Item 7.2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Forward-Looking Statements
Statements contained in this Quarterly report on Form 10-Q, which we also refer to as the Report, which are not historical facts are forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended. A forward-looking statement may contain words such as “anticipates,” “believes,” “can,” “can impact,” “could,” “continue,” “estimates,” “expects,” “intends,” “may,” “ongoing,” “plans,” “potential,” “projects,” “should,” “will,” “will continue to be,” “would,” or the negative thereof or other comparable terminology regarding beliefs, plans, expectations or intentions regarding the future. Forward-looking statements include statements such as:
•Our expectations regarding the impact of the COVID-19 pandemic on our business, financial condition and results of operations;
•Our expectations regarding demand for our products, including industry trends and technological advancements that may drive such demand, the role we will play in those advancements and our ability to benefit from such advancements;
•Our plans for growth and innovation opportunities;
•Financial projections and expectations, including profitability of certain business units, plans to reduce costs and improve efficiencies, the effects of seasonality on certain business units, continued reliance on key customers for a significant portion of our revenue, future sources of revenue, competition and pricing pressures, the future impact of certain accounting pronouncements and our estimation of the potential impact and materiality of litigation;
•Our plans for continued development, use and protection of our intellectual property;
•Our strategies for achieving our current business objectives, including related risks and uncertainties;
•Our plans or expectations relating to investments, acquisitions, partnerships and other strategic opportunities;
| |
• | •Our strategies for reducing our dependence on sole suppliers or otherwise mitigating the risk of supply chain interruptions; • |
Our research and development plans and the expected impact of such plans on our financial performance; and
•Our expectations related to our products, including costs associated with the development of new products, product yields, quality and other issues.
Management cautions that forward-looking statements are based on current expectations and assumptions and are subject to risks and uncertainties that could cause our actual results to differ materially from those projected in such forward-looking statements. These forward-looking statements are only predictions and are subject to risks and uncertainties including those set forth in Part II, Item 1A “Risk Factors” and elsewhere in this Quarterly Report on Form 10-Q and in other documents we file with the U.S. Securities and Exchange Commission. Moreover, neither we nor any other person assumes responsibility for the accuracy and completeness of these forward-looking statements. Forward-looking statements are made only as of the date of this Report and subsequent facts or circumstances may contradict, obviate, undermine or otherwise fail to support or substantiate such statements. We are under no duty to update any of the forward-looking statements after the date of this Form 10-Q to conform such statements to actual results or to changes in our expectations.
In addition, Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with our Annual Report on Form 10-K for the fiscal year ended June 27, 2020.
You should read the following discussion of our financial condition and results of operations in conjunction with the financial statements and the notes thereto included elsewhere in this Quarterly Report on Form 10-Q. The following discussion contains forward-looking statements that reflect our plans, estimates and beliefs. Our actual results could differ materially from those discussed in the forward-looking statements. Factors that could cause or contribute to these differences include those discussed below and elsewhere in this Quarterly Report on Form 10-Q, particularly in “Risk Factors” and “Forward-Looking Statements.”
OUR INDUSTRIES AND QUARTERLY DEVELOPMENTS
Viavi Solutions Inc. (“VIAVI” (VIAVI also referred to as “the Company”, “we”, “our”the Company, we, our and “us”)us), is a global provider of network test, monitoring and assurance solutions for communications service providers, enterprises, network equipment manufacturers, government and avionics. We help these customers harness the power of instruments, automation, intelligence and virtualization to Command the network. VIAVI is also a leader in light management solutions for 3D sensing,Sensing, anti-counterfeiting, consumer electronics, industrial, government, automotive, and defense applications.
To serve our markets we operatedoperate the following business segments:
•Network Enablement (NE);
•Service Enablement (SE), and;
•Optical Security and Performance Products (OSP).
Network Enablement
NE provides an integrated portfolio of testing solutions that access the network to perform build-out and maintenance tasks. These solutions include instruments, software and services to design, build, activate, certify, troubleshoot and optimize networks. They also support more profitable, higher-performing networks and facilitate time-to-revenue.
Our solutions address lab and production environments, field deployment and service assurance for wireless and fixed communications networks, including storage networks. Our test instrument portfolio is one of the largest in the industry, with hundreds of thousands of units in active use by major network equipment manufacturers (“NEMs”)(NEMs), operators and services providers worldwide. Designed to be mobile, these products include instruments and software that access the network to perform installation and maintenance tasks. They help service provider technicians assess the performance of network elements and segments and verify the integrity of the information being transmitted across the network. These instruments are highly intelligent and have user interfaces that are designed to simplify operations and minimize the training required to operate them. Our NE solutions are also used by NEMs in the design and production of next-generation network equipment. Other Test & Measurement communications products also serve the public safety, government, and aerospace and defense markets.
We also offer a range of product support and professional services designed to comprehensively address our customers’ requirements. These services include repair, calibration, software support and technical assistance for our products. We offer product and technology training as well as consulting services. Our professional services, provided in conjunction with system integration projects, include project management, installation and implementation.
NE customers include CSPs,customer service providers (CSPs), NEMs, government organizations and large corporate customers, such as major telecom, mobility and cable operators, chip and infrastructure vendors, storage-devicestorage device manufacturers, storage-networkstorage network and switch vendors, and deployed private enterprise customers. Our customers include América Móvil, AT&T Inc., Lumen Technologies (formerly CenturyLink Inc.), Cisco Systems, Inc., Nokia Solutions and Networks, and Verizon Communications, Inc.
Our NE products and associated services including acquired business are described below:
Field Instruments: Primarily consisting ofof; (a) Access and Cable products; (b) Avionics products; (c) Fiber Instrument products; (d) Metro products; (e) RF Test products; and, (f) Radio Test products.
Lab Instruments: Primarily consisting ofof; (a) Fiber Optic Production Lab Test; (b) Optical Transport products; (c) Storage Network Test products; and, (d) Wireless products.
Service Enablement
SE provides embedded systems and enterprise performance management solutions that give global CSPs, enterprises and cloud operators visibility into network, service and application data. These solutions, -, which primarily consist of instruments, microprobes and software, -, monitor, collect and analyze network data to reveal the actual customer experience, and identify opportunities for new revenue streams and network optimization.
Our portfolio of SE solutions addresses the same lab and production environments, field deployment and service assurance for operational and fixed communications networks, including storage networks, as our NE portfolio,.portfolio.
Our solutions let carriers remotely monitor performance and quality of network, service and applications performance throughout the entire network. This provides our customers with enhanced network management, control, and optimization that allow network operators to initiate service to new customers faster, decrease the need for technicians to make on-site service calls, help to make necessary repairs faster and, as a result, lower costs while providing higher quality and more reliable services. Remote monitoring decreases operating expenses, while early detection helps increase uptime, preserve revenue, and helps operators better monetize their networks.
SE customers include similar CSPs, NEMs, government organizations, large corporate customers, and storage-segment customers that are served by our NE segment.
Our SE products and associated services are described below:
Data Center: Consisting of our Network Performance Monitoring and Security tools.
Assurance: Primarily consisting of our (a) Growth Products (Location Intelligence and NitroNITRO Mobile products) and (b) Mature Products (Legacy Assurance and Legacy Wireline).
Optical Security and Performance Products
Our OSP segment leverages its core optical coating technologies and volume manufacturing capability to design, manufacture, and sell products targeting anti-counterfeiting, consumer and industrial, government, automotive industrial and other markets.
Our anti-counterfeiting offerings for the currency market include, OVP (Optical Variable Pigment) and OVMP.OVMP (Optical Variable Magnetic Pigment). OVP® enables a color-shifting effect used by banknote issuers and security printers worldwide for anti-counterfeiting applications on banknotes and other high-value documents. We also provide OVMP®, a technology that delivers depth and motion effects for authenticating banknotes. Our anti-counterfeiting technologies are deployed on the banknotes of more than 100 countries today.
Leveraging our expertise in spectral management and our unique high-precision coating capabilities, OSP provides a range of products and technologies for the consumer and industrial market, including, for example, 3D Sensing optical filters and Engineered DiffusersTM.
OSP value-added solutions meet the stringent requirements of commercial and government customers. Our products are used in a variety of aerospace and defense applications, including optics for guidance systems, laser eye protection and night vision systems. These products, including coatings and optical filters, are optimized for each specific application.
OSP serves customers such as, SICPA Holding SA Company (SICPA), STMicroelectronics N.V., Lockheed Martin Corporation and Seiko Epson Corporation.
COVID-19 Pandemic Update
The COVID-19 pandemic has confirmed cases inimpacted the U.S. and mostvirtually all of the countries and territories we operate in worldwide. The pandemic has prompted authorities worldwide to implement measures to contain the virus, which include and are not limited to, travel bans and restrictions, quarantines, shelter-in-place orders, temporary business closures, among others. The COVID-19 pandemic and these aforementioned measures, have had and continue to have, a substantial macroeconomic impact on businesses and economies worldwide. These conditions may continue and result in an adverse impact to our operations.
Our priority during the COVID-19 pandemic has remained focused on protecting the health and safety of all those we serve, - our employees, customers, suppliers, and communities - including implementing early and regular updates
to our health and safety policies and procedures. We have shut down, slowed, or modified business operations and activities in certain geographies, including in some instances, limiting production to essential business services, all in conjunction with federal, state, and local health and safety regulations and shelter-in-place directives. We continue to follow the guidance of local and national governments, including monitoring the health of our employees who have returned to our offices, by limiting the gathering size of employee groups in indoor spaces per social distancing guidelines, and requiring those employees to wear masks and to undergo screenings prior to entering our offices. While distribution of the vaccines commenced in the UK and U.S. in late 2020, there have been logistical and operational challenges with the rollout, demand for the vaccine has far exceeded supply, and it will take some time for the global population to receive vaccines and for widespread immunity to develop. At the same time, new and potentially more contagious variants of the virus are developing in several countries and regions in which we operate. We will continue to take the health and safety measures described above to ensure the health and safety of our employees and those they come in contact with.
The COVID-19 pandemic has not thus far had a substantial net impact on our liquidity position. We continue to generate operating cash flows to meet our short-term liquidity needs, and we expect to maintain access to the capital markets enabled by our strong credit ratings.markets. To date, we have not observed any material or materially adverse indication of impairments under the authoritative guidance, to any of our assets or a significant change to the fair value of assets due to the COVID-19 pandemic.
We have experienced and may continue to experience disruption of our facilities, suppliers and contract manufacturers, which has and may continue to negatively impact our sales and operating results. In addition, we have experienced and may continue to experience shipping and logistics challenges as many of our customers have also closed their facilities and are operating under similar restrictions. Additionally, NSE has experienced some impact to customer demand including for Field Instruments. Customer demand will be challenging to calibrate, due to the nature and timing of the COVID-19 pandemic.
While COVID-19 has brought unprecedented challenges, we believe that we have a robust and adaptable supply chain. Our supply chain team has been working to meet our customer needs by executing on a risk mitigation plan, including multi-sourcing, pre-ordering components, transforming our logistics network, prioritizing critical customers, working with local government agencies to understand challenges, and partnering on solutions that limit disruptions to our operations while ensuring the safety of our employees, partners and suppliers. Nonetheless, surges in infection rate, new shutdowns, emergence of new and potentially more contagious variants of the virus and the slow pace of vaccine rollout may impact our suppliers and our ability to source materials in a timely manner.
Capital markets and worldwide economies have also been significantly impacted by the COVID-19 pandemic, and on June 8, 2020, the National Bureau of Economic Research announced that the U.S. was in a recession. Deterioration of macro-economic conditions could have a material adverse impact on our longer-term business as customers curtail and reduce overall spending. As the pandemic spread across the globe, there has been a tightening of the credit markets. We entered into a $300 million secured credit facility in May 2020 to strengthen our liquidity position but have not drawn on this facility to date. Under a prolonged global recession, we could face future liquidity challenges and may not be able to obtain additional financing on favorable terms or at all.
Despite the continued challenges that we are facing due to the COVID-19 pandemic, we remain confident that the actions that we are taking to manage such challenges, combined with our strong liquidity, position us well to navigate through the current economic environment and continue to execute on our long-term value creation strategy.
Recently Issued Accounting Pronouncements
Refer to “Note 2. Recently Issued Accounting Pronouncements” regarding the effect of certain recent accounting pronouncements on our consolidated financial statements.
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, (U.S. GAAP), which require management to make judgments, estimates and assumptions that affect the reported amounts of assets and liabilities, net revenue and expenses, and the
disclosure of contingent assets and liabilities. Our estimates are based on historical experience and assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities. We believe that the accounting estimates employed and the resulting balances are reasonable; however, actual results may differ from these estimates and such differences may be material.
For a description of the critical accounting policies that affect our more significant judgments and estimates used in the preparation of our consolidated financial statements, refer to Item 7 on Management Discussion and Analysis of Financial Condition and Results of Operations in our Fiscal 2020 Annual Report on Form 10-K filed with the Securities and Exchange Commission (SEC). There have been no material changes to our critical accounting policies and estimates.
RESULTS OF OPERATIONS
The results of operations for the current period are not necessarily indicative of results to be expected for future periods. The following table summarizes selected Consolidated Statements of Operations items (in millions, except for percentages):
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| Three Months Ended | | Six Months Ended |
| January 2, 2021 | | December 28, 2019 | | Change | | Percent Change | | January 2, 2021 | | December 28, 2019 | | Change | | Percent Change |
| Segment net revenue: | | | | | | | | | | | | | | | |
| NE | $ | 180.9 | | | $ | 203.0 | | | $ | (22.1) | | | (10.9) | % | | $ | 343.0 | | | $ | 401.9 | | | $ | (58.9) | | | (14.7) | % |
| SE | 25.8 | | | 31.2 | | | (5.4) | | | (17.3) | % | | 47.2 | | | 52.1 | | | (4.9) | | | (9.4) | % |
| OSP | 93.2 | | | 79.5 | | | 13.7 | | | 17.2 | % | | 194.4 | | | 159.5 | | | 34.9 | | | 21.9 | % |
| Total net revenue | $ | 299.9 | | | $ | 313.7 | | | $ | (13.8) | | | (4.4) | % | | $ | 584.6 | | | $ | 613.5 | | | $ | (28.9) | | | (4.7) | % |
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| Gross profit | $ | 180.1 | | | $ | 189.5 | | | $ | (9.4) | | | (5.0) | % | | $ | 349.5 | | | $ | 363.9 | | | $ | (14.4) | | | (4.0) | % |
| Gross margin | 60.1 | % | | 60.4 | % | | | | | | 59.8 | % | | 59.3 | % | | | | |
| | | | | | | | | | | | | | | |
| Research and development | $ | 50.0 | | | $ | 50.3 | | | $ | (0.3) | | | (0.6) | % | | $ | 98.8 | | | $ | 101.8 | | | $ | (3.0) | | | (2.9) | % |
| Percentage of net revenue | 16.7 | % | | 16.0 | % | | | | | | 16.9 | % | | 16.6 | % | | | | |
| | | | | | | | | | | | | | | |
| Selling, general and administrative | $ | 79.5 | | | $ | 86.3 | | | $ | (6.8) | | | (7.9) | % | | $ | 160.9 | | | $ | 179.5 | | | $ | (18.6) | | | (10.4) | % |
| Percentage of net revenue | 26.5 | % | | 27.5 | % | | | | | | 27.5 | % | | 29.3 | % | | | | |
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| Restructuring and related charges (benefits) | $ | 0.2 | | | $ | (0.9) | | | $ | 1.1 | | | (122.2) | % | | $ | (0.4) | | | $ | (0.6) | | | $ | 0.2 | | | (33.3) | % |
| Percentage of net revenue | 0.1 | % | | (0.3) | % | | | | | | (0.1) | % | | (0.1) | % | | | | |
| | | | | | | | | | | | | | | |
| Interest and other income, net | $ | 1.1 | | | $ | 1.3 | | | $ | (0.2) | | | (15.4) | % | | $ | 1.7 | | | $ | 4.0 | | | $ | (2.3) | | | (57.5) | % |
| Percentage of net revenue | 0.4 | % | | 0.4 | % | | | | | | 0.3 | % | | 0.7 | % | | | | |
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| Interest expense | $ | (9.0) | | | $ | (8.4) | | | $ | 0.6 | | | 7.1 | % | | $ | (18.0) | | | $ | (16.7) | | | $ | 1.3 | | | 7.8 | % |
| Percentage of net revenue | 3.0 | % | | 2.7 | % | | | | | | 3.1 | % | | 2.7 | % | | | | |
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| Provision for income taxes | $ | 12.5 | | | $ | 9.9 | | | $ | 2.6 | | | 26.3 | % | | $ | 21.1 | | | $ | 18.2 | | | $ | 2.9 | | | 15.9 | % |
| Percentage of net revenue | 4.2 | % | | 3.2 | % | | | | | | 3.6 | % | | 3.0 | % | | | | |
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Net Revenue
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| | Three Months Ended |
| | October 3, 2020 | | September 28, 2019 | | Change | | Percent Change |
| Segment net revenue: | | | | | | | |
| NE | $ | 162.1 |
| | $ | 198.9 |
| | $ | (36.8 | ) | | (18.5 | )% |
| SE | 21.4 |
| | 20.9 |
| | 0.5 |
| | 2.4 | % |
| OSP | 101.2 |
| | 80.0 |
| | 21.2 |
| | 26.5 | % |
| Total net revenue | $ | 284.7 |
| | $ | 299.8 |
| | $ | (15.1 | ) | | (5.0 | )% |
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| Gross profit | $ | 169.4 |
| | $ | 174.4 |
| | $ | (5.0 | ) | | (2.9 | )% |
| Gross margin | 59.5 | % | | 58.2 | % | | | | |
| | | | | | | | |
| Research and development | $ | 48.8 |
| | $ | 51.5 |
| | $ | (2.7 | ) | | (5.2 | )% |
| Percentage of net revenue | 17.1 | % | | 17.2 | % | | | | |
| | | | | | | | |
| Selling, general and administrative | $ | 81.4 |
| | $ | 93.2 |
| | $ | (11.8 | ) | | (12.7 | )% |
| Percentage of net revenue | 28.6 | % | | 31.1 | % | | | | |
| | | | | | | | |
| Restructuring and related (benefits) charges | $ | (0.6 | ) | | $ | 0.3 |
| | $ | (0.9 | ) | | (300.0 | )% |
| Percentage of net revenue | (0.2 | )% | | 0.1 | % | | | | |
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| Interest and other income, net | $ | 0.6 |
| | $ | 2.7 |
| | $ | (2.1 | ) | | (77.8 | )% |
| Percentage of net revenue | 0.2 | % | | 0.9 | % | | | | |
| | | | | | | | |
| Interest expense | $ | (9.0 | ) | | $ | (8.3 | ) | | $ | 0.7 |
| | 8.4 | % |
| Percentage of net revenue | 3.2 | % | | 2.8 | % | | | | |
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| Provision for income taxes | $ | 8.6 |
| | $ | 8.3 |
| | $ | 0.3 |
| | 3.6 | % |
| Percentage of net revenue | 3.0 | % | | 2.8 | % | | | | |
Revenue from our service offerings exceeds 10% of our total consolidated net revenue and is presented separately in our Consolidated Statements of Operations. Service revenue primarily consists of maintenance and support, extended warranty, training, professional services and post-contract support in addition to other services such as calibration and repair services. When evaluating the performance of our segments, management focuses on total net revenue, gross profit and operating income and not the product or service categories. Consequently, the following discussion of business segment performance focuses on total net revenue, gross profit, and operating income consistent with our approach for managing the business.
COVID-19
We continue to monitor the rapidly evolving situation and guidance from international and domestic authorities, including federal, state and local public health authorities and may take additional actions based on their recommendations. In these circumstances, there may be developments outside our control requiring us to adjust our
operating plan. As such, given the dynamic nature of this situation, the Company cannot reasonably estimate the ultimate impacts of COVID-19 on our financial condition, results of operations or cash flows in the future. However, if the COVID-19 pandemic is prolonged and there are continued delays in resumption of normal business operations and activities, we expect that it could have a material negative impact on our future revenue growth as well as our overall profitability.
Three months ended October 3, 2020January 2, 2021 and SeptemberDecember 28, 2019
Net revenue decreased by $15.1$13.8 million, or 5.0%4.4%, during the three months ended October 3, 2020January 2, 2021 compared to the same period a year ago. This decrease was due to revenue decrease from our NE segment,and SE segments, partially offset by revenue increase in our OSP and SE segments as discussed below.segment.
Product revenues decreased by $16.9$19.8 million, or 6.4%7.0%, during the three months ended October 3, 2020January 2, 2021 compared to the same period a year ago. This decrease was primarily due to revenue declines from our NE and SE segments, partially offset by increased revenues from our OSP segment as discussed below.
Service revenues increased by $1.8$6.0 million, or 5.1%18.9%, during the three months ended October 3, 2020January 2, 2021 compared to the same period a year ago. This increase was primarily due to increased revenues from our NE and SE segments.segment.
NE net revenue decreased by $36.8$22.1 million, or 18.5%10.9%, during the three months ended October 3, 2020January 2, 2021 compared to the same period a year ago. This decrease was driven by the impact to our business from the COVID-19 lockdown primarily in ourimpacting both Field Instruments such asand Lab & Production Equipment, including Cable, Access, Fiber, Wireless and AvComm products.
SE net revenue increaseddecreased by $0.5$5.4 million, or 2.4%17.3%, during the three months ended October 3, 2020January 2, 2021 compared to the same period a year ago. This decrease is primarily driven by decreased revenue from our Data Center and Growth Assurance products.
OSP net revenue increased by $13.7 million, or 17.2%, during the three months ended January 2, 2021 compared to the same period a year ago. This increase is driven by growth in revenue from our Anti-Counterfeiting and 3D Sensing products.
Six Months Ended January 2, 2021 and December 28, 2019
Net revenue decreased by $28.9 million, or 4.7%, during the six months ended January 2, 2021 compared to the same period a year ago due to revenue decrease from our NE and SE segments, partially offset by our OSP segment.
Product revenues decreased by $36.7 million, or 6.7% during the six months ended January 2, 2021 compared to the same period a year ago due to revenue decrease from our NE and SE segments, partially offset by our OSP segment.
Service revenues increased by $7.8 million, or 11.7%, during the six months ended January 2, 2021 compared to the same period a year ago primarily due to increased support revenue from the NE and SE segments, partially offset by a decline in our OSP segment as discussed below.
NE net revenue decreased by $58.9 million, or 14.7%, during the six months ended January 2, 2021 compared to the same period a year ago. This decrease was driven by the impact to our business from the COVID-19
lockdown impacting both Field Instruments and Lab & Production Equipment, including Cable, Access, Fiber, Wireless and AvComm products.
SE net revenue decreased by $4.9 million, or 9.4%, during the six months ended January 2, 2021 compared to the same period a year ago. This decrease is primarily driven by increaseddecreased revenue from our Data Center and Growth Assurance products.
OSP net revenue increased by $21.2$34.9 million, or 26.5%21.9%, during the threesix months ended October 3, 2020January 2, 2021 compared to the same period a year ago. This increase is primarily driven by growth in revenue across all product lines which includefrom our Anti-Counterfeiting and 3D Sensing and Aerospace & Defense products.
Going forward, we expect to continue to encounter a number of industry and market risks and uncertainties that may limit our visibility, and consequently, our ability to predict future revenue, seasonality, profitability, and general financial performance, which could create period over period variability in our financial measures and present foreign exchange rate risks.
Additionally, we have seen demand for our NE and SE products affected by macroeconomic uncertainty. We cannot predict when or to what extent these uncertainties will be resolved. Our revenues, profitability, and general financial performance may also be affected by: (a) pricing pressures due to, among other things, a highly concentrated customer base, increasing competition, particularly from Asia-based competitors, and a general commoditization trend for certain products; (b) product mix variability in our NE and SE markets, which affects revenue and gross margin; (c) fluctuations in customer buying patterns, which cause demand, revenue and profitability volatility; (d) the current trend of communication industry consolidation, which is expected to continue, that directly affects our NE and SE customer bases and adds additional risk and uncertainty to our financial and business projections; (e) the impact of ongoing global trade policies, tariffs and sanctions; and (f) regulatory or economic developments and/or technology challenges that slow or change the rate of adoption of 5G, 3D Sensing and other emerging secular technologies and platforms.
Revenue by Region
We operate in three geographic regions: Americas, Asia-Pacific and Europe Middle East and Africa (“EMEA”)(EMEA). Net revenue is assigned to the geographic region and country where our product is initially shipped. For example, certain customers may request shipment of our product to a contract manufacturer in one country, which may differ from the location of their end customers. The following table presents net revenue by the three geographic regions we operate in and net revenue from countries that exceeded 10% of our total net revenue (in millions):
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| Three Months Ended | | Six Months Ended |
| January 2, 2021 | | December 28, 2019 | | January 2, 2021 | | December 28, 2019 |
| Americas: | | | | | | | | | | | | | | | |
| United States | $ | 88.6 | | | 29.5 | % | | $ | 96.2 | | | 30.7 | % | | $ | 166.4 | | | 28.5 | % | | $ | 181.2 | | | 29.5 | % |
| Other Americas | 19.8 | | | 6.7 | % | | 20.6 | | | 6.6 | % | | 37.4 | | | 6.4 | % | | 41.3 | | | 6.8 | % |
| Total Americas | $ | 108.4 | | | 36.2 | % | | $ | 116.8 | | | 37.3 | % | | $ | 203.8 | | | 34.9 | % | | $ | 222.5 | | | 36.3 | % |
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| Asia-Pacific: | | | | | | | | | | | | | | | |
| Greater China | $ | 73.2 | | | 24.4 | % | | $ | 80.5 | | | 25.7 | % | | $ | 152.3 | | | 26.1 | % | | $ | 152.4 | | | 24.8 | % |
| Other Asia-Pacific | 23.2 | | | 7.7 | % | | 32.5 | | | 10.3 | % | | 52.3 | | | 8.9 | % | | 67.8 | | | 11.1 | % |
| Total Asia-Pacific | $ | 96.4 | | | 32.1 | % | | $ | 113.0 | | | 36.0 | % | | $ | 204.6 | | | 35.0 | % | | $ | 220.2 | | | 35.9 | % |
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| EMEA: | | | | | | | | | | | | | | | |
| Switzerland | $ | 19.9 | | | 6.6 | % | | $ | 13.5 | | | 4.3 | % | | $ | 37.8 | | | 6.5 | % | | $ | 25.7 | | | 4.2 | % |
| Other EMEA | 75.2 | | | 25.1 | % | | 70.4 | | | 22.4 | % | | 138.4 | | | 23.6 | % | | 145.1 | | | 23.6 | % |
| Total EMEA | $ | 95.1 | | | 31.7 | % | | $ | 83.9 | | | 26.7 | % | | $ | 176.2 | | | 30.1 | % | | $ | 170.8 | | | 27.8 | % |
| | | | | | | | | | | | | | | |
| Total net revenue | $ | 299.9 | | | 100.0 | % | | $ | 313.7 | | | 100.0 | % | | $ | 584.6 | | | 100.0 | % | | $ | 613.5 | | | 100.0 | % |
|
| | | | | | | | | | | | | |
| | Three Months Ended |
| | October 3, 2020 | | September 28, 2019 |
| Americas: | | | | | | | |
| United States | $ | 77.8 |
| | 27.3 | % | | $ | 85.0 |
| | 28.4 | % |
| Other Americas | 17.6 |
| | 6.2 | % | | 20.7 |
| | 6.9 | % |
| Total Americas | $ | 95.4 |
| | 33.5 | % | | $ | 105.7 |
| | 35.3 | % |
| | | | | | | | |
| Asia-Pacific: | | | | | | | |
| Greater China | $ | 79.1 |
| | 27.8 | % | | $ | 71.9 |
| | 24.0 | % |
| Other Asia-Pacific | 29.1 |
| | 10.2 | % | | 35.3 |
| | 11.8 | % |
| Total Asia-Pacific | $ | 108.2 |
| | 38.0 | % | | $ | 107.2 |
| | 35.8 | % |
| | | | | | | | |
| EMEA: | | | | | | | |
| Switzerland | $ | 17.9 |
| | 6.3 | % | | $ | 12.2 |
| | 4.0 | % |
| Other EMEA | 63.2 |
| | 22.2 | % | | 74.7 |
| | 24.9 | % |
| Total EMEA | $ | 81.1 |
| | 28.5 | % | | $ | 86.9 |
| | 28.9 | % |
| | | | | | | | |
| Total net revenue | $ | 284.7 |
| | 100.0 | % | | $ | 299.8 |
| | 100.0 | % |
Net revenue from customers outside the Americas during the three and six months ended October 3, 2020January 2, 2021 represented 63.8% and September65.1% of net revenue, respectively. Net revenue from customers outside the Americas during the three and six months ended December 28, 2019 represented 66.5%62.8% and 64.7%63.7% of net revenue, respectively.
We expect revenue from customers outside of United States to continue to be an important part of our overall net revenue and an increasing focus for net revenue growth opportunities.
Gross Margin
Gross margin increaseddecreased by 1.30.3 percentage points during the three months ended October 3, 2020January 2, 2021 from 58.2%60.4% in the same period a year ago to 59.5%60.1% in the current period. This decrease was primarily driven by lower revenue volume and unfavorable product mix within our NE segment, offset by increased factory utilization due to revenue growth and favorable product mix in our OSP and SE segments.
Gross margin increased by 0.5 percentage points during the six months ended January 2, 2021 from 59.3% in the same period a year ago to 59.8% in the current period. This increase was primarily driven by improved factory utilization due to higher revenue volume and favorable product mix within our OSP segment and gross margin improvement in our SE segment. This increase was partially offset by gross margin reduction in our NE segment as discussed below in the Operating Segment Information section.
As discussed in more detail under “Net Revenue”“Net Revenue” above, we sell products in certain markets that are consolidating, undergoing product, architectural and business model transitions, have high customer concentrations, are highly competitive (increasingly due to Asia-Pacific-based competition), are price sensitive and/or are affected by customer seasonal and mix variant buying patterns. We expect these factors to continue to result in variability of our gross margin.
Research and Development
R&D expense decreased by $2.7$0.3 million, or 5.2%0.6%, during the three months ended October 3, 2020January 2, 2021 compared to the same period a year ago. This decrease was driven by variable expense reductions and cost efficiencies realized during the period. As a percentage of net revenue, R&D expense increased, by 0.7 percentage points during the three months ended January 2, 2021 compared to the same period a year ago.
R&D expense decreased by $3.0 million, or 2.9%, during the six months ended January 2, 2021 compared to the same period a year ago. This decrease was primarily driven by variable expense reductions and cost efficiencies during the reporting period. As a percentage of net revenue R&D remained relatively flat, declining 0.1expense increased by 0.3 percentage points during the threesix months ended October 3, 2020January 2, 2021 compared to the same period a year ago.
We believe that continuing our investments in R&D is critical to attaining our strategic objectives. We plan to continue to invest in R&D and new products that will further differentiate us in the marketplace.
Selling, General and Administrative
SG&A expense decreased by $11.8$6.8 million, or 12.7%7.9%, during the three months ended October 3, 2020January 2, 2021 compared to the same period a year ago. This decrease was primarily due to decreasedlower spend on sales commissions and travel and entertainment expenses in the current period.period, partially offset by the change in the fair value of contingent consideration. As a percentage of net revenue, SG&A decreased 2.51.0 percentage pointspoint during the three months ended October 3, 2020January 2, 2021 compared to the same period a year ago.
SG&A expense decreased by $18.6 million, or 10.4%, during the six months ended January 2, 2021 compared to the same period a year ago. This decrease was primarily due to lower spend on sales commissions and travel and entertainment expenses in the current period, partially offset by the change in the fair value of contingent consideration. As a percentage of net revenue, SG&A decreased 1.8 percentage points during the six months ended January 2, 2021 compared to the same period a year ago.
We intend to continue to focus on reducing our SG&A expense as a percentage of net revenue. However, we may experience in the future, increased expenses related to a return to travel, industry trade shows, and other business related expenses as the macroeconomic environment returns to normalcy and pre-pandemic conditions. Further, certain chargesimpacts unrelated to our core operating performance, such as mergers and acquisitions-related expenses, litigation expenses and charges from changes in the fair value measurement of our contingent consideration liabilities, which could increase our SG&A expenses and potentially impact our profitability expectations in any particular quarter.
Restructuring and Related Charges
From time to time we have initiated strategic restructuring events primarily intended to reduce costs, consolidate our operations, integrate various acquisitions, rationalize the manufacturing of our products and align our businesses to address market conditions.
As of October 3,January 2, 2021 and June 27, 2020, ourthe Company’s total restructuring accrual was $4.0 million.$3.6 million and $6.5 million, respectively. During the three and six months ended October 3, 2020, weJanuary 2, 2021, the Company recorded restructuring and benefitsrelated charges (benefits) of $0.6 million.$0.2 million and $(0.4) million, respectively. During the three and six months ended SeptemberDecember 28, 2019, the Company recorded restructuring and related chargesbenefits of $0.3 million.$(0.9) million and $(0.6) million, respectively. Refer to “Note 13. Restructuring and Related Charges” for more information.
Interest and Other Income, Net
Interest and other income, net, was $0.6 million during the three months ended October 3, 2020 compared to $2.7 million the same period a year ago. This $2.1 million decrease was primarily driven by a $1.3 million decrease in interest income due to lower yields on money market funds in which we invest excess cash during the current period and a $1.1 million unfavorable foreign exchange impact as the balance sheet hedging program provided less favorable offset to the remeasurement of underlying foreign exchange exposures during the current period.
Interest Expense
Interest expense increased by $0.7$0.6 million, or 8.4%7.1%, during the three months ended October 3, 2020January 2, 2021 compared to the same period a year ago. This increase was primarily due to the commitment fee on unutilized portion of the revolving credit facility, the amortization of issuance costs related to the revolving credit facility as well as an increase in debt discount accretion ofon the 2023 Notes and 2024 Notes during the current period.
Interest expense increased by $1.3 million, or 7.8%, during the six months ended January 2, 2021 compared to the same period a year ago. This increase was primarily due to the commitment fee on unutilized portion of the revolving credit facility, the amortization of issuance costs related to the revolving credit facility as well as an increase in debt discount accretion on the 2023 Notes and 2024 Notes during the current period.
Interest and other income, net, was $1.1 million during the three months ended January 2, 2021 compared to $1.3 million the same period a year ago. This $0.2 million decrease was primarily driven by a $1.3 million decrease in interest income due to lower yields on money market funds in which we invest excess cash during the current period coupled with cash repatriation from a jurisdiction with relatively high interest rates to a jurisdiction with low interest rates prior to the current period. This decrease in interest income was offset by a $1.1 million favorable foreign exchange impact as the balance sheet hedging program provided a more favorable offset to the remeasurement of underlying foreign exchange exposures during the current period.
Interest and other income, net, was $1.7 million during the six months ended January 2, 2021 compared to $4.0 million the same period a year ago. This $2.3 million decrease was primarily driven by $2.6 million decrease in interest income due to lower yields on money market funds in which we invest excess cash during the current period coupled with cash repatriation from a jurisdiction with relatively high interest rates to a jurisdiction with low interest rates prior to the current period.
Provision for Income Taxes
We recorded an income tax provisionexpense of $8.6$12.5 million and $8.3$21.1 million for the three and six months ended October 3, 2020January 2, 2021, respectively. We recorded an income tax expense of $9.9 million and September$18.2 million for the three and six months ended December 28, 2019, respectively.
The income tax provisionexpense for the three months and six ended October 3, 2020January 2, 2021 and SeptemberDecember 28, 2019 primarily relates to income tax in certain foreign and state jurisdictions based on our forecasted pre-tax income or loss for the respective fiscal year.
The income tax provision recorded differs from the expected tax provision that would be calculated by applying the federal statutory rate to our income from continuing operations before taxes primarily due the changes in valuation allowance for deferred tax assets attributable to our domestic and foreign income (loss) from continuing operations.
As of October 3, 2020,January 2, 2021, and June 27, 2020, our unrecognized tax benefits totaled $48.3$48.4 million and $48.4 million, respectively, and are included in deferred taxes and other non-current tax liabilities, net. We had $3.6$3.9 million accrued for the payment of interest and penalties at October 3, 2020.as of January 2, 2021. The timing and resolution of income tax examinations is uncertain, and the amounts ultimately paid, if any, upon resolution of issues raised by the taxing authorities may differ from the amounts accrued for each year. Although we do not expect that our balance of gross unrecognized tax benefits will change materially in the next 12 months, given the uncertainty in the development of ongoing income tax examinations, we are unable to estimate the full range of possible adjustments to this balance.
Operating Segment Information
Information related to our operating segments were as follows, (in millions):
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended | | Six Months Ended |
| | January 2, 2021 | | December 28, 2019 | | Change | | Percentage Change | | January 2, 2021 | | December 28, 2019 | | Change | | Percentage Change |
| Network Enablement | | | | | | | | | | | | | | | |
| Net revenue | $ | 180.9 | | | $ | 203.0 | | | $ | (22.1) | | | (10.9) | % | | $ | 343.0 | | | $ | 401.9 | | | $ | (58.9) | | | (14.7) | % |
| Gross profit | 113.3 | | | 134.8 | | | (21.5) | | | (15.9) | % | | 216.8 | | | 262.8 | | | (46.0) | | | (17.5) | % |
| Gross margin | 62.6 | % | | 66.4 | % | | | | | | 63.2 | % | | 65.4 | % | | | | |
| | | | | | | | | | | | | | | |
| Service Enablement | | | | | | | | | | | | | | | |
| Net revenue | $ | 25.8 | | | $ | 31.2 | | | $ | (5.4) | | | (17.3) | % | | $ | 47.2 | | | $ | 52.1 | | | $ | (4.9) | | | (9.4) | % |
| Gross profit | 17.6 | | | 20.8 | | | (3.2) | | | (15.4) | % | | 31.9 | | | 33.4 | | | (1.5) | | | (4.5) | % |
| Gross margin | 68.2 | % | | 66.7 | % | | | | | | 67.6 | % | | 64.1 | % | | | | |
| | | | | | | | | | | | | | | |
| Network and Service Enablement |
| Net revenue | $ | 206.7 | | | $ | 234.2 | | | $ | (27.5) | | | (11.7) | % | | $ | 390.2 | | | $ | 454.0 | | | $ | (63.8) | | | (14.1) | % |
| Operating income | 22.2 | | | 37.5 | | | (15.3) | | | (40.8) | % | | 35.5 | | | 59.8 | | | (24.3) | | | (40.6) | % |
| Operating margin | 10.7 | % | | 16.0 | % | | | | | | 9.1 | % | | 13.2 | % | | | | |
| | | | | | | | | | | | | | | |
| Optical Security and Performance |
| Net revenue | $ | 93.2 | | | $ | 79.5 | | | $ | 13.7 | | | 17.2 | % | | $ | 194.4 | | | $ | 159.5 | | | $ | 34.9 | | | 21.9 | % |
| Gross profit | 58.4 | | | 43.6 | | | 14.8 | | | 33.9 | % | | 119.4 | | | 86.9 | | | 32.5 | | | 37.4 | % |
| Gross margin | 62.7 | % | | 54.8 | % | | | | | | 61.4 | % | | 54.5 | % | | | | |
| Operating income | 44.6 | | | 30.4 | | | 14.2 | | | 46.7 | % | | 91.9 | | | 60.8 | | | 31.1 | | | 51.2 | % |
| Operating margin | 47.9 | % | | 38.2 | % | | | | | | 47.3 | % | | 38.1 | % | | | | |
|
| | | | | | | | | | | | | | | |
| | | Three Months Ended |
| | | October 3, 2020 | | September 28, 2019 | | Change | | Percentage Change |
| Network Enablement | | | | | | | | |
| Net revenue | | $ | 162.1 |
| | $ | 198.9 |
| | $ | (36.8 | ) | | (18.5 | )% |
| Gross profit | | 103.5 |
| | 128.0 |
| | (24.5 | ) | | (19.1 | )% |
| Gross margin | | 63.8 | % | | 64.4 | % | | | | |
| | | | | | | | | |
| Service Enablement | | | | | | | | |
| Net revenue | | $ | 21.4 |
| | $ | 20.9 |
| | $ | 0.5 |
| | 2.4 | % |
| Gross profit | | 14.3 |
| | 12.6 |
| | 1.7 |
| | 13.5 | % |
| Gross margin | | 66.8 | % | | 60.3 | % | | | | |
| | | | | | | | | |
| Network and Service Enablement | | | | | | | | |
| Net revenue | | $ | 183.5 |
| | $ | 219.8 |
| | $ | (36.3 | ) | | (16.5 | )% |
| Operating income | | 13.3 |
| | 22.3 |
| | (9.0 | ) | | (40.4 | )% |
| Operating margin | | 7.2 | % | | 10.1 | % | | | | |
| | | | | | | | | |
| Optical Security and Performance | | | | | | | | |
| Net revenue | | $ | 101.2 |
| | $ | 80.0 |
| | $ | 21.2 |
| | 26.5 | % |
| Gross profit | | 61.0 |
| | 43.3 |
| | 17.7 |
| | 40.9 | % |
| Gross margin | | 60.3 | % | | 54.1 | % | | | | |
| Operating income | | 47.3 |
| | 30.4 |
| | 16.9 |
| | 55.6 | % |
| Operating margin | | 46.7 | % | | 38.0 | % | | | | |
Network Enablement
During the three months ended October 3, 2020,January 2, 2021, NE gross margin decreased by 0.63.8 percentage points from 64.4%66.4% in the same period a year ago to 63.8%62.6% in the current period, reflecting lower revenue volumes due to the impact of COVID-19.COVID-19 and unfavorable product mix.
During the six months ended January 2, 2021, NE gross margin decreased by 2.2 percentage points from 65.4% in the same period a year ago to 63.2% in the current period. This decrease in the current period reflects lower revenue volumes due to the impact of COVID-19 and unfavorable product mix.
Service Enablement
During the three months ended October 3, 2020,January 2, 2021, SE gross margin increased by 6.51.5 percentage points from 60.3%66.7% in the same period a year ago to 66.8%68.2% in the current period. This increase was primarily due to favorable product mix in our Assurance growth products.
During the six months ended January 2, 2021, SE gross margin increased by 3.5 percentage points from 64.1% in the same period a year ago to 67.6% in the current period. This increase was primarily due to favorable product mix in our Assurance growth products.
Network and Service Enablement (“NSE”)(NSE)
During the three months ended October 3, 2020,January 2, 2021, NSE operating margin decreased by 2.95.3 percentage points from 10.1%16.0% in the same period a year ago to 7.2%10.7% in the current period. This decrease in operating margin was primarily driven by lower revenue volume and gross profit margin in the NE segment, and offset by a reduction in operating expenses reflecting disciplined expense management, and ongoing efficiency programs and lower variable expenses such as commissions, events travel and entertainment due to the pandemic.
During the six months ended January 2, 2021, NSE operating margin decreased by 4.1 percentage points from 13.2% in the same period a year ago to 9.1% in the current period. This decrease in operating margin was primarily driven by lower revenue volume and gross profit margin in the NE segment, offset by a reduction in operating expenses reflecting disciplined expense management, ongoing efficiency programs and lower variable expenses such as commissions, events travel and entertainment due to the pandemic.
Optical Security and Performance Products
During the three months ended October 3, 2020January 2, 2021 OSP gross margin increased by 6.27.9 percentage points from 54.1%54.8% in the same period a year ago to 60.3%62.7% in the current period. This increase was primarily due to increased factory utilization due to higher volume and better manufacturing cost absorption.revenue volumes.
During the six months ended January 2, 2021, OSP operatinggross margin increased by 8.76.9 percentage points during the three months ended October 3, 2020 from 38.0%54.5% in the same period a year ago to 46.7%61.4% in the current period primarily due to favorable product mix driven by higher revenue in Anti-Counterfeiting and 3D Sensing products.
OSP operating margin increased by 9.7 percentage points during the three months ended January 2, 2021 from 38.2% in the same period a year ago to 47.9% in the current period. The increase in operating margin was primarily due to higher gross margins as discussed above.
OSP operating margin increased by 9.2 percentage points during the six months ended January 2, 2021 from 38.1% in the same period a year ago to 47.3% in the current period. The increase in operating margin was primarily due to higher gross margins as discussed above. Liquidity and Capital Resources
As of October 3, 2020January 2, 2021 and June 27, 2020, we had assets classified as cash and cash equivalents, as well as short-term investments and short-term restricted cash, in an aggregate amount of $595.5$648.8 million and $544.0 million, respectively.
Our cash investments are made in accordance with an investment policy approved by the Audit Committee of our Board of Directors and has not changed from that disclosed in our Form 10-K. As of October 3, 2020,January 2, 2021, U.S. entities owned approximately 50.9%47.0% of our cash and cash equivalents, short-term investments and short-term restricted cash. The recent COVID-19 pandemic has caused disruption in global capital markets and over time may impact our ability to obtain credit and/or negotiate acceptable financing terms.
As of October 3, 2020,January 2, 2021, the majority of our cash investments have maturities of 90 days or less and are of high credit quality. Although we intend to hold these investments to maturity, in the event that we are required to sell any of these securities under adverse market conditions, losses could be recognized on such sales. During the three months ended October 3, 2020,January 2, 2021, we have not realized material investment losses but can provide no assurance that the value or the liquidity of our investments will not be impacted by adverse conditions in the financial markets. In addition, we maintain cash balances in operating accounts that are with third partythird-party financial institutions. These balances in the U.S. may exceed the Federal Deposit Insurance Corporation (“FDIC”)(FDIC) insurance limits. While we monitor the cash balances in our operating accounts and adjust the cash balances as appropriate, these cash balances could be impacted if the underlying financial institutions fail.
On May 5, 2020, we entered into a credit agreement (the “Credit Agreement”)Credit Agreement) with Wells Fargo Bank, National Association (“Wells Fargo”)(Wells Fargo) as administrative agent, and other lender related parties. The Credit Agreement provides for a $300 million senior secured revolving credit facility, which matures on March 1, 2023. The Credit Agreement also provides that, under certain circumstances, we may incur term loans or increase the aggregate principal amount of revolving commitments by an aggregate amount of up to $200 million plus additional amounts so long as our secured net leverage ratio, determined on a pro forma basis does not exceed 1.50:1.00. The proceeds from the credit facility established under the Credit Agreement will be used for working capital and other general corporate purposes. The obligations under the Credit Agreement are secured by substantially all of our assets.
Amounts outstanding under the Credit Agreement accrue interest at a rate equal to either, at our election, LIBOR plus a margin of 1.75% to 2.50% per annum, or a specified base rate plus a margin of 0.75% to 1.50%, in each case, depending on our consolidated secured leverage ratio. We are required to pay a commitment fee on the unutilized portion of the facility which ranges between 0.30% and 0.40% per annum depending on our consolidated secured leverage ratio. As of October 3, 2020,January 2, 2021, we had no amounts outstanding under the Credit Agreement.
Three
Six Months Ended October 3, 2020January 2, 2021
As of October 3, 2020,January 2, 2021, our combined balance of cash and cash equivalents and restricted cash increased by $51.8$105.3 million to $599.2$652.7 million from $547.4 million as of June 27, 2020.
During the threesix months ended October 3, 2020,January 2, 2021, Cash provided by operating activities was $63.9$132.6 million, consisting of net income of $14.3$36.2 million adjusted for non-cash charges (e.g., depreciation, amortization and stock-based compensation) which totaled $43.5$82.6 million, including changes in deferred tax balances, and changes in operating assets and liabilities that provided $6.1$13.8 million. Changes in our operating assets and liabilities related primarily to a decrease in accounts receivablean increase of $19.7accrued payroll and related expenses of $16.0 million, driven by strong collections in the quarter, an increase in deferred revenue of $4.0$4.1 million, an increase in income taxedtaxes payable of $2.5 million. These were partially offset by$10.4 million, and a decrease in accounts payable of $8.5 million due to the timing of payment in the quarter, an increase in other current and non-current assets of $3.2 million, an increase in inventory of $3.4 million,$3.9 million. These were partially offset by a decrease in accrued expenses and other current and non-current liabilities of $3.6$8.5 million, an increase in accounts receivable of $6.4 million, an increase in inventory of $3.3 million, and a decrease in accrued payroll and related expensesaccounts payable of $1.4$2.4 million.
During the threesix months ended October 3, 2020,January 2, 2021, Cash used in investing activities was $7.5$18.0 million, primarily related to $8.0$18.5 million of cash used for capital expenditures and $0.6 million of cash used for acquisitions, offset by $0.5$1.1 million proceeds from sales of assets.
During the threesix months ended October 3, 2020,January 2, 2021, Cash used in financing activities was $15.8$35.6 million, primarily resulting from $9.3$23.8 million cash paid to repurchase common stock under our share repurchase program, $11.8 million in withholding tax payments on the vesting of restricted stock awards, $6.7 million in cash paid to repurchase common stock under our share repurchase program, $2.8 million cash paid to settle assumed debt from an acquisition in fiscal year 2020, and $0.4$0.6 million payments on financing obligations;obligations. These were partially offset by $3.5 million in proceeds from the issuance of common stock under our employee stock purchase plan.
ThreeSix Months Ended SeptemberDecember 28, 2019
As of SeptemberDecember 28, 2019, our combined balance of cash and cash equivalents and restricted cash decreasedincreased by $3.2$29.8 million to $533.6$560.2 from $530.4 million as of June 29, 2019.
During the threesix months ended SeptemberDecember 28, 2019, Cash provided by operating activities was $31.3$69.3 million, consisting of net income of $6.8$34.8 million adjusted for non-cash charges (e.g., depreciation, amortization and stock-based compensation) which totaled $43.7$81.9 million, including changes in deferred tax balance, and changes in operating assets and liabilities that used $19.2$47.4 million. Changes in our operating assets and liabilities related primarily to an increase in inventoriesaccounts receivable of $3.4$13.5 million a decrease in deferredmainly driven by revenue of $4.1 million, an increase in other current and non-current assets of $1.7 million,growth, a decrease in accounts payable of $1.6$14.2 million primarily driven by timing of purchases and related payments, a decrease in accrued expenses and other current and non-current liabilities of $14.7$37.3 million, and an increase in other current and non-current assets of $2.5 million. These changes were partially offset by an increase in accrued payroll and related expenses of $3.8$8.2 million, an increase in income taxes payable of $2.0$5.8 million, and a decrease in accounts receivableinventories of $0.5$3.2 million due to higher shipment volume at the end of the quarter, and an increase in deferred revenue of $2.9 million.
During the threesix months ended SeptemberDecember 28, 2019, Cash used in investing activities was $5.9$10.7 million, primarily related to $7.1$13.3 million of cash used for capital expenditures, offset by $1.2$3.1 million proceeds from sales of assets.
During the threesix months ended SeptemberDecember 28, 2019, Cash used in financing activities was $7.8$25.3 million, primarily due to $7.6$15.1 million in withholding tax payments on vesting of restricted stock awards, $1.5$10.7 million in cash paid to repurchase common stock under our share repurchase program, and $1.0$1.8 million in payment of financing obligations;obligations, offset by $2.3 million in proceeds from the issuance of common stock under our employee stock purchase plan.
We believe that our existing cash balances and investments will be sufficient to meet our liquidity and capital spending requirements over the next twelve months. However, there are a number of factors that could positively or negatively impact our liquidity position, including:
•global economic conditions which affect demand for our products and services and impact the financial stability of our suppliers and customers;
Impact•impact of the COVID-19 pandemic on our financial condition;
•changes in accounts receivable, inventory or other operating assets and liabilities which affect our working capital;
•increase in capital expenditure to support the revenue growth opportunity of our business;
•changes in customer payment terms and patterns, which typically results in customers delaying payments or negotiating favorable payment terms to manage their own liquidity positions;
•timing of payments to our suppliers;
•factoring or sale of accounts receivable;
•volatility in fixed income and credit market which impact the liquidity and valuation of our investment portfolios;
•volatility in foreign exchange market which impacts our financial results;
•possible investments or acquisitions of complementary businesses, products or technologies;
•issuance or repurchase of debt or equity securities, which may include open market purchases of our 2023 Notes and/or 2024 Notes prior to their maturity or of our common stock; and
•potential funding of pension liabilities either voluntarily or as required by law or regulation.
Contractual Obligations
There were no material changes to our existing contractual commitments during the firstsecond quarter of fiscal 2021.
Off-Balance Sheet Arrangements
We do not have any off-balance sheet arrangements, as such term is defined in rules promulgated by the SEC, that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that are material to investors, other than the guarantees discussed in “Note“Note 18. Commitments and Contingencies.Contingencies.”
Employee Equity Incentive Plan
Our stock-based benefit plans are a broad-based, long-term retention program that is intended to attract and retain employees and align stockholder and employee interests. Refer to “Note“Note 16. Stock-Based Compensation”Compensation” for more details.
Pension and Other Post-Retirement Benefits
We sponsor significant pension plans for certain past and present employees in the United Kingdom (“U.K.”(U.K.) and Germany. We are also responsible for the non-pension post-retirement benefit obligation (“PBO”)(PBO) assumed from a past acquisition. All of these plans have been closed to new participants and no additional service costs are being accrued, except for certain plans in Germany assumed in connection with an acquisition in fiscal 2010. The U.K. plan is partially funded, and the other Germany plans, which were initially established as “pay-as-you-go” plans, are unfunded. As of October 3, 2020,January 2, 2021, our pension plans were under funded by $113.2$117.6 million since the PBO exceeded the fair value of plan assets. Similarly, we had a liability of $0.4 million related to our non-pension post-retirement benefit plan. Pension plan assets are managed by external third parties and we monitor the performance of our investment managers. As of October 3, 2020,January 2, 2021, the fair value of plan assets had decreasedincreased approximately 2.4%8.5% since June 27, 2020, our most recent fiscal year end.
A key actuarial assumption in calculating the net periodic cost and the PBO is the discount rate. Changes in the discount rate impact the interest cost component of the net periodic benefit cost calculation and PBO due to the fact that the PBO is calculated on a net present value basis. Decreases in the discount rate will generally increase pre-tax cost, recognized expense and the PBO. Increases in the discount rate tend to have the opposite effect. We estimate a 50-basis point decrease or increase in the discount rate would cause a corresponding increase or decrease, respectively, in the PBO of approximately $9.2 million based upon data as of June 27, 2020.
In estimating the expected return on plan assets, we consider historical returns on plan assets, adjusted for forward-looking considerations, inflation assumptions and the impact of active management of the plan’s invested assets. While it is not possible to accurately predict future rate movements, we believe our current assumptions are appropriate. Refer to “Note 17. Employee Pension and Other Benefit Plans” for more details.
Item 3. Quantitative and Qualitative Disclosure About Market Risks
The Company’s market risk has not changed materially from the foreign exchange and interest rate risks disclosed in Item 7A of the Company’s Annual Report on Form 10-K for the fiscal year ended June 27, 2020.
Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
We maintain disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended, or the Exchange Act), which are designed to ensure that information required to be disclosed in the reports we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer (CEO) and Chief Financial Officer (CFO), as appropriate to allow timely decisions regarding required disclosure. Our management, with the participation of our CEO and CFO, evaluated the effectiveness of the design and operation of our disclosure controls and procedures as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on that evaluation, our CEO and CFO concluded that our disclosure controls and procedures were effective as of October 3, 2020.
January 2, 2021.
Changes in Internal Control Over Financial Reporting
There have been no changes in the Company’s internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
Limitations on Effectiveness of Controls
Our management, including our CEO and CFO, does not expect that our disclosure controls and procedures of our internal controls will prevent all errors and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control systems will be achieved. No evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our company, have been detected. Accordingly, our disclosure controls and procedures provide reasonable assurance of achieving their objective.
PART II—OTHER INFORMATION
We are subject to a variety of claims and suits that arise from time to time in the ordinary course of our business. While management currently believes that resolving claims against us, individually or in aggregate, will not have a material adverse impact on our financial position, results of operations or statement of cash flows, these matters are subject to inherent uncertainties and management’s view of these matters may change in the future. If an unfavorable final outcome were to occur, it may have a material adverse impact on our financial position, results of operations or cash flows for the period in which the effect becomes reasonably estimable.
Item 1A. Risk Factors
The effects of the COVID-19 pandemic have significantly affected how we and our customers are operating our businesses, and the duration and extent to which this will impact our future results of operations and overall financial performance remains uncertain.
The COVID-19 pandemic has resulted in a widespread health crisis that is adversely affecting the broader economies, financial markets and may affect the overall demand environment for our products and services.
In response to the COVID-19 pandemic, we have prioritized employee, customer and partner safety and have temporarily shut down, slowed or limited activity in certain locations, including limiting production in certain locations to essential business needs, all in conjunction with federal, state and local health and safety regulations and shelter-in-place orders. The majority of our global workforce is working from home, and we have canceled participation in trade shows and marketing events and restricted business travel, resulting in the limitation of normal sales and business development activity.
We have experienced and may continue to experience disruption of our facilities, suppliers and contract manufacturers, which has and may continue to negatively impact our sales and operating results. In addition, we have experienced and may continue to experience shipping and logistics challenges as our customers have also closed their facilities and are operating under similar restrictions. Both NE and SE net revenue declined in the second half of fiscal 2020. NE revenue declined as the COVID-19 pandemic resulted in certain customer operation and logistic shutdowns that resulted in shipment or acceptance delays, which resulted in a demand slowdown in Field Instruments with orders pushed out into future periods, and SE revenue declined as customers were unable to provide on-site verification and acceptance due to facility closures and other restrictions.
There is currently noWhile distribution of the vaccines commenced in the UK and U.S. in late 2020, there have been logistical and operational challenges with the rollout, demand for the vaccine has far exceeded supply, and it will take some time for COVID-19the global population to receive vaccines and therapeutic medicationsfor widespread immunity to date have had limited efficacydevelop. At the same time, new and potentially more contagious variants of the virus are developing in alleviating symptoms.several countries and regions in which we operate. When and as normal business operations resume, we will need to expand globally the safety measures we have already undertaken at sites conducting essential business, such as enhanced sanitation procedures, health checks and social distancing protocols, none of which can completely eliminate the risk of exposure or spread of COVID-19. Even after shelter-in-place restrictions have been lifted by governmental authorities, there could be additional waves or spikes in infection, again causing widespread social, economic and operational impacts.
Further, the COVID-19 pandemic has adversely affected, and may continue to adversely affect, the economies and financial markets in many countries. On June 8, 2020, the National Bureau of Economic Research announced that the U.S. was in a recession. Deterioration of macro-economic conditions could further curtail or delay spending by our customers and decrease demand for our products as well as cause an increased risk of customer defaults or delays in payment. Current economic conditions have already led to a tightening of credit markets. We entered into a $300 million dollar secured credit facility to strengthen our liquidity position but have not drawn on this facility to date. If there is a long-term economic downturn or a prolonged recession as a result of the pandemic, we could face additional liquidity needs and challenges. There can be no assurance that we will be able to obtain financing on favorable terms or at all.
Due to the evolving and highly uncertain nature of this event, it is currently not possible to estimate the ultimate direct or indirect impacts the COVID-19 pandemic may have on our business. However, any prolonged disruption of manufacturing of our products, commerce and related activity caused by the pandemic or significant decrease in
demand for our products could materially and adversely affect our results of operations and financial conditions. Surges in infection rate, new shutdowns, emergence of new and potentially more contagious variants of the virus and the slow pace of vaccine rollout may impact our suppliers and our ability to source materials in a timely manner. To the extent the COVID-19 pandemic adversely affects our business and financial results, it may also have the effect of heightening many of the other risks described in this “Risk Factors” section, such as those relating to our quarterly revenue and operating results as well as on our liquidity and on our ability to satisfy our indebtedness obligations, including the compliance with the covenants that apply to our indebtedness.
We refer you to “Management’s Discussion and Analysis of Financial Position and Results of Operations” for a more detailed discussions of the potential impact of the COVID-19 pandemic and associated economic disruptions, and the actual operational and financial impacts that we have experienced to date.
We have a history of net losses, and our future profitability is not assured.
We earned net income of $28.7 million and $5.4 million in fiscal 2020 and fiscal 2019, respectively. In fiscal 2018 we incurred a net loss of $48.6 million. Historically, we operated as a portfolio company comprised of many product lines, with diverse operating metrics and markets. As a result, our profitability in a particular period was impacted by revenue, product mix and operational costs that varied significantly across our product portfolio and business segments.
These transitions are costly and may impair our profit objectives. Specific factors that may undermine our financial objectives include, among others:
•uncertain future telecom carrier and cable operator capital and R&D spending levels, which particularly affects our NE and SE segments;
•adverse changes to our product mix, both fundamentally (resulting from new product transitions, the declining profitability of certain legacy products and the termination of certain products with declining margins, among other things) and due to quarterly demand fluctuations;
•pricing pressure across our NSE product lines due to competitive forces, increasingly from Asia, and to a highly concentrated customer base for many of our product lines, which may offset some of the cost improvements;
•our OSP operating margin may experience some downward pressure as a result of higher mix of 3D sensingSensing products and increased operating expenses;
•limited availability of components and resources for our products which leads to higher component prices;
•increasing commoditization of previously differentiated products, and the attendant negative effect on average selling prices and profit margins;
•execution challenges, which limit revenue opportunities and harm profitability, market opportunities and customer relations;
•decreased revenue associated with terminated or divested product lines;
•redundant costs related to periodic transitioning of manufacturing and other functions to lower-cost locations;
•ongoing costs associated with organizational transitions, consolidations and restructurings, which are expected to continue in the nearer term;
•continuing high levels of selling, general and administrative, (SG&A)SG&A expenses;
•cyclical demand for our currency products;
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��� | changing market and economic conditions, including the impacts due to tariffs and the COVID-19 pandemic; |
•changing market and economic conditions, including the impacts due to tariffs and the COVID-19 pandemic;
•ability of our customers, partners, manufacturers and suppliers to purchase, market, sell, manufacture or supply our products and services, including as a result of disruptions arising from the COVID-19 pandemic;
•financial stability of our customers, including the solvency of private sector customers, which may be impacted by the COVID-19 pandemic and statutory authority for government customers to purchase goods and services; and
•factors beyond our control resulting from public health epidemics, pandemics and similar outbreaks as well as the fear of exposure to a widespread health epidemic, such as the COVID-19 pandemic, manufacturing restrictions, travel restrictions and shelter-in-place orders to control the spread of a disease regionally and globally, and limitations on the ability of our employees and our suppliers’ and customers’ employees to work and travel.
Taken together, these factors limit our ability to predict future profitability levels and to achieve our long-term profitability objectives. If we fail to achieve profitability expectations, the price of our debt and equity securities, as well as our business and financial condition, may be materially adversely impacted.
Our operating results may be adversely affected by unfavorable economic and market conditions.
Global macroeconomic and geopolitical risks, including those resulting from the COVID-19 pandemic which are beyond our control, could adversely impact customer business conditions that could decrease or delay capital spending among communications service providers, enterprise budgets and consumer demand. This could also result in increased price competition for our products, increase our risk of excess and obsolete inventories and higher overhead costs as a percentage of revenue.
Rapid technological change in our industry presents us with significant risks and challenges, and if we are unable to keep up with the rapid changes, our customers may purchase less of our products which could adversely affect our operating results.
The manufacture, quality and distribution of our products, as well as our customer relations, may be affected by several factors, including the rapidly changing market for our products, supply issues and internal restructuring efforts. We expect the impact of these issues will become more pronounced as we continue to introduce new product offerings and when overall demand increases.
Our success depends upon our ability to deliver both our current product offerings and new products and technologies on time and at acceptable cost to our customers. The markets for our products are characterized by rapid technological change, frequent new product introductions, substantial capital investment, changes in customer requirements and a constantly evolving industry. Our future performance will depend on the successful development, introduction and market acceptance of new and enhanced products that address these issues and provide solutions that meet our customers’ current and future needs. As a technology company, we also constantly encounter quality, volume and cost concerns such as:
•Our continuing cost reduction programs, which include site and organization consolidations, asset divestitures, outsourcing the manufacture of certain products to contract manufacturers, other outsourcing initiatives, and reductions in employee headcount, require the re-establishment and re-qualification by our customers of complex manufacturing lines, as well as modifications to systems, planning and operational infrastructure. During this process, we have experienced, and may continue to experience, additional costs, delays in re-establishing volume production levels, planning difficulties, inventory issues, factory absorption concerns and systems integration problems.
•We have experienced variability of manufacturing yields caused by difficulties in the manufacturing process, the effects from a shift in product mix, changes in product specifications and the introduction of new product lines. These difficulties can reduce yields or disrupt production and thereby increase our manufacturing costs and adversely affect our margin.
•We may incur significant costs to correct defective products (despite rigorous testing for quality both by our customers and by us), which could include lost future sales of the affected product and other products, and potentially severesever customer relations problems, litigation and damage to our reputation.
•We are dependent on a limited number of vendors, who are often small and specialized, for raw materials, packages and standard components. We also rely on contract manufacturers around the world to manufacture certain of our products. Our business and results of operations have been, and could continue to be, adversely affected by this dependency. Specific concerns we periodically encounter with our suppliers include stoppages
or delays of supply, insufficient vendor resources to supply our requirements, substitution of more expensive or less reliable products, receipt of defective parts or contaminated materials, increases in the price of supplies and an inability to obtain reduced pricing from our suppliers in response to competitive pressures. Additionally, the ability of our contract manufacturers to fulfill their obligations may be affected by economic, political or other forces that are beyond our control, including the COVID-19 pandemic. Any such failure could have a material impact on our ability to meet customers’ expectations and may materially impact our operating results.
•New product programs and introductions involve changing product specifications and customer requirements, unanticipated engineering complexities, difficulties in reallocating resources and overcoming resource limitations and with their increased complexity, which expose us to yield and product risk internally and with our suppliers.
These factors have caused considerable strain on our execution capabilities and customer relations. We have and could continue to see (a) periodic difficulty responding to customer delivery expectations for some of our products, (b) yield and quality problems, particularly with some of our new products and higher volume products and (c) additional funds and other resources required to respond to these execution challenges. From time to time, we have had to divert resources from new product R&D and other functions to assist with resolving these matters. If we do not improve our performance in all of these areas, our operating results will be harmed, the commercial viability of new products may be challenged and our customers may choose to reduce or terminate their purchases of our products and purchase additional products from our competitors.
Unfavorable, uncertain or unexpected conditions in the transition to 5G may cause fluctuations in our rate of revenue growth or financial results.
Markets for 5G infrastructure may not develop in the manner or in the time periods we anticipate. If domestic and global economic conditions worsen, including as a result of the COVID-19 pandemic, overall spending on 5G infrastructure may be reduced, which would adversely impact demand for our products in these markets. In addition, unfavorable developments with evolving laws and regulations worldwide related to 5G may limit or slow the rate of global adoption, impede our strategy, and negatively impact our long-term expectations in this area. Further, the COVID-19 pandemic resulted in global work-office shut down and Work-From-Home policies among network service providers, network equipment manufacturers and itsthe related supply chain. This in turn disrupted and delayed new network construction build out, general network maintenance and new technology development.
Even if the 5G infrastructure market and rate of adoption develop in the manner or in the time periods we anticipate, if we do not have timely, competitively priced, market-accepted products available to meet our customers’ planned roll-out of 5G platforms and systems, we may miss a significant opportunity and our business, financial condition, results of operations and cash flows could be materially and adversely affected.
Movement towards virtualized networks and software solutions may result in lower demand for our hardware products and increased competition.
The markets for our NE and SE segments are increasingly looking towards virtualized networks and software solutions. While we are devoting substantial resources to meet these needs, this trend may result in lower demand for our legacy hardware products. Additionally, barriers to entry are generally lower for software solutions, which may lead to increased competition for our products and services.
Our forecasts related to our growth strategy in 3D sensingSensing and other applications may prove to be inaccurate.
Growth forecasts are subject to significant uncertainty and are based on assumptions and estimates which may not prove to be accurate. Our estimate of the market opportunity related to 3D sensingSensing is subject to significant uncertainty and is based on assumptions and estimates, including our internal analysis, industry experience and third-party data. Accordingly, our estimated market opportunity may prove to be materially inaccurate. In addition,
our growth and ability to serve a significant portion of this estimated market is subject to many factors, including our success in implementing our business strategy and expansion of 3D sensingSensing and other applications for consumer electronics. We cannot assure you that we will be able to serve a significant portion of this market and the growth forecasts should not be taken as indicative of our future growth.
Natural Disasters and Catastrophic Events
In October 2017We operate in geographic regions which face a number of climate and againenvironmental challenges. Our new corporate headquarters are located in October 2019, we temporarily closed our Santa Rosa, California facility, which resulted in production stoppage dueScottsdale, Arizona, a desert climate, subject to wildfires in the regionextreme heat and the facility’s close proximity to the wildfire evacuation
zone. The location of our production facility could subject us to production delays and/or equipment and property damage.drought.. The geographic location of our Northern California headquartersoffices and production facilities subject them to earthquake and wildfire risks. It is impossible to predict the timing, magnitude or location of such natural disasters or their impacts on the local economy and on our operations. If a major earthquake, wildfire or other natural disaster were to damage or destroy our facilities or manufacturing equipment, we may experience potential impacts ranging from production and shipping delays to lost profits and revenues.
In October 2017 and again in October 2019, we temporarily closed our Santa Rosa, California facility resulting in production stoppage, due to wildfires in the region and the facility’s close proximity to the wildfire evacuation zone. The location of our production facility could subject us to production delays and/or equipment and property damage.
The geographic location of our Northern California headquarters and production facilities subject them to earthquake and wildfire risks. It is impossible to predict the timing, magnitude or location of such natural disasters or their impacts on the local economy and on our operations. If a major earthquake, wildfire or other natural disaster were to damage or destroy our facilities or manufacturing equipment, we may experience potential impacts ranging from production and shipping delays to lost profits and revenues. Moreover, in October 2019, Pacific Gas and Electric (PG&E), the public electric utility in our Northern California region commenced planned widespread blackouts during the peak wildfire season to avoid and contain wildfires sparked during strong wind events by downed power lines or equipment failure. While we have not experienced damage to our facilities or a material disruption to operations as a result of these power outages, ongoing blackouts, particularly if prolonged or frequent, could impact our operations going forward.
Certain of our products are subject to governmental and industry regulations, certifications and approvals.
The commercialization of certain of the products we design, manufacture and distribute through our OSP segment may be more costly due to required government approval and industry acceptance processes. Development of applications for our anti-counterfeiting and special effects pigments may require significant testing that could delay our sales. For example, certain uses in cosmetics may be regulated by the U.S. Food and Drug Administration, which has extensive and lengthy approval processes. Durability testing by the automobile industry of our special effects pigments used with automotive paints can take up to three years. If we change a product for any reason, including technological changes or changes in the manufacturing process, prior approvals or certifications may be invalid and we may need to go through the approval process again. If we are unable to obtain these or other government or industry certifications in a timely manner, or at all, our operating results could be adversely affected.
Failure to maintain satisfactory compliance with certain privacy and data protections laws and regulations may subject us to substantial negative financial consequences and civil or criminal penalties.
Complex local, state, national, foreign, and international laws and regulations apply to the collection, use, retention, protection, disclosure, transfer, and other processing of personal data. These privacy laws and regulations are quickly evolving, with new or modified laws and regulations proposed and implemented frequently and existing laws and regulations subject to new or different interpretations. In addition, our legal and regulatory obligations in jurisdictions outside of the U.S. are subject to unexpected changes, including the potential for regulatory or other governmental entities to enact new or additional laws or regulations, to issues rulings that invalidate prior laws or regulations, or to increase penalties significantly. Complying these laws and regulations can be costly and can impede the development and offering of new products and services.
For example, the E.U. General Data Protection Regulation (GDPR), which became effective in May 2018, imposes stringent data protection requirements and provides for significant penalties for noncompliance. Additionally, California recently enacted legislation, the California Consumer Privacy Act (CCPA), which became effective January 1, 2020. The CCPA requires, among other things, covered companies to provide new disclosures to California consumers, and allow such consumers new abilities to opt-out of certain sales of personal data. The CCPA also provides for civil penalties for violations, as well as a private right of action for data breaches that may increase data breach litigation. We may also be subject to additional obligations relating to personal data by contract that industry standards apply to our practices. Further, other states are considering expanding or passing privacy laws in the near term.
Our failure to comply with applicable laws and regulations or other obligations to which we may be subject relating to personal data, or to protect personal data from unauthorized access, use, or other processing, could result in enforcement actions and regulatory investigations against us, claims for damages by customers and other
affected individuals, fines, damage to our reputation, and loss of goodwill, any of which could have a material adverse effect on our operations, financial performance, and business.
We face risks related to our international operations and revenue.
Our customers are located throughout the world. In addition, we have significant operations outside North America, including product development, manufacturing, sales and customer support operations.
Our international presence exposes us to certain risks, including the following:
•fluctuations in exchange rates between the U.S. dollar and among the currencies of the countries in which we do business may adversely affect our operating results by negatively impacting our revenues or increasing our expenses;
•our ability to comply with a wide variety of laws and regulations of the countries in which we do business, including, among other things, customs, import/export, anti-bribery, anti-competition, tax and data privacy laws, which may be subject to sudden and unexpected changes;
•difficulties in establishing and enforcing our intellectual property rights;
•tariffs and other trade barriers;
•political, legal and economic instability in foreign markets, particularly in those markets in which we maintain manufacturing and product development facilities;
•strained or worsening relations between the United States and China or other countries;
•difficulties in staffing and management;
•language and cultural barriers;
•seasonal reductions in business activities in the countries where our international customers are located;
•integration of foreign operations;
•longer payment cycles;
•difficulties in management of foreign distributors; and
•potential adverse tax consequences.
The spread of COVID-19 has and is likely to continue to affect the manufacturing and shipment of goods globally. For example, while the Chinese government has lifted certain restrictions on movement of people and goods to limit the spread of COVID-19, it is continuing to take control measures and recently imposed certain restrictions to limit the spread of COVID-19 in Beijing. Further, most other countries have imposed or are imposing certain restrictions on the movement of people and goods and may continue to lift and reimpose such restrictions as needed. Any delay in production or delivery of our products due to an extended closure of our suppliers’ plants as a result of efforts to limit the spread of COVID-19 could adversely impact our business. Worldwide travel restrictions have been imposed by many countries, including air travel and transport, that have caused and are likely to continue to cause delays in shipment of our products as well as increased logistics costs and will restrict our ability to attract, develop, integrate and retain highly skilled employees with appropriate qualifications from other countries.
Net revenue from customers outside the Americas accounted for 63.5%, 62.3% and 52.4% of our total net revenue, for fiscal 2020, 2019 and 2018, respectively. We expect that net revenue from customers outside North America will continue to account for a significant portion of our total net revenue. Lower sales levels that typically occur during the summer months in Europe and some other overseas markets may materially and adversely affect our business. In addition, the revenues we derive from many of our customers depend on international sales and further expose us to the risks associated with such international sales.
Economic conditions and regulatory changes that may result from the United Kingdom’s pending exit from the European Union could adversely affect our business, financial condition and results of operations.
In June 2016, the United Kingdom (the U.K.) held a referendum in which voters narrowly approved an exit from the European Union (the E.U.), commonly referred to as “Brexit.” The announcement of Brexit caused significant
volatility in global stock markets and currency exchange rate fluctuations that resulted in the strengthening of the U.S. dollar against foreign currencies in which we conduct business. The withdrawal of the U.K. from the E.U. in January 2020 and the currentend of the transition period in December 2020 may also contribute to further global economic uncertainty, which may cause our current and future customers to closely monitor their costs and reduce their spending on our products and services.
The withdrawal and end of the transition period could significantly disrupt and delay the free movement of goods, services, and people between ports in the U.K. and the E.U., and result in increased legal and regulatory complexities, as well as potential higher costs of conducting business in Europe. Given the lack of comparable precedent, it is unclear how Brexit may negatively impact the economies of the U.K., the E.U. countries and other nations, as well as our operations in these locations. However, any of these effects of Brexit, among others, could adversely affect our financial position, results of operations or cash flows.
While we have not experienced any material financial impact from Brexit on our business to date, we cannot predict its future implications.
US Government trade actions could have an adverse impact on our business, financial position, and results of operation..
The United States and China have been engaged in protracted negotiations over the Chinese government’s acts, policies, and practices related to technology transfer, intellectual property, and innovation that theinnovation. Former President Trump Administration has found to be unreasonable and burdensome to US commerce. To date, the President has used his authority under Section 301 of the Trade Act of 1974 three times to levy a 25% retaliatory tariff on 6,830 subheading categories of imported Chinese high-tech and consumer goods valued at $250 billion per year. Although List 3 alone(under Section 301) valued at $200 billion, had originally set an additional duty rate at 10%, that rate was increased to 25% effective May 10, 2019. Moreover, in August 2019, theFormer President Trump announced a 15% tariff on a fourth list of goods valued at nearly $300 billion. Pursuant to a US-China trade deal signed in January 2020, the List 3 rate remains at 25% and the List 4 rate decreased to 7.5% on February 14, 2020.
On May 16, 2019, Huawei Technologies Co. Ltd. and 68 designated non-U.S. affiliates (collectively, “Huawei”) were added to the Entity List of the Bureau of Industry and Security of the U.S. Department of Commerce (“BIS”), which imposes limitations on the supply of certain U.S. items and product support to Huawei. On August 17, 2020, BIS issued final rules that further restrict access by Huawei to items produced domestically and abroad from U.S. technology and software. While the majority of our products were unaffected, the final rules prevent us from selling certain products to Huawei entities without a license issued subject to the Export Administration Regulations. If we are unable to obtain such a license, our business, financial condition and results of operations could be negatively impacted.
These tariffs,measures, along with any additional tariffs or other trade actions that may be implemented, may increase the cost of certain materials and/or products that we import from China, thereby adversely affecting our profitability. These actions could require us to raise our prices, which could decrease demand for our products. As a result, these actions, including potential retaliatory measures by China and further escalation into a potential “trade war”, may adversely impact our business.
In January 2021, President Biden commenced his new administration with a number of executive orders and actions, including a temporary halt of pending U.S. defense transfers and sales to Saudi Arabia and the United Emirates. This executive order could negatively impact certain products and equipment we deliver to military and defense clients. Given the uncertainty regarding the scope and duration of these trade actions by the United States or other countries, as well as the potential for additional trade actions, the impact on our operations and results remains uncertain.
Certain provisions in our charter and under Delaware laws could hinder a takeover attempt.
We are subject to the provisions of Section 203 of the Delaware General Corporation Law prohibiting, under some circumstances, publicly-held Delaware corporations from engaging in business combinations with some stockholders for a specified period of time without the approval of the holders of substantially all of our outstanding voting stock. Such provisions could delay or impede the removal of incumbent directors and could make more difficult a merger, tender offer or proxy contest involving us, even if such events could be beneficial, in the short-term, to the interests of the stockholders. In addition, such provisions could limit the price that some investors might be willing to pay in the future for shares of our common stock. Our certificate of incorporation and bylaws contain provisions providing for the limitations of liability and indemnification of our directors and officers, allowing vacancies on our board of directors to be filled by the vote of a majority of the remaining directors, granting our board of directors the authority to establish additional series of preferred stock and to designate the rights, preferences and privileges of such shares (commonly known as “blank check preferred”) and providing that our stockholders can take action only at a duly called annual or special meeting of stockholders, which may only be called by the Chairman of the board, the Chief Executive Officer or the board of directors. These provisions may also have the effect of deterring hostile takeovers or delaying changes in control or change in our management.
Our actual operating results may differ significantly from our guidance.
We release guidance in our quarterly earnings conference calls, quarterly earnings releases, or otherwise, regarding our future performance that represents our management’s estimates as of the date of release. This guidance, which includes forward-looking statements, will be based on projections prepared by our management.
Projections are based upon a number of assumptions and estimates that, while presented with numerical specificity, are inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond our control and are based upon specific assumptions with respect to future business decisions, some of which will change. We will continue to state possible outcomes as high and low ranges which are
intended to provide a sensitivity analysis as variables are changed but are not intended to imply that actual results could not fall outside of the suggested ranges. The principal reason that we release guidance is to provide a basis for our management to discuss our business outlook with analysts and investors. We do not accept any responsibility for any projections or reports published by any such third parties.
Guidance is necessarily speculative in nature, and it can be expected that some or all of the assumptions underlying the guidance furnished by us will not materialize or will vary significantly from actual results. Accordingly, our guidance is only an estimate of what management believes is realizable as of the date of release. Actual results may vary from our guidance and the variations may be material. In light of the foregoing, investors are urged not to rely upon our guidance in making an investment decision regarding our common stock.
Any failure to successfully implement our operating strategy or the occurrence of any of the events or circumstances set forth in this “Risk Factors” section in this Annual Report on Form 10-K could result in the actual operating results being different from our guidance, and the differences may be adverse and material.
Failure to maintain effective internal controls may adversely affect our stock price.
Effective internal controls are necessary for us to provide reliable financial reports and to effectively prevent fraud. We are required to annually evaluate the effectiveness of the design and operation of our internal controls over financial reporting. Based on these evaluations, we may conclude that enhancements, modifications, or changes to internal controls are necessary or desirable. In addition, our independent registered public accounting firm must report on the effectiveness of our internal control over financial reporting. While management evaluates the effectiveness of our internal controls on a regular basis, these controls may not always be effective. A material weakness in our internal controls has been identified in the past, and we cannot assure you that we or our independent registered public accounting firm will not identify a material weakness in our internal controls in the future. A material weakness in our internal controls over financial reporting would require management and our independent registered public accounting firm to evaluate our internal controls as ineffective. If our internal controls over financial reporting are not considered effective, we may experience a loss of public confidence, which could have an adverse effect on our business, financial condition and the market price of our common stock and other securities.
There are inherent limitations on the effectiveness of internal controls, including collusion, management override and failure in human judgment. In addition, control procedures are designed to reduce rather than eliminate financial statement risk. Additionally, if we or our independent registered public accounting firm are not satisfied with
our internal control over financial reporting or the level at which these controls are documented, designed, operated or reviewed in the future, or if our independent registered public accounting firm interprets the requirements, rules and/or regulations differently from our interpretation, then they may issue a qualified report. Furthermore, we may discover that the internal controls of businesses we acquire are inadequate or changes to our existing businesses may impact the effectiveness of our internal controls. These situations could require us to make changes to our internal controls and could cause our independent registered public accounting firm to issue a qualified report, which could result in a loss of investor confidence in the reliability of our financial statements and could negatively impact our stock price.
In March 2017, we issued $460.0 million of 1.00% Senior Convertible Notes due 2024, and in May 2018 we issued $225.0 million of 1.75% Senior Convertible Notes due 2023. The issuance of the Notes increases our overall leverage and could dilute our existing stockholders and lower our reported earnings per share.
We issued $460.0 million of indebtedness in March 2017 in the form of 1.00% Senior Convertible Notes due 2024 (the 2024 Notes). In May 2018, we issued $225.0 million of indebtedness in the form of 1.75% Senior Convertible Notes due 2023 (the 2023 Notes, and, together with the 2024 Notes, the Notes). The issuance of the Notes substantially increased our principal payment obligations. The degree to which we are leveraged could materially and adversely affect our ability to successfully obtain financing for working capital, acquisitions or other purposes and could make us more vulnerable to industry downturns and competitive pressures. In addition, the holders of the Notes are entitled to convert the Notes into shares of our common stock or a combination of cash and shares of common stock under certain circumstances which would dilute our existing stockholders and lower our reported per share earnings.
Changes in the method of determining LIBOR, or the replacement of LIBOR with an alternative reference rate, may adversely affect interest rates on our future indebtedness and may otherwise adversely affect our financial condition and results of operations.
Certain of our indebtedness is made at variable interest rates that use the London Interbank Offered Rate, or LIBOR (or metrics derived from or related to LIBOR), as a benchmark for establishing the interest rate. On July 27, 2017, the United Kingdom’s Financial Conduct Authority announced that it intends to stop persuading or compelling
banks to submit LIBOR rates after 2021. These reforms may cause LIBOR to cease to exist, new methods of calculating LIBOR to be established, or alternative reference rates to be established. The potential consequences cannot be fully predicted and could have an adverse impact on the market value for or value of LIBOR-linked securities, loans, and other financial obligations or extensions of credit held by or due to us. Changes in market interest rates may influence our financing costs, returns on financial investments and the valuation of derivative contracts and could reduce our earnings and cash flows. In addition, any transition process may involve, among other things, increased volatility or illiquidity in markets for instruments that rely on LIBOR, reductions in the value of certain instruments or the effectiveness of related transactions such as hedges, increased borrowing costs, uncertainty under applicable documentation, or difficult and costly consent processes. This could materially and adversely affect our results of operations, cash flows, and liquidity. We cannot predict the effect of the potential changes to LIBOR or the establishment and use of alternative rates or benchmarks.
Our ability to use our net operating loss carryforwards to offset future taxable income may be subject to certain limitations.
As of June 27, 2020, we had U.S. federal and state net operating losses, or NOLs, of $4,752.2 million and $575.8 million, respectively, and U.S. federal and state tax credit carryforwards of $105.8 million and $52.6 million respectively, which may be utilized against future income taxes. Utilization of these NOLs and tax credit carryforwards may be subject to a substantial annual limitation if the ownership change limitations under Sections 382 and 383 of the Internal Revenue Code and similar state provisions are triggered by changes in the ownership of our capital stock. In general, an ownership change occurs if there is a cumulative change in our ownership by “5-percent shareholders” that exceeds 50 percentage points over a rolling three-year period. Similar rules may apply under state tax laws. Accordingly, purchases of our capital stock by others could limit our ability to utilize our NOLs and tax credit carryforwards in the future.
Furthermore, we may not be able to generate sufficient taxable income to utilize our NOLs and tax credit carryforwards before they expire. Due to uncertainty regarding the timing and extent of our future profitability, we continue to record a valuation allowance to offset our U.S. and certain of our foreign deferred tax assets because of uncertainty related to our ability to utilize our NOLs and tax credit carryforwards before they expire.
If any of these events occur, we may not derive some or all of the expected benefits from our NOLs and tax credit carryforwards.
We may not generate positive returns on our research and development strategy.
Developing our products is expensive, and the investment in product development may involve a long payback cycle. For fiscal years 2020, 2019 2018 and 2017,2018, our research and development expenses were $187.0$193.6 million, or approximately 17.0% of our revenue $133.3$187.0 million, or approximately 16.5% of our revenue and $136.3$133.3 million, or approximately 15.2% of our revenue, respectively. We expect to continue to invest heavily in research and development in order to expand the capabilities of 3D sensingSensing and smart phone sensors, handheld spectrometer solution and portable test instruments, introduce new products and features and build upon our technology. We believe one of our greatest strengths lies in our innovation and our product development efforts. By investing in research and development including through our acquisitions, we believe we are well positioned to continue to execute on our strategy and take advantage of market opportunities. We expect that our results of operations may be impacted by the timing and size of these investments. In addition, these investments may take several years to generate positive returns, if ever.
We rely on a limited number of customers for a significant portion of our sales.
We believe that we will continue to rely upon a limited number of customers for a significant portion of our revenues for the foreseeable future. Any failure by us to continue capturing a significant share of these customers could materially harm our business. Dependence on a limited number of customers exposes us to the risk that order reductions from any one customer can have a material adverse effect on periodic revenue. Further, to the extent that there is consolidation among communications equipment manufacturers and service providers, we will have increased dependence on fewer customers who may be able to exert increased pressure on our prices and other contract terms. Customer consolidation activity and periodic manufacturing and inventory initiatives could also create the potential for disruptions in demand for our products as a consequence of such customers streamlining, reducing or delaying purchasing decisions.
We have a strategic alliance with SICPA, our principal customer for our anti-counterfeiting pigments that are used to, among other things, provide security features for banknotes. Under a license and supply agreement, we rely exclusively on SICPA to market and sell one of these product lines, Optical Variable Pigment (OVP®) and Optical
Variable Magnetic Pigment (OVMP®), products for document authentication applications worldwide. The agreement requires SICPA to purchase minimum quantities of these pigments over the term of the agreement. If SICPA fails to purchase these quantities, as and when required by the agreement, our business and operating results (including, among other things, our revenue and gross margin) will be harmed as we may be unable to find a substitute marketing and sales partner or develop these capabilities ourselves.
Our business and operations could be adversely impacted in the event of a failure of our information technology infrastructure.
We rely upon the capacity, reliability and security of our information technology infrastructure and our ability to expand and continually update this infrastructure in response to our changing needs. In some cases, we rely upon third party hosting and support services to meet these needs. The growing and evolving cyber-risk environment means that individuals, companies, and organizations of all sizes, including ourselves and our hosting and support partners, are increasingly vulnerable to the threat of intrusions and disruptions on their networks and systems by a wide range of actors on an ongoing and regular basis. We also design and manage IT systems and products that contain IT systems for various customers, and generally face the same threats for these systems as for our own internal systems.
We maintain information security staff, policies and procedures for managing risk to our networks and information systems, and conduct employee training on cyber-security to mitigate persistent and continuously evolving cyber-security threats. Our network security measures include, but are not limit to, the implementation of firewalls, anti-virus protection, patches, log monitors, routine backups, off-site storage, network audits and other routine updates and modifications. We also routinely monitor and develop our internal information technology systems to address risks to our information systems. Despite our implementation of these and other security measures and those of our third-party vendors, our systems are vulnerable to damages from computer viruses, natural disasters, unauthorized access and other similar disruptions and intrusions that continue to emerge and
evolve. Any system failure, accident or security breach could result in disruptions to our business processes, network degradation, and system down time, along with the potential that a third party will exploit our critical assets such as intellectual property, proprietary business information, and data related to our employees, customers, suppliers, and business partners. To the extent that any disruption, degradation, downtime or other security breach results in a loss or damage to our data or systems, or in inappropriate disclosure of confidential information, it could adversely impact us and our clients, potentially resulting in, among other things, financial losses; our inability to transact business on behalf of our clients; violations of applicable privacy and other laws; regulatory fines, penalties, litigation, reputational damage, reimbursement or other compensation costs; and/or additional compliance costs. We may also incur additional costs related to cyber-security risk management and remediation. There can be no assurance that we or our service providers, if applicable, will not suffer losses relating to cyber-attacks or other information security breaches in the future or that our insurance coverage will be adequate to cover all the costs resulting from such events. No assurances can be given that our efforts to reduce the risk of such attacks will be successful.
The COVID-19 pandemic may adversely affect our systems, and the health of members of our internal IT team who monitor and address the cyber threats and attacks against VIAVI. In particular, the internet is currently experiencing an increase in cyber threats during the COVID-19 pandemic in the form of phishing emails, malware attachments and malicious websites which seemingly offer information regarding COVID-19. We have employed efforts to mitigate any potential impact that could result from increased cyber threats and the loss of members of our internal IT team and by providing our employees with enhanced awareness materials and training, updating our business continuity plans, and cross training staff.
If we have insufficient proprietary rights or if we fail to protect those we have, our business would be materially harmed. Our intellectual property rights may not be adequate to protect our products or product roadmaps.
We seek to protect our products and our product roadmaps in part by developing and/or securing proprietary rights relating to those products, including patents, trade secrets, know-how and continuing technological innovation. The steps taken by us to protect our intellectual property may not adequately prevent misappropriation or ensure that others will not develop competitive technologies or products. Other companies may be investigating or developing other technologies that are similar to our own. It is possible that patents may not be issued from any of our pending applications or those we may file in the future and, if patents are issued, the claims allowed may not be sufficiently broad to deter or prohibit others from making, using or selling products that are similar to ours. We do not own patents in every country in which we sell or distribute our products, and thus others may be able to offer identical products in countries where we do not have intellectual property protection. In addition, the laws of some territories in which our products are or may be developed, manufactured or sold, including Europe, Asia-Pacific or Latin America, may not protect our products and intellectual property rights to the same extent as the laws of the United States.
Any patents issued to us may be challenged, invalidated or circumvented. Additionally, we are currently a licensee in all of our operating segments for a number of third-party technologies, software and intellectual property rights from academic institutions, our competitors and others, and are required to pay royalties to these licensors for the use thereof. Unless we are able to obtain such licenses on commercially reasonable terms, patents or other intellectual property held by others could inhibit our development of new products, impede the sale of some of our current products, substantially increase the cost to provide these products to our customers, and could have a significant adverse impact on our operating results. In the past, licenses generally have been available to us where third-party technology was necessary or useful for the development or production of our products. In the future licenses to third-party technology may not be available on commercially reasonable terms, if at all.
Our products may be subject to claims that they infringe the intellectual property rights of others.
Lawsuits and allegations of patent infringement and violation of other intellectual property rights occur in our industry on a regular basis. We have received in the past, and anticipate that we will receive in the future, notices from third parties claiming that our products infringe their proprietary rights. Over the past several years there has been a marked increase in the number and potential severity of third-party patent infringement claims, primarily from two distinct sources. First, large technology companies, including some of our customers and competitors, are seeking to monetize their patent portfolios and have developed large internal organizations that have approached us with demands to enter into license agreements. Second, patent-holding companies, entities that do not make or sell products (often referred to as “patent trolls”), have claimed that our products infringe upon their proprietary
rights. We will continue to respond to these claims in the course of our business operations. In the past, the resolution of these disputes has not had a material adverse impact on our business or financial condition; however, this may not be the case in the future. Further, the litigation or settlement of these matters, regardless of the merit of the claims, could result in significant expense to us and divert the efforts of our technical and management personnel, whether or not we are successful. If we are unsuccessful, we could be required to expend significant resources to develop non-infringing technology or to obtain licenses to the technology that is the subject of the litigation. We may not be successful in such development, or such licenses may not be available on terms acceptable to us, if at all. Without such a license, we could be enjoined from future sales of the infringing product or products, which could adversely affect our revenues and operating results.
The use of open source software in our products, as well as those of our suppliers, manufacturers and customers, may expose us to additional risks and harm our intellectual property position.
Certain of the software and/or firmware that we use and distribute (as well as that of our suppliers, manufacturers and customers) may be, be derived from, or contain, “open source” software, which is software that is generally made available to the public by its authors and/or other third parties. Such open source software is often made available under licenses which impose obligations in the event the software or derivative works thereof are distributed or re-distributed. These obligations may require us to make source code for the derivative works available to the public, and/or license such derivative works under a particular type of license, rather than the forms of license customarily used to protect our own software products. While we believe we have complied with our obligations under the various applicable licenses for open source software, in the event that a court rules that these licenses are unenforceable, or in the event the copyright holder of any open source software were to successfully establish in court that we had not complied with the terms of a license for a particular work, we could be required to release the source code of that work to the public and/or stop distribution of that work. Additionally, open source licenses are subject to occasional revision. In the event future iterations of open source software are made available under a revised license, such license revisions may adversely affect our ability to use such future iterations.
We face certain litigation risks that could harm our business.
We are and may become subject to various legal proceedings and claims that arise in or outside the ordinary course of business. The results of complex legal proceedings are difficult to predict. Moreover, many of the complaints filed against us do not specify the amount of damages that plaintiffs seek, and we therefore are unable to estimate the possible range of damages that might be incurred should these lawsuits be resolved against us. While we are unable to estimate the potential damages arising from such lawsuits, certain of them assert types of claims that, if resolved against us, could give rise to substantial damages. Thus, an unfavorable outcome or settlement of one or more of these lawsuits could have a material adverse effect on our financial condition, liquidity and results of operations. Even if these lawsuits are not resolved against us, the uncertainty and expense associated with unresolved lawsuits could seriously harm our business, financial condition and reputation. Litigation is costly, time-consuming and disruptive to normal business operations. The costs of defending these lawsuits have been significant, will continue to be costly and may not be covered by our insurance policies. The defense of these lawsuits could also result in continued diversion
of our management’s time and attention away from business operations, which could harm our business. For additional discussion regarding litigation, see the “Legal Proceedings” portion of thisour Annual Report on Form 10-K.10-K for the fiscal year ended June 27, 2020, filed with the SEC on August 24, 2020 .
We may be subject to environmental liabilities which could increase our expenses and harm our operating results.
We are subject to various federal, state and foreign laws and regulations governing the environment, including those governing pollution and protection of human health and the environment and, recently, those restricting the presence of certain substances in electronic products and holding producers of those products financially responsible for the collection, treatment, recycling and disposal of certain products. Such laws and regulations have been passed in several jurisdictions in which we operate, are often complex and are subject to frequent changes. We will need to ensure that we comply with such laws and regulations as they are enacted, as well as all environmental laws and regulations, and as appropriate or required, that our component suppliers also comply with such laws and regulations. If we fail to comply with such laws, we could face sanctions for such noncompliance, and our customers may refuse to purchase our products, which would have a materially adverse effect on our business, financial condition and results of operations.
With respect to compliance with environmental laws and regulations in general, we have incurred, and in the future could incur, substantial costs for the cleanup of contaminated properties, either those we own or operate or to which we have sent wastes in the past, or to comply with such environmental laws and regulations. Additionally, we could be subject to disruptions to our operations and logistics as a result of such clean-up or compliance obligations. If we were found to be in violation of these laws, we could be subject to governmental fines and liability for damages resulting from such violations. If we have to make significant capital expenditures to comply with environmental laws, or if we are subject to significant expenditures in connection with a violation of these laws, our financial condition or operating results could be materially adversely impacted.
Impairment in the carrying value of goodwill or other assets could negatively affect our results of operations or net worth.
We have significant long-lived assets recorded on our balance sheet. We evaluate intangible assets and goodwill for impairment at least annually, or whenever events or changes in circumstances indicate that the carrying value may not be recoverable. We monitor factors or indicators, such as unfavorable variances from forecasted cash flows, established business plans or volatility inherent to external markets and industries that would require an impairment test. The test for impairment of intangible assets requires a comparison of the carrying value of the asset or asset group with their estimated undiscounted future cash flows. If the carrying value of the asset or asset group is considered impaired, an impairment charge is recorded for the amount by which the carrying value of the asset or asset group exceeds its fair value. We have in the past and may in the future experience impairment charges to goodwill. The amount of any impairment charge could be significant and could have a material adverse impact on our financial condition and results of operations for the period in which the charge is taken. In addition, the economic disruptions caused by the COVID-19 pandemic could also adversely impact the impairment risks for certain long-lived assets, equity method investments and goodwill. Refer to Note 9 and Note 10 of the Notes to the Consolidated Financial Statements and “Critical Accounting Policies and Estimates” in Management's Discussion and Analysis of Financial Condition and Results of Operations for further discussion of the impairment testing of goodwill and long-lived assets.
We will continue to evaluate the recoverability of the carrying amount of our goodwill and long-lived assets on an ongoing basis, and we may incur substantial impairment charges, which would adversely affect our financial results. There can be no assurance that the outcome of such reviews in the future will not result in substantial impairment charges. Impairment assessment inherently involves judgment as to assumptions about expected future cash flows and the impact of market conditions on those assumptions. Future events and changing market conditions may impact our assumptions as to prices, costs, holding periods or other factors that may result in changes in our estimates of future cash flows. Although we believe the assumptions we used in testing for impairment are reasonable, significant changes in any one of our assumptions could produce a significantly different result. If, in any period, our stock price decreases to the point where the fair value of the Company, as determined by our market capitalization, is less than our book value, this too could indicate a potential impairment and we may be required to record an impairment charge in that period.
Management transitions and talent retention create uncertainties and could harm our business.
Oleg Khaykin became our President and Chief Executive Officer in February 2016 and Amar Maletira became our Chief Financial Officer in September 2015. Mr. Maletira recently announced his resignation effective November 20, 2020 to pursue a new opportunity effective November 20, 2020 and the Company appointed an interim CFO while commencing a formal search for Mr. Maletira’s successor. Management changes could adversely impact our results of operations and our customer relationships and may make recruiting for future management positions more difficult. Moreover,Our executives and other key personnel are at-will employees and we are headquarteredgenerally do not have employment or non-compete agreements with our other employees, and we cannot assure you that we will be able to retain them. Competition for people with the specific technical and other skills we require is significant. We have a significant employee population in the San Francisco Bay Area and have a significant employee population located there and in other high expense locations. Moreover, we may face new and unanticipated difficulties in attracting, retaining and motivating employees in connection with the recent change of our headquarters to Scottsdale, Arizona, effective January 1, 2021. If we are unable to attract and retain qualified executives and employees, or to successfully integrate any newly-hired personnel within our organization, we may be unable to achieve our operating objectives, which could negatively impact our financial performance and results of operations.
Restructuring
We continue to restructure and realign our cost base with current and anticipated future market conditions. Significant risks associated with these actions that may impair our ability to achieve the anticipated cost reductions or that may disrupt our business include delays in the implementation of anticipated workforce reductions in highly regulated locations outside of the U.S. and the failure to meet operational targets due to the loss of key employees. In addition, our ability to achieve the anticipated cost savings and other benefits from these actions within the expected timeframe is subject to many estimates and assumptions. These estimates and assumptions are subject to significant economic, competitive and other uncertainties, some of which are beyond our control. If these estimates and assumptions are incorrect, if we experience delays, or if other unforeseen events occur, our business and results of operations could be adversely affected.
We face a number of risks related to our strategic transactions.
Our strategy continues to include periodic acquisitions and divestitures of businesses and technologies. Strategic transactions of this nature involve numerous risks, including the following:
•the impact of the recent COVID-19 pandemic, and any other adverse public health developments, epidemic disease or other pandemic in the countries in which we operate or our customers are located, including regional quarantines restricting the movement of people or goods, reductions in labor supply or staffing, the closure of facilities to protect employees, including those of our customers, disruptions to global supply chains and our and our suppliers’ ability to deliver materials and products on a timely or cost-effective basis, shipment, acceptance or verification delays, the resulting overall significant volatility and disruption of financial markets, and economic instability affecting customer spending patterns;
•inadequate internal control procedures and disclosure controls to comply with the requirements of Section 404 of the Sarbanes-Oxley Act of 2002, or poor integration of a target company’s or business’s procedures and controls;
•diversion of management’s attention from normal daily operations of the business;
•potential difficulties in completing projects associated with in-process R&D;
•difficulties in entering markets in which we have no or limited prior experience and where competitors have stronger market positions;
•difficulties in obtaining or providing sufficient transition services and accurately projecting the time and cost associated with providing these services;
•an acquisition may not further our business strategy as we expected or we may overpay for, or otherwise not realize the expected return on, our investments;
•expected earn-outs may not be achieved in the time frame or at the level expected or at all;
•we may not be able to recognize or capitalize on expected growth, synergies or cost savings;
•insufficient net revenue to offset increased expenses associated with acquisitions;
•potential loss of key employees of the acquired companies; and
•difficulty in forecasting revenues and margins.
Acquisitions may also cause us to:
•issue common stock that would dilute our current stockholders’ percentage ownership and may decrease earnings per share;
•assume liabilities, some of which may be unknown at the time of the acquisitions;
•record goodwill and non-amortizable intangible assets that will be subject to impairment testing and potential periodic impairment charges;
•incur additional debt to finance such acquisitions;
•incur amortization expenses related to certain intangible assets; or
•acquire, assume, or become subject to litigation related to the acquired businesses or assets.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
None.
Item 3. Defaults Upon Senior Securities
None.
Item 4. Mine Safety Disclosures
None.
Item 5. Other Information
None.
Item 6. Exhibits
The following documents are filed as Exhibits to this report:
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| | | | Incorporated by Reference | | Filed | | Furnished |
| Exhibit No. | | Exhibit Description | | Form | | Exhibit | | Filing Date | | Herewith | | Not Filed |
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| 101.SCH | | Inline XBRL Taxonomy Extension Schema | | | | | | | | X | | |
| 101.CAL | | Inline XBRL Taxonomy Extension Calculation Linkbase Document | | | | | | | | X | | |
| 101.DEF | | Inline XBRL Taxonomy Extension Definition Linkbase Document | | | | | | | | X | | |
| 101.LAB | | Inline XBRL Taxonomy Extension Label Linkbase Document | | | | | | | | X | | |
| 101.PRE | | Inline XBRL Taxonomy Extension Presentation Linkbase Document | | | | | | | | X | | |
| 104 | | Cover Page Interactive Data File - (formatted as Inline XBRL and contained in Exhibit 101)
| | | | | | | | X | | |
****Portions of this exhibit have been omitted pursuant to confidential treatment.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
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Date: November 10, 2020February 9, 2021 | VIAVI SOLUTIONS INC. |
| (Registrant) |
| By: | /s/ AMAR MALETIRAPAM AVENT |
| Name: | Amar MaletiraPam Avent |
| Title: | Executive Vice President andInterim Chief Financial and Accounting Officer |
| | (Duly Authorized Officer and Principal Financial and Accounting Officer) |