled during the year resulting in the release of
accrued taxes of $1.5 million. Additionally, $3.4 million in tax reserves
related to the cost sharing of stock based compensation were released as an
adjustment to stockholders' equity, $0.7 million in tax reserves were released
due to changes in foreign exchange rates during the year, and $2.1 million in
tax reserves were released due to the expiration of statutes of limitation in
both the U.S. and foreign jurisdictions.
As of December 31, 2012, we have $23.0 million of unrecognized tax benefits
compared to $32.4 million at December 31, 2011. By the end of 2013, uncertain
tax positions may be reduced as a result of a lapse of the applicable statutes
of limitations. We anticipate that the reduction would approximate $2.5 million.
The reserve releases would be recorded as adjustments to tax expense in the
period released.
We recognize interest and/or penalties related to income tax matters in income
tax expense. As of December 31, 2012 and 2011, we had approximately $1.5 million
and $2.0 million, respectively, of accrued interest and penalties related to
uncertain tax positions.
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Our future effective income tax rate depends on various factors, such as changes
in tax legislation, accounting principles, or interpretations thereof, the
geographic composition of our pre-tax income, non tax-deductible expenses
incurred in connection with acquisitions, amounts of tax-exempt interest income
and research and development credits as a percentage of aggregate pre-tax
income, final resolution of the tax impact from the exercise of incentive stock
options and the issuance of shares under the employee stock purchase plan, and
the effectiveness of our tax planning strategies. For example, on January 2,
2013, the "American Taxpayer Relief Act of 2012" was signed into law. It
provides for an extension of the federal research credit retroactive for 2012
and extended through 2013. The impact of the 2012 federal research credit will
be reflected in the first quarter of 2013 and is estimated to be in the range of
$2.0 million to $2.5 million. We believe that our future effective tax rate may
be more volatile as a result of these factors.
We are also subject to the periodic examination of our income tax returns by the
Internal Revenue Service and other tax authorities. We regularly assess the
likelihood of adverse outcomes resulting from these examinations to determine
the adequacy of our provision for income taxes. There can be no assurance that
the outcomes from these continuous examinations will not have an adverse effect
on our net income and financial condition, possibly materially.
Segment Information
Our business is organized around four major geographic theatres: North America,
Central America/Latin America ("CALA"), Europe, Middle East and Africa ("EMEA")
and Asia Pacific ("APAC"). For reporting purposes, we aggregate North America
and CALA into one segment named Americas and report EMEA and APAC as separate
segments. The segments are determined in accordance with how management views
and evaluates its business and allocates its resources, and based on the
criteria as outlined in the authoritative guidance.
A description of our products and services, as well as annual financial data,
for each segment can be found in the Business section of this Form 10-K and Note
15 of Notes to Consolidated Financial Statements. The discussions below include
the results of each of our segments for the years ended December 31, 2012, 2011,
and 2010. Segment contribution margin includes all segment revenues less the
related cost of sales and direct marketing and sales expenses. Management
allocates some infrastructure costs such as facilities and IT costs in
determining segment contribution margin. Contribution margin is used, in part,
to evaluate the performance of, and to allocate resources to, each of the
segments. Certain operating expenses are not allocated to segments because they
are separately managed at the corporate level. These unallocated costs include
corporate manufacturing costs, sales and marketing costs other than direct sales
and marketing, stock-based compensation costs, research and development costs,
general and administrative costs, such as legal and accounting costs,
acquisition-related integration costs, amortization of purchased intangible
assets, restructuring costs, and interest and other income (expense), net.
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The following is a summary of the financial information for each of our segments
for the fiscal years ended December 31, 2012, 2011, and 2010 (in thousands):
Americas EMEA APAC Total
2012:
Revenue $ 689,099 $ 345,723 $ 357,806 $ 1,392,628
% of total revenue 49 % 25 % 26 % 100 %
Contribution margin 273,937 142,915 150,962 567,814
% of segment revenue 40 % 41 % 42 % 41 %
2011:
Revenue $ 693,288 $ 347,703 $ 361,198 $ 1,402,189
% of total revenue 49 % 25 % 26 % 100 %
Contribution margin 280,259 141,421 175,242 596,922
% of segment revenue 40 % 41 % 49 % 43 %
2010:
Revenue $ 586,475 $ 274,228 $ 258,169 $ 1,118,872
% of total revenue 52 % 25 % 23 % 100 %
Contribution margin 231,898 95,178 117,679 444,755
% of segment revenue 40 % 35 % 46 % 40 %
Americas
Increase (Decrease)
Year Ended December 31, From Prior Year
$ in thousands 2012 2011 2010 2012 2011
Revenues $ 689,099 $ 693,288 $ 586,475 (1 )% 18 %
Contribution margin $ 273,937 $ 280,259 $ 231,898 (2 )% 21 %
Contribution margin as % of
Americas revenues 40 % 40 % 40 % - -
Our Americas segment revenues decreased by 1% in 2012, as compared to 2011,
primarily due to decreased revenues in the United States and Brazil, partially
offset by increases in Canada and Mexico. The decrease in Americas segment
revenues was driven by decreases in revenues from our UC group systems,
partially offset by increases in UC personal devices and UC platform revenues.
Decreases in UC group systems revenues in the Americas were primarily driven by
decreased group voice and group video revenues, which were partially offset by
increased immersive telepresence revenues as a result of the 2011 HPVC
acquisition. Increases in UC personal devices revenues were primarily driven by
increased desktop voice sales resulting from continued adoption of VoIP,
partially offset by decreased desktop video revenues. UC platform revenues
growth was as a result of increased sales of our RealPresence products and
services.
Our Americas segment revenues increased by 18% in 2011 as compared with 2010,
primarily due to increased revenues in the United States and Brazil, partially
offset by decreases in Canada and Mexico. The increase in revenues was driven by
increases in our UC group systems, UC personal devices and UC platform revenues.
Increases in UC group systems revenues in the Americas were primarily driven by
increased group voice revenues, increased group video revenues, and increased
immersive telepresence revenues. Increases in UC personal devices revenues were
primarily driven by increased desktop voice sales resulting from continued
adoption of VoIP, partially offset by decreased desktop video revenues. UC
platform revenues growth was as a result of increased sales of our RealPresence
products and services.
In 2012, 2011, and 2010, one channel partner in our Americas segment accounted
for 27% of our Americas net revenues for all periods. We believe it is unlikely
that the loss of any of our channel partners would have a
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long term material adverse effect on our consolidated net revenues or segment
net revenues, as we believe end-users would likely purchase our products from a
different channel partner. However, a loss of any one of these channel partners
could have a material adverse impact during the transition period.
Contribution margin as a percentage of America's segment revenues remained flat
in 2012 as compared to 2011, primarily due to gross margins being relatively
flat while direct sales and marketing expenses as a percentage of revenues
increased slightly from 2011 to 2012, resulting in less than a percentage point
change in contribution margin. The increase in direct sales and marketing
expenses was primarily due to increased compensation related costs in 2012 as
compared to 2011.
Contribution margin as a percentage of America's segment revenues remained flat
in 2011 as compared to 2010, primarily due to increased gross margins being
offset by an increase in direct sales and marketing expenses as a percentage of
revenues.
EMEA
Increase (Decrease)
Year Ended December 31, From Prior Year
$ in thousands 2012 2011 2010 2012 2011
Revenues $ 345,723 $ 347,703 $ 274,228 (1) % 27 %
Contribution margin 142,915 $ 141,421 $ 95,178 1 % 49 %
Contribution margin as % of
EMEA revenues 41 % 41 % 35 % - 6pts
Our EMEA segment revenues decreased by 1% in 2012 as compared to 2011, primarily
due to lower sales of UC platform products and related services and UC personal
devices products and related services, partially offset by increased sales of
UC group system products and related services. UC platform revenues decreased as
a result of lower sales of our RealPresence products and services. UC personal
devices revenues decreased primarily due to decreases in desktop video revenues,
partially offset by an increase in desktop voice revenues. UC group systems
revenues increased primarily due to an increase in immersive telepresence
revenues as a result of the HPVC acquisition in 2011, partially offset by lower
group video and group voice revenues. The overall decline in EMEA segment
revenues was primarily due to the current economic conditions in the region.
Revenues were down in the Nordic countries, the Middle East and Turkey, Eastern
Europe, and Spain, partially offset by increases in Benelux and Germany.
Our EMEA segment revenues increased by 27% in 2011 as compared with 2010
primarily due to broad-based growth throughout most of EMEA, being led by growth
in Russia, UK, Germany and Nordic countries, partially offset by a decrease in
Spain. The increase in revenues was across all our product groups. Increases in
UC group systems revenues in EMEA was primarily driven by increased group video
revenues, increased immersive telepresence revenues and increased group voice
revenues. UC platform growth was as a result of increased sales of the products
and services that comprise our RealPresence platform. Increases in UC personal
devices revenues were primarily driven by increased desktop voice sales
resulting from continued adoption of VoIP technology and an increase in desktop
video revenues.
In 2012, 2011 and 2010, one channel partner in our EMEA segment accounted for
11%, 11%, and 13% of our EMEA net revenues, respectively.
Contribution margin as a percentage of EMEA segment revenues remained flat in
2012 as compared to 2011, primarily due to slightly higher gross margins, which
resulted in less than a percentage point change in contribution margin. Direct
sales and marketing expenses were flat in absolute dollars and as a percentage
of revenue in 2012 as compared to 2011. The increase in gross margins was driven
primarily by higher product gross margins, partially offset by lower service
gross margins.
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Contribution margin as a percentage of EMEA segment revenues was 41% in 2011 as
compared to 35% in 2010. The contribution margin as a percentage of revenue
increased primarily due to lower direct sales and marketing expenses as a
percentage of revenues and, to a lesser extent, higher gross margins. Direct
sales and marketing expenses increased in absolute dollars, but decreased as a
percentage of revenues. The increases in absolute dollars were primarily due to
increased headcount, partially offset by a decrease in marketing program
investments. The decrease as a percentage of revenue was primarily due to
increased productivity of our sales force. The increase in gross margins was
driven primarily by a decrease in cost of services as a percentage of revenues
and a mix shift toward higher margin products in our RealPresence platform
product offerings.
APAC
Increase (Decrease)
Year Ended December 31, From Prior Year$ in thousands 2012 2011 2010 2012 2011
Revenues $ 357,806 $ 361,198 $ 258,169 (1 )% 40 %
Contribution margin $ 150,962 $ 175,242 $ 117,679 (14 )% 49 %
Contribution margin as % of
APAC revenue 42 % 49 % 46 % (7 )pts 3pts
Our APAC segment revenues decreased by 1% in 2012 as compared to 2011 primarily
due to decreased UC group systems and UC personal devices revenues, partially
offset by increased UC platform revenues. Decreases in UC group systems revenues
in APAC were primarily driven by decreased group video revenues, partially
offset by increases in immersive telepresence revenues as a result of the 2011
HPVC acquisition and in group voice revenues. Decreases in UC personal devices
revenues were primarily driven by decreases in desktop video revenues and, to a
lesser extent, desktop voice revenues. Increases in UC platform revenues were as
a result of increased sales of our RealPresence platform products and services.
Revenues decreased in Australia, India, Japan, and China, partially offset by an
increase in Korea. The overall decline in our APAC segment revenues was
primarily due to reduced government spending and elongated sales cycles.
Our APAC segment revenues increased by 40% in 2011 as compared to 2010 primarily
due to investments made in our go-to-market capabilities. Revenues from China,
Australia, and India contributed to the strong growth in APAC in 2011. The
increase in revenues was driven by increases our UC group systems, UC platform
revenues, and, to a lesser extent, and UC personal devices revenues. Increases
in UC group systems revenues in APAC were primarily driven by increased group
video revenues, and to a lesser extent, increased immersive telepresence
revenues as a result of the HPVC acquisition in 2011 and increased group voice
revenues. UC platform revenues growth was as a result of increased sales of our
RealPresence platform products and services. Increases in UC personal devices
revenues were primarily driven by increased desktop voice sales resulting from
continued adoption of VoIP technologies.
In 2012, 2011, and 2010, two channel partners in our APAC segment, in aggregate,
accounted for 33%, 33%, and 29%, respectively, of our APAC net revenues.
Contribution margin as a percentage of APAC segment revenues was 42% in 2012 as
compared to 49% in 2011. The contribution margin as a percentage of revenue
decreased primarily due to lower gross margins and higher direct sales and
marketing expenses as a percentage of revenues. The decrease in gross margins
was due to a decrease in service gross margins and, to a lesser extent, lower
product gross margins driven primarily by a product mix shift and increased
discounting. Direct sales and marketing expenses increased both in absolute
dollars and as a percentage of revenue, primarily due to increased
headcount-related expenses.
Contribution margin as a percentage of APAC segment revenues was 49% in 2011 as
compared to 46% in 2010. The contribution margin as a percentage of revenues
increased primarily due to higher gross margins and
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lower sales and marketing expenses as a percentage of revenues. The increase in
gross margins was driven primarily by a decrease in cost of services as a
percentage of revenues while product gross margin as a percentage of revenues
increased slightly. The increase in gross margins was driven primarily by a
decrease in cost of services as a percentage of revenues and a mix shift toward
higher margin products in our RealPresence platform product offerings. Direct
sales and marketing expenses, while increasing in absolute dollars, decreased as
a percentage of revenues. The decrease in sales and marketing expense as a
percentage of revenues was due to spending mix and investments focused in lower
cost areas.
Discontinued Operations
On May 10, 2012, we entered into a Purchase and Sale Agreement (the "Purchase
Agreement") with Mobile Devices Holdings, LLC, a Delaware limited liability
corporation ("Mobile Devices"), pursuant to which we would divest EWS to an
affiliate of Sun Capital Partners, Inc. On October 22, 2012, the Purchase
Agreement was amended (the "Amended Purchase Agreement"). Per the terms of the
Amended Purchase Agreement, Mobile Devices would acquire SpectraLink Corporation
("SpectraLink"), a wholly-owned subsidiary of Polycom, by purchasing all of the
outstanding stock and an intercompany note of SpectraLink from Polycom. On
December 4, 2012, we completed the disposition of the assets of our EWS business
to Mobile Devices and received cash consideration of approximately $50.7
million, resulting in a gain on sale of the discontinued operations, net of
taxes, of $35.4 million.
The decision to divest EWS reflects our focus on initiatives that extend our
leadership in our core unified communications business. The products and
services that comprise our core unified communications business have
historically experienced stronger sales growth and higher gross margins than our
EWS products and services. Our EWS product portfolio, which was previously
included in our UC personal devices product category, includes Wi-Fi and DECT
handsets and related infrastructure and accessories, which were primarily sold
in our Americas and EMEA segments. As a result, we have reported the results of
operations and financial position of EWS as discontinued operations within the
consolidated statements of operations and balance sheets for all periods
presented. See Note 3 of Notes to Condensed Consolidated Financial Statements
for a further discussion of our discontinued operations.
Summarized results from discontinued operations were as follows (in thousands):
Year ended December 31,
2012 2011 2010
Revenues $ 71,133 $ 93,609 $ 99,617
Income from discontinued operations 15,973 16,066
3,483
Income tax provision 6,085 6,160 1,729
Net income from discontinued operations $ 9,888 $ 9,906 $ 1,754
Revenues from discontinued operations for 2012 were $71.1 million, a decrease of
$22.5 million, or 24%, from 2011. The decrease was primarily due to the 2012
revenues including only a period of 11 months through the closure of the EWS
sale transaction as compared to the 12-month period for 2011. Revenues from
discontinued operations for 2011 were $93.6 million, a decrease of $6.0 million,
or 6%, from 2010. The decrease in wireless revenues was the result of decreasing
demand for wireless related products and services. Wireless revenues were down
in 2012 as compared to 2011 and in 2011 as compared to 2010 in the Americas and
EMEA segments. Wireless revenues in our APAC segment were not significant.
Net income from discontinued operations was essentially flat in 2012 as compared
to 2011, and increased by $8.2 million in 2011 as compared to 2010. The increase
in 2011 from 2010 was primarily due to improvements in gross margin and a
decrease in operating expenses in 2011 from 2010. The improvement in wireless
gross margins was due to a lower mix of sales of lower margin products.
Operating expenses of discontinued
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operations decreased by $9.2 million in 2011, compared to the prior year, as we
continued to reduce spending in our wireless business as a result of a smaller
revenue base in our wireless products.
Liquidity and Capital Resources
As of December 31, 2012, our principal sources of liquidity included cash and
cash equivalents of $477.1 million, short-term investments of $197.2 million and
long-term investments of $50.3 million. Substantially all of our short-term and
long-term investments are comprised of U.S. government and agency securities and
corporate debt securities. See Note 8 of Notes to Consolidated Financial
Statements for further information on our short-term and long-term investments.
We also have outstanding letters of credit totaling approximately $7.6 million,
which are in place to satisfy certain of our facility lease requirements as well
as other legal, tax, and insurance obligations.
Our total cash and cash equivalents and investments held in the United States
totaled $302.8 million as of December 31, 2012, and the remaining $421.8 million
was held by various foreign subsidiaries outside of the United States.
If we would need to access our cash and cash equivalents and investments held
outside of the United States in order to fund acquisitions, share repurchases or
our working capital needs, we may be subject to additional U.S. income taxes
(subject to an adjustment for foreign tax credits) and foreign withholding
taxes.
We generated cash from operating activities totaling $187.0 million in 2012,
$299.6 million in 2011, and $143.4 million in 2010. The decrease in cash
provided from operating activities in 2012 from 2011 was due primarily to lower
net income, as adjusted for non-cash income and expenses, increased inventory, a
decrease in accounts payable, and a smaller increase in other accrued
liabilities and deferred revenue. Partially offsetting these negative effects
were decreases in accounts receivables.
The increase in cash provided from operating activities in 2011 over 2010 was
due primarily to higher net income, as adjusted for non-cash income and
expenses, decreased inventory, a smaller increase in prepaid expenses and other
current assets, and a higher increase in accounts payable, other accrued
liabilities and deferred revenue, and taxes payable. Partially offsetting these
positive effects were increases in accounts receivables, and deferred taxes.
The total net change in cash and cash equivalents for the year ended
December 31, 2012 was an increase of $101.6 million. The primary sources of cash
were $187.0 million from operating activities, $50.4 million of net cash
proceeds from the sale of our EWS business, $25.8 million associated with the
exercise of stock options and purchases under the employee stock purchase plan
and $9.3 million in excess tax benefits from stock-based compensation. The
primary uses of cash during this period were $67.3 million for purchases of
property and equipment, $67.9 million for purchases of our common stock, $31.1
million for purchases of investments, net of proceeds from investments, and $4.6
million of additional payments made for acquisitions of certain additional
equipment.
Our days sales outstanding, or DSO, metric was 50 days at December 31, 2012
compared to 49 days at December 31, 2011. We expect to continue to experience
upward pressure on our DSO as a result of the increase in international
receivables, which typically have longer payment terms. DSO could vary as a
result of a number of factors such as fluctuations in revenue linearity, a
change in the mix of international receivables, and increases in receivables
from service providers and government entities which also have customarily
longer payment terms. DSO could also be negatively impacted if our partners
experience difficulty in financing purchases, which results in delays in payment
to us.
Our December 31, 2012 finished goods inventory levels were higher than the
December 31, 2011 levels and inventory turns decreased to 5.7 turns at
December 31, 2012 from 6.4 turns at December 31, 2011. The decreased inventory
turns were as a result of higher inventory levels in 2012 as compared to 2011
primarily due to an
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increase in UC group product inventories related to our new product
introductions. Inventory turns in the future may fluctuate depending on our
ability to reduce lead times, as well as changes in product mix. Our inventory
turns may also decrease in the future as a result of the flexibility required to
respond to the increased demands of our growing business and the sustainability
of the global economic recovery.
Cash used for purchases of property and equipment decreased slightly to $67.3
million in 2012 from $69.3 million in 2011. We expect our purchases of property
and equipment in 2013 to increase due to upgrades to our Enterprise Resource
Planning ("ERP") systems and continued support of our strategic alliances and
new product offerings.
We enter into foreign currency forward contracts, which typically mature in one
month, to hedge our exposure to foreign currency fluctuations of foreign
currency-denominated receivables, payables, and cash balances. We record on the
balance sheet at each reporting period the fair value of our foreign currency
forward contracts and record any fair value adjustments in results of
operations. Gains and losses associated with currency rate changes on contracts
are recorded in interest and other income (expense), net, offsetting transaction
gains and losses on the related assets and liabilities. Additionally, our
hedging costs can vary depending on the size of our hedging program, on whether
we are purchasing or selling foreign currency relative to the U.S. dollar and on
interest rate spreads between the U.S. and other foreign markets.
Additionally, we also have a hedging program that uses foreign currency forward
contracts to hedge a portion of anticipated revenues and operating expenses
denominated in the Euro and British Pound as well as operating expenses
denominated in Israeli Shekels. At each reporting period, we record the fair
value of our unrealized forward contracts on the balance sheet with related
unrealized gains and losses as a component of accumulated other comprehensive
income (loss), a separate element of stockholders' equity. Realized gains and
losses associated with the effective portion of the foreign currency forward
contracts are recorded within revenue or operating expense, depending upon the
underlying exposure being hedged. Any excluded and ineffective portions of a
hedging instrument would be recorded in interest and other income (expense),
net.
From time to time, the Board of Directors has approved plans for us to purchase
shares of our common stock in the open market. During the years ended
December 31, 2012, 2011, and 2010, we purchased approximately 5.1 million,
2.0 million, and 4.8 million shares, as adjusted for the stock split,
respectively, of our common stock in the open market for cash of $55.0 million,
$40.0 million, and $69.2 million, respectively. Our Board of Directors approved
an increase in the current share repurchase authorization to include the
$49.7 million net proceeds from the sale of our EWS business. As of December 31,
2012, we were authorized to purchase up to an additional $72.8 million under the
2008 share repurchase plan. See Note 12 of Notes to our Consolidated Financial
Statements for a discussion of the accounting for our common stock repurchases
and the related reduction to retained earnings included in stockholders' equity
in our consolidated balance sheet.
At December 31, 2012, we had open purchase orders related to our contract
manufacturers and other contractual obligations of approximately $144.7 million
primarily related to inventory purchases. We also currently have commitments
that consist of obligations under our operating leases. In the event that we
decide to cease using a facility and seek to sublease such facility or terminate
a lease obligation through a lease buyout or other means, we may incur a
material cash outflow at the time of such transaction, which will negatively
impact our operating results and overall cash flows. In addition, if facilities
rental rates decrease or if it takes longer than expected to sublease these
facilities, we could incur a significant further charge to operations and our
operating and overall cash flows could be negatively impacted in the period that
these changes or events occur.
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These purchase commitments and lease obligations are reflected in our
Consolidated Financial Statements once goods or services have been received or
at such time when we are obligated to make payments related to these goods,
services or leases. In addition, our bank has issued letters of credit totaling
approximately $7.6 million, which are used to secure the leases on some of our
offices as well as other legal, tax, and insurance obligations. The table set
forth below shows, as of December 31, 2012, the future minimum lease payments
due under our current lease obligations. There is no sublease income netted in
the amounts below, as the amounts are not material. In addition to these minimum
lease payments, we are contractually obligated under the majority of our
operating leases to pay certain operating expenses during the term of the lease
such as maintenance, taxes and insurance. Our contractual obligations as of
December 31, 2012 are as follows (in thousands):
Minimum Projected
Lease Annual Other Long- Purchase
Payments Operating Costs Term Liabilities CommitmentsYear ending December 31,
2013 $ 26,090 $ 5,772 $ - $ 144,710
2014 29,783 3,647 3,239 -
2015 24,298 2,774 2,387 -
2016 20,554 1,964 3,724 -
2017 17,249 1,141 2,472 -
Thereafter 53,867 2,009 10,257 -
Total payments $ 171,841 $ 17,307 $ 22,079 $ 144,710
As of December 31, 2012, we have $23.0 million of unrecognized tax benefits
compared to $32.4 million at December 31, 2011. By the end of 2013, uncertain
tax positions may be reduced as a result of a lapse in the applicable statutes
of limitations. We anticipate that the reduction would approximate $2.5 million.
The reserve releases would be recorded as adjustments to tax expense in the
period released.
We believe that our available cash, cash equivalents and investments will be
sufficient to meet our operating expenses and capital requirements for at least
the next twelve months. However, we may require or desire additional funds to
support our operating expenses and capital requirements or for other purposes,
such as acquisitions, and may seek to raise such additional funds through public
or private equity financing, debt financing or from other sources. We cannot
assure you that additional financing will be available at all or that, if
available, such financing will be obtainable on terms favorable to us and would
not be dilutive. Our future liquidity and cash requirements will depend on
numerous factors, including the introduction of new products and potential
acquisitions of related businesses or technology.
Off-Balance Sheet Arrangements
As of December 31, 2012, we did not have any off-balance-sheet arrangements, as
defined in Item 303(a)(4)(ii) of SEC Regulation S-K.
Critical Accounting Policies and Estimates
Our Consolidated Financial Statements have been prepared in accordance with
accounting principles generally accepted in the United States of America. We
review the accounting policies used in reporting our financial results on a
regular basis. The preparation of these financial statements requires us to make
estimates and judgments that affect the reported amounts of assets, liabilities,
revenues and expenses and related disclosure of contingent assets and
liabilities. On an ongoing basis, we evaluate our process used to develop
estimates, including those related to product returns, accounts receivable,
inventories, investments, intangible assets, income taxes, warranty obligations,
stock compensation costs, restructuring, contingencies and litigation. We base
our estimates on historical experience and on various other assumptions that are
believed to be reasonable for making judgments about the carrying value of
assets and liabilities that are not readily apparent from other
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sources. Actual results may differ from these estimates due to actual outcomes
being different from those on which we based our assumptions. These estimates
and judgments are reviewed by management on an ongoing basis and by the Audit
Committee at the end of each quarter prior to the public release of our
financial results. We believe the following critical accounting policies affect
our more significant judgments and estimates used in the preparation of our
Consolidated Financial Statements. See Note 1 of Notes to Consolidated Financial
Statements for additional discussion of our accounting policies.
Revenue Recognition and Product Returns
We recognize revenue when persuasive evidence of an arrangement exists, title
and risk of loss have transferred, product payment is not contingent upon
performance of installation or service obligations, the price is fixed or
determinable, and collectability is reasonably assured. In instances where final
acceptance of the product or service is specified by the customer, revenue is
deferred until all acceptance criteria have been met. We generally recognize
service revenues ratably over the service periods of one to five years or upon
the completion of installation or professional services.
Some of our products are integrated with software that is essential to the
functionality of the equipment. Additionally, we provide unspecified software
upgrades and enhancements related to most of these products through maintenance
contracts.
When a sale involves multiple deliverables, such as sales of products that
include services, the multiple deliverables are evaluated to determine the unit
of accounting, and the entire fee from the arrangement is allocated to each unit
of accounting based on the relative selling price of each deliverable. When
applying the relative selling price method, we determine the selling price for
each deliverable using vendor-specific objective evidence ("VSOE") of selling
price, if it exists, or third-party evidence ("TPE") of selling price. If
neither VSOE nor TPE of selling price exist for a deliverable, we use our best
estimate of selling price for that deliverable. Revenue allocated to each
element is then recognized when the other revenue recognition criteria are met
for each element.
Channel Partner Programs and Incentives
We record estimated reductions to revenues for channel partner programs and
incentive offerings including special pricing agreements, promotions and other
volume-based incentives. If market conditions were to decline or competition
were to increase further, we may take future actions to increase channel partner
incentive offerings, possibly resulting in an incremental reduction of revenues
at the time the incentive is offered. We accrue for co-op marketing funds as a
marketing expense if we receive an identifiable benefit in exchange and can
reasonably estimate the fair value of the identifiable benefit received;
otherwise, it is recorded as a reduction to revenues.
Warranty
We provide for the estimated cost of product warranties at the time revenue is
recognized. Our warranty obligation is affected by estimated product failure
rates, material usage and service delivery costs incurred in correcting a
product failure. Should actual product failure rates, material usage or service
delivery costs differ from our estimates, revision of the estimated warranty
liability would be required.
Allowance for Doubtful Accounts
We maintain an allowance for doubtful accounts for estimated losses resulting
from the inability of our customers to make required payments. We review our
allowance for doubtful accounts quarterly by assessing individual accounts
receivable over a specific aging and amount, and all other balances on a pooled
basis based on historical collection experience. If the financial condition of
our customers were to deteriorate, adversely
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affecting their ability to make payments, additional allowances would be
required. Delinquent account balances are written off after management has
determined that the likelihood of collection is not probable.
Excess and Obsolete Inventory
We record write-downs for excess and obsolete inventory equal to the difference
between the cost of inventory and the estimated fair value based upon
assumptions about future product life-cycles, product demand and market
conditions. If actual product life cycles, product demand and market conditions
are less favorable than those projected by management, additional inventory
write-downs may be required. At the point of the loss recognition, a new,
lower-cost basis for that inventory is established, and subsequent changes in
facts and circumstances do not result in the restoration of or increase in that
newly established cost basis.
Stock-based Compensation Expense
Our stock-based compensation programs consist of grants of share-based awards to
employees and non-employee directors, including stock options, restricted stock
units and performance shares, as well as our employee stock purchase plan. We
measure and recognize compensation expense for all share-based payment awards
made to employees and directors based on estimated fair values. The estimated
fair value of these awards, including the effect of estimated forfeitures, is
recognized as expense over the requisite service period, which is generally the
vesting period. The fair values of stock option awards and shares purchased
under the employee stock purchase plan are estimated at the grant date using the
Black-Scholes option valuation model. The fair value of restricted stock units
is based on the market value of our common stock on the date of grant. The fair
value of performance shares is based on the market price of our stock on the
date of grant and assumes that the performance criteria will be met and the
target payout level will be achieved. Compensation cost is adjusted for
subsequent changes in the probable outcome of performance-related conditions
until the award vests. The fair value of a performance share with a market
condition is estimated on the date of award, using a Monte Carlo simulation
model to estimate the total return ranking of our stock among the Russell 2000
Index companies (for awards granted prior to 2011) and NASDAQ Composite Index
companies (for awards granted in 2011 and 2012) over each performance period.
Changes in the underlying factors and assumptions utilized may result in
significant variability in the stock-based compensation costs we record, which
makes such amounts difficult to accurately predict.
Deferred and Refundable Taxes
We estimate our actual current tax expense together with our temporary
differences resulting from differing treatment of items, such as deferred
revenue, for tax and accounting purposes. These temporary differences result in
deferred tax assets and liabilities. We must then assess the likelihood that our
deferred tax assets will be recovered from future taxable income and to the
extent we believe that recovery is not likely, we must establish a valuation
allowance against these tax assets. Significant management judgment is required
in determining our provision for income taxes, our deferred tax assets and
liabilities and any valuation allowance recorded against our net deferred tax
assets. To the extent we establish a valuation allowance in a period, we must
include and expense the allowance within the tax provision in the consolidated
statement of operations. As of December 31, 2012, we have $77.1 million in net
deferred tax assets. Included in the net deferred tax asset balance is a
$3.2 million valuation allowance related primarily to research credits in a
jurisdiction with a history of credits in excess of taxable profits.
We recognize and measure benefits for uncertain tax positions using a two-step
approach. The first step is to evaluate the tax position taken or expected to be
taken in a tax return by determining if the weight of available evidence
indicates that it is more likely than not that the tax position will be
sustained upon audit, including resolution of any related appeals or litigation
processes. For tax positions that are more likely than not to be sustained upon
audit, the second step is to measure the tax benefit as the largest amount that
is more than 50% likely to be realized upon settlement. Significant judgment is
required to evaluate uncertain tax positions. We evaluate our uncertain tax
positions on a quarterly basis. Our evaluations are based upon a number of
factors,
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including changes in facts or circumstances, changes in tax law, correspondence
with tax authorities during the course of audits and effective settlement of
audit issues. Changes in the recognition or measurement of uncertain tax
positions could result in material increases or decreases in our income tax
expense in the period in which we make the change, which could have a material
impact on our effective tax rate and operating results.
Fair Value
Fair value is an exit price, representing the amount that would be received to
sell an asset or paid to transfer a liability in an orderly transaction between
market participants. As such, fair value is a market-based measurement that
should be determined based on assumptions that market participants would use in
pricing an asset or liability. As the basis for considering such assumptions, a
three-tier value hierarchy prioritizes the inputs used in measuring fair value
as follows: (Level 1) observable inputs such as quoted prices in active markets;
(Level 2) inputs other than the quoted prices in active markets that are
observable either directly or indirectly; and (Level 3) unobservable inputs in
which there is little or no market data, which require us to develop our own
assumptions. This hierarchy requires us to use observable market data, when
available, and to minimize the use of unobservable inputs when determining fair
value. On a recurring basis, we measure certain financial assets and liabilities
at fair value, including our marketable securities and foreign currency
contracts.
Our cash and investment instruments are classified within Level 1 or Level 2 of
the fair value hierarchy because they are valued using inputs such as quoted
market prices, broker or dealer quotations, or alternative pricing sources with
reasonable levels of price transparency. The types of instruments valued based
on quoted market prices in active markets include money market funds. Such
instruments are generally classified within Level 1 of the fair value hierarchy.
The types of instruments valued based on other observable inputs include U.S.
Treasury securities and other government agencies, corporate bonds and
commercial paper. Such instruments are generally classified within Level 2 of
the fair value hierarchy.
As of December 31, 2012, our fixed income available-for-sale securities include
U.S. Treasury obligations and other government agency instruments, corporate
bonds, commercial paper, non-U.S. government securities and money market funds.
Included in available-for-sale securities are cash equivalents, which consist of
investments with original maturities of three months or less and include money
market funds.
The principal market where we execute our foreign currency contracts is the
retail market in an over-the-counter environment with a relatively high level of
price transparency. The market participants and our counterparties are large
money center banks and regional banks. Our foreign currency contracts valuation
inputs are based on quoted prices and quoted pricing intervals from public data
sources (specifically, spot exchange rates, LIBOR rates and credit default
rates) and do not involve management judgment. These contracts are typically
classified within Level 2 of the fair value hierarchy. For more information on
the fair values of our marketable securities and foreign currency contracts see
Note 8 of Notes to Consolidated Financial Statements.
Business Combinations
We recognize separately from goodwill the fair value of assets acquired and the
liabilities assumed. Goodwill as of the acquisition date is measured as the
excess of consideration transferred and the net of the acquisition date fair
values of the assets acquired and the liabilities assumed. While we use our best
estimates and assumptions as a part of the purchase price allocation process to
accurately value assets acquired and liabilities assumed at the acquisition
date, our estimates are inherently uncertain and subject to refinement. As a
result, during the measurement period, which may be up to one year from the
acquisition date, we may record adjustments retrospectively to the fair value of
assets acquired and liabilities assumed, with the corresponding offset to
goodwill. Upon the conclusion of the measurement period or final determination
of the fair value of assets acquired or liabilities assumed, whichever comes
first, any subsequent adjustments are recorded to our Consolidated Statements of
Operations.
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In addition, uncertain tax positions and tax related valuation allowances
assumed in connection with a business combination are initially estimated as of
the acquisition date. We reevaluate these items quarterly and record any
adjustments to our preliminary estimates to goodwill provided that we are within
the measurement period and we continue to collect information in order to
determine their estimated fair values as of the date of acquisition. Subsequent
to the measurement period or our final determination of the tax allowance's
estimated value, changes to these uncertain tax positions and tax related
valuation allowances will affect our provision for income taxes in our
Consolidated Statements of Operations.
Goodwill and Purchased Intangibles
Goodwill is tested for impairment at the reporting unit level, which is one
level below or the same as an operating segment. We adopted the amended
accounting guidance, which permits us to choose to first assess qualitative
factors to determine whether it is more likely than not that the fair value of a
reporting unit is less than its carrying amount. If based on this assessment we
determine that it is not more likely than not that the fair value of the
reporting unit is less than its carrying amount, then performing the two-step
impairment test is unnecessary.
Our business is organized around four major geographic theatres: North America,
Central America/Latin America ("CALA"), Europe, Middle East and Africa ("EMEA")
and Asia Pacific ("APAC") which were determined to be our reporting units in
2012 and 2011. For reporting purposes, we aggregate North America and CALA into
one segment named Americas and report EMEA and APAC as separate segments.
In the fourth quarter of 2012, we performed this qualitative assessment for our
four reporting units. Each reporting unit had an estimated fair value in excess
of its carrying value by more than 50%, based on the valuation of our reporting
segments performed in May 2012 in connection with the announcement of the
divestiture of our EWS business. For each reporting unit, we weighed the
relative impact of factors that are specific to the reporting unit as well as
industry and macroeconomic factors. The reporting unit specific factors that
were considered included the results of the most recent impairment tests, as
well as financial performance and changes to the reporting units' carrying
amounts since the most recent impairment tests. For the industry in which the
reporting units operate, we considered growth projections from independent
sources and significant developments or transactions within the industry during
2012, where applicable. We concluded that each of the reporting unit specific
and industry factors had either a positive or neutral impact on the fair value
of each of the reporting units. We also determined that macroeconomic factors
during 2012 did not have a significant impact on the discount rates and growth
rates used for the valuation performed. Based on the qualitative assessment, we
concluded that for the four reporting units, performing the two-step impairment
test was unnecessary and that no impairment charge was required.
Purchased intangible assets with finite lives are amortized using the
straight-line method over the estimated economic lives of the assets, which
range from several months to six years. We annually assess whether any
impairment indicators exist on purchased intangibles with finite lives.
Long-lived assets, including intangible assets with finite lives, are tested for
impairment whenever events or changes in circumstances indicate that the
carrying amount of such assets may not be recoverable. The assessment of
purchased intangibles impairment is conducted by first estimating the
undiscounted expected future cash flows to be generated from the use and
eventual disposition of the purchased intangibles and comparing this amount with
the carrying value of these assets. If the undiscounted cash flows are less than
the carrying amounts, impairment exists, and future cash flows are discounted at
an appropriate rate and compared to the carrying amounts of the purchased
intangibles to determine the amount of the impairment.
There was no impairment charge recorded in 2012 or 2011 as no impairment
indicators existed. Screening for and assessing whether impairment indicators
exist or if events or changes in circumstances have occurred, including market
conditions, operating fundamentals, competition and general economic conditions,
requires
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significant judgment. Additionally, changes in the high-technology industry
occur frequently and quickly. Therefore, there can be no assurance that a charge
to operations will not occur as a result of future goodwill and purchased
intangible impairment tests.
Private Company Investments
We periodically make strategic investments in companies whose stock is not
currently traded on any stock exchange and for which no quoted price exists. The
cost method of accounting is used to account for these investments as we hold a
non-material ownership percentage. We review these investments for impairment
when events or changes in circumstances indicate that the carrying amount of the
assets might not be recoverable. Examples of events or changes in circumstances
that may indicate to us that an impairment exists may be a significant decrease
in the market value of the company, poor or deteriorating market conditions in
the public and private equity capital markets, significant adverse changes in
legal factors or within the business climate the company operates, and current
period operating or cash flow losses combined with a history of operating or
cash flow losses or projections and forecasts that demonstrate continuing losses
associated with the company's future business plans. Impairment indicators
identified during the reporting period could result in a significant write-down
in the carrying value of the investment if we believe an investment has
experienced a decline in value that is other than temporary. At both
December 31, 2012 and 2011, our private company investments had a carrying value
of $2.0 million and are recorded in "Other assets" in our Consolidated Balance
Sheets.
Derivative Instruments
The accounting for changes in the fair value of a derivative depends on the
intended use of the derivative and the resulting designation. For derivative
instruments designated as a fair value hedge, the gain or loss is recognized in
earnings in the period of change together with the offsetting loss or gain on
the hedged item attributed to the risk being hedged. For a derivative instrument
designated as a cash flow hedge, the effective portion of the derivative's gain
or loss is initially reported as a component of accumulated other comprehensive
income (loss) and is subsequently reclassified into earnings when the hedged
exposure affects earnings. The ineffective portion of the gain or loss is
reported in earnings immediately. For derivative instruments that are not
designated as cash flow hedges, changes in fair value are recognized in earnings
in the period of change. We do not hold or issue derivative financial
instruments for speculative trading purposes. We enter into derivatives only
with counterparties that are among the largest U.S. banks, ranked by assets, in
order to minimize our credit risk.
Recent Accounting Pronouncements
In December 2011, the FASB issued an accounting standard update that requires
disclosure of the effect or potential effect of offsetting arrangements on a
company's financial position as well as enhanced disclosure of the rights of
setoff associated with a company's recognized assets and liabilities. In January
2013, the FASB issued another accounting standard update to clarify the scope of
the standard update issued in December 2011. These accounting standard updates
are effective for reporting periods beginning on or after January 1, 2013. We do
not believe that there will be a material impact on our consolidated financial
statements upon the adoption of this guidance.
In July 2012, the FASB issued an accounting standard update intended to simplify
how an entity tests indefinite-lived intangible assets other than goodwill for
impairment by providing entities with an option to perform a qualitative
assessment to determine whether further impairment testing is necessary. This
accounting standard update will be effective for us beginning in the first
quarter of fiscal 2013. We do not believe that there will be a material impact
on our consolidated financial statements upon the adoption of this guidance.
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