Texas Instruments 2006 Annual Report Download - page 46

TEXAS INSTRUMENTS 2006 ANNUAL REPORT
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continues to grow and broaden its product portfolio. Additionally, our large customers are moving increasingly toward a
business model that requires us to maintain inventory on a consignment basis on their behalf.
We own and operate semiconductor manufacturing sites in the Americas, Japan, Europe and Asia. Our facilities require
substantial investment to construct and are largely fixed-cost assets once in operation. Because we own most of our
manufacturing capacity, a significant portion of our operating costs is fixed. In general, these costs do not decline with
reductions in customer demand or our utilization of our manufacturing capacity, and can adversely affect profit margins as
a result. Conversely, as product demand rises and factory utilization increases, the fixed costs are spread over increased
output, which should improve profit margins.
As part of our manufacturing strategy, we outsource a portion of our product manufacturing to outside suppliers (foundries
and assembly/test subcontractors), which reduces both the amount of capital expenditures and subsequent depreciation
required to meet customer demands and fluctuations in profit margins. Outside foundries provided about 25 percent of
our total wafers produced in 2006. (A wafer is a thin slice of silicon on which an array of semiconductor devices has been
fabricated.)
The semiconductor market is characterized by constant and typically incremental innovation in product design and
manufacturing technologies. We make significant investments in research and development (R&D). Typically, products
resulting from our R&D investments in the current period do not contribute materially to revenue in that period, but should
benefit us in future years. In general, new semiconductor products are shipped in limited quantities initially and will then
ramp into high volumes over time. Prices and manufacturing costs tend to decline over time.
We strive to keep improving performance. One way will be by changing how we develop advanced digital manufacturing
process technology. Instead of separately creating our own process technology, we will work collaboratively with our
foundry suppliers to specify and drive the next generations of digital process technology, and we will continue making
products on these processes in our world-class factories. We expect that our 32-nanometer manufacturing process
will be the first process technology developed entirely through this new collaboration. This is a natural extension of our
existing relationships with foundries that will increase our R&D efficiency and our capital efficiency while maintaining our
responsiveness to customers. Additionally, we will stop production at an older digital factory and move its manufacturing
equipment into several of our analog factories to support greater analog output.
These changes will be made throughout 2007, and when complete are expected to reduce costs by about $200 million
annually. As a result of these actions, about 500 jobs are expected to be reduced by year end. In total, we expect to incur
restructuring charges of approximately $55 million, about evenly distributed across the four quarters of 2007.
Our Education Technology segment is a leading supplier of graphing handheld calculators. It also provides our customers
with business and scientific calculators and a wide range of advanced classroom tools and professional development that
enables students and teachers to explore math and science interactively. Our products are marketed primarily through
retailers and to schools through instructional dealers. This business segment represented 4 percent of our revenue in 2006.
Prices of Education Technology products tend to be stable.
In the third quarter of 2005, we implemented the Financial Accounting Standards Board’s (FASB) Statement of Financial
Accounting Standard (SFAS) No. 123(R), “Share-Based Payments.” The financial results of 2006 and 2005 include the effects
of adopting this new accounting rule for stock options effective July 1, 2005. Before July 1, 2005, our financial results include
the expense of restricted stock units, but not stock options. As a result our 2006 and 2005 financial results are not fully
comparable to our prior financial results or to each other. For 2006, the total stock-based compensation expense was
$332 million, or 2.3 percent of revenue, compared with $175 million, or 1.4 percent of revenue in 2005. Stock-based
compensation expense has been included in the applicable income statement lines but has not been allocated between
segments. Rather it is reflected in Corporate (see Note 1 to the Financial Statements for additional discussion of the impact of
adopting SFAS 123(R)).
Included in Note 1 to the Financial Statements, under Prior Period Pro Forma Presentations, is a table that reflects what our
financial results would have been if our stock-based compensation had been accounted for under the fair value method in
periods prior to the adoption of SFAS 123(R).
As a result of a study of the pattern of usage of long-lived depreciable assets, effective January 1, 2006, we adopted the
straight-line method of depreciation for all property, plant and equipment on a prospective basis as allowed for under SFAS
No. 154, “Accounting Changes and Error Corrections, a replacement of APB Opinion No. 20 and FASB Statement No. 3.” The
change in depreciation method for the year ended December 31, 2006, reduced depreciation expense by $156 million (see
Financial Condition below and Note 1 to the Financial Statements for additional information).