Creative 2006 Annual Report Download - page 2

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Chairman’s Message
Dear฀Shareholders,
Fiscal฀2006฀ was฀a฀ difficult฀and฀ challenging฀year฀for฀Creative.฀฀However,฀we฀continued฀to฀realize฀significant฀achievements฀on฀the฀
product฀and฀technology฀fronts,฀the฀most฀high-profile฀of฀which฀I฀believe฀was฀the฀award฀of฀a฀U.S.฀patent฀for฀the฀user฀interface฀for฀
portable฀media฀players฀(which฀we฀refer฀to฀as฀the฀“ZEN™฀Patent”).฀฀Creative฀then฀scored฀a฀major฀success฀with฀a฀payment฀of฀$100฀
million฀from฀Apple฀as฀part฀of฀our฀recent฀settlement,฀which฀includes฀a฀license฀for฀Apple฀to฀use฀the฀ZEN฀Patent.฀
The฀award฀of฀the฀ZEN฀ Patent฀in฀ August฀2005฀was฀ an฀important฀milestone฀in฀ our฀research฀and฀ development฀efforts,฀particularly฀
for฀personal฀digital฀entertainment฀products.฀฀It฀recognized฀our฀early฀innovation฀and฀development฀efforts฀in฀portable฀media฀players.฀฀
The฀ZEN฀Patent฀was฀awarded฀to฀Creative฀for฀our฀invention฀of฀the฀user฀interface฀for฀portable฀media฀players,฀including฀many฀of฀the฀
Creative฀ZEN฀and฀earlier฀NOMAD®฀Jukebox฀MP3฀players,฀and฀found฀in฀some฀competing฀players,฀such฀as฀the฀Apple®฀iPod®฀products,฀
and฀certain฀cell฀phones฀with฀music฀functions.฀The฀ZEN฀Patent฀covers฀the฀user฀interface฀that฀enables฀users฀of฀portable฀media฀players฀
to฀efficiently฀and฀intuitively฀navigate฀among฀and฀select฀tracks฀on฀players฀which฀store฀large฀numbers฀of฀songs.
During฀this฀fiscal฀year,฀we฀have฀explored฀and฀continue฀to฀explore฀the฀opportunities฀that฀the฀patent฀affords฀us,฀including฀licensing฀
programs,฀partnerships฀and฀potential฀legal฀remedies.฀฀We฀initiated฀our฀first฀such฀legal฀action฀in฀May฀2006฀when฀we฀filed฀complaints฀
against฀Apple฀for฀infringement฀of฀the฀ZEN฀Patent.฀฀In฀August฀2006,฀we฀entered฀into฀a฀broad฀settlement฀with฀Apple฀ending฀all฀legal฀
disputes฀between฀the฀two฀companies.฀฀The฀settlement฀terms฀included฀a฀ requirement฀for฀Apple฀to฀pay฀ Creative฀$100฀ million฀for฀
a฀paid-up฀license฀to฀use฀the฀ZEN฀Patent฀in฀their฀products.฀฀In฀addition,฀we฀will฀also฀join฀Apple’s฀“Made฀for฀iPod”฀program,฀under฀
which฀we฀will฀be฀able฀to฀make฀and฀sell฀accessory฀products฀such฀as฀speaker฀systems฀for฀Apple’s฀iPod฀players.
Our฀success฀with฀the฀ZEN฀Patent฀has฀opened฀up฀significant฀new฀future฀opportunities฀for฀us.฀฀In฀addition฀to฀the฀potential฀for฀future฀
income฀from฀licensing฀programs฀with฀portable฀media฀player฀and฀cell฀phone฀companies,฀our฀upcoming฀participation฀in฀the฀“Made฀for฀
iPod”฀program฀can฀provide฀significant฀new฀market฀opportunities฀for฀our฀high฀growth฀and฀high฀margin฀businesses,฀such฀as฀docking฀
and฀portable฀speaker฀systems,฀earphones฀and฀headphones,฀and฀our฀forthcoming฀new฀X-Fi฀enabled฀audio฀enhancement฀products.฀฀
We฀will฀be฀announcing฀our฀iPod฀accessory฀products฀later฀this฀year.
Before฀I฀continue฀with฀other฀developments฀on฀the฀product฀and฀technology฀front,฀I฀would฀like฀to฀give฀you฀a฀review฀of฀the฀financial฀
performance฀for฀the฀past฀fiscal฀year.฀฀Our฀financial฀performance฀was฀negatively฀affected฀by฀the฀adverse฀market฀conditions฀for฀MP3฀
digital฀audio฀players฀during฀the฀year.฀฀The฀MP3฀market฀continued฀to฀be฀adversely฀affected฀by฀the฀aggressive฀pricing฀practices฀and฀
intense฀competition,฀exerting฀severe฀pressure฀on฀gross฀margins.฀฀This฀situation฀was฀aggravated฀by฀the฀market฀price฀instability฀for฀
flash฀memory,฀resulting฀in฀a฀substantial฀write-down฀of฀flash฀memory฀inventory฀when฀flash฀memory฀prices฀dropped฀sharply.฀฀The฀
effect฀of฀the฀ turbulent฀ and฀disruptive฀business฀environment฀ for฀ MP3฀ players฀is฀reflected฀in฀ the฀ financial฀results฀for฀the฀ year฀ -฀a฀
steep฀decline฀in฀gross฀margins,฀resulting฀in฀a฀large฀operating฀loss฀and฀a฀net฀loss฀for฀the฀fiscal฀year.
Sales฀for฀fiscal฀year฀2006฀were฀$1.1฀billion฀compared฀to฀$1.2฀billion฀for฀the฀fiscal฀year฀2005.฀฀Gross฀profit฀as฀a฀percentage฀of฀sales฀
was฀15%฀in฀fiscal฀2006,฀compared฀to฀22%฀in฀fiscal฀2005.฀฀Net฀loss฀for฀fiscal฀2006฀was฀$118฀million,฀compared฀to฀net฀income฀of฀
$0.6฀million฀in฀fiscal฀2005.฀฀Net฀loss฀for฀fiscal฀2006฀included฀net฀investment฀gains฀of฀$19฀million฀and฀one-time฀charges฀of฀$42฀
million฀primarily฀related฀to฀goodwill฀and฀restructuring฀charges฀for฀3Dlabs,฀while฀net฀income฀for฀fiscal฀2005฀included฀net฀investment฀
gains฀of฀$74฀million฀and฀a฀non-cash฀ impairment฀charge฀for฀ 3Dlabs฀of฀$65฀ million.฀฀Excluding฀these฀investment฀ gains฀and฀other฀
charges,฀the฀results฀would฀have฀been฀a฀net฀loss฀of฀$95฀million฀for฀fiscal฀2006฀and฀$9฀million฀for฀fiscal฀2005.
On฀the฀product฀and฀ technology฀ front,฀in฀addition฀to฀ the฀ ZEN฀ Patent฀as฀ highlighted฀ above,฀ an฀important฀ milestone฀was฀reached฀
in฀our฀audio฀product฀business฀ with฀ the฀ launch฀ of฀ the฀Sound฀Blaster®฀X-Fi™฀sound฀cards.฀ ฀ In฀ the฀ previous฀year,฀we฀had฀further฀
strengthened฀our฀unrivaled฀leadership฀position฀in฀PC฀audio฀with฀the฀introduction฀of฀what฀I฀believe฀will฀be฀the฀future฀direction฀of฀
audio฀–฀the฀new฀Xtreme฀Fidelity™฀audio฀standard.฀฀The฀new฀Sound฀Blaster฀X-Fi฀cards฀are฀the฀first฀products฀under฀the฀new฀Xtreme฀
Fidelity฀ audio฀ standard฀ and฀ using฀ the฀ X-Fi฀ Xtreme฀ Fidelity฀ audio฀ processor.฀ ฀ The฀ Sound฀ Blaster฀ X-Fi฀ sound฀ cards฀ have฀ ground-
breaking฀technologies฀to฀dramatically฀improve฀the฀audio฀experience฀with฀music,฀games,฀movies฀and฀audio฀creation.฀฀
The฀newly฀introduced฀Xmod,฀an฀X-Fi฀USB฀module,฀helps฀to฀bring฀the฀X-Fi฀experience฀to฀desktop฀and฀notebook฀PC฀and฀Mac฀users.฀฀
The฀small฀module฀is฀easy฀to฀use฀and฀plugs฀easily฀to฀the฀USB฀port฀without฀the฀need฀to฀install฀any฀software.฀฀It฀instantly฀enhances฀
poor฀quality฀MP3฀music฀to฀very฀high-quality,฀24-bit฀surround฀audio.