SEMTECH CORPORATION The following "Management's Discussion and Analysis of Financial Condition and Results of Operations" should be read in conjunction with our interim unaudited condensed consolidated financial statements and the accompanying notes included in Part I, Item 1 of this Quarterly Report on Form 10-Q (this "Quarterly Report"), and the "Special Note Regarding Forward-Looking and Cautionary Statements" in this Quarterly Report. OverviewSemtech Corporation (together with its consolidated subsidiaries, the "Company", "we", "our", or "us") designs, develops, manufactures and markets high-performance analog and mixed signal semiconductors and advanced algorithms. We operate and account for results in one reportable segment through three operating segments, comprised of our product lines: Signal Integrity, Wireless and Sensing, and Protection. Signal Integrity. We design, develop and market a portfolio of optical data communications and video transport products used in a wide variety of infrastructure and industrial applications. Our comprehensive portfolio of integrated circuits ("ICs") for data centers, enterprise networks, passive optical networks ("PON"), and wireless base station optical transceivers and high-speed interfaces ranges from 100Mbps to 800Gbps and supports key industry standards such as Fibre Channel, Infiniband, Ethernet, PON and synchronous optical networks. Our video products offer advanced solutions for next generation high-definition broadcast applications, as well as highly differentiated video-over-IP technology for professional audio video applications. Wireless and Sensing. We design, develop and market a portfolio of specialized radio frequency products used in a wide variety of industrial, medical and communications applications, and specialized sensing products used in industrial and consumer applications. Our wireless products, which include our LoRa® devices and wireless radio frequency technology, feature industry leading and longest range industrial, scientific and medical radio, enabling a lower total cost of ownership and increased reliability in all environments. These features make these products particularly suitable for machine to machine and Internet-of-Things ("IoT") applications. Our unique sensing technology enables proximity sensing and advanced user interface solutions for our mobile and consumer products. Our wireless and sensing products can be found in a broad range of applications in the industrial, medical, and consumer markets. We also design, develop, and market power product devices that control, alter, regulate, and condition the power within electronic systems focused on the LoRa and IoT infrastructure segment. The highest volume product types within this category are switching voltage regulators, combination switching and linear regulators, smart regulators, isolated switches, and wireless charging. Protection. We design, develop and market high-performance protection devices, which are often referred to as transient voltage suppressors ("TVS"). TVS devices provide protection for electronic systems where voltage spikes (called transients), such as electrostatic discharge, electrical over stress or secondary lightning surge energy, can permanently damage sensitive ICs. Our portfolio of protection solutions include filter and termination devices that are integrated with the TVS device. Our products provide robust protection while preserving signal integrity in high-speed communications, networking and video interfaces. These products also operate at very low voltage. Our protection products can be found in a broad range of applications including smart phones, LCD and organic light-emitting diode TVs and displays, set-top boxes, monitors and displays, tablets, computers, notebooks, base stations, routers, automobile and industrial instruments. Our interim unaudited condensed consolidated balance sheets are referred to herein as the "Balance Sheets" and interim unaudited condensed consolidated statements of income are referred to herein as the "Statements of Income." Our net sales by product line were as follows: Three Months Ended
Six Months Ended
August 1,
(in thousands) 2021 July 26, 2020 August 1, 2021 July 26, 2020
Signal Integrity $ 73,087 $ 71,645 $ 139,782 $ 131,574
Wireless and Sensing 62,593 38,830 121,100 71,788
Protection 49,324 33,185 94,494 73,000
Total $ 185,004 $ 143,660 $ 355,376 $ 276,362
We design, develop and market a wide range of products for commercial
applications, the majority of which are sold into the infrastructure, high-end
consumer and industrial end markets.
Infrastructure: data centers, PON, base stations, optical networks, servers,
carrier networks, switches and routers, cable modems, wireless local area
network ("LAN") and other communication infrastructure equipment.
High-End Consumer: smartphones, tablets, wearables, desktops, notebooks, and
other handheld products, wireless charging, set-top boxes, digital televisions,
monitors and displays, digital video recorders and other consumer equipment.
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Industrial: IoT applications, analog and digital video broadcast equipment,
video-over-IP solutions, automated meter reading, smart grid, wireless charging,
military and aerospace, medical, security systems, automotive, industrial and
home automation and other industrial equipment.
Our end customers are primarily original equipment manufacturers that produce
and sell electronics.
Impact of COVID-19
The COVID-19 pandemic has significantly affected health and economic conditions
throughout the United States ("U.S.") and the rest of the world including Asia ,
where a significant percentage of our customers, suppliers, third party
foundries and subcontractors are located. As a result of the pandemic, certain
of our facilities and the third-party foundries and assembly and test
contractors to which we outsource our manufacturing functions, have had to
periodically reduce or suspend operations. The disruption experienced during
such closures has resulted in reduced production of our products, delays for
delivery of our products to our customers, and reduced ability to receive
supplies, which have had and may continue to have, individually and in the
aggregate, an adverse effect on our results.
Currently, customer demand remains strong and supply tight, with many of our
suppliers running at or near capacity and our customers competing for the
limited supply. While we have increased our inventory levels to prepare for our
strong backlog of orders, we cannot provide assurance that we will have
sufficient inventory if this high level of demand is sustained over the longer
term. In addition, the prices to obtain raw materials and convert them into the
necessary inventory have increased in certain cases, and may continue to
increase. While we have been largely successful with passing on selective price
increases to our customers, we cannot assure you that all future, potential
price increases can be absorbed through increased pricing to our customers.
We believe we have good visibility going into the third quarter of fiscal year
2022; however, it is unknown how much of the increased demand reflects real end
market strength. We believe the general supply chain constraints in the industry
may be motivating certain customers to increase their orders and inventory
levels to protect against the supply risk. To the extent that this cautionary
purchasing is occurring, we could experience a decrease in future demand as
potential excess inventory chain is worked down.
Factors Affecting Our Performance
Most of our sales to customers are made on the basis of individual customer
purchase orders. Many customers include cancellation provisions in their
purchase orders. Trends within the industry toward shorter lead-times and
"just-in-time" deliveries have reduced our ability to predict future shipments.
As a result, we generally rely on orders received and shipped within the same
quarter for a significant portion of our sales. As a result of current macro
conditions where demand is exceeding supply and we are seeing global shortages,
lead times may continue to expand resulting in fewer orders being shipped and
received in the same quarter. Orders received and shipped in the second quarters
of fiscal years 2022 and 2021 represented 3% and 24% of net sales, respectively.
Sales made directly to customers during the second quarters of fiscal years 2022
and 2021 were 13% and 19% of net sales, respectively. The remaining sales were
made through independent distributors. The decline in direct sales is due to
customers electing to leverage the value of distribution to better manage their
supply chain.
Our business relies on foreign-based entities. Many of our third-party
subcontractors and suppliers, including third-party foundries that supply
silicon wafers, are located in foreign countries including Taiwan and China .
Foreign sales constituted approximately 91% and 91% of our net sales during the
second quarters of fiscal years 2022 and 2021, respectively. Approximately 81%
and 80% of our sales during the second quarters of fiscal years 2022 and 2021,
respectively, were to customers located in the Asia-Pacific region . The
remaining foreign sales were primarily to customers in Europe , Canada and
Mexico . Doing business in foreign locations also subjects us to export
restrictions and trade laws, which may limit our ability to sell to certain
customers. For example, the U.S. Department of Commerce expanded its
restrictions on certain technology sold to or for Huawei in 2020, which
adversely impacted our sales to this customer.
We use several metrics as indicators of future potential growth. The indicators
that we believe best correlate to potential future sales growth are design wins
and new product releases. There are many factors that may cause a design win or
new product release not to result in sales, including a customer's decision not
to go to system production, a change in a customer's perspective regarding a
product's value or a customer's product failing in the end market. As a result,
although a design win or new product introduction is an important step towards
generating future sales, it does not inevitably result in us being awarded
business or receiving a purchase commitment.
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Results of Operations
The following table sets forth, for the periods indicated, our interim unaudited
condensed consolidated statements of income expressed as a percentage of net
sales.
Three Months Ended Six Months Ended
August 1, 2021 July 26, 2020 August 1, 2021 July 26, 2020
Net sales 100.0 % 100.0 % 100.0 % 100.0 %
Cost of sales 37.6 % 38.6 % 38.0 % 38.8 %
Gross profit 62.4 % 61.4 % 62.0 % 61.2 %
Operating costs and expenses:
Selling, general and administrative 22.7 % 26.6 % 22.7 % 26.4 %
Product development and engineering 19.2 % 20.3 % 20.3 % 20.6 %
Intangible amortization 0.7 % 1.4 % 0.7 % 1.8 %
Total operating costs and expenses 42.6 % 48.4 % 43.8 % 48.7 %
Operating income 19.8 % 13.1 % 18.2 % 12.5 %
Interest expense (0.6) % (0.9) % (0.7) % (1.0) %
Non-operating income (expense), net 0.1 % (0.1) % 0.1 % 0.1 %
Investment impairments and credit loss reserves (0.3) % (1.0) % (0.2) % (1.9) %
Income before taxes and equity in net gains
(losses) of equity method investments 19.0 % 11.0 % 17.4 % 9.7 %
Provision (benefit) for income taxes 1.6 % (0.3) % 1.7 % 0.3 %
Net income before equity in net gains (losses) of
equity method investments 17.4 % 11.3 % 15.7 % 9.4 %
Equity in net gains (losses) of equity method
investments 0.4 % (0.1) % 0.2 % (0.1) %
Net income 17.8 % 11.2 % 15.9 % 9.3 %
Net loss attributable to noncontrolling interest - % - % - % - %
Net income attributable to common stockholders 17.8 % 11.2 % 15.9 % 9.3 %
Percentages may not add precisely due to
rounding.
Our regional mix of income (loss) from continuing operations before taxes and equity in net gains (losses) of equity method investments was as follows:
Three Months Ended Six Months Ended
(in thousands) August 1, 2021 July 26, 2020 August 1, 2021 July 26, 2020
Domestic $ (6,623) $ (10,125) $ (12,108) $ (17,012)
Foreign 41,843 25,968 73,946 43,857
Total $ 35,220 $ 15,843 $ 61,838 $ 26,845 Domestic performance from continuing operations includes higher levels of
share-based compensation compared to foreign operations.
Comparison of the Three Months Ended
Three Months Ended
(in thousands, except percentages) August 1, 2021 July 26, 2020 Infrastructure$ 67,583 37 %$ 68,129 47 % High-End Consumer 59,212 32 % 31,706 22 % Industrial 58,209 31 % 43,825 31 % Total$ 185,004 100 %$ 143,660 100 % Net Sales Net sales for the second quarter of fiscal year 2022 were$185.0 million , an increase of 28.8% compared to$143.7 million for 29 -------------------------------------------------------------------------------- the second quarter of fiscal year 2021. Net sales from our high-end consumer end market increased$27.5 million primarily driven by an approximately$15 million increase in our proximity sensing products. We experienced a slight decrease of$0.5 million in net sales from our infrastructure end market, primarily driven by reduced data center demand by cloud and hyperscale providers, partially offset by strong 10G PON sales. Our industrial end market increased$14.4 million versus the prior year primarily due to an approximately$9 million increase in LoRa-enabled product sales, as we gained traction in the ever-expanding range of IoT applications. Based on booking trends and our backlog entering the quarter, we estimate net sales for the third quarter of fiscal year 2022 to be between$188.0 million and$198.0 million . The range of guidance reflects continued uncertainty regarding macro-related events and those associated with the COVID-19 pandemic discussed above. Gross Profit For the second quarter of fiscal year 2022, gross profit increased to$115.4 million from$88.3 million for the second quarter of fiscal year 2021 as a result of higher sales. Gross margins were 62.4% for the second quarter of fiscal year 2022 compared to 61.4% for the second quarter of fiscal year 2021, reflecting a more favorable product mix. For the third quarter of fiscal year 2022, we expect our gross margins to be in the range of 62.4% to 63.4%. Operating Costs and Expenses Three Months
Ended
(in thousands, except percentages) August 1, 2021 July 26, 2020 Change
Selling, general and administrative
35,497 45 % 29,220 42 % 27 %
Intangible amortization 1,298 2 % 2,020 3 % (47) %
Total operating costs and expenses
Selling, General and Administrative Expenses
Selling, general and administrative ("SG&A") expenses increased $3.7 million in
the second quarter of fiscal year 2022 compared to the second quarter of fiscal
year 2021 primarily as a result of an approximately $3 million increase in
staffing-related costs, including performance-based compensation.
Product Development and Engineering Expenses
Product development and engineering expenses increased $6.3 million in the
second quarter of fiscal year 2022 compared to the second quarter of fiscal year
2021 as a result of fluctuations in the timing of development activities and an
approximately $3 million increase in staffing-related costs. The levels of
product development and engineering expenses reported in a fiscal period can be
significantly impacted, and therefore experience period over period volatility,
by the number of new product tape-outs and by the timing of recoveries from
non-recurring engineering services, which are typically recorded as a reduction
to product development and engineering expense.
Intangible Amortization
Intangible amortization was $1.3 million and $2.0 million for the second
quarters of fiscal years 2022 and 2021, respectively. This decrease was
primarily due to certain finite-lived intangible assets associated with the
acquisition of Gennum Corporation that became fully amortized during fiscal year
2021.
Interest Expense
Interest expense, including amortization of debt discounts and issuance costs,
was $1.2 million and $1.3 million for the second quarters of fiscal years 2022
and 2021, respectively. This decrease was primarily due to lower overall debt
levels.
Investment Impairments and Credit Loss Reserves
During the second quarter of fiscal year 2022, investment impairments and credit
loss reserves totaled a loss of $0.5 million due to adjustments to our reserve
for current expected credit losses. During the second quarter of fiscal year
2021, investment impairments and credit loss reserves totaled a loss of $1.5
million and primarily reflected an other-than-temporary impairment of a cost
method equity investment.
Provision (Benefit) for Income Taxes
The effective tax rates for the second quarters of fiscal years 2022 and 2021
were a provision rate of 8.3% and a benefit rate of 2.6%, respectively. In the
second quarter of fiscal year 2022, we recorded a provision of $3.0 million ,
compared to an income tax benefit of $0.4 million in the second quarter of
fiscal year 2021. The effective tax rate in the second quarters of fiscal years
2022 and 2021 differ from the statutory federal income tax rate of 21% primarily
due to a regional mix of income, excess tax
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benefits from share-based compensation, withholding taxes on certain foreign
earnings and research and development tax credits. The effective tax rate in the
second quarter of fiscal year 2021 benefited from one-time return-to-provision
adjustments.
As a global organization, we are subject to audit by taxing authorities in
various jurisdictions. To the extent that an audit, or the closure of a statute
of limitations, results in adjusting our reserves for uncertain tax positions,
our effective tax rate could experience extreme volatility since any adjustment
would be recorded as a discrete item in the period of adjustment.
Comparison of the Six Months Ended August 1, 2021 and July 26, 2020
The following table summarizes our net sales by major end market:
Six Months Ended
(in thousands, except percentages) August 1, 2021 July 26, 2020
Infrastructure $ 128,953 36 % $ 126,167 46 %
High-End Consumer 113,028 32 % 67,186 24 %
Industrial 113,395 32 % 83,009 30 %
Total $ 355,376 100 % $ 276,362 100 %
Net Sales
Net sales for the first six months of fiscal year 2022 were $355.4 million , an
increase of 28.6% compared to $276.4 million for the first six months of fiscal
year 2021. During the first six months of fiscal year 2022, we experienced
strong demand across all three of our end markets compared to the prior year
when our net sales were adversely impacted by delays in certain shipments of our
products due to COVID-19 related shutdowns, including certain subcontractors in
Malaysia . Net sales from our high-end consumer end market increased $45.8
million primarily driven by an approximately $28 million increase in our
proximity sensing products. Net sales from our industrial end market increased
$30.4 million versus the prior year primarily due to an approximately $21
million increase in LoRa-enabled product sales, as we gained traction in the
ever expanding range of IoT applications. Net sales from our infrastructure end
market increased $2.8 million driven by an approximately $14 million increase in
PON sales, partially offset by an approximately $9 million decline in data
center demand by cloud and hyperscale providers.
Gross Profit
For the first six months of fiscal year 2022, gross profit increased to $220.3
million from $169.0 million for the first six months of fiscal year 2021 as a
result of higher sales. Gross margins were 62.0% for the first six months of
fiscal year 2022 compared to 61.2% for the first six months of fiscal year 2021,
reflecting a more favorable product mix.
Operating Costs and Expenses
Six Months Ended
(in thousands, except percentages) August 1, 2021 July 26, 2020 Change
Selling, general and administrative $ 80,781 52 % $ 72,855 54 % 11 %
Product development and engineering 72,287 46 % 56,806 42 % 27 %
Intangible amortization 2,596 2 % 4,860 4 % (47) %
Changes in the fair value of contingent
earn-out obligations - - % (33) - % 100 %
Total operating costs and expenses $ 155,664 100 % $ 134,488 100 % 16 %
Selling, General and Administrative Expenses
SG&A expenses increased $7.9 million for the first six months of fiscal year
2022 compared to the first six months of fiscal year 2021 primarily as a result
of an approximately $7 million increase in staffing-related costs, including
performance-based compensation.
Product Development and Engineering Expenses
Product development and engineering expenses increased $15.5 million in the
first six months of fiscal year 2022 compared to the first six months of fiscal
year 2021 as a result of fluctuations in the timing of development activities,
an approximately $5 million increase in staffing-related costs, including
performance-based compensation and an approximately $5 million increase in
operating supplies and contracted research. The levels of product development
and engineering expenses reported in a fiscal period can be significantly
impacted, and therefore experience period-over-period volatility, by the number
of new product tape-outs and by the timing of recoveries from non-recurring
engineering services, which are typically recorded as a reduction to product
development and engineering expense.
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Intangible Amortization
Intangible amortization was $2.6 million and $4.9 million for the first six
months of fiscal years 2022 and 2021, respectively. This decrease was primarily
due to certain finite-lived intangible assets associated with the acquisition of
Gennum Corporation that became fully amortized during fiscal year 2021.
Changes in the Fair Value of Contingent Earn-out Obligations
The change in the fair value of contingent earn-out obligations for the first
six months of fiscal year 2021 reflects the difference between the final
earn-out targets achieved for Cycleo SAS in fiscal year 2021 and the forecasted
achievement level at the end of fiscal year 2020.
Interest Expense
Interest expense, including amortization of debt discounts and issuance costs,
was $2.4 million and $2.8 million for the first six months of fiscal years 2022
and 2021, respectively. This decrease was primarily due to lower overall debt
levels.
Investment Impairments and Credit Loss Reserves
During the first six months of fiscal year 2022, investment impairments and
credit loss reserves totaled a loss of $0.7 million due to adjustments to our
reserve for current expected credit losses. During the first six months of
fiscal year 2021, investment impairments and credit loss reserves totaled a loss
of $5.1 million , which reflects $2.4 million of adjustments to our reserve for
current expected credit losses, which were, in-part, due to the impact of the
COVID-19 pandemic on early-stage development companies. The remaining loss
relates to other-than-temporary impairment on three of our equity investments.
Provision for Income Taxes
The effective tax rates for the first six months of fiscal years 2022 and 2021
were a provision rate of 9.8% and a provision rate of 3.5%, respectively. In the
first six months of fiscal year 2022, we recorded income tax expense of $6.2
million , compared to income tax expense of $0.9 million in the first six months
of fiscal year 2021. The effective tax rate in the first six months of fiscal
year 2021 benefited from one-time return-to-provision adjustments. The effective
tax rate in the first six months of fiscal years 2022 and 2021 differs from the
statutory federal income tax rate of 21% primarily due to regional mix of
income, excess tax benefits from share-based compensation, return-to-provision
adjustments, withholding taxes on certain foreign earnings and research and
development tax credits.
Liquidity and Capital Resources
Our capital requirements depend on a variety of factors including, but not
limited to, the rate of increase or decrease in our existing business base; the
success, timing and amount of investment required to bring new products to
market; sales growth or decline; potential acquisitions; the general economic
environment in which we operate; and our ability to generate cash flow from
operations, which are more uncertain as a result of the COVID-19 pandemic and
its impact on the general economy. Our liquidity needs during this uncertain
time will depend on multiple factors, including our ability to continue
operations and production of our products, given the supply constraints, the
COVID-19 pandemic's effects on our customers, the availability of sufficient
amounts of financing and our operating performance.
We believe that our cash on hand, cash available from future operations and
available borrowing capacity under our Credit Facility (as defined below) are
sufficient to meet liquidity requirements for at least the next 12 months,
including funds needed for our material cash requirements. As of August 1, 2021 ,
we had $262.7 million in cash and cash equivalents and $423.0 million of undrawn
capacity on our Credit Facility. Over the longer-term, we believe our strong
cash-generating business model will continue to provide adequate liquidity to
fund our normal operations, which have minimal capital intensity. To the extent
that we enter into acquisitions or strategic partnerships, we may be required to
raise additional capital through debt issuances or equity offerings. In
addition, we expect to refinance our Credit Facility ahead of its maturity in
November 2024 . While we have not had issues securing favorable financing
historically, there is no assurance that we will be able to refinance or secure
additional capital at favorable terms, or at all in the future.
A meaningful portion of our capital resources, and the liquidity they represent,
are held by our foreign subsidiaries. As of August 1, 2021 , our foreign
subsidiaries held approximately $253.6 million of cash and cash equivalents,
compared to $182.9 million at January 31, 2021 .
We expect our future cash uses will be for capital expenditures, repurchases of
our common stock and, potentially, acquisitions and other investments that
support achievement of our business strategies. We expect to fund those cash
requirements through our cash from operations and borrowings against our Credit
Facility.
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Credit Facility
On November 7, 2019 , we, with certain of our domestic subsidiaries as
guarantors, entered into an amended and restated credit agreement (the "Credit
Agreement") with the lenders party thereto and HSBC Bank USA, National
Association , as administrative agent, swing line lender and letter of credit
issuer. The Credit Agreement provides $600.0 million in borrowing capacity of
revolving loans under the senior secured first lien credit facility (the "Credit
Facility"). The Credit Facility matures on November 7, 2024 .
In the first six months of fiscal years 2022 and 2021, we made payments on our
Credit Facility that totaled $4.0 million and $8.0 million , respectively. As of
August 1, 2021 , we had $177.0 million of outstanding borrowings on our Credit
Facility, which had $423.0 million of undrawn capacity.
The Credit Agreement provides that, subject to certain customary conditions,
including obtaining commitments with respect thereto, we may request the
establishment of one or more term loan facilities and/or increases to the
revolving loans in a principal amount not to exceed (a) $300.0 million , plus (b)
an unlimited amount, so long as our consolidated leverage ratio, determined on a
pro forma basis, does not exceed 3.00 to 1.00. However, the lenders are not
required to provide such increase upon our request.
Interest on loans made under the Credit Facility in U.S. Dollars accrues, at our
option, at a rate per annum equal to (1) the Base Rate (as defined below) plus a
margin ranging from 0.25% to 1.25% depending upon our consolidated leverage
ratio or (2) LIBOR (determined with respect to deposits in U.S. Dollars) for an
interest period to be selected by us plus a margin ranging from 1.25% to 2.25%
depending upon our consolidated leverage ratio (such margin, the "Applicable
Margin"). The "Base Rate" is equal to a fluctuating rate equal to the highest of
(a) the prime rate of the Administrative Agent, (b) 0.50% above the federal
funds effective rate published by the Federal Reserve Bank of New York and (c)
one-month LIBOR (determined with respect to deposits in U.S. Dollars), plus
1.00%. Interest on loans made under the Credit Facility in Alternative
Currencies (as defined in the Credit Agreement) accrues at a rate per annum
equal to LIBOR (determined with respect to deposits in the applicable
Alternative Currency) (other than loans made in Canadian Dollars, for which a
special reference rate for Canadian Dollars applies) for an interest period to
be selected by us plus the Applicable Margin.
In the first quarter of fiscal year 2021, we entered into an interest rate swap
agreement with a three-year term to hedge the variability of interest payments
on the first $150.0 million of debt outstanding under our Credit Facility. Based
on our current leverage ratio as of August 1, 2021 , interest payments on the
first $150.0 million of debt outstanding under our Credit Facility are fixed at
1.9775%.
All our obligations under the Credit Agreement are unconditionally guaranteed by
all of our direct and indirect domestic subsidiaries, other than certain
excluded subsidiaries, including, but not limited to, any domestic subsidiary
the primary assets of which consist of equity or debt of non-U.S. subsidiaries,
certain immaterial non-wholly-owned domestic subsidiaries and subsidiaries that
are prohibited from providing a guarantee under applicable law or that would
require governmental approval to provide such guarantee. The Company and the
guarantors have also pledged substantially all of their assets to secure their
obligations under the Credit Agreement.
No amortization is required with respect to the revolving loans and we may
voluntarily prepay borrowings at any time and from time to time, without premium
or penalty, other than customary "breakage costs" and fees for LIBOR-based
loans.
The Credit Agreement contains customary covenants, including limitations on our
ability to, among other things, incur indebtedness, create liens on assets,
engage in certain fundamental corporate changes, make investments, repurchase
stock, pay dividends or make similar distributions, engage in certain affiliate
transactions, or enter into agreements that restrict our ability to create
liens, pay dividends or make loan repayments. In addition, we must comply with
financial covenants, including maintaining a maximum consolidated leverage
ratio, determined as of the last day of each fiscal quarter, of 3.50 to 1.00 or
less, provided that, such maximum consolidated leverage ratio may be increased
to 4.00 to 1.00 for the four consecutive fiscal quarters ending on or after the
date of consummation of a permitted acquisition that constitutes a "Material
Acquisition" under the Credit Agreement, subject to the satisfaction of certain
conditions. As of August 1, 2021 , we were in compliance with the covenants in
our Credit Agreement.
The Credit Agreement also contains customary provisions pertaining to events of
default. If any event of default occurs, the obligations under the Credit
Agreement may be declared due and payable, terminated upon written notice to us
and existing letters of credit may be required to be cash collateralized. On
August 11, 2021 , we entered into an amendment to the Credit Agreement in order
to, among other things, (i) provide for contractual fallback language for LIBOR
replacement to reflect the Alternative Reference Rates Committee hardwired
approach and (ii) incorporate certain provisions that clarify the rights of the
administrative agent to recover from lenders or other secured parties erroneous
payments made to such lenders or secured parties.
Capital Expenditures and Research and Development
We incur significant expenditures in order to fund the development, design and
manufacture of new products. We intend to
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continue to focus on those areas that have shown potential for viable and
profitable market opportunities, which may require additional investment in
equipment and the hiring of additional design and application engineers aimed at
developing new products. Certain of these expenditures, particularly the
addition of design engineers, do not generate significant payback in the
short-term. We plan to finance these expenditures with cash generated by our
operations and our existing cash balances.
Purchases under our Stock Repurchase Program
We currently have in effect a stock repurchase program that was initially
approved by our Board of Directors in March 2008 . On March 11, 2021 , the
Company's Board of Directors approved the expansion of the stock repurchase
program by an additional $350.0 million . This program represents one of our
principal efforts to return value to our stockholders. We repurchased 1,000,461
shares under this program in the first six months of fiscal year 2022 for $67.0
million . In the first six months of fiscal year 2021, we repurchased 1,087,913
shares under this program for $42.4 million . As of August 1, 2021 , the remaining
authorization under this program was $322.2 million . We intend to fund
repurchases under the program from cash on hand. We have no obligation to
repurchase any shares under the program and may suspend or discontinue it at any
time.
Working Capital
Working capital, defined as total current assets less total current liabilities,
fluctuates depending on end-market demand and our effective management of
certain items such as receivables, inventory and payables. In times of
escalating demand, our working capital requirements may increase as we purchase
additional manufacturing materials and increase production. In addition, our
working capital may be affected by potential acquisitions and transactions
involving our debt instruments. Although investments made to fund working
capital will reduce our cash balances, these investments are necessary to
support business and operating initiatives. Our working capital, excluding cash
and cash equivalents, was $105.8 million and $96.3 million as of August 1, 2021
and January 31, 2021 , respectively. Our working capital, including cash and cash
equivalents, was $368.5 million and $365.2 million as of August 1, 2021 and
January 31, 2021 , respectively.
Cash Flows
One of our primary goals is to continually improve the cash flows from our
existing operating activities. Additionally, we will continue to seek to
maintain and improve our existing business performance with capital expenditures
and, potentially, acquisitions and other investments that support achievement of
our business strategies. Acquisitions may be made for either cash or stock
consideration, or a combination of both.
In summary, our cash flows for each period were as follows:
Six Months Ended
(in thousands) August 1, 2021 July 26, 2020
Net cash provided by operating activities
(15,867) (20,981)
Net cash used in financing activities (75,966)
(54,186)
Net decrease in cash and cash equivalents
Operating Activities Net cash provided by operating activities is driven by net income adjusted for non-cash items and fluctuations in operating assets and liabilities. Operating cash flows for the first six months of fiscal year 2022 compared to the first six months of fiscal year 2021 were favorably impacted by a 28.6% increase in net sales and unfavorably impacted by an$11.0 million incremental increase in inventory spend, a$15.5 million increase in product development and engineering expenses due to higher staffing-related costs and fluctuations in the timing of development activities, and a$7.9 million increase in SG&A expenses due to higher staffing-related costs. Investing Activities Net cash used in investing activities was primarily attributable to capital expenditures and purchases of investments, net of proceeds from sales of property, plant and equipment and proceeds from sales of investments. Capital expenditures were$12.7 million for the first six months of fiscal year 2022, compared to$14.6 million for the first six months of fiscal year 2021. In the first six months of fiscal years 2022 and 2021, we made significant investments to update and expand our production capabilities. In the first six months of fiscal year 2022, we paid$3.2 million for strategic investments, including investments in companies that are enabling the LoRa and LoRaWAN®-based ecosystem, compared to$6.7 million of investments in the first six months of fiscal year 2021. 34 -------------------------------------------------------------------------------- Financing Activities Net cash used in financing activities is primarily attributable to repurchases of outstanding common stock, payments related to employee share-based compensation payroll taxes and principal payments related to our long-term debt, offset by proceeds from stock option exercises. In the first six months of fiscal year 2022, we paid$7.3 million for employee share-based compensation payroll taxes and received$2.3 million in proceeds from the exercise of stock options, compared to payments of$6.8 million for employee share-based compensation payroll taxes and proceeds of$3.0 million from the exercise of stock options in the first six months of fiscal year 2021. We do not directly control the timing of the exercise of stock options. Such exercises are independent decisions made by grantees and are influenced most directly by the stock price and the expiration dates of stock option awards. Such proceeds are difficult to forecast, resulting from several factors that are outside our control. We believe that such proceeds will remain a nominal source of cash in the future. Critical Accounting Estimates Our critical accounting estimates are disclosed in "Management's Discussion and Analysis of Financial Condition and Results of Operations" included in Item 7 of our Annual Report on Form 10-K. There have been no significant changes to our policies during the six months endedAugust 1, 2021 . For a discussion of recent accounting pronouncements, see Note 1 to our interim unaudited condensed consolidated financial statements. Available Information General information about us can be found on our website at www.semtech.com. The information on our website is for informational purposes only and should not be relied on for investment purposes. The information on our website is not incorporated by reference into this Quarterly Report and should not be considered part of this or any other report filed with theSEC . We make available free of charge, either by direct access on our website or by a link to theSEC website, our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), or as soon as reasonably practicable after such reports are electronically filed with, or furnished to, theSEC . Our reports filed with, or furnished to, theSEC are also available directly at theSEC's website at www.sec.gov. ITEM 3.Quantitative and Qualitative Disclosures About Market Risk We are subject to a variety of market risks, including commodity risk and the risks related to foreign currency, interest rates and market performance that are discussed in Item 7A of our Annual Report. Many of the factors that can have an impact on our market risk are external to us, and so we are unable to fully predict them. We considered the historical trends in foreign currency exchange rates and determined that it is reasonably possible that adverse changes in foreign exchange rates of 10% for all currencies could be experienced in the near-term. These reasonably possible adverse changes were applied to our total monetary assets and liabilities denominated in currencies other than our functional currency as of the end of our second quarter of fiscal year 2022. The adverse impact these changes would have had (after taking into account balance sheet hedges only) would not have had a material impact on our income before taxes. We are subject to interest rate risk in connection with the portion of the outstanding debt under our Credit Facility that bears interest at a variable rate as ofAugust 1, 2021 . During fiscal year 2021, we entered into an interest rate swap agreement with a three-year term to hedge the variability of interest payments on the first$150.0 million of debt outstanding under our Credit Facility. Based on our current leverage ratio as ofAugust 1, 2021 , interest payments on the first$150.0 million of our debt outstanding under our Credit Facility are fixed at 1.9775%. See above under "Liquidity and Capital Resources - Credit Facility" for the interest rates applicable toU.S. and Alternative Currencies borrowings under our Credit Facility in excess of$150.0 million . Based upon the amount of our outstanding indebtedness as ofAugust 1, 2021 , a one percentage point increase in LIBOR would not have a material impact on our interest expense as only$27.0 million of our outstanding debt balance remains subject to a floating rate. The Chief Executive of theU.K. Financial Conduct Authority (the "FCA"), which regulates LIBOR, has announced that theFCA will no longer persuade or compel banks to submit rates for the calculation of LIBOR after 2021. ForU.S. dollar LIBOR, publication of the one-week and two-month LIBOR settings will cease afterDecember 31, 2021 , and publication of the overnight and 12-month LIBOR settings will cease afterJune 30, 2023 . Immediately afterJune 30, 2023 , the one-month, three-month and six-monthU.S. dollar LIBOR settings will no longer be representative. Given these changes, the LIBOR administrator has advised that no new contracts usingU.S. dollar LIBOR should be entered into afterDecember 31, 2021 . It is also possible thatU.S. LIBOR will be discontinued or modified prior toJune 30, 2023 . 35 -------------------------------------------------------------------------------- Our Credit Facility provides that, if it is publicly announced that the administrator of LIBOR has ceased or will cease to provide LIBOR, if it is publicly announced by the applicable regulatory supervisor that LIBOR is no longer representative, or if either the administrative agent or lenders holding 50% of the aggregate principal amount of our revolving commitments and term loans elect, we and the administrative agent may amend our Credit Agreement to replace LIBOR with an alternate benchmark rate. This alternative benchmark rate may include a forward-looking term rate that is based on the secured overnight financing rate, also known as SOFR, published by theFederal Reserve Bank of New York . Interest rates also affect our return on excess cash and investments. As ofAugust 1, 2021 , we had$262.7 million of cash and cash equivalents. A majority of our cash and cash equivalents generate interest income based on prevailing interest rates. Interest income, net of reserves, generated by our investments and cash and cash equivalents was not material in the second quarter of fiscal year 2022. A significant change in interest rates would impact the amount of interest income generated from our cash and investments. It would also impact the market value of our investments. Our investments are primarily subject to credit risk. Our investment guidelines prescribe credit quality, permissible investments, diversification, and duration restrictions. These restrictions are intended to limit risk by restricting our investments to high quality debt instruments with relatively short-term durations. Our investment strategy limits investment of new funds and maturing securities toU.S. Treasury , Federal agency securities, high quality money market funds and time deposits with our principal commercial banks. Outside of these investment guidelines, we also invest in a limited amount of debt securities in privately held companies that we view as strategic to our business. For example, many of these investments are in companies that are enabling the LoRa and LoRaWAN®-based ecosystem. We evaluate the credit risk of these investments on a quarterly basis and increased our current credit loss and reserves by$0.7 million in the six months endedAugust 1, 2021 , related to the credit risk on our debt securities investments, resulting in a current expected credit loss reserve balance on our available-for-sale and held-to-maturity debt securities of$4.1 million as ofAugust 1, 2021 . 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 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 theSEC'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. Based on that evaluation, our CEO and CFO concluded that, our disclosure controls and procedures were effective as ofAugust 1, 2021 . Changes in Internal Controls As ofAugust 1, 2021 , there were no changes to our internal control over financial reporting that occurred during the fiscal quarter then ended that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. 36
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