Quarterly Report on Form 10-Q
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

 

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2011

or

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from              to             .

Commission File Number: 001-34791

 

 

MagnaChip Semiconductor Corporation

(Exact name of registrant as specified in its charter)

 

 

 

Delaware   83-0406195

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

c/o MagnaChip Semiconductor S.A.

74, rue de Merl, B.P. 709 L-2146

Luxembourg R.C.S.

Luxembourg B97483

(352) 45-62-62

(Address, zip code, and telephone number, including area code, of registrant’s principal executive offices)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    þ  Yes    ¨  No

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    ¨  Yes    ¨  No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer   ¨    Accelerated filer   ¨
Non-accelerated filer   þ  (Do not check if a smaller reporting company)    Smaller reporting company   ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    ¨  Yes    þ  No

Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court.    þ  Yes    ¨  No

As of March 31, 2011, the registrant had 39,356,749 shares of common stock outstanding.

 

 

 


Table of Contents

MAGNACHIP SEMICONDUCTOR CORPORATION AND SUBSIDIARIES

TABLE OF CONTENTS

 

              Page No.  
PART I FINANCIAL INFORMATION   
  Item 1.   

Interim Consolidated Financial Statements (Unaudited)

     4   
    

MagnaChip Semiconductor Corporation and Subsidiaries Consolidated Balance Sheets as of March 31, 2011 and December 31, 2010

     4   
    

MagnaChip Semiconductor Corporation and Subsidiaries Consolidated Statements of Operations for the Three Months Ended March 31, 2011 and March 31, 2010

     5   
    

MagnaChip Semiconductor Corporation and Subsidiaries Consolidated Statements of Changes in Stockholders’ Equity for the Three Months Ended March 31, 2011 and March 31, 2010

     6   
    

MagnaChip Semiconductor Corporation and Subsidiaries Consolidated Statements of Cash Flows for the Three Months Ended March 31, 2011 and March 31, 2010

     7   
    

MagnaChip Semiconductor Corporation and Subsidiaries Notes to Consolidated Financial Statements

     8   
  Item 2.   

Management’s Discussion and Analysis of Financial Condition and Results of Operations

     24   
  Item 3.   

Quantitative and Qualitative Disclosures About Market Risk

     42   
  Item 4.   

Controls and Procedures

     42   
PART II OTHER INFORMATION   
  Item 1A.   

Risk Factors

     42   
  Item 6.   

Exhibits

     58   
SIGNATURES      59   

 

 

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Table of Contents

FORWARD LOOKING STATEMENTS

The following Management’s Discussion and Analysis of Financial Condition and Results of Operations contain forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, and Section 27A of the Securities Act of 1933, as amended, that involve risks and uncertainties. Forward-looking statements give our current expectations and projections relating to our financial condition, results of operations, plans, objectives, future performance and business. You can identify these statements by the fact that they do not relate strictly to historical or current facts. These statements may include words such as “anticipate,” “estimate,” “expect,” “project,” “intend,” “plan,” “believe” and other words and terms of similar meaning in connection with any discussion of the timing or nature of future operating or financial performance or other events. All statements other than statements of historical facts included in this report that address activities, events or developments that we expect, believe or anticipate will or may occur in the future are forward-looking statements.

These forward-looking statements are largely based on our expectations and beliefs concerning future events, which reflect estimates and assumptions made by our management. These estimates and assumptions reflect our best judgment based on currently known market conditions and other factors relating to our operations and business environment, all of which are difficult to predict and many of which are beyond our control. Although we believe our estimates and assumptions to be reasonable, they are inherently uncertain and involve a number of risks and uncertainties that are beyond our control. In addition, management’s assumptions about future events may prove to be inaccurate. Management cautions all readers that the forward-looking statements contained in this report are not guarantees of future performance, and we cannot assure any reader that those statements will be realized or the forward-looking events and circumstances will occur. Actual results may differ materially from those anticipated or implied in the forward-looking statements due to the factors listed in this section and in “Part II: Item 1A. Risk Factors” in this report.

All forward-looking statements speak only as of the date of this report. We do not intend to publicly update or revise any forward-looking statements as a result of new information or future events or otherwise, except as required by law. These cautionary statements qualify all forward-looking statements attributable to us or persons acting on our behalf.

Statements made in this Quarterly Report on Form 10-Q, unless the context otherwise requires, include the use of the terms “we,” “us,” “our” and “MagnaChip” refer to MagnaChip Semiconductor Corporation and its consolidated subsidiaries. The term “Korea” refers to the Republic of Korea or South Korea.

 

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Table of Contents

PART I—FINANCIAL INFORMATION

 

Item 1. Interim Consolidated Financial Statements (Unaudited)

MAGNACHIP SEMICONDUCTOR CORPORATION AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(Unaudited; in thousands of US dollars, except share data)

 

     March 31,
2011
    December 31,
2010
 

Assets

    

Current assets

    

Cash and cash equivalents

   $ 194,179      $ 172,172   

Accounts receivable, net

     131,020        119,054   

Inventories, net

     73,879        68,435   

Other receivables

     4,006        2,919   

Prepaid expenses

     11,082        8,207   

Other current assets

     9,937        18,920   
                

Total current assets

     424,103        389,707   
                

Property, plant and equipment, net

     179,240        179,012   

Intangible assets, net

     26,154        27,538   

Long-term prepaid expenses

     7,456        8,235   

Other non-current assets

     21,357        21,252   
                

Total assets

   $ 658,310      $ 625,744   
                

Liabilities and Stockholders’ Equity

    

Current liabilities

    

Accounts payable

   $ 74,040      $ 58,264   

Other accounts payable

     10,869        14,645   

Accrued expenses

     43,710        32,635   

Current portion of capital lease obligations

     5,850        5,557   

Other current liabilities

     3,932        5,048   
                

Total current liabilities

     138,401        116,149   
                

Long-term borrowings, net

     246,952        246,882   

Long-term obligations under capital lease

     1,665        3,105   

Accrued severance benefits, net

     91,503        87,778   

Other non-current liabilities

     7,902        8,979   
                

Total liabilities

     486,423        462,893   
                

Commitments and contingencies (Note 14)

    

Stockholders’ equity

    

Common stock, $0.01 par value, 150,000,000 shares authorized, 39,356,749 and 38,401,985 shares issued and outstanding at March 31, 2011 and December 31, 2010, respectively

     394        384   

Additional paid-in capital

     97,812        95,585   

Retained earnings

     94,625        72,157   

Accumulated other comprehensive loss

     (20,944     (5,275
                

Total stockholders’ equity

     171,887        162,851   
                

Total liabilities and stockholders’ equity

   $ 658,310      $ 625,744   
                

The accompanying notes are an integral part of these consolidated financial statements

 

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Table of Contents

MAGNACHIP SEMICONDUCTOR CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited; in thousands of US dollars, except share data)

 

     Three Months Ended  
     March 31,
2011
    March 31,
2010
 

Net sales

   $ 187,921      $ 179,485   

Cost of sales

     131,447        130,127   
                

Gross profit

     56,474        49,358   
                

Selling, general and administrative expenses

     15,401        17,908   

Research and development expenses

     18,498        20,531   

Restructuring and impairment charges

     —          336   

IPO incentive

     12,146        —     
                

Operating income

     10,429        10,583   
                

Other income (expenses)

    

Interest expense, net

     (7,111     (2,049

Foreign currency gain, net

     21,359        21,616   

Other

     166        (52
                
     14,414        19,515   
                

Income before income taxes

     24,843        30,098   
                

Income tax expenses (benefits)

     2,375        (1,003
                

Net income

   $ 22,468      $ 31,101   
                

Earnings per common share—

    

Basic

   $ 0.59      $ 0.82   

Diluted

   $ 0.57      $ 0.81   

Weighted average number of shares—

    

Basic

     38,332,750        37,805,445   

Diluted

     39,570,522        38,441,991   

The accompanying notes are an integral part of these consolidated financial statements

 

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Table of Contents

MAGNACHIP SEMICONDUCTOR CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY

(Unaudited; in thousands of US dollars, except share data)

 

     Common Stock      Additional
Paid-In
Capital
     Retained
Earnings
(Accumulated
deficit)
    Accumulated
Other
Comprehensive
Income (loss)
    Total  
     Shares      Amount            

Three Months Ended March 31, 2011

               

Balance at January 1, 2011

     38,401,985       $ 384       $ 95,585       $ 72,157      $ (5,275   $ 162,851   

Stock-based compensation

     —           —           431         —          —          431   

Issuance of new stock

     950,000         10         1,768         —          —          1,778   

Exercise of stock options

     4,764         —           28         —          —          28   

Comprehensive income:

               

Net Income

     —           —           —           22,468        —          22,468   

Fair valuation of derivatives

     —           —           —           —          2,336        2,336   

Reclassification to net income from accumulated other comprehensive loss related to hedge derivatives

     —           —           —           —          (4,293     (4,293

Foreign currency translation adjustments

     —           —           —           —          (14,267     (14,267

Unrealized gains on investments

     —           —           —           —          555        555   
                     

Total comprehensive income

                  6,799   
                                                   

Balance at March 31, 2011

     39,356,749       $ 394       $ 97,812       $ 94,625      $ (20,944   $ 171,887   
                                                   

Three Months Ended March 31, 2010

               

Balance at January 1, 2010

     38,385,544       $ 384       $ 223,451       $ (1,963   $ (6,182   $ 215,690   

Stock-based compensation

     18,750         —           883         —          —          883   

Comprehensive income:

               

Net income

     —           —           —           31,101        —          31,101   

Fair valuation of derivatives

     —           —           —           —          (2,054     (2,054

Reclassification to net income from accumulated other comprehensive loss related to hedge derivatives

     —           —           —           —          620        620   

Foreign currency translation adjustments

     —           —           —           —          (14,907     (14,907

Unrealized gains on investments

     —           —           —           —          112        112   
                     

Total comprehensive income

                  14,872   
                                                   

Balance at March 31, 2010

     38,404,294       $ 384       $ 224,334       $ 29,138      $ (22,411   $ 231,445   
                                                   

The accompanying notes are an integral part of these consolidated financial statements

 

 

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Table of Contents

MAGNACHIP SEMICONDUCTOR CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited; in thousands of US dollars)

 

     Three Months Ended  
     March 31,
2011
    March 31,
2010
 

Cash flows from operating activities

    

Net income

   $ 22,468      $ 31,101   

Adjustments to reconcile net income to net cash provided by operating activities

    

Depreciation and amortization

     13,903        15,477   

Provision for severance benefits

     2,854        3,166   

Amortization of debt issuance costs and original issue discount

     246        25   

Gain on foreign currency translation, net

     (23,684     (23,478

Gain on disposal of property, plant and equipment, net

     —          (9

Loss on disposal of intangible assets, net

     4        2   

Restructuring and impairment charges

     —          336   

Stock-based compensation

     641        1,473   

Cash used for reorganization items

     —          1,579   

Other

     549        393   

Changes in operating assets and liabilities

    

Accounts receivable

     (9,250     (29,684

Inventories

     (3,467     7,206   

Other receivables

     (1,041     (1,238

Other current assets

     (1,449     (3,659

Deferred tax assets

     548        264   

Accounts payable

     14,289        18,088   

Other accounts payable

     (1,348     (1,612

Accrued expenses

     7,153        3,196   

Other current liabilities

     (1,518     (2,107

Long term other payable

     184        (2,136

Payment of severance benefits

     (1,610     (1,092

Other

     (256     (788
                

Net cash provided by operating activities before reorganization items

     19,216        16,503   
                

Cash used for reorganization items

     —          (1,579
                

Net cash provided by operating activities

     19,216        14,924   
                

Cash flows from investing activities

    

Proceeds from disposal of plant, property and equipment

     —          4   

Purchase of plant, property and equipment

     (6,779     (891

Payment for intellectual property registration

     (165     (152

Decrease in short-term financial instruments

     —          329   

Collection of guarantee deposits

     979        972   

Payment of guarantee deposits

     (1,004     (56

Other

     (44     33   
                

Net cash provided by (used in) investing activities

     (7,013     239   
                

Cash flows from financing activities

    

Proceeds from issuance of common stock

     11,425        —     

Repayment of current portion of long-term debt

     —          (154

Repayment of obligations under capital lease

     (1,562     —     
                

Net cash provided by (used in) financing activities

     9,863        (154

Effect of exchange rates on cash and cash equivalents

     (59     2,754   
                

Net increase in cash and cash equivalents

     22,007        17,763   
                

Cash and cash equivalents

    

Beginning of the period

     172,172        64,925   
                

End of the period

   $ 194,179      $ 82,688   
                

Supplemental cash flow information

    

Cash paid for interest

   $ 5,625      $ 2,035   
                

Cash paid for income taxes

   $ 2,004      $ 1,513   
                

Noncash transactions

    

Deferred offering costs reclassified as reduction of additional paid-in capital

   $ 9,619      $ —     
                

The accompanying notes are an integral part of these consolidated financial statements

 

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Table of Contents

MagnaChip Semiconductor Corporation and Subsidiaries

Notes to Consolidated Financial Statements

(Unaudited; tabular dollars in thousands, except share data)

1. General

The Company

MagnaChip Semiconductor Corporation (together with its subsidiaries, the “Company”) is a Korea-based designer and manufacturer of analog and mixed-signal semiconductor products for high-volume consumer applications. The Company’s business is comprised of three key segments: Display Solutions, Power Solutions and Semiconductor Manufacturing Services. The Company’s Display Solutions products include display drivers for use in a wide range of flat panel displays and mobile multimedia devices. The Company’s Power Solutions products include discrete and integrated circuit solutions for power management in high-volume consumer applications. The Company’s Semiconductor Manufacturing Services segment provides specialty analog and mixed-signal foundry services for fabless semiconductor companies that serve the consumer, computing and wireless end markets.

2. Significant Accounting Policies

Basis of Presentation

The accompanying unaudited interim consolidated financial statements of the Company have been prepared in accordance with generally accepted accounting principles in the United States of America (“US GAAP”). These interim consolidated financial statements include all adjustments consisting only of normal recurring adjustments and the elimination of all intercompany accounts and transactions which are, in the opinion of management, necessary to provide a fair presentation of financial condition and results of operations for the periods presented. These interim consolidated financial statements are presented in accordance with ASC 270, “Interim Reporting,” (“ASC 270”) and, accordingly, do not include all of the information and note disclosures required by US GAAP for complete financial statements. The results of operations for the three months ended March 31, 2011 are not necessarily indicative of the results to be expected for a full year or for any other periods.

The December 31, 2010 balance sheet data was derived from audited financial statements, but does not include all disclosures required by US GAAP.

Recent Accounting Pronouncements

In January 2010, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update 2010-06 (ASU 2010-06), which amends the disclosure requirements of ASC 820, “Fair Value Measurements and Disclosures,” (“ASC 820”) as of January 1, 2010. ASU 2010-06 requires new disclosures for any transfers of fair value into and out of Level 1 and 2 fair value measurements and separate presentation of purchases, sales, issuances and settlements within the reconciliation of Level 3 unobservable inputs. The Company previously adopted ASC 820 on January 1, 2008 and January 1, 2009 for financial assets and liabilities and for nonfinancial assets and liabilities, respectively. ASU 2010-06 is effective for annual and interim periods beginning after December 15, 2009, except for the Level 3 reconciliation which is effective for annual and interim periods beginning after December 15, 2010. The adoption of ASU 2010-06 as of January 1, 2010 did not have a material effect on the Company’s financial condition or results of operations. The adoption of ASU 2010-06 in relation to the Level 3 reconciliation as of January 1, 2011 also did not have a material impact on the Company’s financial condition or results of operations.

3. Completion of Initial Public Offering

Prior to the Company’s initial public offering (“IPO”), the Company’s board of directors and the holders of a majority of its outstanding common units elected to convert the Company from a Delaware limited liability company to a Delaware corporation (the “Corporation”) and to change the Company’s name from MagnaChip Semiconductor LLC to MagnaChip Semiconductor Corporation. The corporate conversion was completed on March 10, 2011. In connection with the corporate conversion, outstanding common units of the Company were automatically converted into shares of common stock of the Corporation, outstanding options to purchase common units of the Company were automatically converted into options to purchase shares of common stock of the Corporation and outstanding warrants to purchase common units of the Company were automatically converted into warrants to purchase shares of common stock of the Corporation, all at a ratio of one share of common stock for eight common units.

 

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MagnaChip Semiconductor Corporation and Subsidiaries

Notes to Consolidated Financial Statements - (Continued)

(Unaudited; tabular dollars in thousands, except share data)

 

On March 16, 2011, the Company also completed an IPO of 9,500,000 shares of common stock at an offering price of $14.00 per share and on March 11, 2011 listed on the NYSE. All shares were sold in the form of depositary shares and each depositary share represented an ownership interest in one share of common stock. Of the 9,500,000 shares, 950,000 shares were newly issued by the Company and 8,550,000 shares were sold by selling stockholders. The Company received $12,369 thousand of net proceeds from the issuance of the new shares of common stock after deducting underwriters’ discounts and commissions, and the Company did not receive any proceeds from the sale of shares of common stock offered by the selling stockholders. The Company incurred $10,591 thousand of IPO expenses that were initially recorded as other current assets and, upon completion of IPO, reclassified as reduction of additional paid-in capital in the consolidated balance sheets.

The Company previously stated an intention to use a part of the net proceeds from the IPO to make incentive payments to all employees, excluding management. The payment of such employee incentives was contingent upon the consummation of the IPO. The Company paid $12,146 thousand of the incentives in March 2011.

 

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MagnaChip Semiconductor Corporation and Subsidiaries

Notes to Consolidated Financial Statements - (Continued)

(Unaudited; tabular dollars in thousands, except share data)

 

4. Inventories

Inventories as of March 31, 2011 and December 31, 2010 consist of the following:

 

     March 31,
2011
    December 31,
2010
 

Finished goods

   $ 10,851      $ 13,529   

Semi-finished goods and work-in-process

     52,920        50,542   

Raw materials

     14,740        9,762   

Materials in-transit

     1,108        1,643   

Less: inventory reserve

     (5,740     (7,041
                

Inventories, net

   $ 73,879      $ 68,435   
                

5. Property, Plant and Equipment

Property, plant and equipment as of March 31, 2011 and December 31, 2010 comprise the following:

 

     March 31,
2011
    December 31,
2010
 

Buildings and related structures

   $ 76,061      $ 73,945   

Machinery and equipment

     122,220        112,398   

Vehicles and others

     8,513        8,007   

Equipment under capital lease

     11,748        11,457   
                
     218,542        205,807   

Less: accumulated depreciation

     (53,726     (41,440

accumulated depreciation on equipment under capital lease

     (1,500     (836

Land

     15,924        15,481   
                

Property, plant and equipment, net

   $ 179,240      $ 179,012   
                

6. Intangible Assets

Intangible assets as of March 31, 2011 and December 31, 2010 are as follows:

 

     March 31,
2011
    December 31,
2010
 

Technology

   $ 20,762      $ 19,969   

Customer relationships

     27,892        27,115   

Intellectual property assets

     5,737        5,444   

In-process research and development

     3,295        3,418   

Less: accumulated amortization

     (31,532     (28,408
                

Intangible assets, net

   $ 26,154      $ 27,538   
                

 

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MagnaChip Semiconductor Corporation and Subsidiaries

Notes to Consolidated Financial Statements - (Continued)

(Unaudited; tabular dollars in thousands, except share data)

 

7. Derivative Financial Instruments

The Company’s Korean subsidiary entered into option, forward and zero cost collar contracts to hedge the risk of changes in the functional-currency-equivalent cash flows attributable to currency rate changes on U.S. dollar denominated revenues.

Details of derivative contracts as of March 31, 2011 are as follows:

 

Date of transaction

   Type of derivative                  Total notional amount     

        Month of settlement        

May 25, 2010

   Option      $  30,000      January to June 2011

May 25, 2010

   Forward          78,000      January to June 2011

August 12, 2010

   Zero cost collar        108,000      July to December 2011

January 17, 2011

   Zero cost collar          60,000      January to June 2012

March 16, 2011

   Zero cost collar          24,000      January to March 2012

The option, forward and zero cost collar contracts qualify as cash flow hedges under ASC 815, “Derivatives and Hedging,” (“ASC 815”), since at both the inception of the contracts and on an ongoing basis, the hedging relationship was and is expected to be highly effective in achieving offsetting cash flows attributable to the hedged risk during the term of the contracts. The Company is utilizing the “hypothetical derivative” method to measure the effectiveness by comparing the changes in value of the actual derivative versus the change in fair value of the “hypothetical derivative.”

The fair values of the Company’s outstanding option, forward and zero cost collar contracts recorded as assets and liabilities as of March 31, 2011 and December 31, 2010 are as follows:

 

Derivatives designated as hedging instruments:

          March 31,
2011
       December 31,
2010
 

Asset Derivatives:

            

Options

   Other current assets      $ 23         $ 104   

Forward

   Other current assets      $ 4,605         $ 6,674   

Zero cost collars

   Other current assets      $ 2,309         $ 1,544   

Liability Derivatives:

            

Zero cost collars

   Other non current liabilities      $ 149         $ —     

For derivative instruments that are designated and qualify as cash flow hedges, the effective portion of the gain or loss on the derivative is reported as a component of accumulated other comprehensive income (“AOCI”) and reclassified into earnings in the same period or periods during which the hedged transaction affects earnings. Gains and losses on the derivative, representing either hedge ineffectiveness or hedge components excluded from the assessment of effectiveness, are recognized in current earnings.

 

11


Table of Contents

MagnaChip Semiconductor Corporation and Subsidiaries

Notes to Consolidated Financial Statements - (Continued)

(Unaudited; tabular dollars in thousands, except share data)

 

The following table summarizes the impact of derivative instruments on the consolidated statement of operations for the three months ended March 31, 2011:

 

Derivatives in Cash Flow

Hedging Relationships

   Amount of
Gain (Loss)
Recognized in
AOCI on
Derivatives
(Effective Portion)
    Location of
Gain (Loss)
Reclassified from
AOCI into
Statement of
Operations
(Effective Portion)
     Amount of Gain
(Loss)
Reclassified from
AOCI into
Statement of
Operations
(Effective Portion)
   

Location of

Gain (Loss)

Recognized in

Statement of

Operations on

Derivative

(Ineffective

Portion and

Amount

Excluded from

Effectiveness

Testing)

   Amount of Gain
(Loss)
Recognized in
Statement of
Operations on
Derivatives
(Ineffective Portion
and Amount
Excluded from
Effectiveness Testing)
 

Options

   $ (71     Net sales       $ (333   Other income (expenses) — Others    $ (11 )

Forward

     1,810        Net sales         4,626      Other income (expenses) — Others      178   

Zero cost collars

     597        Net sales         —        Other income (expenses) — Others      (9
                              

Total

   $ 2,336         $ 4,293         $ 158   
                              

The following table summarizes the impact of derivative instruments on the consolidated statement of operations for the three months ended March 31, 2010:

 

Derivatives in Cash Flow
Hedging Relationships

   Amount of Loss
Recognized in
AOCI on
Derivatives
(Effective Portion)
    Location of
Loss
Reclassified from
AOCI into
Statement of
Operations
(Effective Portion)
     Amount of Loss
Reclassified from
AOCI into
Statement of
Operations
(Effective Portion)
   

Location of Loss

Recognized in

Statement of

Operations on

Derivative

(Ineffective

Portion and

Amount

Excluded from

Effectiveness

Testing)

   Amount of Loss
Recognized in
Statement of
Operations on
Derivatives
(Ineffective Portion
and Amount
Excluded from
Effectiveness Testing)
 

Options

   $ (533     Net sales       $ (17   Other income (expenses) — Others    $ (33

Forward

     (1,521     Net sales         (603   Other income (expenses) — Others      (24
                              

Total

   $ (2,054      $ (620      $ (57
                              

The estimated net gain as of March 31, 2011 that is expected to be reclassified from accumulated other comprehensive income (loss) into earnings within the next twelve months is $6,835 thousand.

The Company’s option, forward and zero cost collar contracts are subject to termination upon the occurrence of the following events:

(i) On the last day of a fiscal quarter, the sum of qualified and unrestricted cash and cash equivalents held by the Company is less than $30 million.

(ii) The rating of the Company’s debt is B- or lower by Standard & Poor’s Ratings Group or any successor rating agency thereof (“S&P”) or B3 or lower by Moody’s Investor Services, Inc. or any successor rating agency thereof (“Moody’s”) or the Company’s debt ceases to be assigned a rating by either S&P or Moody’s.

In addition, the Company is required to deposit cash collateral with Goldman Sachs International Bank, the counterparty to the option, forward and zero cost collar contracts, for any exposure in excess of $5 million.

 

12


Table of Contents

MagnaChip Semiconductor Corporation and Subsidiaries

Notes to Consolidated Financial Statements - (Continued)

(Unaudited; tabular dollars in thousands, except share data)

 

8. Fair Value Measurements

The Company’s assets and liabilities measured at fair value on a recurring basis as of March 31, 2011, and the basis for that measurement is as follows:

 

     Carrying Value
     Fair Value
Measurement
     Quoted Prices in
Active Markets
for
Identical Asset
(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

Assets:

              

Current derivative assets

   $ 6,937       $ 6,937       $ —         $ 6,937       $ —     

Available-for-sale securities

     1,249         1,249         1,249         —           —     

Liabilities:

              

Non current derivative liabilities

     149         149         —           149         —     

9. Capital leases

The Company entered into several lease agreements for the use of equipment for manufacturing and research and development. These leases are accounted for as capital leases as the ownership of the equipment will be transferred to the Company upon expiration of the lease terms or the Company has bargain purchase options at the end of the lease terms.

 

Payable during

   Capital
Lease
 

Remainder of 2011

   $ 4,753   

2012

     3,266   

2013

     24   
        

Total future minimum lease payments

     8,043   

Less: Amount representing interest (a)

     (528
        

Present value of net minimum lease payments

     7,515   

Less: Current portion of capital lease obligations

     (5,850
        

Long-term obligations under capital lease

   $ 1,665   
        

 

(a) The lessor’s implicit rate at lease inception was applied.

 

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Table of Contents

MagnaChip Semiconductor Corporation and Subsidiaries

Notes to Consolidated Financial Statements - (Continued)

(Unaudited; tabular dollars in thousands, except share data)

 

10. Accrued Severance Benefits

The majority of accrued severance benefits is for employees in the Company’s Korean subsidiary, MagnaChip Semiconductor Ltd. (Korea). Pursuant to the Employee Retirement Benefit Security Act of Korea, most employees and executive officers with one or more years of service are entitled to severance benefits upon the termination of their employment based on their length of service and rate of pay. As of March 31, 2011, 98.5% of employees of the Company were eligible for severance benefits.

Changes in accrued severance benefits for each period are as follows:

 

     Three Months Ended  
     March 31,
2011
    March 31,
2010
 

Beginning balance

   $ 88,973      $ 73,646   

Provisions

     2,854        3,166   

Severance payments

     (1,610     (1,092

Translation adjustments

     2,498        2,386   
                
     92,715        78,106   
                

Less: Cumulative contributions to the National Pension Fund

     (463     (540

Group Severance insurance plan

     (749     (723
                

Accrued severance benefits, net

   $ 91,503      $ 76,843   
                

The severance benefits are funded approximately 1.31% and 1.62% as of March 31, 2011 and 2010, respectively, through the Company’s National Pension Fund and group severance insurance plan which will be used exclusively for payment of severance benefits to eligible employees. These amounts have been deducted from the accrued severance benefit balance.

The Company is liable to pay the following future benefits to its non-executive employees upon their normal retirement age:

 

     Severance benefit  

Remainder of 2011

   $ —     

2012

     155   

2013

     —     

2014

     314   

2015

     356   

2016

     1,240   

2017 – 2021

     13,732   

The above amounts were determined based on the non-executive employees’ current salary rates and the number of service years that will be accumulated upon their retirement dates. These amounts do not include amounts that might be paid to non-executive employees that will cease working with the Company before their normal retirement ages.

 

14


Table of Contents

MagnaChip Semiconductor Corporation and Subsidiaries

Notes to Consolidated Financial Statements - (Continued)

(Unaudited; tabular dollars in thousands, except share data)

 

11. Restructuring and Impairment Charges

The Company recognized $336 thousand of impairment charges for the three months ended March 31, 2010 from two abandoned in-process research and development projects.

12. Income Taxes

The Company files income tax returns in the U.S., Korea, Japan, Taiwan and various other jurisdictions.

The predecessor entity to MagnaChip Semiconductor Corporation (the “Parent”) was a non-taxable partnership entity until its conversion to a Delaware corporation on March 10, 2011.

MagnaChip Semiconductor Ltd. (Korea) is the principal operating entity within the consolidated Company. For the three months ended March 31, 2011 and 2010, no income tax expense for MagnaChip Semiconductor, Ltd. (Korea) was recorded due to net operating loss carry-forwards available to offset taxable income and full allowance for deferred tax assets.

13. Geographic and Segment Information

The following sets forth information relating to the reportable segments:

 

     Three Months Ended  
     March 31,
2011
     March 31,
2010
 

Net Sales

     

Display Solutions

   $ 74,464       $ 76,730   

Semiconductor Manufacturing Services

     92,266         93,201   

Power Solutions

     20,412         9,034   

All other

     779         520   
                 

Total segment net sales

   $ 187,921       $ 179,485   
                 

Gross Profit

     

Display Solutions

   $ 19,843       $ 14,431   

Semiconductor Manufacturing Services

     33,287         32,844   

Power Solutions

     2,565         1,563   

All other

     779         520   
                 

Total segment gross profit

   $ 56,474       $ 49,358   
                 

The following is a summary of net sales by region, based on the location of the customer:

 

     Three Months Ended  
     March 31,
2011
     March 31,
2010
 

Korea

   $ 87,513       $ 97,660   

Asia Pacific

     57,295         48,474   

Japan

     13,339         10,195   

North America

     25,922         20,380   

Europe

     2,967         2,776   

Africa

     885         —     
                 

Total

   $ 187,921       $ 179,485   
                 

Net sales from the Company’s top ten largest customers accounted for 61.1% and 64.1% for the three months ended March 31, 2011 and 2010, respectively.

The Company recorded $26,681 thousand and $35,578 thousand of sales to one customer within its Display Solutions segment, which represents greater than 10% of net sales, for the three months ended March 31, 2011 and 2010, respectively.

Over 99% of the Company’s property, plant and equipment are located in Korea as of March 31, 2011.

 

15


Table of Contents

MagnaChip Semiconductor Corporation and Subsidiaries

Notes to Consolidated Financial Statements - (Continued)

(Unaudited; tabular dollars in thousands, except share data)

 

14. Commitments and Contingencies

The California Institute of Technology has made a claim against Samsung Fiber Optics for the infringement of certain patent rights in relation to image sensor products provided by Samsung Fiber Optics. Samsung Fiber Optics has made a claim against the Company as a provider of embedded components. The Company believes it is probable that the pending claim will have an unfavorable outcome and further believes the associated loss can be reasonably estimated according to ASC 450 “Contingencies” (“ASC 450”). The Company charged the best estimate of loss, $718 thousand, to operating expenses for the ten month period ended October 25, 2009, and the Company presents the estimated liabilities as accrued expenses as of March 31, 2011 and December 31, 2010 in the accompanying consolidated balance sheets. The estimate was based on the most recent communications with Samsung Fiber Optics. Accordingly, the Company cannot provide assurance that the estimated liabilities will be realized. The actual results could vary materially.

15. Earnings per Share

The following table illustrates the computation of basic and diluted earnings per common share:

 

     Three Months Ended  
     March 31,
2011
     March 31,
2010
 

Net income

   $ 22,468       $ 31,101   

Weighted average common stock outstanding—

     

Basic

     38,332,750         37,805,445   

Diluted

     39,570,522         38,441,991   

Earnings per share—

     

Basic

   $ 0.59       $ 0.82   

Diluted

   $ 0.57       $ 0.81   

The following outstanding instruments were excluded from the computation of diluted earnings per share, as they have an anti-dilutive effect on the calculation:

 

     Three Months Ended  
     March 31,
2011
     March 31,
2010
 

Options

     —           114,250   

Warrants

     1,875,017         1,875,017   

 

16


Table of Contents

MagnaChip Semiconductor Corporation and Subsidiaries

Notes to Consolidated Financial Statements - (Continued)

(Unaudited; tabular dollars in thousands, except share data)

 

16. Condensed Consolidating Financial Information

The $250 million senior notes are fully and unconditionally, jointly and severally, guaranteed by the Company and all of its subsidiaries, except for MagnaChip Semiconductor, Ltd. (Korea) and MagnaChip Semiconductor (Shanghai) Company Limited.

The senior notes are structurally subordinated to the creditors of the Company’s principal manufacturing and selling subsidiary, MagnaChip Semiconductor, Ltd. (Korea), which accounts for substantially all of the Company’s net sales and assets.

Below are condensed consolidating balance sheets as of March 31, 2011 and December 31, 2010, condensed consolidating statements of operations for the three months ended March 31, 2011 and 2010 and condensed consolidating statements of cash flows for the three months ended March 31, 2011 and 2010 of those entities that guarantee the senior notes, those that do not, MagnaChip Semiconductor Corporation, and the co-issuers.

For the purpose of the guarantor financial information, the investments in subsidiaries are accounted for under the equity method.

 

17


Table of Contents

MagnaChip Semiconductor Corporation and Subsidiaries

Notes to Consolidated Financial Statements - (Continued)

(Unaudited; tabular dollars in thousands, except share data)

 

Condensed Consolidating Balance Sheets

March 31, 2011

 

     MagnaChip
Semiconductor
Corporation
(Parent)
    Co-Issuers     Non-Guarantors     Guarantors     Eliminations     Consolidated  

Assets

            

Current assets

            

Cash and cash equivalents

   $ 4,180      $ 38,205      $ 144,847      $ 6,947      $ —        $ 194,179   

Accounts receivable, net

     —          —          132,491        22,460        (23,931     131,020   

Inventories, net

     —          —          73,879        158        (158     73,879   

Other receivables

     —          —          5,504        247        (1,745     4,006   

Prepaid expenses

     45        —          13,596        338        (2,897     11,082   

Short-term intercompany loan

     —          95,000        —          95,000        (190,000     —     

Other current assets

     34,305        141,236        7,876        125,030        (298,510     9,937   
                                                

Total current assets

     38,530        274,441        378,193        250,180        (517,241     424,103   
                                                

Property, plant and equipment, net

     —          —          178,874        366        —          179,240   

Intangible assets, net

     —          —          25,673        481        —          26,154   

Long-term prepaid expenses

     —          —          15,631        247        (8,422     7,456   

Investment in subsidiaries

     (560,148     (654,620     —          (474,010     1,688,778        —     

Long-term intercompany loan

     697,125        803,547        —          637,518        (2,138,190     —     

Other non-current assets

     —          7,645        7,377        6,335        —          21,357   
                                                

Total Assets

   $ 175,507      $ 431,013      $ 605,748      $ 421,117      $ (975,075   $ 658,310   
                                                

Liabilities and Stockholders’ Equity

            

Current liabilities

            

Accounts payable

   $ —        $ —        $ 96,176      $ 1,681      $ (23,817   $ 74,040   

Other accounts payable

     1,766        145        10,027        676        (1,745     10,869   

Accrued expenses

     1,855        46,418        151,164        142,898        (298,625     43,710   

Short-term intercompany borrowings

     —          —          95,000        95,000        (190,000     —     

Current portion of capital lease obligations

     —          —          5,667        183        —          5,850   

Other current liabilities

     (1     —          3,517        3,313        (2,897     3,932   
                                                

Total current liabilities

     3,620        46,563        361,551        243,751        (517,084     138,401   
                                                

Long-term borrowings, net

     —          944,077        621,000        820,065        (2,138,190     246,952   

Long-term obligations under capital lease

     —          —          1,498        167        —          1,665   

Accrued severance benefits, net

     —          —          90,203        1,300        —          91,503   

Other non-current liabilities

     —          —          5,445        10,879        (8,422     7,902   
                                                

Total liabilities

     3,620        990,640        1,079,697        1,076,162        (2,663,696     486,423   
                                                

Commitments and contingencies

            

Stockholders’ equity

            

Common stock

     394        136,229        39,005        51,976        (227,210     394   

Additional paid-in capital

     97,812        (733,795     (537,359     (731,907     2,003,061        97,812   

Retained earnings

     94,625        58,884        47,870        45,857        (152,611     94,625   

Accumulated other comprehensive loss

     (20,944     (20,945     (23,465     (20,971     65,381        (20,944
                                                

Total stockholders’ equity

     171,887        (559,627     (473,949     (655,045     1,688,621        171,887   
                                                

Total liabilities and stockholders’ equity

   $ 175,507      $ 431,013      $ 605,748      $ 421,117      $ (975,075   $ 658,310   
                                                

 

18


Table of Contents

MagnaChip Semiconductor Corporation and Subsidiaries

Notes to Consolidated Financial Statements - (Continued)

(Unaudited; tabular dollars in thousands, except share data)

 

Condensed Consolidating Balance Sheets

December 31, 2010

 

     MagnaChip
Semiconductor
Corporation
(Parent)
    Co-Issuers     Non-
Guarantors
    Guarantors     Eliminations     Consolidated  

Assets

            

Current assets

            

Cash and cash equivalents

   $ 79      $ 46,595      $ 112,370      $ 13,128      $ —        $ 172,172   

Accounts receivable, net

     —          —          160,317        60,533        (101,796     119,054   

Inventories, net

     —          —          68,435        158        (158     68,435   

Other receivables

     718        718        23,111        2,969        (24,597     2,919   

Prepaid expenses

     52        2        10,957        93        (2,897     8,207   

Short-term intercompany loan

     —          95,000        —          95,000        (190,000     —     

Other current assets

     41,363        124,376        9,606        111,628        (268,053     18,920   
                                                

Total current assets

     42,212        266,691        384,796        283,509        (587,501     389,707   
                                                

Property, plant and equipment, net

     —          —          178,623        389        —          179,012   

Intangible assets, net

     —          —          27,009        529        —          27,538   

Long-term prepaid expenses

     —          —          17,371        —          (9,136     8,235   

Investment in subsidiaries

     (567,941     (641,799     —          (475,696     1,685,436        —     

Long-term intercompany loan

     697,125        792,846        —          621,000        (2,110,971     —     

Other non-current assets

     —          7,819        6,611        6,821        1        21,252   
                                                

Total Assets

   $ 171,396      $ 425,557      $ 614,410      $ 436,552      $ (1,022,171   $ 625,744   
                                                

Liabilities and Stockholders’ Equity

            

Current liabilities

            

Accounts payable

   $ —        $ —        $ 118,353      $ 41,634      $ (101,723   $ 58,264   

Other accounts payable

     8,334        8,987        15,994        5,927        (24,597     14,645   

Accrued expenses

     211        39,887        134,460        126,204        (268,127     32,635   

Short-term intercompany borrowings

     —          —          95,000        95,000        (190,000     —     

Current portion of capital lease obligations

     —          —          5,373        184        —          5,557   

Other current liabilities

     —          —          3,815        4,130        (2,897     5,048   
                                                

Total current liabilities

     8,545        48,874        372,995        273,079        (587,344     116,149   
                                                

Long-term borrowings, net

     —          944,007        621,000        792,846        (2,110,971     246,882   

Long-term obligations under capital lease

     —          —          2,888        217        —          3,105   

Accrued severance benefits, net

     —          —          86,511        1,267        —          87,778   

Other non-current liabilities

     —          —          6,653        11,462        (9,136     8,979   
                                                

Total liabilities

     8,545        992,881        1,090,047        1,078,871        (2,707,451     462,893   
                                                

Commitments and contingencies

            

Stockholders’ equity

            

Common stock

     384        136,229        39,005        51,976        (227,210     384   

Additional paid-in capital

     95,585        (734,101     (537,608     (732,266     2,003,975        95,585   

Retained earnings

     72,157        35,823        31,799        43,269        (110,891     72,157   

Accumulated other comprehensive loss

     (5,275     (5,275     (8,833     (5,298     19,406        (5,275
                                                

Total stockholders’ equity

     162,851        (567,324     (475,637     (642,319     1,685,280        162,851   
                                                

Total liabilities and stockholders’ equity

   $ 171,396      $ 425,557      $ 614,410      $ 436,552      $ (1,022,171   $ 625,744   
                                                

 

 

19


Table of Contents

MagnaChip Semiconductor Corporation and Subsidiaries

Notes to Consolidated Financial Statements - (Continued)

(Unaudited; tabular dollars in thousands, except share data)

 

Condensed Consolidating Statements of Operations

For the three months ended March 31, 2011

 

     MagnaChip
Semiconductor
Corporation
(Parent)
    Co-Issuers     Non-Guarantors      Guarantors     Eliminations     Consolidated  

Net sales

   $ —        $ —        $ 187,750       $ 6,616      $ (6,445   $ 187,921   

Cost of sales

     —          —          131,445         74        (72     131,447   
                                                 

Gross profit

     —          —          56,305         6,542        (6,373     56,474   
                                                 

Selling, general and administrative expenses

     637        235        15,614         3,103        (4,188     15,401   

Research and development expenses

     —          —          19,301         1,382        (2,185     18,498   

IPO incentive

     —          —          11,355         791        —          12,146   
                                                 

Operating income (loss)

     (637     (235     10,035         1,266        —          10,429   
                                                 

Other income (expense)

     —          20,752        6,190         (12,528     —          14,414   
                                                 

Income (loss) before income taxes, equity in earnings of related equity investment

     (637     20,517        16,225         (11,262     —          24,843   
                                                 

Income tax expenses

     —          —          154         2,221        —          2,375   
                                                 

Income (loss) before equity in earnings of related investment

     (637     20,517        16,071         (13,483     —          22,468   
                                                 

Equity in earnings of related investment

     23,105        2,544        —           16,071        (41,720     —     
                                                 

Net Income

   $ 22,468      $ 23,061      $ 16,071       $ 2,588      $ (41,720   $ 22,468   
                                                 

 

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MagnaChip Semiconductor Corporation and Subsidiaries

Notes to Consolidated Financial Statements - (Continued)

(Unaudited; tabular dollars in thousands, except share data)

 

Condensed Consolidating Statements of Operations

For the three months ended March 31, 2010

 

     MagnaChip
Semiconductor
Corporation
(Parent)
    Co-Issuers     Non-Guarantors     Guarantors      Eliminations     Consolidated  

Net sales

   $ —        $ —        $ 174,814      $ 11,682       $ (7,011   $ 179,485   

Cost of sales

     —          —          126,504        5,693         (2,070     130,127   
                                                 

Gross profit

     —          —          48,310        5,989         (4,941     49,358   
                                                 

Selling, general and administrative expenses

     563        136        17,264        2,587         (2,642     17,908   

Research and development expenses

     —          —          21,400        2,170         (3,039     20,531   

Restructuring and impairment charges

     —          —          336        —           —          336   
                                                 

Operating income (loss)

     (563     (136     9,310        1,232         740        10,583   
                                                 

Other income

     —          1,423        7,377        10,715         —          19,515   
                                                 

Income before income taxes, equity in earnings of related equity investment

     (563     1,287        16,687        11,947         740        30,098   
                                                 

Income tax expenses (benefits)

     —          —          (1,959     956         —          (1,003
                                                 

Income before equity in earnings of related investment

     (563     1,287        18,646        10,991         740        31,101   
                                                 

Equity in earnings of related investment

     31,664        30,507        —          18,940         (81,111     —     
                                                 

Net income

   $ 31,101      $ 31,794      $ 18,646      $ 29,931       $ (80,371   $ 31,101   
                                                 

 

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MagnaChip Semiconductor Corporation and Subsidiaries

Notes to Consolidated Financial Statements - (Continued)

(Unaudited; tabular dollars in thousands, except share data)

 

Condensed Consolidating Statements of Cash Flows

For the three months ended March 31, 2011

 

     MagnaChip
Semiconductor
Corporation
(Parent)
    Co-Issuers     Non-Guarantors     Guarantors     Eliminations     Consolidated  

Cash flow from operating activities

            

Net income

   $ 22,468      $ 23,061      $ 16,071      $ 2,588      $ (41,720   $ 22,468   

Adjustments to reconcile net income to net cash provided by (used in) operating activities

            

Depreciation and amortization

     —          —          13,826        77        —          13,903   

Provision for severance benefits

     —          —          2,796        58        —          2,854   

Amortization of debt issuance costs and original issue discount.

     —          246        —          —          —          246   

Loss (gain) on foreign currency translation, net

     —          (10,701     (24,128     11,145        —          (23,684

Loss on disposal of intangible assets, net

     —          —          4        —          —          4   

Stock-based compensation

     73        —          590        335        (357 )     641   

Equity in earnings of related investment

     (23,105     (2,544     —          (16,071     41,720        —     

Other

     (1     —          290        232        28       549   

Changes in operating assets and liabilities

            

Accounts receivable, net

     —          —          30,499        38,116        (77,865     (9,250

Inventories, net

     —          —          (3,467     —          —          (3,467

Other receivables

     718        718        17,656        2,719        (22,852     (1,041

Other current assets

     (713     (16,858     (531     (14,432     31,085        (1,449

Deferred tax assets

     —          —          —          548        —          548   

Accounts payable

     —          —          (22,873     (40,744     77,906        14,289   

Other accounts payable

     (6,613     (8,842     (3,455     (5,290     22,852        (1,348

Accrued expenses

     (151     6,530        14,904        16,996        (31,126     7,153   

Other current liabilities

     —          —          (415     (1,103     —          (1,518

Long term other payable

     —          —          —          184        —          184   

Payment of severance benefits

     —          —          (1,610     —          —          (1,610

Other

     —          —          972        (1,228     —          (256
                                                

Net cash provided by (used in) operating activities

     (7,324     (8,390     41,129        (5,870     (329     19,216   
                                                

Cash flows from investing activities

            

Purchases of plant, property and equipment

     —          —          (6,765     (14     —          (6,779

Payment for intellectual property registration

     —          —          (165     —          —          (165

Collection of guarantee deposits

     —          —          979        —          —          979   

Payment of guarantee deposits

     —          —          (1,004     —          —          (1,004

Other

     —          —          (23     (21     —          (44
                                                

Net cash used in investing activities

     —          —          (6,978     (35     —          (7,013
                                                

Cash flow from financing activities

            

Proceeds from issuance of common stock

     11,425        —          —          —          —          11,425   

Repayment of obligations under capital lease

     —          —          (1,515     (47     —          (1,562
                                                

Net cash provided by (used in) financing activities

     11,425        —          (1,515     (47     —          9,863   
                                                

Effect of exchanges rate on cash and cash equivalents

     —          —          (159     (229     329        (59
                                                

Net increase (decrease) in cash and cash equivalents

     4,101        (8,390     32,477        (6,181     —          22,007   
                                                

Cash and cash equivalents

            

Beginning of the period

     79        46,595        112,370        13,128        —          172,172   
                                                

End of the period

   $ 4,180      $ 38,205      $ 144,847      $ 6,947      $ —        $ 194,179   
                                                

 

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MagnaChip Semiconductor Corporation and Subsidiaries

Notes to Consolidated Financial Statements - (Continued)

(Unaudited; tabular dollars in thousands, except share data)

 

Condensed Consolidating Statements of Cash Flows

For the three months ended March 31, 2010

 

     MagnaChip
Semiconductor
Corporation
(Parent)
    Co-Issuers     Non-Guarantors     Guarantors     Eliminations     Consolidated  

Cash flow from operating activities

            

Net income

   $ 31,101      $ 31,794      $ 18,646      $ 29,931      $ (80,371   $ 31,101   

Adjustments to reconcile net income to net cash provided by (used in) operating activities

            

Depreciation and amortization

     —          —          15,405        72        —          15,477   

Provision for severance benefits

     —          —          3,081        85        —          3,166   

Amortization of debt issuance costs

     —          25        —          —          —          25   

Loss (gain) on foreign currency translation, net

     —          11,757        (23,734     (11,501     —          (23,478

Loss (gain) on disposal of property, plant and equipment

     —          —          (9     —          —          (9

Loss on disposal of intangible assets, net

     —          —          2        —          —          2   

Restructuring and impairment charges

     —          —          336        —          —          336   

Stock-based compensation

     334        —          1,040        99        —          1,473   

Cash used for reorganization items

     —          —          51        1,528        —          1,579   

Equity in earnings of related investment

     (31,664     (30,507     —          (18,940     81,111        —     

Other

     —          1        480        (88     —          393   

Changes in operating assets and liabilities

            

Accounts receivable, net

     —          —          (18,065     15,150        (26,769     (29,684

Inventories

     —          —          3,661        4,312        (767     7,206   

Other receivables

     —          —          (5,039     274        3,527        (1,238

Other current assets

     (2,509     (13,737     (1,363     (10,306     24,256        (3,659

Deferred tax assets

     —          —          —          264        —          264   

Accounts payable

     —          —          21,040        (29,705     26,753        18,088   

Other accounts payable

     2,771        936        (673     (1,119     (3,527     (1,612

Accrued expenses

     (93     (90     15,407        12,353        (24,381     3,196   

Other current liabilities

     —          —          (1,262     (1,015     170        (2,107

Long term other payable

     —          —          —          (7     (2,129     (2,136

Payment of severance benefits

     —          —          (1,092     —          —          (1,092

Other

     —          —          (788     —          —          (788
                                                

Net cash provided by (used in) operating activities before reorganization items

     (60     179        27,124        (8,613     (2,127     16,503   
                                                

Cash used for reorganization items

     —          —          (51     (1,528     —          (1,579
                                                

Net cash provided by (used in) operating activities

     (60     179        27,073        (10,141     (2,127     14,924   
                                                

Cash flows from investing activities

            

Proceeds from disposal of plant, property and equipment

     —          —          13        —          (9     4   

Purchases of plant, property and equipment

     —          —          (887     (4     —          (891

Payment for intellectual property registration

     —          —          (152     —          —          (152

Decrease in short-term financial instruments

     —          —          —          329        —          329   

Collection of guarantee deposits

     —          —          219        753        —          972   

Payment of guarantee deposits

     —          —          —          (56     —          (56

Other

     —          —          3       3        27        33   
                                                

Net cash provided by (used in) investing activities

     —          —          (804     1,025        18        239   
                                                

Cash flow from financing activities

            

Repayment of long-term borrowings

     —          (154     —          —          —          (154
                                                

Net cash used in financing activities

     —          (154     —          —          —          (154
                                                

Effect of exchanges rate on cash and cash equivalents

     —          —          655        (10     2,109        2,754   
                                                

Net increase (decrease) in cash and cash equivalents

     (60     25        26,924        (9,126     —          17,763   
                                                

Cash and cash equivalents

            

Beginning of the period

     136        24        45,443        19,322        —          64,925   
                                                

End of the period

   $ 76     $ 49      $ 72,367      $ 10,196      $ —        $ 82,688   
                                                

 

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Table of Contents
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis should be read in conjunction with the unaudited consolidated financial statements and the related notes included elsewhere in this report. This discussion and analysis contains, in addition to historical information, forward-looking statements that include risks and uncertainties. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of certain factors, including those set forth under the heading “Risk Factors” and elsewhere in this report.

Overview

We are a Korea-based designer and manufacturer of analog and mixed-signal semiconductor products for high-volume consumer applications. We believe we have one of the broadest and deepest analog and mixed-signal semiconductor technology platforms in the industry, supported by our 30-year operating history, large portfolio of approximately 2,735 novel registered patents and 740 pending novel patent applications and extensive engineering and manufacturing process expertise. Our business is comprised of three key segments: Display Solutions, Power Solutions and Semiconductor Manufacturing Services. Our Display Solutions products include display drivers that cover a wide range of flat panel displays and multimedia devices. Our Power Solutions products include discrete and integrated circuit solutions for power management in high-volume consumer applications. Our Semiconductor Manufacturing Services segment provides specialty analog and mixed-signal foundry services for fabless semiconductor companies that serve the consumer, computing and wireless end markets.

Our wide variety of analog and mixed-signal semiconductor products and manufacturing services combined with our deep technology platform allows us to address multiple high-growth end markets and to rapidly develop and introduce new products and services in response to market demands. Our substantial manufacturing operations in Korea and design centers in Korea and Japan place us at the core of the global consumer electronics supply chain. We believe this enables us to quickly and efficiently respond to our customers’ needs and allows us to better service and capture additional demand from existing and new customers.

To maintain and increase our profitability, we must accurately forecast trends in demand for consumer electronics products that incorporate semiconductor products we produce. We must understand our customers’ needs as well as the likely end market trends and demand in the markets they serve. We must balance the likely manufacturing utilization demand of our product businesses and foundry business to optimize our facilities utilization. We must also invest in relevant research and development activities and manufacturing capacity and purchase necessary materials on a timely basis to meet our customers’ demand while maintaining our target margins and cash flow.

The semiconductor markets in which we participate are highly competitive. The prices of our products tend to decrease regularly over their useful lives, and such price decreases can be significant as new generations of products are introduced by us or our competitors. We strive to offset the impact of declining selling prices for existing products through cost reductions and the introduction of new products that command selling prices above the average selling price of our existing products. In addition, we seek to manage our inventories and manufacturing capacity so as to mitigate the risk of losses from product obsolescence.

Demand for our products and services is driven primarily by overall demand for consumer electronics products and can be adversely affected by periods of weak consumer spending or by market share losses by our customers. To mitigate the impact of market volatility on our business, we seek to address market segments and geographies with higher growth rates than the overall consumer electronics industry. For example, in recent years, we have experienced increasing demand from OEMs and consumers in China and Taiwan relative to overall demand for our products and services. We expect to derive a meaningful portion of our growth from growing demand in such markets. We also expect that new competitors will emerge in these markets that may place increased pressure on the pricing for our products and services, but we believe that we will be able to successfully compete based upon our higher quality products and services and that the impact from the increased competition will be more than offset by increased demand arising from such markets. Further, we believe we are well-positioned competitively as a result of our long operating history, existing manufacturing capacity and our Korea-based operations.

Within our Display Solutions and Power Solutions segments, net sales are driven by design wins in which we or another company is selected by an electronics OEM or other potential customer to supply its demand for a particular product. A customer will often have more than one supplier designed in to multi-source components for a particular product line. Once designed in, we often specify the pricing of a particular product for a set period of time, with periodic discussions and renegotiations of pricing with our customers. In any given period, our net sales depend heavily upon the end-market demand for the goods in which our products are used, the inventory levels maintained by our customers and in some cases, allocation of demand for components for a particular product among selected qualified suppliers.

 

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Table of Contents

Within the Semiconductor Manufacturing Services business, net sales are driven by customers’ decisions on which manufacturing services provider to use for a particular product. Most of our semiconductor manufacturing services customers are fabless and depend upon service providers like us to manufacture their products. A customer will often have more than one supplier of manufacturing services; however, they tend to allocate a majority of manufacturing volume to one of their suppliers. We strive to be the primary supplier of manufacturing services to our customers. Once selected as a primary supplier, we often specify the pricing of a particular service on a per wafer basis for a set period of time, with periodic discussions and renegotiations of pricing with our customers. In any given period, our net sales depend heavily upon the end-market demand for the goods in which the products we manufacture for customers are used, the inventory levels maintained by our customers and in some cases, allocation of demand for manufacturing services among selected qualified suppliers.

In contrast to fabless semiconductor companies, our internal manufacturing capacity provides us with greater control over manufacturing costs and the ability to implement process and production improvements which can favorably impact gross profit margins. Our internal manufacturing capacity also allows for better control over delivery schedules, improved consistency over product quality and reliability and improved ability to protect intellectual property from misappropriation. However, having internal manufacturing capacity exposes us to the risk of under-utilization of manufacturing capacity which results in lower gross profit margins, particularly during downturns in the semiconductor industry.

Our products and services require investments in capital equipment. Analog and mixed-signal manufacturing facilities and processes are typically distinguished by the design and process implementation expertise rather than the use of the most advanced equipment. These processes also tend to migrate more slowly to smaller geometries due to technological barriers and increased costs. For example, some of our products use high-voltage technology that requires larger geometries and that may not migrate to smaller geometries for several years, if at all. Additionally, the performance of many of our products is not necessarily dependent on geometry. As a result, our manufacturing base and strategy does not require substantial investment in leading edge process equipment, allowing us to utilize our facilities and equipment over an extended period of time with moderate required capital investments. Generally, incremental capacity expansions in our segment of the market result in more moderate industry capacity expansion as compared to leading edge processes. As a result, this market, and we, specifically, are less likely to experience significant industry overcapacity, which can cause product prices to plunge dramatically. In general, we seek to invest in manufacturing capacity that can be used for multiple high-value applications over an extended period of time. We believe this capital investment strategy enables us to optimize our capital investments and facilitates deeper and more diversified product and service offerings.

Our success going forward will depend upon our ability to adapt to future challenges such as the emergence of new competitors for our products and services or the consolidation of current competitors. Additionally, we must innovate to remain ahead of, or at least rapidly adapt to, technological breakthroughs that may lead to a significant change in the technology necessary to deliver our products and services. We believe that our established relationships and close collaboration with leading customers enhance our visibility into new product opportunities, market and technology trends and improve our ability to meet these challenges successfully. In our Semiconductor Manufacturing Services business, we strive to maintain competitiveness and our position as a primary manufacturing services provider to our customers by offering high value added, unique processes, high flexibility and excellent service.

Recent Changes to Our Business

On April 9, 2010, we completed the sale of $250 million in aggregate principal amount of 10.500% senior notes due 2018, which we refer to as our senior notes. Of the $238.4 million of net proceeds, $130.7 million was used to make a distribution to our equityholders and $61.6 million was used to repay all outstanding borrowings under our term loan. The remaining proceeds of $46.1 million were retained to fund working capital and for general corporate purposes.

In March 2011, we completed an initial public offering, our IPO, of 9,500,000 shares of common stock, and we listed on the NYSE. All shares were sold in the form of depositary shares and each depositary share represented an ownership interest in one share of common stock. Of the 9,500,000 shares, 950,000 shares were newly issued by us and 8,550,000 shares were sold by selling stockholders. All outstanding depositary shares were automatically cancelled on April 24, 2011 and the underlying shares of common stock were issued to the holders of such cancelled depositary shares. We received $12.4 million of net proceeds from the issuance of the new shares of common stock after deducting underwriters’ discounts and commissions, and we did not receive any proceeds from the sale of shares of common stock offered by the selling stockholders. We incurred $10.6 million of IPO expenses that were recorded as decrease of additional paid-in capital in the consolidated balance sheets. Of the $10.6 million, we paid out $6.9 million and $1.0 million for the year ended December 31, 2010 and for the three months ended March 31, 2011, respectively and we estimate payment of $2.7 million of IPO expenses in the remainder of 2011.

Prior to the IPO, our board of directors and the holders of a majority of our outstanding common units converted MagnaChip Semiconductor LLC from a Delaware limited liability company to MagnaChip Semiconductor Corporation, a Delaware corporation. In connection with the corporate conversion, outstanding common units of MagnaChip Semiconductor LLC were automatically converted into shares of common stock of MagnaChip Semiconductor Corporation, outstanding options to purchase common units of MagnaChip Semiconductor LLC were automatically converted into options to purchase shares of common stock of MagnaChip Semiconductor Corporation and outstanding warrants to purchase common units of MagnaChip Semiconductor LLC were automatically converted into warrants to purchase shares of common stock of MagnaChip Semiconductor Corporation, all at a ratio of one share of common stock for eight common units.

 

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Table of Contents

Business Segments

We report in three separate business segments because we derive our revenues from three principal business lines: Display Solutions, Power Solutions, and Semiconductor Manufacturing Services. We have identified these segments based on how we allocate resources and assess our performance.

 

   

Display Solutions: Our Display Solutions products include source and gate drivers and timing controllers that cover a wide range of flat panel displays used in LCD televisions and LED televisions and displays, mobile PCs and mobile communications and entertainment devices. Our display solutions support the industry’s most advanced display technologies, such as LTPS and AMOLED, as well as high-volume display technologies such as TFT. Our Display Solutions business represented 39.6% and 42.8% of our net sales for the three months ended March 31, 2011 and March 31, 2010, respectively.

 

   

Power Solutions: Our Power Solutions segment produces power management semiconductor products including discrete and integrated circuit solutions for power management in high-volume consumer applications. These products include MOSFETs, LED drivers, DC-DC converters, analog switches and linear regulators, such as low-dropout regulators, or LDOs. Our power solutions products are designed for applications such as mobile phones, LCD televisions, and desktop computers, and allow electronics manufacturers to achieve specific design goals of high efficiency and low standby power consumption. Going forward, we expect to continue to expand our power management product portfolio. Our Power Solutions business represented 10.9% and 5.0% of our net sales for three months ended March 31, 2011 and March 31, 2010, respectively.

 

   

Semiconductor Manufacturing Services: Our Semiconductor Manufacturing Services segment provides specialty analog and mixed-signal foundry services to fabless semiconductor companies that serve the consumer, computing and wireless end markets. We manufacture wafers based on our customers’ product designs. We do not market these products directly to end customers but rather supply manufactured wafers and products to our customers to market to their end customers. We offer approximately 240 process flows to our manufacturing services customers. We also often partner with key customers to jointly develop or customize specialized processes that enable our customers to improve their products and allow us to develop unique manufacturing expertise. Our manufacturing services are targeted at customers who require differentiated, specialty analog and mixed-signal process technologies such as high voltage CMOS, embedded memory and power. These customers typically serve high-growth and high-volume applications in the consumer, computing and wireless end markets. Our Semiconductor Manufacturing Services business represented 49.1% and 51.9% of our net sales for the three months ended March 31, 2011 and March 31, 2010, respectively.

Factors Affecting Our Results of Operations

Net Sales. We derive a majority of our sales (net of sales returns and allowances) from three reportable segments: Display Solutions, Power Solutions and Semiconductor Manufacturing Services. Our product inventory is primarily located in Korea and is available for drop shipment globally. Outside of Korea, we maintain limited product inventory, and our sales representatives generally relay orders to our factories in Korea for fulfillment. We have strategically located our sales and technical support offices near concentrations of major customers. Our sales offices are located in Hong Kong, Japan, Korea, Taiwan, China, the United Kingdom and the United States. Our network of authorized agents and distributors consists of agents in the United States and Europe and distributors and agents in the Asia Pacific region. Our net sales from All other consist principally of rental income.

We recognize revenue when risk and reward of ownership passes to the customer either upon shipment, upon product delivery at the customer’s location or upon customer acceptance, depending on the terms of the arrangement. For the three months ended March 31, 2011 and March 31, 2010, we sold products to over 209 and 217 customers, respectively, and our net sales to our ten largest customers represented 61% and 64% of our net sales. We have a combined production capacity of over 132,000 eight-inch equivalent semiconductor wafers per month. We believe our large-scale, cost-effective fabrication facilities enable us to rapidly adjust our production levels to meet shifts in demand by our end customers.

Gross Profit. Our overall gross profit generally fluctuates as a result of changes in overall sales volumes and in the average selling prices of our products and services. Other factors that influence our gross profit include changes in product mix, the introduction of new products and services and subsequent generations of existing products and services, shifts in the utilization of our manufacturing facilities and the yields achieved by our manufacturing operations, changes in material, labor and other manufacturing costs and variation in depreciation expense. Gross profit varies by our operating segments.

 

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Average Selling Prices. Average selling prices for our products tend to be highest at the time of introduction of new products which utilize the latest technology and tend to decrease over time as such products mature in the market and are replaced by next generation products. We strive to offset the impact of declining selling prices for existing products through our product development activities and by introducing new products that command selling prices above the average selling price of our existing products. In addition, we seek to manage our inventories and manufacturing capacity so as to preclude losses from product and productive capacity obsolescence.

Material Costs. Our cost of sales consists of costs of raw materials, such as silicon wafers, chemicals, gases and tape, packaging supplies, equipment maintenance and depreciation expenses. We use processes that require specialized raw materials, such as silicon wafers, that are generally available from a limited number of suppliers. If demand increases or supplies decrease, the costs of our raw materials could significantly increase.

Labor Costs. A significant portion of our employees are located in Korea. Under Korean labor laws, most employees and certain executive officers with one or more years of service are entitled to severance benefits upon the termination of their employment based on their length of service and rate of pay. As of March 31, 2011, approximately 98% of our employees were eligible for severance benefits.

Depreciation Expense. We periodically evaluate the carrying values of long-lived assets, including property, plant and equipment and intangible assets, as well as the related depreciation periods. At March 31, 2011, we depreciated our property, plant and equipment using the straight-line method over the estimated useful lives of our assets. Depreciation rates vary from 30-40 years on buildings to five to ten years for certain equipment and assets. Our evaluation of carrying values is based on various analyses including cash flow and profitability projections. If our projections indicate that future undiscounted cash flows are not sufficient to recover the carrying values of the related long-lived assets, the carrying value of the assets is impaired and will be reduced, with the reduction charged to expense so that the carrying value is equal to fair value.

Selling Expenses. We sell our products worldwide through a direct sales force as well as a network of sales agents and representatives to OEMs, including major branded customers and contract manufacturers, and indirectly through distributors. Selling expenses consist primarily of the personnel costs for the members of our direct sales force, a network of sales representatives and other costs of distribution. Personnel costs include base salary, benefits and incentive compensation. As incentive compensation is tied to various net sales goals, it will increase or decrease with net sales.

General and Administrative Expenses. General and administrative expenses consist of the costs of various corporate operations, including finance, legal, human resources and other administrative functions. These expenses primarily consist of payroll-related expenses, consulting and other professional fees and office facility-related expenses. Historically, our selling, general and administrative expenses have remained relatively constant as a percentage of net sales, and we expect this trend to continue in the future.

Research and Development. The rapid technological change and product obsolescence that characterize our industry require us to make continuous investments in research and development. Product development time frames vary but, in general, we incur research and development costs one to two years before generating sales from the associated new products. These expenses include personnel costs for members of our engineering workforce, cost of photomasks, silicon wafers and other non-recurring engineering charges related to product design. Additionally, we develop base-line process technology through experimentation and through the design and use of characterization wafers that help achieve commercially feasible yields for new products. The majority of research and development expenses are for process development that serves as a common technology platform for all of our product segments. Consequently, we do not allocate these expenses to individual segments.

Restructuring and Impairment Charges. We evaluate the recoverability of certain long-lived assets and in-process research and development assets on a periodic basis or whenever events or changes in circumstances indicate that the carrying value may not be recoverable. In our efforts to improve our overall profitability in future periods, we have closed or otherwise impaired, and may in the future close or impair, facilities that are underutilized and that are no longer aligned with our long-term business goals.

Interest Expense, Net. Our interest expense was incurred under our outstanding term loan and senior notes. Our term loan bore interest at six-month LIBOR plus 12%, and was minimally offset by interest income on cash balances. In April 2010, we repaid our term loan with a portion of the proceeds from our sale of $250 million in aggregate principal amount of 10.5% senior notes due 2018.

Impact of Foreign Currency Exchange Rates on Reported Results of Operations. Historically, a portion of our revenues and greater than the majority of our operating expenses and costs of sales have been denominated in non-U.S. currencies, principally the Korean won, and we expect that this will remain true in the future. Because we report our results of operations in U.S. dollars converted our non-U.S. revenues and expenses based on monthly average exchange rates, changes in the exchange rate between the Korean won and the U.S. dollar could materially impact our reported results of operations and distort period to period comparisons. In particular, because of the difference in the amount of our consolidated revenues and expenses that are in U.S. dollars relative to Korean won, depreciation in the U.S. dollar relative to the Korean won could result in a material increase in reported costs relative to revenues, and therefore could cause our profit margins and operating income (loss) to appear to decline materially, particularly relative to prior periods. The converse is true if the U.S. dollar were to appreciate relative to the Korean won. As a result of such foreign currency fluctuations, it could be more difficult to detect underlying trends in our business and results of operations. In addition, to the extent that fluctuations in currency exchange rates cause our results of operations to differ from our expectations or the expectations of our investors, the trading price of our stock could be adversely affected.

 

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From time to time, we may engage in exchange rate hedging activities in an effort to mitigate the impact of exchange rate fluctuations. Our Korean subsidiary enters into foreign currency option, forward and zero cost collar contracts in order to mitigate a portion of the impact of U.S. dollar-Korean won exchange rate fluctuations on our operating results. These foreign currency option, forward and zero cost collar contracts typically require us to sell specified notional amounts in U.S. dollars and provide us the option to sell specified notional amounts in U.S. dollars during successive months to our counterparty in exchange for Korean won at specified exchange rates. Obligations under these foreign currency option, forward and zero cost collar contracts must be cash collateralized if our exposure exceeds certain specified thresholds. These option, forward and zero cost collar contracts may be terminated by the counterparty in a number of circumstances, including if our long-term debt rating falls below B-/B3 or if our total cash and cash equivalents is less than $30 million at the end of a fiscal quarter. We cannot assure you that any hedging technique we implement will be effective. If our hedging activities are not effective, changes in currency exchange rates may have a more significant impact on our results of operations.

Foreign Currency Gain or Loss. Foreign currency translation gains or losses on transactions by us or our subsidiaries in a currency other than our or our subsidiaries’ functional currency are included in our statements of operations as a component of other income (expense). A substantial portion of this net foreign currency gain or loss relates to non-cash translation gain or loss related to the principal balance of intercompany borrowings at our Korean subsidiary that are denominated in U.S. dollars. This gain or loss results from fluctuations in the exchange rate between the Korean won and U.S. dollar.

Income Taxes. We record our income taxes in each of the tax jurisdictions in which we operate. This process involves using an asset and liability approach whereby deferred tax assets and liabilities are recorded for differences in the financial reporting bases and tax bases of our assets and liabilities. We exercise significant management judgment in determining our provision for income taxes, deferred tax assets and liabilities. We periodically evaluate our deferred tax assets to ascertain whether it is more likely than not that the deferred tax assets will be realized. Our income tax expense has been low in absolute dollars and as a percentage of net sales principally due to the availability of tax loss carry-forwards and we expect such rate to remain low for at least the next few years.

Our operations are subject to income and transaction taxes in Korea and in multiple foreign jurisdictions. Significant estimates and judgments are required in determining our worldwide provision for income taxes. Some of these estimates are based on interpretations of existing tax laws or regulations. The ultimate amount of tax liability may be uncertain as a result.

Capital Expenditures. We invest in manufacturing equipment, software design tools and other tangible and intangible assets for capacity expansion and technology improvement. Capacity expansions and technology improvements typically occur in anticipation of seasonal increases in demand. We typically pay for capital expenditures in partial installments with portions due on order, delivery and final acceptance. Our capital expenditures include our payments for the purchase of property, plant and equipment as well as payments for the registration of intellectual property rights.

Inventories. We monitor our inventory levels in light of product development changes and market expectations. We may be required to take additional charges for quantities in excess of demand, cost in excess of market value and product age. Our analysis may take into consideration historical usage, expected demand, anticipated sales price, new product development schedules, the effect new products might have on the sales of existing products, product age, customer design activity, customer concentration and other factors. These forecasts require us to estimate our ability to predict demand for current and future products and compare those estimates with our current inventory levels and inventory purchase commitments. Our forecasts for our inventory may differ from actual inventory use.

Principles of Consolidation. Our consolidated financial statements include the accounts of our company and our wholly-owned subsidiaries. All intercompany transactions and balances are eliminated in consolidation.

Segments. We operate in three segments: Display Solutions, Power Solutions and Semiconductor Manufacturing Services. Net sales and gross profit for the All other category primarily relate to certain business activities that do not constitute operating or reportable segments.

 

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Results of Operations – Comparison of Three Months Ended March 31, 2011 and 2010

The following table sets forth consolidated results of operations for the three months ended March 31, 2011 and 2010:

 

     Three Months Ended
March 31, 2011
           Three Months Ended
March 31, 2010
       
     Amount     % of
Net Sales
           Amount     % of
Net Sales
    Change
Amount
 
     (In millions)                  

Net sales

   $ 187.9        100.0        $ 179.5        100.0   $ 8.4   

Cost of sales

     131.4        69.9             130.1        72.5        1.3   
                                 

Gross profit

     56.5        30.1             49.4        27.5        7.1   
                                 

Selling, general and administrative expenses

     15.4        8.2             17.9        10.0        (2.5

Research and development expenses

     18.5        9.8             20.5        11.4        (2.0

Restructuring and impairment charges

     —          —               0.3        0.2        (0.3

Special charge for IPO incentive

     12.1        6.5             —          —          12.1   
                                 

Operating income

     10.4        5.5             10.6        5.9        (0.2
                                 

Interest expense, net

     (7.1     (3.8          (2.0     (1.1     (5.1

Foreign currency gain, net

     21.4        11.4             21.6        12.0        (0.3

Others

     0.2        0.1             (0.1     —          0.2   
                                 
     14.4        7.7             19.5        10.9        (5.1
                                 

Income before income taxes

     24.8        13.2             30.1        16.8        (5.3

Income tax expenses (benefits)

     2.4        1.3             (1.0     (0.6     3.4  
                                 

Net income

   $ 22.5        12.0        $ 31.1        17.3   $ (8.6
                                 

Net Sales

 

     Three Months Ended
March 31, 2011
           Three Months Ended
March 31, 2010
       
     Amount      % of
Net Sales
           Amount      % of
Net Sales
    Change
Amount
 
     (In millions)                  

Display Solutions

   $ 74.5         39.6        $ 76.7         42.8   $ (2.3

Power Solutions

     20.4         10.9             9.0         5.0        11.4   

Semiconductor Manufacturing Services

     92.3         49.1             93.2         51.9        (0.9

All other

     0.8         0.4             0.5         0.3        0.3   
                                   
   $ 187.9         100.0        $ 179.5         100.0   $ 8.4   
                                   

Net sales were $187.9 million for the three months ended March 31, 2011, a $8.4 million, or 4.7%, increase, compared to $179.5 million for the three months ended March 31, 2010. This increase was primarily due to increases in net sales increased for our Power Solutions segment, which was offset in part by a decrease in net sales from our Display Solutions segment and our Semiconductor Manufacturing Services segment.

 

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Display Solutions. Net sales from our Display Solutions segment were $74.5 million for the three months ended March 31, 2011, a $2.3 million, or 3.0%, decrease from $76.7 million for the three months ended March 31, 2010. The decrease was primarily due to a 5.1% sales volume decrease related to lower demand for certain consumer electronics products such as digital televisions, PCs and smart phones.

Power Solutions. Net sales from our Power Solutions segment were $20.4 million for the three months ended March 31, 2011, a $11.4 million, or 125.9%, increase from $9.0 million for the three months ended March 31, 2010. The increase was primarily due to a 69.5% increase in sales volume and a 30.5% increase in average selling prices driven by an improved product mix and higher demand for MOSFET products from existing and new customers as we grew this business.

Semiconductor Manufacturing Services. Net sales from our Semiconductor Manufacturing Services segment were $92.3 million for the three months ended March 31, 2011, a $0.9 million, or 1.0%, decrease compared to net sales of $93.2 million for the three months ended March 31, 2010. This decrease was primarily due to a 4.9% decrease in sales volume for certain product groups.

All Other. Net sales from All other were $0.8 million for the three months ended March 31, 2011, a $0.3 million, or 49.8%, increase compared to $0.5 million for the three months ended March 31, 2010. This increase resulted from the disposal of waste materials.

Net Sales by Geographic Region

The following table sets forth our net sales by geographic region and the percentage of total net sales represented by each geographic region for the three months ended March 31, 2011 and 2010:

 

     Three Months Ended
March 31, 2011
           Three Months Ended
March 31, 2010
       
     Amount      % of
Net Sales
           Amount      % of
Net Sales
    Change
Amount
 
     (In millions)                  

Korea

   $ 87.5         46.6        $ 97.7         54.4   $ (10.1

Asia Pacific

     57.3         30.5             48.5         27.0        8.8   

Japan

     13.3         7.1             10.2         5.7        3.1   

North America

     25.9         13.8             20.4         11.4        5.5   

Europe

     3.0         1.6             2.8         1.5        0.2   

Africa

     0.9         0.5             —           —          0.9   
                                   
   $ 187.9         100.0        $ 179.5         100.0   $ 8.4   
                                   

Net sales in Korea for the three months ended March 31, 2011 decreased from $97.7 million to $87.5 million compared to the three months ended March 31, 2010, or by $10.1 million, or 11.7%, primarily due to decreased demand in the market for Display Solution products.

 

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Gross Profit

 

     Three Months Ended
March 31, 2011
    Three Months Ended
March 31, 2010
       
     Amount      % of
Net Sales
    Amount      % of
Net Sales
    Change
Amount
 
     (In millions)  

Display Solutions

   $ 19.8         26.6   $ 14.4         18.8   $ 5.4   

Power Solutions

     2.6         12.6        1.6         17.3        1.0   

Semiconductor Manufacturing Services

     33.3         36.1        32.8         35.2        0.4   

All other

     0.8         100.0        0.5         100.0        0.3   
                              
   $ 56.5         30.1   $ 49.4         27.5   $ 7.1   
                              

Total gross profit was $56.5 million for the three months ended March 31, 2011 as compared to $49.4 million for the three months ended March 31, 2010, a $7.1 million, or 14.4%, increase. Gross profit as a percentage of net sales for the three months ended March 31, 2011 was 30.1%, an increase of 2.6% from 27.5% for the three months ended March 31, 2010. This increase in gross margin was primarily attributable to an increase in average selling prices in our Power Solutions segment and our Semiconductor Manufacturing Services segment, a significant volume increase in our Power Solutions segment, an increase in other revenue and a decrease in cost of sales, including a $2.5 million decrease in overhead costs mainly due to a decrease in operating lease expenses which resulted from the expiration of operating lease contracts in September 2010.

Display Solutions. Gross margin for our Display Solutions segment for the three months ended March 31, 2011 increased to 26.6% compared to 18.8% for the three months ended March 31, 2010, primarily due to decreased cost of sales, which decreased by $7.7 million for the three months ended March 31, 2011 compared to the three months ended March 31, 2010. This decrease in cost of sales was primarily due to a $3.3 million decrease in material costs, a $1.2 million decrease in subcontractor costs resulting from a change in product mix where the portion of sales of products requiring less subcontract costs increased and a $3.5 million decrease in other costs, which was mainly due to certain products manufactured at a relatively lower facility utilization at the end of 2009 that were sold during the three months ended March 31, 2010, a $1.2 million increase in depreciation costs and a $1.0 million decrease in overhead costs related to maintenance, repair and supplies expense.

Power Solutions. Gross margin for our Power Solutions segment for the three months ended March 31, 2011 decreased to 12.6% compared to 17.3% for the three months ended March 31, 2010. However, gross profit increased by $1.0 million due to increased sales volume and average selling prices. Cost of sales for the three months ended March 31, 2011 increased by $10.4 million compared to the three months ended March 31, 2010, primarily due to a $2.7 million increase in material costs, a $1.5 million increase in labor costs, a $4.4 million increase in subcontractor costs due to the increased sales volume, and a $0.9 million increase in overhead costs related to maintenance, repair and supplies expense due to improved facilities utilization resulting from our higher net sales.

Semiconductor Manufacturing Services. Gross margin for our Semiconductor Manufacturing Services segment increased to 36.1% in the three months ended March 31, 2011 from 35.2% in the three months ended March 31, 2010. This increase was primarily due to a decrease in cost of sales to a greater extent than a decrease in net sales. Cost of sales for the three months ended March 31, 2011 decreased by $1.4 million compared to the three months ended March 31, 2010, which was primarily attributable to a $2.4 million decrease in overhead costs related to maintenance, repair and supplies expense and a $0.2 million decrease in labor costs, partially offset by a $1.1 million increase in depreciation costs.

All Other. Gross margin for All other remained the same as there was no cost of sales in either period.

Operating Expenses

Selling, General and Administrative Expenses. Selling, general, and administrative expenses were $15.4 million, or 8.2% of net sales, for the three months ended March 31, 2011, compared to $17.9 million, or 10.0% of net sales, for the three months ended March 31, 2010. The decrease of $2.5 million, or 14.0%, was primarily attributable to a $3.0 million decrease in amortization expense and a $0.4 million decrease in outside service fees, primarily due to a decrease in professional fees and related expenses.

Research and Development Expenses. Research and development expenses were $18.5 million, or 9.8% of net sales, for the three months ended March 31, 2011, compared to $20.5 million, or 11.4% of net sales, for the three months ended March 31, 2010. The decrease of $2.0 million, or 9.9%, was due to a $2.6 million decrease in amortization and a $0.3 million decrease in material costs, partially offset by a $0.3 million increase in salaries and related expenses resulting from an annual salary increase, and a $0.2 million increase in outside service fees.

 

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Restructuring and Impairment Charges. Restructuring and impairment charges for the three months ended March 31, 2011 were nil compared to $0.3 million for the three months ended March 31, 2010. Impairment charges for the three months ended March 31, 2010 were related to abandoned in-process research and development projects.

IPO Incentive. We previously stated our intention to use part of the net proceeds from the IPO to make incentive payments to all employees, excluding management. The payment of such employee incentives was contingent upon the consummation of the IPO. We paid the IPO incentives in March 2011.

Operating Income

As a result of the foregoing, operating income decreased by $0.2 million, or 1.5%, in the three months ended March 31, 2011 compared to the three months ended March 31, 2010. As discussed above, the decrease in operating income primarily resulted from a $12.1 million of IPO incentive, which was partially offset by a $7.1 million increase in gross profit and a $2.0 million decrease in research and development expenses.

Other Income (Expense)

Interest Expense, Net. Net interest expense was $7.1 million during the three months ended March 31, 2011, an increase of $5.1 million compared to $2.0 million for the three months ended March 31, 2010. Interest expense for the three months ended March 31, 2011 was mainly incurred under our $250.0 million principal amount of senior notes issued on April 9, 2010 and interest expense for the three months ended March 31, 2010 was incurred under our $61.6 million principal amount of new term loan.

Foreign Currency Gain (Loss), Net. Net foreign currency gain for the three months ended March 31, 2011 was $21.4 million compared to net foreign currency gain of $21.6 million for the three months ended March 31, 2010. A substantial portion of our net foreign currency gain or loss is non-cash translation gain or loss recorded for intercompany borrowings at our Korean subsidiary and is affected by changes in the exchange rate between the Korean won and the U.S. dollar. Foreign currency translation gain from the intercompany borrowings was included in determining our consolidated net income since the intercompany borrowings were not considered long-term investments in nature because management intended to repay these intercompany borrowings at their respective maturity dates. The Korean won to U.S. dollar exchange rates were 1,107.2:1 and 1,130.8:1 using the first base rate as of March 31, 2011 and March 31, 2010, respectively, as quoted by the Korea Exchange Bank.

Others. Majority of others for the three months ended March 31, 2011 and 2010 were gain on valuation of derivatives which were designated as hedging instruments. Gain on valuation of derivatives represents either hedge ineffectiveness or components of changes in fair value of derivatives excluded from the assessments of hedge effectiveness.

Income Tax Expenses. Income tax expenses for the three months ended March 31, 2011 were $2.4 million compared to income tax benefits of $1.0 million for the three months ended March 31, 2010. This increase was primarily attributable to a $1.6 million reversal of liability for an uncertain tax position recorded for the three months ended March 31, 2010 due to the lapse of the applicable statute of limitations. The majority of income tax expenses for the three months ended March 31, 2011 was comprised of $1.5 million of withholding taxes mostly accrued on intercompany interest payments, which would be utilized as foreign tax credits, but due to the uncertainty of utilization, full valuation allowance was recognized, and a $0.5 million income tax effect from the change of deferred tax assets.

Net Income

As a result of the foregoing, net income decreased by $8.6 million, or 27.8%, in the three months ended March 31, 2011 compared to the three months ended March 31, 2010. As discussed above, the decrease in net income was primarily a result of IPO incentive paid in March 2011, an increase in interest expense resulting from the issuance of $250.0 million principal amount of senior notes on April 9, 2010 and a increase in income tax expenses.

Additional Business Metrics Evaluated by Management

Adjusted EBITDA and Adjusted Net Income

We define Adjusted EBITDA as net income (loss) adjusted to exclude (i) depreciation and amortization, (ii) interest expense, net, (iii) income tax expenses (benefits), (iv) restructuring and impairment charges, (v) the increase in cost of sales resulting from the fresh-start inventory accounting step-up, (vi) stock-based compensation expense, (vii) foreign currency gain, net, (viii) derivative valuation loss (gain), net and (ix) one-time incentive payments in connection with our IPO. See the footnotes to the table below for further information regarding these items. We present Adjusted EBITDA as a supplemental measure of our performance because:

 

   

Adjusted EBITDA eliminates the impact of a number of items that may be either one time or recurring items that we do not consider to be indicative of our core ongoing operating performance;

 

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we believe that Adjusted EBITDA is an enterprise level performance measure commonly reported and widely used by analysts and investors in our industry;

 

   

our investor and analyst presentations include Adjusted EBITDA; and

 

   

we believe that Adjusted EBITDA provides investors with a more consistent measurement of period to period performance of our core operations, as well as a comparison of our operating performance to that of other companies in our industry.

We use Adjusted EBITDA in a number of ways, including:

 

   

for planning purposes, including the preparation of our annual operating budget;

 

   

to evaluate the effectiveness of our enterprise level business strategies;

 

   

in communications with our board of directors concerning our consolidated financial performance; and

 

   

in certain of our compensation plans as a performance measure for determining incentive compensation payments.

We encourage you to evaluate each adjustment and the reasons we consider them appropriate. In evaluating Adjusted EBITDA, you should be aware that in the future we may incur expenses similar to the adjustments in this presentation. Adjusted EBITDA is not a measure defined in accordance with GAAP and should not be construed as an alternative to cash flows from operating activities or net income, as determined in accordance with GAAP. A reconciliation of net income to Adjusted EBITDA is as follows:

 

     Successor  
     Three Months Ended
March 31, 2011
    Three Months Ended
March 31, 2010
 
     (In millions)  

Net income

   $ 22.5      $ 31.1   

Adjustments:

    

Depreciation and amortization

     13.9        15.5   

Interest expense, net

     7.1        2.0   

Income tax expenses (benefits)

     2.4        (1.0

Restructuring and impairment charges(a)

     —          0.3   

Inventory step-up(b)

     —          0.9   

Stock-based compensation expense(c)

     0.6        1.5   

Foreign currency gain, net(d)

     (21.4     (21.6

Derivative valuation loss (gain), net(e)

     (0.2     0.1   

One-time IPO incentive(f)