# ON SEMICONDUCTOR CORP (ON) FY 2023 MD&A Verbatim Item 7 Management's Discussion and Analysis from ON SEMICONDUCTOR CORP's 10-K for fiscal year 2023. SEC filing source: https://www.sec.gov/Archives/edgar/data/1097864/000162828024003201/on-20231231.htm Accession: 0001628280-24-003201 Filing date: 2024-02-05 Report date: 2023-12-31 Extracted from a substantive MD&A body after the formal Item 7 span was a TOC or reference stub. Confidence: high Company profile: /company/ON/ All MD&A years: /company/ON/mda/ Previous year: /company/ON/mda/fy2022/ (FY 2022) Next year: /company/ON/mda/fy2024/ (FY 2024) Executive Overview This executive overview presents summarized information regarding our business and operating trends only. For further information relating to the information summarized herein, see "Management's Discussion and Analysis of Financial Condition and Results of Operations" in its entirety. onsemi Results Our revenue for the year ended December 31, 2023 was $8,253.0 million, representing a nominal decrease of 0.9% from $8,326.2 million for the year ended December 31, 2022. During 2023, we reported net income attributable to onsemi of $2,183.7 million compared to $1,902.2 million in 2022. Our operating income totaled $2,538.7 million during 2023 compared to $2,360.0 million during 2022. The increases in our operating income and net income were primarily due to goodwill and intangible asset impairment charges related to our QCS wind down in 2022 amounting to $386.8 million, which did not reoccur in 2023. Our gross margin decreased by approximately 190 basis points to 47.1% in 2023 from 49.0% in 2022. See discussion under "Results of Operations" for the reasons for the fluctuations year over year. Business and Macroeconomic Environment The semiconductor industry has traditionally been highly cyclical, has often experienced significant downturns in connection with, or in anticipation of, declines in general economic conditions, and may experience uncertainty and volatility in the future. During 2023, the semiconductor industry experienced a slow down due to softening demand. We are monitoring the economic environment and related forecasts, and for indicators that would suggest the global economic slowdown could continue. Given the current conditions, we are actively managing and have taken corrective actions in our manufacturing capacity and spending to align with the forecasted 2024 demand. We believe the current volatility in general economic conditions is not expected to have a significant impact on our long-term strategic and growth initiatives. We expect to continue to evaluate cost-saving initiatives to be able to align our overall cost structure, capital investments and other expenditures with our expected revenue, spending and capacity levels to help offset increased manufacturing and operating costs. We have taken, and continue to take actions, including but not limited to, exiting product lines that do not support our gross margin improvements and strategic objectives and aligning internal manufacturing capacity and resources to external demand. See Note 7: ''Restructuring, Asset Impairments and Other Charges, net'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K for information relating to our most recent cost-saving initiatives. Results of Operations A discussion of our results of operations for the year ended December 31, 2023 compared to December 31, 2022 is included below. For a discussion and comparison of the results of our operations for the year ended December 31, 2022 with the year ended December 31, 2021, refer to "Management's Discussion and Analysis of Financial Conditions and Results of Operations" in our Form 10-K for the year ended December 31, 2022 filed with the SEC on February 6, 2023. 33 Operating Results The following table summarizes certain information relating to our operating results that has been derived from our audited consolidated financial statements (in millions): [[GREPCENT_TABLE]] [["","Year ended December 31,"],["","2023","","2022","","","","","","Change"],["Revenue","$","8,253.0","","","$","8,326.2","","","","","","","$","(73.2)"],["Cost of revenue","4,369.5","","","4,249.0","","","","","","","120.5"],["Gross profit","3,883.5","","","4,077.2","","","","","","","(193.7)"],["Operating expenses:"],["Research and development","577.3","","","600.2","","","","","","","(22.9)"],["Selling and marketing","279.1","","","287.9","","","","","","","(8.8)"],["General and administrative","362.4","","","343.2","","","","","","","19.2"],["Amortization of acquisition-related intangible assets","51.1","","","81.2","","","","","","","(30.1)"],["Restructuring, asset impairments and other charges, net","74.9","","","17.9","","","","","","","57.0"],["Goodwill and intangible asset impairment","\u2014","","","386.8","","","","","","","(386.8)"],["Total operating expenses","1,344.8","","","1,717.2","","","","","","","(372.4)"],["Operating income","2,538.7","","","2,360.0","","","","","","","178.7"],["Other income (expense), net:"],["Interest expense","(74.8)","","","(94.9)","","","","","","","20.1"],["Interest income","93.1","","","15.5","","","","","","","77.6"],["Loss on debt refinancing and prepayment","(13.3)","","","(7.1)","","","","","","","(6.2)"],["Gain (loss) on divestiture of businesses","(0.7)","","","67.0","","","","","","","(67.7)"],["Other income (expense), net","(7.2)","","","21.7","","","","","","","(28.9)"],["Other income (expense), net","(2.9)","","","2.2","","","","","","","(5.1)"],["Income before income taxes","2,535.8","","","2,362.2","","","","","","","173.6"],["Income tax provision","(350.2)","","","(458.4)","","","","","","","108.2"],["Net income","2,185.6","","","1,903.8","","","","","","","281.8"],["Less: Net income attributable to non-controlling interest","(1.9)","","","(1.6)","","","","","","","(0.3)"],["Net income attributable to ON Semiconductor Corporation","$","2,183.7","","","$","1,902.2","","","","","","","$","281.5"]] [[/GREPCENT_TABLE]] Revenue Revenue was $8,253.0 million and $8,326.2 million for 2023 and 2022, respectively. The decrease from 2022 to 2023 of $73.2 million, or 0.9%, was attributable to a 12.4% decrease in revenue in ASG, partially offset by a 5.7% and 3.0% increase in revenue in PSG and ISG, respectively, which are further explained below. There were no customers whose revenue exceeded 10% or more of total revenue for the year ended December 31, 2023. Revenue by operating and reportable segments was as follows (dollars in millions): [[GREPCENT_TABLE]] [["","2023","","As a % of Revenue (1)","","2022","","As a % of Revenue (1)"],["PSG","$","4,449.0","","","53.9","%","","$","4,208.2","","","50.5","%"],["ASG","2,488.5","","","30.2","%","","2,841.3","","","34.1","%"],["ISG","1,315.5","","","15.9","%","","1,276.7","","","15.3","%"],["Total revenue","$","8,253.0","","","","","$","8,326.2"]] [[/GREPCENT_TABLE]] _______________________ (1)Certain of the amounts may not total due to rounding of individual amounts. 34 Revenue from PSG Revenue from PSG increased by $240.8 million, or approximately 5.7%, during 2023 compared to 2022. The revenue from our Advanced Power Division increased by $527.9 million, offset by a decrease of $287.1 million in our Integrated Circuits, Protection and Signal Division. This increase was primarily driven by our continued ramp up in SiC and other power automotive solutions, while the decrease was primarily driven by planned customer product exits and reduced demand driven by lower end-market requirements for these products. Revenue from ASG Revenue from ASG decreased by $352.8 million, or approximately 12.4%, during 2023 compared to 2022, due to a decrease in revenue from our Power Management Division of $354.7 million, primarily driven by the planned end of life for targeted products as well as a general decline in demand in the computing and consumer end-markets. Revenue from ISG Revenue from ISG increased by $38.8 million, or approximately 3.0%, during 2023 compared to 2022, which was largely driven by an increase in revenue from our Automotive Sensing Division of $117.4 million primarily due to the reallocation of internal capacity to products yielding higher average selling prices. This was partially offset by a decrease of $78.7 million in our Industrial and Consumer Solutions Division due to capacity reallocation and planned product exits. Revenue by Geographic Location Revenue by geographic location, based on sales billed from the respective country or regions, are as follows (dollars in millions): [[GREPCENT_TABLE]] [["","2023","","As a % of Revenue (1)","","2022","","As a % of Revenue (1)"],["Hong Kong","$","2,168.6","","","26.3","%","","$","2,315.8","","","27.8","%"],["Singapore","1,938.8","","","23.5","%","","2,133.9","","","25.6","%"],["United Kingdom","1,753.4","","","21.2","%","","1,492.3","","","17.9","%"],["United States","1,573.7","","","19.1","%","","1,464.7","","","17.6","%"],["Other","818.5","","","9.9","%","","919.5","","","11.0","%"],["Total Revenue","$","8,253.0","","","","","$","8,326.2"]] [[/GREPCENT_TABLE]] _______________________ (1)Certain of the amounts may not total due to rounding of individual amounts. Gross Profit and Gross Margin Gross profit was $3,883.5 million and $4,077.2 million for 2023 and 2022, respectively, representing a decrease of $193.7 million or approximately 5%. For the overall Company, the decline in existing product revenue negatively impacted gross profit by approximately $400 million, and higher manufacturing costs at our EFK location, which include start up and ramp up costs, along with an unfavorable impact from our foundry business, negatively impacted gross profit by approximately $160 million. This decrease was partially offset by the gross profit of approximately $320 million from new product sales. Our gross margin decreased by 1.9% from 49.0% for the year ended December 31, 2022 to 47.1% for the year ended December 31, 2023, due to the impact of the factors explained above. Our gross profit and gross margin percentages by operating and reportable segment were as follows (dollars in millions): 35 [[GREPCENT_TABLE]] [["","2023","","","As a % of Segment Revenue (1)","","","","2022","","","As a % of Segment Revenue (1)"],["PSG","$","2,111.3","","","","47.5","%","","","","$","1,994.3","","","","47.4","%"],["ASG","1,131.9","","","","45.5","%","","","","1,474.5","","","","51.9","%"],["ISG","640.3","","","","48.7","%","","","","608.4","","","","47.7","%"],["Total gross profit","$","3,883.5","","","","47.1","%","","","","$","4,077.2","","","","49.0","%"]] [[/GREPCENT_TABLE]] _______________________ (1)Certain of the amounts may not total due to rounding of individual amounts. Explanation for the increase or decrease in gross profit amounts and gross margin percentages for the year ended December 31, 2023, compared to the year ended December 31, 2022 is provided below: PSG gross profit and gross margin increased by $117 million and 0.1%, respectively, primarily driven by increased revenue from new product sales, which contributed approximately $320 million, and was partially offset by the impact of the decrease in revenue from existing products amounting to approximately $180 million. ASG gross profit and gross margin decreased by $342.6 million and 6.4%, respectively, primarily driven by the decline in existing product revenue which impacted gross profit by approximately $250 million, as well as the higher manufacturing costs at our EFK location, which includes the unfavorable impact of our foundry business of approximately $120 million. ISG gross profit and gross margin increased by $31.9 million and 1%, respectively, primarily driven by increased revenue in existing products due to favorable pricing and product mix. Operating Expenses Research and Development Research and development expenses were $577.3 million and $600.2 million, or approximately 7% and 7% of revenue for 2023 and 2022, respectively, representing a decrease of $22.9 million, or approximately 4% year-over-year. The decrease was primarily due to a reduction in variable compensation expense, partially offset by an increase in new product development costs. Selling and Marketing Selling and marketing expenses were $279.1 million and $287.9 million, or approximately 3% and 3% of revenue for 2023 and 2022, respectively, representing a decrease of $8.8 million, or approximately 3% year-over-year, primarily due to a reduction in variable compensation expense. General and Administrative General and administrative expenses were $362.4 million and $343.2 million, or approximately 4% and 4% of revenue for 2023 and 2022, respectively, representing an increase of $19.2 million, or approximately 6% year-over-year. The increase was primarily due to expenses associated with information technology initiatives and a bad debt provision on outstanding receivable balances generated under an agreement with a business partner, which was partially offset by a decrease in variable compensation expense. Amortization of Acquisition-Related Intangible Assets Amortization of acquisition-related intangible assets was $51.1 million and $81.2 million for 2023 and 2022, respectively, representing a decrease of $30.1 million, or approximately 37.1%, year-over-year. The decrease was due to the impairment of intangible assets associated with the QCS wind down during 2022, and a reduction in amortization expense as certain intangible assets became fully amortized. Restructuring, Asset Impairments and Other Charges, net Restructuring, asset impairments and other charges, net was $74.9 million and $17.9 million for 2023 and 2022, respectively, 36 representing an increase of $57.0 million. Charges in 2023 related primarily to the business realignment efforts during 2023. For additional information, see Note 7: ''Restructuring, Asset Impairments and Other Charges, net'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K. Goodwill and Intangible Asset Impairment Goodwill and intangible asset impairment charges were zero and $386.8 million for 2023 and 2022, respectively. During 2022, we recorded goodwill impairment charges of $330.0 million and intangible asset impairment charges of $56.8 million related to the QCS wind down. See Note 6: ''Goodwill and Intangible Assets'' in the notes to our unaudited consolidated financial statements included elsewhere in this Form 10-K for additional information. Other Income and Expenses Interest Expense Interest expense decreased by $20.1 million, or approximately 21.2%, to $74.8 million during 2023 compared to $94.9 million in 2022. The decrease was primarily due to the repayment of the balance under the Term Loan "B" Facility, which was repaid with proceeds from the 0.50% Notes. Additionally, the 1.625% Notes matured and were repaid during October 2023. Our average gross amount of long-term debt balance (including current maturities) during 2023 and 2022 was $3,304.1 million and $3,243.3 million, respectively. Our weighted average interest rate on our gross amount of long-term debt (including current maturities) was 2.3% and 2.9% per annum in 2023 and 2022, respectively. Interest income Interest income increased by $77.6 million, or approximately 500.6%, to $93.1 million during 2023 compared to $15.5 million in 2022, primarily due to the increase in interest rates during 2023 along with a strategic shift in our investment strategy. See "Liquidity and Capital Resources—Key Financing and Capital Events" below and Note 9: ''Long-Term Debt'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K for a description of our indebtedness and our refinancing activities. Gain (loss) on divestiture of businesses Loss on divestiture of business was $0.7 million in 2023, compared to a gain of $67.0 million in 2022. During 2022, we divested the wafer manufacturing facilities in Niigata, Japan, Pocatello, Idaho, South Portland, Maine and Oudenaarde, Belgium and recognized the gain relating to such divestitures. Loss on Debt Refinancing and Prepayment We recorded loss on debt refinancing and prepayment of $13.3 million during 2023 compared to $7.1 million during 2022. The 2023 loss was due to the write-off relating to the repayment of the Term Loan "B" Facility, and the 2022 loss was primarily related to the partial prepayment of the Term "B" Facility. See "Liquidity and Capital Resources—Key Financing and Capital Events" below and Note 9: ''Long-Term Debt'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K for a description of our indebtedness and our refinancing activities. Other income (expense), net Other income (expense), net was an expense of $7.2 million in 2023, compared to an income of $21.7 million in 2022. During 2023 we recognized actuarial losses on pension plans of $4.0 million, whereas we recognized actuarial gains on pension plans of $22.1 million during 2022. Income Tax Provision We recorded an income tax provision of $350.2 million and $458.4 million in 2023 and 2022, respectively, representing effective tax rates of 13.8% and 19.4%. The decrease in our effective tax rate was due to the goodwill impairments in the prior year, which were not deductible for tax purposes, and a current year benefit due to the net release of unrecognized tax benefits. For additional information, see Note 16: ''Income Taxes'' and Note 6: ''Goodwill and Intangible Assets'' in the notes to the audited consolidated financial statements included elsewhere in this Form 10-K. 37 Liquidity and Capital Resources Overview Our principal sources of liquidity are cash on hand, cash generated from operations, available borrowings under our Revolving Credit Facility as well as new debt and/or equity issuances. In the near term, we expect to fund our cash requirements by utilizing any or a combination of these principal sources, including any amounts required to satisfy our current portion of long-term debt. Our cash and cash equivalents were $2,483.0 million as of December 31, 2023 and our Revolving Credit Facility has approximately $1.1 billion available for future borrowings as of December 31, 2023. We require cash to: (i) fund our operating expenses, working capital requirements, outlays for strategic acquisitions and investments; (ii) service our debt, including principal and interest; (iii) incur capital expenditures; and (iv) repurchase our common stock. During the ordinary course of business, we evaluate our cash requirements and, if necessary, adjust our expenditures to reflect the current market conditions and our projected sales and demand. Our capital expenditures are primarily directed towards manufacturing equipment and can materially influence our available cash for other initiatives. Future capital expenditures may be impacted by events and transactions that are not currently forecasted. We believe that the key factors that could adversely affect our internal and external sources of cash include: •changes in demand for our products, competitive pricing pressures, supply chain constraints, effective management of our manufacturing capacity, our ability to achieve further reductions in operating expenses, our ability to make progress on the achievement of our business strategy and sustainability goals, the impact of our restructuring programs on our production and cost efficiency and our ability to make the research and development expenditures required to remain competitive in our business; and •the debt and equity capital markets could impact our ability to obtain needed financing on acceptable terms or to respond to business opportunities and developments as they arise, including interest rate fluctuations, macroeconomic conditions, sudden reductions in the general availability of lending from banks or the related increase in cost to obtain bank financing and our ability to maintain compliance with covenants under our debt agreements in effect from time to time. Sources and Uses of Cash The following are the significant sources and uses of cash during 2023: •Cash flows from operating activities of $1,977.5 million. •Purchase of property, plant & equipment of $1,575.6 million. •Issuance of $1.5 billion of 0.50% Notes, the net proceeds of which were used to repay the existing indebtedness under the Term Loan "B" Facility, net cost of the related convertible note hedges, the related transaction fees and general corporate purposes. •Repayment of $125 million under the Revolver due 2024 in the first quarter of 2023. •Entering into the New Credit Agreement consisting of a $1.5 billion Revolving Credit Facility and draw down of $375 million to repay the entire outstanding balance under the Revolver due 2024 in the second quarter of 2023. •Repurchases of approximately 7.6 million shares of common stock for an aggregate purchase price of $564.0 million under the Share Repurchase Program. •Repayment of the 1.625% Notes amounting to $119.6 million in cash upon maturity and issuance of approximately 4.5 million shares of common stock to settle the excess over the principal. Operating Activities Our long-term cash generation is dependent on the ability of our operations to generate cash. Our cash flows from operating activities were $1,977.5 million, $2,633.1 million and $1,782.0 million for the years ended December 31, 2023, 2022 and 2021, 38 respectively. Our operating cash flows for the year ended December 31, 2023 decreased by $655.6 million, or 24.9%, compared to the year ended December 31, 2022 and was primarily attributable to increased working capital requirements related to our strategic investments in SiC inventory and our strategic investments in inventory for fab transitions, and payments related to the 2022 variable compensation. Our ability to maintain positive operating cash flows is dependent on, among other factors, our success in achieving our revenue goals and in meeting LTSA commitments and manufacturing and operating cost targets. Management of our assets and liabilities, including both working capital and long-term assets and liabilities, also influences our operating cash flows. Investing Activities Our cash flows used in investing activities were $1,737.9 million, $705.4 million and $915.1 million for the years ended December 31, 2023, 2022 and 2021, respectively. The increase of $1,032.5 million for the year ended December 31, 2023 compared to the year ended December 31, 2022 was primarily attributable to an increase in capital expenditures, the absence of any divestiture activities in 2023 and the remaining payment of $236.3 million related to the acquisition of our EFK location. During the years ended December 31, 2023, 2022 and 2021, we paid $1,575.6 million, $1,005.0 million and $444.6 million, respectively, for capital expenditures. Our capital expenditures as a percent of revenue increased in 2023 to 19%, primarily as a result of investments to expand SiC manufacturing capacity. In 2024, we expect capital expenditures to be in the range of 10% - 12% of revenue as these investments along with other capital initiatives are expected to decrease. Financing Activities Our cash flows used in financing activities were $686.5 million, $370.0 million and $569.4 million for the years ended December 31, 2023, 2022 and 2021, respectively. The increase of $316.5 million for the year ended December 31, 2023 compared to the year ended December 31, 2022 was primarily attributable to proceeds and payments related to long-term borrowings and share repurchase activity. During 2023, we replaced the Revolver due 2024 maturing on June 28, 2024 with the Revolving Credit Facility. We do not have any meaningful debt maturing during the next 12 months. Our 0% Notes are classified as a current liability based on share price trigger provisions. We expect to continue repurchases under our Share Repurchase Program subject to market conditions, the price of our shares and other factors (including liquidity needs). However, the Share Repurchase Program may be modified, suspended or terminated by the Board of Directors at any time without prior notice. See Part I, Item 1A "Risk Factors" included elsewhere in this Form 10-K for additional information related to liquidity matters. Debt As of December 31, 2023, we were in compliance with the indentures relating to our 0% Notes, 0.50% Notes and 3.875% Notes and with the financial covenants included in the New Credit Agreement. The 0% Notes, 0.50% Notes and 3.875% Notes are senior to the existing and future subordinated indebtedness of onsemi and its guarantor subsidiaries, rank equally in right of payment to all of our existing and future senior debt and, as unsecured obligations, are subordinated to all of our existing and future secured debt to the extent of the assets securing such debt. Failure to comply with any of our covenants or any other terms of our New Credit Agreement could result in higher interest rates in our borrowings or the acceleration of the maturities of our outstanding debt. In order to remain in compliance with the various financial covenants contained in our debt agreements and to fund working capital, our capital expenditures and business development efforts will depend on our ability to generate cash from operating activities, which is subject to, among other things, our future operating performance, as well as financial, competitive, legislative, regulatory and other conditions, some of which may be beyond our control. As of December 31, 2023, there was $804.9 million aggregate principal amount of the 0% Notes, $1,500.0 million aggregate principal amount of the 0.50% Notes and $700.0 million aggregate principal amount of 3.875% Notes. The aggregate principal amount of outstanding 0% Notes, net of unamortized discount and issuance costs, has been reclassified as a current portion of long-term debt based on the share price trigger provisions. The associated interest expense related to our indebtedness will continue to have a significant impact on our results of operations. See Note 5: ''Acquisitions and Divestitures'' and Note 9: ''Long-Term Debt'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K for additional information. Key Financing and Capital Events Overview 39 We continually evaluate our debt and capital structure and when appropriate, we have completed various measures to secure liquidity, repurchase shares of our common stock, reduce interest costs, amend or replace existing key financing arrangements and, in some cases, extend a portion of our debt maturities to continue to provide us additional operating flexibility. We took certain of these actions in 2023, which included the issuance of $1.5 billion of 0.50% Convertible Senior Notes to repay our Term Loan "B" facility and the termination and replacement of the Prior Credit Agreement with the New Credit Agreement. See Note 9: ''Long-Term Debt'' and for further discussion on the Share Repurchase Program, see Note 10: ''Earnings Per Share and Equity'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K. 2023 Financing Events •Issuance of $1.5 billion of 0.50% Notes on February 28, 2023, the net proceeds of which were used to repay $1,086.0 million of the existing indebtedness under the Term Loan "B" Facility, the related transaction fees and expenses and to pay approximately $171.5 million net cost of the related convertible note hedges. •Repayment of $125 million under the Revolver due 2024 in the first quarter of 2023. •Entering into the New Credit Agreement consisting of a $1.5 billion Revolving Credit Facility and draw down of $375 million to repay the entire outstanding balance under the Revolver due 2024 in the second quarter of 2023. •Repurchases of approximately 7.6 million shares of common stock for an aggregate purchase price of $564.0 million under the Share Repurchase Program. •Repayment of the 1.625% Notes amounting to $119.6 million in cash upon maturity and issuance of approximately 4.5 million shares of common stock to settle the excess over the principal. 2022 Financing Events •Draw down of $500.0 million on the Revolver due 2024 and partial repayment of the outstanding balance on the Term Loan "B" facility and corresponding write off of $7.3 million of unamortized debt discount and issuance costs. •Repurchases of approximately 4.0 million shares of common stock for an aggregate purchase price of $259.8 million under the previous share repurchase program. •Settlement with certain holders of the 1.625% Notes to repurchase or exchange, as applicable, $16.0 million in aggregate principal amount of the 1.625% Notes for a total consideration of $16.0 million in cash and 552,000 shares of common stock. •Entry into the Tenth Amendment to the Prior Credit Agreement to transition the interest rate base from the LIBO Rate to Term SOFR. 2021 Financing Events •Issuance of $805.0 million aggregate principal amount of 0% Notes, after paying $160.3 million in cash for the convertible note hedges and receipt of $93.8 million in cash for the sale of warrants. •Settlement with certain holders of the 1.625% Notes to repurchase or exchange, as applicable, $372.4 million in aggregate principal amount of the 1.625% Notes for a total consideration of $506.5 million in cash and 5.4 million shares of common stock. Settlement with certain holders of 1.625% Notes in December 2021 of $47.4 million of the 1.625% Notes for $47.4 million in cash and 1.6 million shares of common stock. •Repayment of the outstanding balance of $700.0 million under the Revolver due 2024 using a portion of the net proceeds from the issuance of the 0% Notes and cash on hand. See Note 9: ''Long-Term Debt'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K for additional information. 40 Critical Accounting Policies and Estimates The accompanying discussion and analysis of our financial condition and results of operations is based upon our audited consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. We believe certain of our accounting policies are critical to understanding our financial position and results of operations. We utilize the following critical accounting policies in the preparation of our financial statements. In addition to our critical accounting policies below, see Note 2: ''Significant Accounting Policies'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K. Use of Estimates. The preparation of financial statements in accordance with GAAP requires us to make estimates and assumptions that affect the reported amount of assets and liabilities at the date of the financial statements and the reported amount of revenue and expenses during the reporting period. We evaluate these estimates and judgments on an ongoing basis and base our estimates on experience, current and expected future conditions, third-party evaluations and various other assumptions that we believe are reasonable under the circumstances. Significant estimates have been used by management in conjunction with the following: (i) calculation of future payouts for customer incentives and amounts subject to allowances and returns; (ii) valuation and obsolescence relating to inventories; (iii) measurement of valuation allowances against deferred tax assets, and evaluations of uncertain tax positions; (iv) assumptions used in business combinations; and (v) testing for impairment of long-lived assets and goodwill. Actual results may differ from the estimates and assumptions used in the consolidated financial statements. Revenue Recognition. We generate revenue from sales of our semiconductor products to direct customers and distributors. We also generate revenue, to a much lesser extent, from product development agreements and manufacturing services provided to customers. We apply a five-step approach in determining the amount and timing of revenue to be recognized: (i) identifying the contract with a customer; (ii) identifying the performance obligations in the contract; (iii) determining the transaction price; (iv) allocating the transaction price to the performance obligations in the contract; and (v) recognizing revenue when the performance obligation is satisfied. We allocate the transaction price to each distinct product based on its relative stand-alone selling price. In determining the transaction price, we evaluate whether the price is subject to refund or adjustment to determine the net consideration to which we expect to be entitled. We recognize revenue when we satisfy a performance obligation in an amount reflecting the consideration to which we expect to be entitled. Substantially all of our revenue is recognized at the time control of the products transfers to the customer. For sales agreements, we have identified the promise to transfer products, each of which is distinct, to be the performance obligation. For product development agreements, we have identified the completion of a service defined in the agreement to be the performance obligation. We recognize revenue from manufacturing services when we satisfy the performance obligation by transferring the promised goods or services to the customer. Depending on the terms of the applicable contractual agreement with the customer, revenue is recognized at the point in time when the customer obtains control of the promised goods or service, or over time when the created asset has no alternate use to us and there is an enforceable right to payment for the performance to date. Sales to certain distributors, primarily those with ship and credit rights, can be subject to price adjustment on certain products. We develop an estimate of their expected claims under the ship and credit program based on the historical claims data submitted by product and customer and expected future claims, which requires the use of estimates and assumptions related to the amount of each claim as well as the historical period used to develop the estimate. Our direct customers do not have the right to return products, other than pursuant to the provisions of our standard warranty. Sales to distributors, however, are typically made pursuant to agreements that provide return rights and stock rotation provisions permitting limited levels of product returns. Provisions for discounts and rebates to customers, estimated returns and allowances, ship and credit claims and other adjustments are provided for in the same period the related revenue are recognized, and are netted against revenue. For non-quality related returns, we recognize a related asset for the right to recover returned products with a corresponding reduction to cost of goods sold. We record a reserve for cash discounts as a reduction to accounts receivable and a reduction to revenue, based on the experience with each customer. Inventories. We carry our inventories at the lower of standard cost (which approximates actual cost on a first-in, first-out basis) or net realizable value and record provisions for potential excess and obsolete inventories based upon a regular analysis of inventory on hand compared to historical and projected end-user demand. The determination of projected end-user demand requires the use of estimates and assumptions related to projected unit sales for each product. These provisions can influence our results from operations. For example, when demand falls for a given part, all or a portion of the related inventory that is considered to be in excess of anticipated demand is reserved, impacting our cost of revenue and gross profit. The majority of 41 product inventory that has been previously reserved is ultimately discarded. However, we do sell some products that have previously been written down, such sales have historically been consistently insignificant and the related impact on our margins has also been insignificant. Income Taxes. Income taxes are accounted for using the asset and liability method. Under this method, deferred income tax assets and liabilities are recognized for the future tax consequences attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred income tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which these temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is provided for those deferred tax assets for which we cannot conclude that it is more likely than not that such deferred tax assets will be realized. In determining the amount of the valuation allowance, estimated future taxable income, feasible tax planning strategies, future reversals of existing temporary differences and taxable income in prior carryback years, if a carryback is permitted are considered. If we determine it is more likely than not that all or a portion of the remaining deferred tax assets will not be realized, the valuation allowance will be increased with a charge to income tax expense. Conversely, if we determine it is more likely than not to be able to utilize all or a portion of the deferred tax assets for which a valuation allowance has been provided, the related portion of the valuation allowance will be recorded as a reduction to income tax expense. We recognize and measure benefits for uncertain tax positions using a two-step approach. The first step is to evaluate the tax position taken or expected to be taken in a tax return by determining if the weight of available evidence indicates that is it more likely than not that the tax positions will be sustained upon audit, including resolution of any related appeals or litigation processes. For tax positions that are more likely than not to be sustained upon audit, the second step is to measure the tax benefit as the largest amount that is more than 50% likely to be realized upon settlement. No tax benefit is recognized for tax positions that are not more likely than not to be sustained. Our practice is to recognize interest and/or penalties related to income tax matters in income tax expense. Significant judgment is required to evaluate uncertain tax positions. Evaluations are based upon a number of factors, including changes in facts or circumstances, changes in tax law, correspondence with tax authorities during the course of tax audits and effective settlement of audit issues. Changes in the recognition or measurement of uncertain tax positions could result in material increases or decreases in income tax expense in the period in which the change is made, which could have a material impact to our effective tax rate. Business Combination. We use estimates and assumptions in allocating the purchase price of acquired business by utilizing established valuation techniques appropriate for the technology industry to record the acquired assets and liabilities at fair value. We utilize the income approach, cost approach or market approach, depending upon which approach is the most appropriate based on the nature and reliability of available data. If the income approach is used, the fair value determination is predicated upon the value of the future cash flows that an asset is expected to generate over its economic life and involves significant assumptions as to cash flows, associated expenses, long-term growth rates and discount rates. The cost approach takes into account the cost to replace (or reproduce) the asset and involves assumptions relating to the asset's value of physical, functional and/or economic obsolescence that has occurred with respect to the asset. The market approach is used to estimate value from an analysis of actual transactions or offerings for economically comparable assets available as of the valuation date. Determining the fair value of acquired technology assets is judgmental in nature and requires the use of significant estimates and assumptions, including the discount rate, revenue growth rates, projected gross margins, and estimated research and development expenses. Impairment of Goodwill and Long-Lived Assets. We evaluate our goodwill for potential impairment annually during the fourth quarter and whenever events or changes in circumstances indicate the carrying value of goodwill may not be recoverable. Our impairment evaluation consists of a qualitative assessment, and if deemed necessary, a quantitative test is performed which compares the fair value of a reporting unit with its carrying amount, including goodwill. Determining the fair value of our reporting units is subjective in nature and involves the use of significant estimates and assumptions, including projected net cash flows, discount and long-term growth rates. We determine the fair value of our reporting units based on an income approach, whereby the fair value of the reporting unit is derived from the present value of estimated future cash flows. The assumptions about estimated cash flows include factors such as future revenue, gross profit, operating expenses, and industry trends. We consider historical rates and current market conditions when determining the discount and long-term growth rates to use in its analysis. We consider other valuation methods, such as the cost approach or market approach, if it is determined that these methods provide a more representative approximation of fair value. We evaluate the recoverability of the carrying amount of our property, plant and equipment and intangible assets, whenever events or changes in circumstances indicate that the carrying amount of an asset group may not be fully recoverable. 42 Impairment is first assessed when the undiscounted expected cash flows derived for an asset group are less than its carrying amount. Impairment losses, if applicable, are measured as the amount by which the carrying value of an asset group exceeds its fair value and are recognized in operating results. We continually apply our best judgment when applying these impairment rules to determine the timing of the impairment test, the undiscounted cash flows used to assess impairments and the fair value of an impaired asset group. The dynamic economic environment in which we operate and the resulting assumptions used to estimate future cash flows impact the outcome of our impairment tests. As we continue to implement our business strategy to rationalize products and manufacturing locations to transition to a lighter internal fabrication model, there could be divestiture transactions resulting in a portion of goodwill or other assets being de-recognized, and which may or may not result in accounting charges. Contingencies. We are involved in a variety of legal matters that arise in the normal course of business. Based on the available information, we evaluate the relevant range and likelihood of potential outcomes and we record the appropriate liability when the amount is deemed probable and reasonably estimable. Recent Accounting Pronouncements For a discussion of recent accounting pronouncements, see Note 4: ''Recent Accounting Pronouncements and Other Developments'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K.