Trimble Inc.
TRIMBLE NAVIGATION LTD /CA/ (Form: 10-Q, Received: 08/07/2006 16:57:29)


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549


 
FORM 10-Q
 


(Mark One)
x   QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2006

OR

o   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: 0- 18645

TRIMBLE NAVIGATION LIMITED
(Exact name of registrant as specified in its charter)

 
California
 
94-2802192
 
 
(State or other jurisdiction of
 
(I.R.S. Employer Identification Number)
 
 
incorporation or organization)
   


935 Stewart Drive, Sunnyvale, CA 94085
(Address of principal executive offices) (Zip Code)

Telephone Number (408) 481-8000
(Registrant's telephone number, including area code)
 
 
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.
 
Yes    x    No    o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

Large Accelerated Filer   x    Accelerated Filer   o    Non-accelerated Filer   o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes    o    No    x

As of August 1, 2006, there were 55,109,638 shares of Common Stock (no par value) outstanding.
 
 


 
TRIM BLE NAVIGATION LIMITED
FORM 10-Q for the Quarter ended June 30, 2006
TABLE OF CONTENTS

PART I.
 
Page
       
ITEM 1.
   
       
   
3
       
   
4
       
   
5
       
   
6
       
ITEM 2.
 
18
       
ITEM 3.
 
26
       
ITEM 4.
 
26
       
       
PART II.
   
       
ITEM 1.
 
27
       
ITEM 1A.
 
27
       
ITEM 4.
 
33
       
ITEM 6.
 
34
       
35
 

PA RT I - FINANCIAL INFORMATION
IT EM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

TRI MBLE NAVIGATION LIMITED
CONDENSED CONSOLIDATED BALANCE SHEETS

   
June 30,
 
December 30,
 
   
 2006
 
2005
 
(In thousands)
 
(UNAUDITED)
 
(1)
 
           
ASSETS
         
Current assets :
         
Cash and cash equivalents
 
$
107,726
 
$
73,853
 
Accounts receivable, net
   
171,942
   
145,100
 
Other receivables
   
9,336
   
6,489
 
Inventories, net
   
113,925
   
107,851
 
Deferred income taxes
   
19,015
   
18,504
 
Other current assets
   
9,587
   
8,580
 
Total current assets
   
431,531
   
360,377
 
Property and equipment, net
   
47,278
   
42,664
 
Goodwill and other purchased intangible assets, net
   
370,946
   
313,456
 
Deferred income taxes
   
6,483
   
3,580
 
Other assets
   
24,166
   
23,011
 
Total non-current assets
   
448,873
   
382,711
 
Total assets
 
$
880,404
 
$
743,088
 
               
LIABILITIES AND SHAREHOLDERS' EQUITY
             
Current liabilities:
             
Current portion of long-term debt
 
$
431
 
$
216
 
Accounts payable
   
47,984
   
45,206
 
Accrued compensation and benefits
   
38,152
   
36,083
 
Accrued liabilities
   
22,686
   
16,189
 
Deferred revenue
   
24,502
   
12,588
 
Accrued warranty expense
   
7,475
   
7,466
 
Deferred income taxes
   
3,996
   
4,087
 
Income taxes payable
   
28,497
   
24,922
 
Total current liabilities
   
173,723
   
146,757
 
Non-current portion of long-term debt
   
459
   
433
 
Deferred income tax
   
14,373
   
5,602
 
Other non-current liabilities
   
27,110
   
19,041
 
Total liabilities
   
215,665
   
171,833
 
               
Shareholders' equity:
             
Preferred stock no par value; 3,000 shares authorized; none outstanding
   
--
   
--
 
Common stock, no par value; 90,000 shares authorized; 55,031 and 53,910 shares issued and outstanding at June 30, 2006 and December 30, 2005, respectively
   
413,619
   
384,196
 
Retained earnings
   
221,857
   
167,525
 
Accumulated other comprehensive income
   
29,263
   
19,534
 
Total shareholders' equity
   
664,739
   
571,255
 
Total liabilities and shareholders' equity
 
$
880,404
 
$
743,088
 
(1)
Derived from the December 30, 2005 audited Consolidated Financial Statements included in the Annual Report on Form 10-K of Trimble Navigation Limited for fiscal year 2005.
See accompanying Notes to the Condensed Consolidated Financial Statements.

 
TRI MBLE NAVIGATION LIMITED
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)

   
Three Months Ended
 
Six Months Ended
 
   
June 30,
 
July 1,
 
June 30,
 
July 1,
 
   
2006
 
2005
 
2006
 
2005
 
(In thousands, except per share data)
                 
                   
Revenue  (1)
 
$
245,326
 
$
204,225
 
$
471,180
 
$
399,608
 
Cost of sales  (1)
   
123,670
   
101,818
   
242,061
   
199,394
 
Gross margin
   
121,656
   
102,407
   
229,119
   
200,214
 
                           
Operating expenses
                         
Research and development
   
27,607
   
20,865
   
52,053
   
42,693
 
Sales and marketing
   
35,747
   
28,704
   
68,453
   
59,075
 
General and administrative
   
16,205
   
11,924
   
31,966
   
24,756
 
Restructuring charges
   
-
   
-
   
-
   
278
 
In-process research and development
   
1,020
   
-
   
1,020
   
-
 
Amortization of purchased intangible assets
   
2,408
   
2,177
   
3,893
   
4,475
 
Total operating expenses
   
82,987
   
63,670
   
157,385
   
131,277
 
Operating income
   
38,669
   
38,737
   
71,734
   
68,937
 
Non-operating income (expense), net
                         
Interest income (expense), net
   
598
   
(419
)
 
1,032
   
(1,030
)
Foreign currency transaction gain, net
   
334
   
163
   
927
   
6
 
Income (expense) for affiliated operations, net
   
1,575
   
(2,499
)
 
3,191
   
(5,538
)
Other income, net
   
18
   
138
   
182
   
168
 
Total non-operating income (expense), net
   
2,525
   
(2,617
)
 
5,332
   
(6,394
)
Income before taxes
   
41,194
   
36,120
   
77,066
   
62,543
 
Income tax provision
   
12,691
   
12,333
   
22,735
   
21,317
 
Net income
 
$
28,503
 
$
23,787
 
$
54,331
 
$
41,226
 
                           
Basic earnings per share
 
$
0.52
 
$
0.45
 
$
1.00
 
$
0.78
 
Shares used in calculating basic earnings per share
   
54,847
   
52,959
   
54,544
   
52,729
 
                           
Diluted earnings per share
 
$
0.49
 
$
0.42
 
$
0.94
 
$
0.73
 
Shares used in calculating diluted earnings per share
   
58,128
   
57,057
   
57,761
   
56,780
 
(1)    Sales to related parties were $5.5 million and $2.5 million for the three months period ended June 30, 2006 and July 1, 2005, respectively, while cost of sales to those related parties were $3.2 million and $1.0 million for the comparable periods. Sales to related parties were $10.4 million and $4.7 million for the six month period ended June 30, 2006 and July 1, 2005, respectively, while cost of sales to those related parties were $6.2 million and $2.0 million for the comparable periods.
 
See accompanying Notes to the Condensed Consolidated Financial Statements.


TR IMBLE NAVIGATION LIMITED
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)

   
Six Months Ended
 
   
June 30,
 
July 1,
 
   
2006
 
2005
 
(In thousands)
         
           
Cash flow from operating activities:
         
Net income
 
$
54,331
 
$
41,226
 
Adjustments to reconcile net income to net cash provided by operating activities:
             
Depreciation expense
   
6,489
   
4,890
 
Amortization expense
   
6,145
   
4,548
 
Provision for doubtful accounts
   
95
   
(678
)
Amortization of debt issuance cost
   
90
   
244
 
Deferred income taxes
   
(1,678
)
 
3,846
 
Stock-based compensation
   
6,489
   
-
 
In-process research and development
   
1,020
   
-
 
Excess tax benefit for stock-based compensation
   
(4,770
)
 
-
 
Other
   
262
   
(48
)
Add decrease (increase) in assets:
             
Accounts receivable, net
   
(19,417
)
 
(26,986
)
Other receivables
   
(2,649
)
 
1,709
 
Inventories
   
(2,860
)
 
(4,061
)
Other current and non-current assets
   
(2,097
)
 
(1,452
)
Add increase (decrease) in liabilities:
             
Accounts payable
   
1,386
   
(1,997
)
Accrued compensation and benefits
   
1,185
   
158
 
Accrued liabilities
   
(2,138
)
 
300
 
Deferred gain on joint venture
   
-
   
124
 
Deferred revenue
   
9,862
   
2,210
 
Income taxes payable
   
7,624
   
12,537
 
Net cash provided by operating activities
   
59,369
   
36,570
 
               
Cash flow from investing activities:
             
Acquisitions, net of cash acquired
   
(38,137
)
 
(20,233
)
Acquisition of property and equipment
   
(10,943
)
 
(7,734
)
Dividends received
   
-
   
515
 
Costs of capitalized patents
   
-
   
(89
)
Net cash used in investing activities
   
(49,080
)
 
(27,541
)
               
Cash flow from financing activities:
             
Issuance of common stock
   
17,162
   
15,453
 
Excess tax benefit for stock-based compensation
   
4,770
   
-
 
Proceeds from long-term debt and revolving credit lines
   
-
   
6,000
 
Payments on long-term debt and revolving credit lines
   
-
   
(44,250
)
Other
   
(777
)
 
307
 
Net cash provided (used) in financing activities
   
21,155
   
(22,490
)
               
Effect of exchange rate changes on cash and cash equivalents
   
2,429
   
(1,551
)
               
Net increase (decrease) in cash and cash equivalents
   
33,873
   
(15,012
)
Cash and cash equivalents, beginning of period
   
73,853
   
71,872
 
Cash and cash equivalents, end of period
 
$
107,726
 
$
56,860
 
See accompanying Notes to the Condensed Consolidated Financial Statements.


NO TES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - UNAUDITED

NOTE 1. OVERVIEW AND BASIS OF PRESENTATION
Trimble Navigation Limited (“we,” “Trimble” or the “Company”), incorporated in California in 1981, provides positioning product solutions to commercial and government users in a large number of markets. These markets include surveying, construction, agriculture, urban and resource management, military, transportation and telecommunications.

Trimble has a 52-53 week fiscal year, ending on the Friday nearest to December 31, which for fiscal 2005 was December 30. The second fiscal quarters of 2006 and 2005 ended on June 30, 2006 and July 1, 2005, respectively. Fiscal 2006 and 2005 are 52-week years. Unless otherwise stated, all dates refer to its fiscal year and fiscal periods.

The Condensed Consolidated Financial Statements include the results of Trimble and its subsidiaries. Inter-company accounts and transactions have been eliminated. Certain amounts from prior periods have been reclassified to conform to the current period presentation.

The accompanying financial data as of June 30, 2006 and for the three and six months ended June 30, 2006 and July 1, 2005 has been prepared by the Company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the U.S. have been condensed or omitted pursuant to such rules and regulations. The following discussion should be read in conjunction with Trimble’s 2005 Annual Report on Form 10-K.

In the opinion of management, all adjustments (which include normal recurring adjustments) necessary to present a fair statement of financial position as of June 30, 2006, results of operations for the three and six months ended June 30, 2006 and July 1, 2005 and cash flows for the six months ended June 30, 2006 and July 1, 2005, as applicable, have been made. The results of operations for the three and six months ended June 30, 2006 are not necessarily indicative of the operating results for the full fiscal year or any future periods.
 
The preparation of financial statements in accordance with accounting principles generally accepted in the U.S. requires management to make estimates and assumptions that affect the amounts reported in its condensed consolidated financial statements and accompanying notes. Management bases its estimates on historical experience and various other assumptions believed to be reasonable. Although these estimates are based on management’s best knowledge of current events and actions that may impact the company in the future, actual results may be different from the estimates. Trimble’s critical accounting policies are those that affect its financial statements materially and involve difficult, subjective or complex judgments by management. In the first quarter of fiscal 2006, the Company changed its critical accounting policy related to stock-based compensation. See Note 2 to the Notes to the Condensed Consolidated Financial Statements for additional information. For more information on the Company’s significant accounting principles, refer to Trimble’s 2005 Annual Report on Form 10-K.

NOTE 2. NEW ACCOUNTING PRONOUNCEMENTS

In July 2006, the Financial Accounting Standards Board (“FASB”) issued Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (“FIN 48”). FIN 48 applies to all tax positions related to income taxes subject to FASB Statement 109, “Accounting for Income Taxes.”  Under FIN 48 a company would recognize the benefit from a tax position only if it is more-likely-than-not that the position would be sustained upon audit based solely on the technical merits of the tax position. FIN 48 clarifies how a company would measure the income tax benefits from the tax positions that are recognized, provides guidance as to the timing of the derecognition of previously recognized tax benefits and describes the methods for classifying and disclosing the liabilities within the financial statements for any unrecognized tax benefits.    FIN 48 also addresses when a company should record interest and penalties related to tax positions and how the interest and penalties may be classified within the income statement and presented in the balance sheet.  FIN 48 is effective for fiscal years beginning after December 15, 2006.  For Trimble, FIN 48 will be effective for our 2007 fiscal year.  Differences between the amounts recognized in the statements of operations prior to and after the adoption of FIN 48 would be accounted for as a cumulative effect adjustment to the beginning balance of retained earnings.    The Company is currently evaluating FIN 48 and its possible impacts on the Company’s financial statements.   Upon adoption, there is a possibility that the cumulative effect would result in a charge or benefit to the beginning balance of retained earnings.

In December 2004, the Financial Accounting Standards Board (“FASB”) issued Standard of Financial Accounting Standards No. 123(R), “Share-Based Payment” (“SFAS 123(R)”). SFAS 123(R) requires employee stock options and rights to purchase shares under stock participation plans to be accounted for under the fair value method, and eliminates the ability to account for these instruments under the intrinsic value method prescribed by APB Opinion No. 25, and allowed under the original provisions of SFAS 123.

Trimble has adopted SFAS 123(R) using the modified prospective method which requires the adoption of the accounting standard for fiscal years beginning after June 15, 2005. As a result, the Company’s financial statements for fiscal periods after December 30, 2005 include stock-based compensation expenses that are not comparable to financial statements of fiscal periods prior to December 30, 2005. SFAS 123(R) requires stock-based compensation to be estimated using the fair value on the date of grant using an option-pricing model. The value of the portion of the award that is expected to vest is recognized as expense over the related employees’ requisite service periods in the Company’s Condensed Consolidated Statements of Income. Prior to the adoption of SFAS 123(R), the Company accounted for stock-based compensation to employees and directors using the intrinsic value method in accordance with APB Opinion No. 25 as allowed under Statement of Financial Accounting Standards No. 123, “Accounting for Stock-Based Compensation” (“SFAS 123”). Under the intrinsic value method, no stock-based compensation expense had been recognized in the Company’s Condensed Consolidated Statement of Income because the exercise price of the Company’s stock options granted to employees and directors equaled the fair market value of the underlying stock at the date of grant.

 
See Note 3 to the Notes to the Condensed Consolidated Financial Statements for additional information.

NOTE 3. STOCK-BASED COMPENSATION

In accordance with the provisions of Statement of Financial Accounting Standards No. 123 (“SFAS 123”), "Accounting for Stock-Based Compensation" and “Statement of Financial Accounting Standards No. 148” (“SFAS 148”), “Accounting for Stock-Based Compensation - Transition and Disclosure,” Trimble applied Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" (“APB 25”) and related interpretations in accounting for its stock option plans and stock purchase plan prior to fiscal 2006. Accordingly, Trimble did not recognize compensation cost for stock-based compensation prior to fiscal 2006. For periods subsequent to fiscal 2005, Trimble recognized expense related to stock-based compensation in accordance with SFAS 123(R)

The following table summarizes stock-based compensation expense, net of tax, related to employee stock-based compensation included in the Condensed Consolidated Statements of Income in accordance with SFAS 123(R) for the three and six months ended June 30, 2006 and July 1, 2005 .



   
Three Months Ended
 
Six Months Ended
 
   
June 30,
 
July 1,
 
June 30,
 
July 1,
 
   
2006
 
2005
 
2006
 
2005
 
(in thousands)
                 
                   
Cost of sales
 
$
309
 
$
-
 
$
596
   
-
 
                           
Research & development
   
667
   
-
   
1,306
   
-
 
Sales & marketing
   
711
   
-
   
1,452
   
-
 
General & administrative
   
1,572
   
-
   
3,134
   
-
 
Stock-based compensation expense included in operating expenses
   
2,950
   
-
   
5,892
   
-
 
                           
Total stock-based compensation
   
3,259
   
-
   
6,489
   
-
 
Tax benefit
  (1)  
(294
)
 
-
   
(588
)
 
-
 
Total stock-based compensation, net of tax
 
$
2,965
 
$
-
 
$
5,901
   
-
 


The table below provides pro forma information for the three and six months ended July 1, 2005 as if Trimble had accounted for its employee stock options and purchases under the employee stock purchase plan in accordance with SFAS 123.

   
Three Months Ended
 
Six Months Ended
 
   
July 1,
 
July 1,
 
   
2005
 
2005
 
(in thousands, except per share amounts)
         
           
Net income - as reported
 
$
23,787
 
$
41,226
 
Stock-based compensation expense, net of tax
  (2)  
2,745
   
5,808
 
Net income - pro forma
 
$
21,042
 
$
35,418
 
               
Basic earnings per share - as reported
 
$
0.45
 
$
0.78
 
Basic earnings per share - pro forma
 
$
0.40
 
$
0.67
 
               
Diluted earnings per share - as reported
 
$
0.42
 
$
0.73
 
Diluted earnings per share - pro forma
 
$
0.37
 
$
0.62
 

(2) Includes compensation expense for employee stock purchase plan for the three and six months ended July 1, 2005 and reduction of tax benefits for stock-based compensation other than non-qualified stock options which were not included in the pro forma disclosure of Trimble’s second quarter of fiscal 2005 Form 10-Q. Tax benefit relates to non-qualified options only as allowed by the applicable tax requirements using the statutory tax rate as of the second quarter of fiscal 2005.


OPTIONS

Stock option expense recognized during the period is based on the value of the portion of share-based payment awards that is expected to vest during the period. Stock option expense recognized in the Company’s Condensed Consolidated of Income for the three and six months ended June 30, 2006 included compensation expense for stock options granted prior to, but not yet vested as of December 30, 2005 based on the grant date fair value estimated in accordance with the provisions of SFAS 123 and compensation expense for the stock options granted subsequent to December 30, 2005 based on the grant date fair value estimated in accordance with the provisions of SFAS 123(R). In conjunction with the adoption of SFAS 123(R), the Company changed its method of attributing the value of stock option to expense from the accelerated multiple-option approach to the straight-line single option method. Compensation expense for all stock options granted on or prior to December 30, 2005 will continue to be recognized using the accelerated multiple-option approach while compensation expense for all stock options granted subsequent to December 30, 2005 is recognized using the straight-line single-option method. SFAS 123(R) requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. In the Company’s pro forma information required under SFAS 123 for the periods prior to fiscal 2006, the Company accounted for forfeitures as they occurred.

Stock Option Plans

Trimble issues new shares upon exercises of stock options related to the following plans.

2002 Stock Plan

In 2002, Trimble’s Board of Directors adopted the 2002 Stock Plan (“2002 Plan”). The 2002 Plan, as amended to date and approved by shareholders, provides for the granting of incentive and non-statutory stock options for up to 6,000,000 shares plus any shares currently reserved but unissued to employees, consultants, and directors of Trimble. Incentive stock options may be granted at exercise prices that are not less than 100% of the fair market value of Common Stock on the date of grant. Employee stock options granted under the 2002 Plan have 120-month terms, and vest at a rate of 20% at the first anniversary of grant, and monthly thereafter at an annual rate of 20%, with full vesting occurring at the fifth anniversary of the grant. The exercise price of non-statutory stock options issued under the 2002 Plan must be at least 85% of the fair market value of Common Stock on the date of grant.

1993 Stock Option Plan

In 1992, Trimble's Board of Directors adopted the 1993 Stock Option Plan (“1993 Plan”). The 1993 Plan, as amended to date and approved by shareholders, provided for the granting of incentive and non-statutory stock options for up to 9,562,500 shares of Common Stock to employees, consultants, and directors of Trimble. Incentive stock options may be granted at exercise prices that are not less than 100% of the fair market value of Common Stock on the date of grant. Employee stock options granted under the 1993 Plan have 120-month terms, and vest at a rate of 20% at the first anniversary of grant, and monthly thereafter at an annual rate of 20%, with full vesting occurring at the fifth anniversary of grant. The exercise price of non-statutory stock options issued under the 1993 Plan must be at least 85% of the fair market value of Common Stock on the date of grant.

1992 Management Discount Stock Option Plan

In 1992, Trimble's Board of Directors and shareholders approved the 1992 Management Discount Stock Option Plan ("Discount Plan"). Employee stock options granted under the 1992 Plan have 120-month terms, and vest at a rate of 20% at the first anniversary of grant, and monthly thereafter at an annual rate of 20%, with full vesting occurring at the fifth anniversary of the grant.

1990 Director Stock Option Plan

In December 1990, Trimble adopted a Director Stock Option Plan under which an aggregate of 570,000 shares of Common Stock have been reserved for issuance to non-employee directors as approved by the shareholders to date. Stock options issued under this plan vest generally over a three year period.

 
Option Activity

Activity during the first six months of fiscal 2006 under the combined plans was as follows:
 
   
June 30, 2006
 
Six Months Ended
 
Options
 
Weighted average exercise price
 
(In thousands, except for per share data)
         
           
Outstanding at December 30, 2005
   
6,414
 
$
18.70
 
Granted
   
131
   
40.46
 
Exercised
   
(857
)
 
14.41
 
Forfeited/Cancelled/Expired
   
(38
)
 
23.69
 
Outstanding at June 30, 2006
   
5,650
   
19.82
 
 
Options Outstanding and Exercisable

Exercise prices for options outstanding and exercisable as of June 30, 2006, ranged from $5.33 to $48.11. Options outstanding and exercisable consist of fully vested options and options expected to vest at June 30, 2006. The aggregate intrinsic value is the total pretax intrinsic value based on the Company’s closing stock price of $44.64 as of June 30 , 2006, which would have been received by the option holders had all option holders exercised their options as of that date.

       
Weighted-
 
Weighted-
     
       
Average
 
Average
 
Aggregate
 
   
Number
 
Exercise Price
 
Remaining
 
Intrinsic
 
   
Of Shares
 
per Share
 
Contractual Term
 
Value
 
           
( in years )
 
(in thousands)
 
Options Outstanding and Expected to Vest
   
5,512,221
 
$
19.58
   
5.6
 
$
138,185
 
Options Exercisable
   
3,389,809
   
15.01
   
5.0
   
100,444
 

As of June 30, 2006, the total unamortized stock option expense is $16.1 million with weighted-average recognition period of 1.5 years.

Valuation Assumptions

For options granted prior to October 1, 2005, the fair value for these options was estimated at the date of grant using the Black-Scholes option-pricing model. For stock options granted on or after October 1, 2005, the fair value of each award is estimated on the date of grant using a binomial valuation model. Similar to the Black-Scholes model, the binomial model takes into account variables such as volatility, dividend yield rate, and risk free interest rate. In addition,   the binomial model incorporates actual option-pricing behavior and changes in volatility over the option’s contractual term. For these reasons, the Company believes that the binomial model provides a fair value that is more representative of actual experience and future expected experience than the value calculated using the Black-Scholes model.

Under the binomial models and Black-Scholes, the estimated values of each employee stock option granted during the second quarter of fiscal 2006 and 2005 were $17.93 and $17.67, respectively. The value of each option grant is estimated on the date of grant using the binomial model for options granted during the second quarter of fiscal 2006 and the Black-Scholes option pricing model for options granted during the second quarter of fiscal 2005 and with the following assumptions:

   
Three Months Ended
 
Six Months Ended
 
   
June 30, 2006
 
July 1, 2005
 
June 30, 2006
 
July 1, 2005
 
Expected dividend yield
   
--
   
--
   
--
   
--
 
Expected stock price volatility
   
42.0
%
 
41.8
%
 
42.0
%
 
49.6
%
Risk free interest rate
   
4.5
%
 
3.9
%
 
4.5
%
 
4.0
%
Expected life of options (in years)
   
4.6
   
4.8
   
4.6
   
4.8
 

Expected Dividend Yield - The dividend yield assumption is based on the Company’s history and expectation of dividend payouts.

Expected Stock Price Volatility - The Company’s computation of expected volatility is based on a combination of implied volatilities from traded options on the Company’s stock and historical volatility. The Company used implied and historical volatility as the combination was more representative of future stock price trends than historical volatility alone.


Expected Risk Free Interest Rate - The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant for the expected term of the option.

Expected Life Of Option - The Company’s expected term represents the period that the Company’s stock options are expected to be outstanding and was determined based on historical experience of similar stock options with consideration to the contractual terms of the stock options, vesting schedules and expectations of future employee behavior.
 
EMPLOYEE STOCK PURCHASE PLAN

Stock-based compensation expense related to the Company’s employee stock purchase plan is recognized during the purchase vesting period which is generally six months.

Employee Stock Purchase Plan

The Company has an Employee Stock Purchase Plan (“Purchase Plan”) under which an aggregate of 5,775,000 shares of Common Stock have been reserved for sale to eligible employees as approved by the shareholders to date. The plan permits full-time employees to purchase Common Stock through payroll deductions at 85% of the lower of the fair market value of the Common Stock at the beginning or at the end of each six-month offering period. The Purchase Plan terminates on September 8, 2008.

Valuation Assumptions

The fair value of rights granted under the Employee Stock Purchase Plan is estimated at the date of grant using the Black-Scholes option-pricing model. The following weighted-average assumptions were used at June 30, 2006 and July 1, 2005:

   
Three Months Ended
 
Six Months Ended
 
   
June 30, 2006
 
July 1, 2005
 
June 30, 2006
 
July 1, 2005
 
Expected dividend yield
   
--
   
--
   
--
   
--
 
Expected stock price volatility
   
34.9
%
 
35.1
%
 
34.9
%
 
35.1
%
Risk free interest rate
   
4.4
%
 
3.4
%
 
4.4
%
 
3.4
%
Expected life of purchase
   
0.5
   
0.5
   
0.5
   
0.5
 

Expected Dividend Yield - The dividend yield assumption is based on the Company’s history and expectation of dividend payouts.

Expected Stock Price Volatility - The Company’s computation of expected volatility is based on implied volatilities from traded options on the Company’s stock. The Company used implied volatility because it is representative of future stock price trends during the six month purchase period.

Expected Risk Free Interest Rate - The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant for the expected term of the purchase period.

Expected Life Of Purchase - The Company’s expected life of the purchase is based on the 6 month offering period of the purchase plan.
 
NOTE 4. JOINT VENTURES:

Caterpillar Trimble Control Technologies Joint Venture

On April 1, 2002, Caterpillar Trimble Control Technologies LLC (“CTCT”), a joint venture formed by Trimble and Caterpillar began operations. The joint venture is 50% owned by Trimble and 50% owned by Caterpillar, with equal voting rights. The joint venture is accounted for under the equity method of accounting. Under the equity method, Trimble’s share of profits and losses are included in expenses for affiliated operations, net in the non-operating income (expense), net section of the Condensed Consolidated Statements of Income. CTCT develops advanced electronic guidance and control products for earth moving machines in the construction and mining industries.

Trimble acts as a contract manufacturer for CTCT. Products are manufactured based on orders received from CTCT and are sold at cost plus a mark up to CTCT. CTCT resells products to both Caterpillar and Trimble for sales through their respective distribution channels. Generally, Trimble sells products to its after market dealer channel, and Caterpillar sells products for factory and dealer installation. CTCT does not hold inventory in that the resale of products to Caterpillar and Trimble occur simultaneously when the products are purchased from Trimble.


Beginning in the first fiscal quarter of 2006, Trimble included the impact of certain transactions with CTCT in revenue and cost of sales. Revenue and cost of sales were recorded for the manufacturing of products that are sold to CTCT and then sold through the Caterpillar distribution channel. Cost of sales transactions also include the purchasing of products from CTCT at a higher price than Trimble's original manufacturing costs for products sold through the Trimble distribution channel. Prior to the first fiscal quarter of 2006, these transactions were included in expenses for affiliated operations, net in the non-operating income (expense), net section of the Consolidated Statements of Income. The change in presentation resulted from the Company’s assessment of CTCT’s advancement and ability to function as a stand-alone company. In addition, the Company’s exclusive manufacturing agreement with CTCT ended during fiscal 2005. As a result, during the first quarter of fiscal 2006, the Company deemed transactions between CTCT and Trimble to be arms-length and concluded they should be presented similarly to other vendor and customer relationships. The impact of this change in presentation was a $5.1 million decrease and $10.4 million decrease in gross margins for the three and six month periods ended June 30, 2006. There was no impact on net income.

Trimble received reimbursement of employee-related costs from CTCT for Trimble employees dedicated to CTCT or performing work for CTCT totaling $3.5 million and $2.5 million for the three months ended June 30, 2006 and July 1, 2005, respectively, and $6.9 million and $5.1 million for the six months ended June 30, 2006 and July 1, 2005, respectively. The reimbursements were offset against operating expenses.

   
June 30,
 
July 1,
 
Three Months Ended
 
2006
 
2005
 
(In millions)
         
           
CTCT incremental pricing effects, net
  $
-
 
$
3.0
 
Trimble's 50% share of CTCT's reported (gain) loss
   
(1.4
)
 
(0.8
)
Total CTCT expense (income) for affiliated operations, net
 
$
(1.4
)
$
2.2
 

   
June 30,
 
July 1,
 
Six Months Ended
 
2006
 
2005
 
(In millions)
         
           
CTCT incremental pricing effects, net
  $
-
 
$
6.1
 
Trimble's 50% share of CTCT's reported (gain) loss
   
(3.0
)
 
(1.1
)
Total CTCT expense (income) for affiliated operations, net
 
$
(3.0
)
$
5.0
 

The net outstanding balance due from CTCT was $0.2 million at June 30, 2006 and at December 30, 2005 and is included in account receivables, net. As of June 30, 2006, dividend receivable from CTCT was $3.4 million and was included in other receivables.

Nikon-Trimble Joint Venture

On March 28, 2003, Trimble and Nikon Corporation entered into an agreement to form a joint venture in Japan, Nikon-Trimble Co., Ltd., as described in Trimble’s 2005 Annual Report on Form 10-K. Nikon-Trimble began operations in July, 2003 and is equally owned by Trimble and Nikon, with equal voting rights.
 
Nikon-Trimble is the distributor in Japan for Nikon and Trimble products. Trimble is the exclusive distributor outside of Japan for Nikon branded survey products. For products sold from Trimble to the Nikon-Trimble, revenue is recognized by Trimble on a sell-through basis from Nikon-Trimble to the end customer. Profits from these inter-company sales are eliminated.

The terms and conditions of the sales of products from Trimble to Nikon-Trimble are comparable with those of the standard distribution agreements which Trimble maintains with its dealer channel and margins earned are similar to those from third party dealers. Similarly, the purchases of product by Trimble from the Nikon-Trimble are made on terms comparable with the arrangements which Nikon maintained with its international distribution channel prior to the formation of the joint venture with Trimble.

Trimble has adopted the equity method of accounting for its investment in Nikon-Trimble, with 50% share of profit or loss from this joint venture to be reported by Trimble in the Non-operating section of the Condensed Consolidated Statement of Income under the heading of “Expenses for affiliated operations, net.” For the three months ended June 30, 2006 and July 1, 2005, Trimble reported a profit of $0.2 million and a loss of $0.3 million, respectively, and a profit of approximately $0.2 million and a loss of $0.5 million for the six months ending June 30, 2006 and July 1, 2005, as its proportionate share of the results of the joint venture.  In the second quarter of fiscal 2006, Trimble began recording its proportionate share of profit or loss in the joint venture one month in arrears.  The impact is not considered to be material. At June 30, 2006, the net receivable from Nikon-Trimble to Trimble, related to the purchase and sale of products from and to Nikon-Trimble, is $1.7 million and was recorded within accounts receivable, net on the Condensed Consolidated Balance Sheet.  At December 30, 2005, the net payable by Trimble to Nikon-Trimble is $2.0 million and was recorded within accounts payable on the Condensed Consolidated Balance Sheets. The carrying amount of the investment in Nikon Trimble was approximately $13.2 million at June 30, 2006 and $12.9 million at December 30, 2005 and is recorded in other long-term assets on the Condensed Consolidated Balance Sheets.


NOTE 5. GOODWILL AND INTANGIBLE ASSETS:

Intangible Assets
 
Intangible Assets consisted of the following:

   
June 30,
 
December 30,
 
As of
 
2006
 
2005
 
(in thousands)
         
           
Intangible assets:
         
Intangible assets with definite life:
         
Existing technology
 
$
71,185
 
$
48,100
 
Trade names, trademarks, patents, and other intellectual properties
   
27,980
   
26,808
 
Total intangible assets with definite life
   
99,165
   
74,908
 
Less accumulated amortization
   
(54,801
)
 
(47,598
)
Total net intangible assets
 
$
44,364
 
$
27,310
 

Goodwill

Goodwill, by reporting segment, consisted of the following:

   
June 30,
 
December 30,
 
As of
 
2006
 
2005
 
(in thousands)
         
           
Engineering and Construction
 
$
256,177
 
$
229,176
 
Mobile Solutions
   
56,996
   
44,118
 
Advanced Devices
   
13,409
   
12,852
 
               
Total Goodwill
 
$
326,582
 
$
286,146
 
 
NOTE 6. CERTAIN BALANCE SHEET COMPONENTS :

Inventories consisted of the following:

   
June 30,
 
December 30,
 
As of
 
2006
 
2005
 
(in thousands)
         
Raw materials
 
$
62,930
 
$
52,199
 
Work-in-process
   
7,919
   
7,249
 
Finished goods
   
43,075
   
48,403
 
   
$
113,925
 
$
107,851
 

Property and equipment consisted of the following:

   
June 30,
 
December 30,
 
As of
 
2006
 
2005
 
(in thousands)
         
           
Machinery and equipment
 
$
76,511
 
$
72,273
 
Furniture and fixtures
   
11,463
   
10,110
 
Leasehold improvements
   
10,056
   
8,695
 
Buildings
   
5,707
   
5,707
 
Land
   
1,231
   
1,231
 
     
104,968
   
98,016
 
Less accumulated depreciation
   
(57,690
)
 
(55,352
)
   
$
47,278
 
$
42,664
 
 

NOTE 7. THE COMPANY AND SEGMENT INFORMATION:

Trimble is a designer and distributor of positioning products and applications enabled by GPS, optical, laser, and wireless communications technology. The Company provides products for diverse applications in its targeted markets.

To achieve distribution, marketing, production, and technology advantages, the Company manages its operations in the following four segments:

 
·
Engineering and Construction — Consists of products currently used by survey and construction professionals in the field for positioning, data collection, field computing, data management, and machine guidance and control. The applications served include surveying, road, runway, construction, site preparation and building construction.

 
·
Field Solutions — Consists of products that provide solutions in a variety of agriculture and geographic information systems (GIS) applications. In agriculture these include precise land leveling and machine guidance systems. In GIS they include handheld devices and software that enable the collection of data on assets for a variety of governmental and private entities.

 
·
Mobile Solutions — Consists of products that enable end users to monitor and manage their mobile assets by communicating location and activity-relevant information from the field to the office. Trimble offers a range of products that address a number of sectors of this market including truck fleets, security, and public safety vehicles.

 
·
Advanced Devices — The various operations that comprise this segment were aggregated on the basis that no single operation accounted for more than 10% of Trimble’s total revenue, operating income and assets. This segment is comprised of the Component Technologies, Military and Advanced Systems, Applanix and Trimble Outdoors businesses.

Trimble evaluates each of its segment's performance and allocates resources based on segment operating income from operations before income taxes, and some corporate allocations. Trimble and each of its segments employ the same accounting policies.

In the first quarter of 2006, Trimble combined the operating results of the former Components Technologies and Portfolio Technologies segments and included the combined operating results in the Advanced Devices segment. The change in presentation was made in recognition of the small size of each of the businesses relative to the total company. The presentation of prior period’s segment operating results has been changed to conform to the Company’s current segment presentation.

The following table presents revenues, operating income (loss), and identifiable assets for the four segments. Operating income (loss) is net revenue less operating expenses, excluding general corporate expenses, amortization, restructuring charges, non-operating income (expense), and income taxes. The identifiable assets that Trimble's Chief Operating Decision Maker views by segment are accounts receivable and inventory.


   
Reporting Segments
 
 
 
 
 
Engineering and
 
Field
 
Mobile
 
Advanced
 
 
 
 
 
Construction
 
Solutions
 
Solutions
 
Devices
 
Total
 
(In thousands)
                     
                       
Three Months Ended June 30, 2006
                     
External net revenues
 
$
168,041
 
$
36,320
 
$
14,851
 
$
26,114
 
$
245,326
 
Operating income before corporate allocations
   
38,803
   
11,299
   
374
   
2,243
   
52,719
 
                                 
Three Months Ended July 1, 2005
                               
External net revenues
 
$
141,096
 
$
32,187
 
$
6,437
 
$
24,505
 
$
204,225
 
Operating income (loss) before corporate allocations
   
37,173
   
8,044
   
(1,879
)
 
4,578
   
47,916
 
                                 
Six Months Ended June 30, 2006
                               
External net revenues
 
$
314,775
 
$
79,363
 
$
27,458
 
$
49,584
 
$
471,180
 
Operating income before corporate allocations
   
65,182
   
25,207
   
597
   
4,566
   
95,552
 
                                 
Six Months Ended July 1, 2005
                               
External net revenues
 
$
261,294
 
$
77,612
 
$
13,838
 
$
46,864
 
$
399,608
 
Operating income (loss) before corporate allocations
   
58,663
   
23,621
   
(2,515
)
 
7,810
   
87,579
 
                                 
As of June 30, 2006
                               
Accounts receivable (1)
 
$
130,561
 
$
23,280
 
$
10,891
 
$
16,516
 
$
181,248
 
Inventories
   
83,947
   
12,377
   
2,388
   
15,213
   
113,925
 
                                 
As of December 30, 2005
                               
Accounts receivable (1)
 
$
105,980
 
$
21,823
 
$
10,789
 
$
14,033
 
$
152,625
 
Inventories
   
80,590
   
11,790
   
1,983
   
13,488
   
107,851
 

 
(1)
As presented, accounts receivable represents trade receivables, gross, which are specified between segments.


The following are reconciliations corresponding to totals in the accompanying Condensed Consolidated Financial Statements:

   
Three Months Ended
 
Six Months Ended
 
   
June 30,
 
July 1,
 
June 30,
 
July 1,
 
   
2006
 
2005
 
2006
 
2005
 
(In thousands)
                 
                   
Operating income:
                 
Total for reportable divisions  
 
$
52,719
 
$
47,916
 
$
95,552
 
$
87,579
 
Unallocated corporate expenses
   
(14,050
)
 
(9,179
)
 
(23,818
)
 
(18,642
)
Operating income
 
$
38,669
 
$
38,737
 
$
71,734
 
$
68,937
 

   
June 30,
 
December 30,
 
As of
 
2006
 
2005
 
(in thousands)
         
Assets:
         
Accounts receivable total for reporting segments
 
$
181,248
 
$
152,625
 
Unallocated (1)
   
(9,306
)
 
(7,525
)
Total
 
$
171,942
 
$
145,100
 

(1)  Includes trade-related accruals, allowances, and cash received in advance that are not allocated by segment.

The distribution of Trimble’s gross consolidated revenue by segment is summarized in the table below. Gross consolidated revenue includes external and internal sales. Total external consolidated revenue is reported net of eliminations of internal sales between segments.
 
   
Three Months Ended
 
Six Months Ended
 
   
June 30,
 
July 1,
 
June 30,
 
July 1,
 
   
2006
 
2005
 
2006
 
2005
 
(In thousands)
                 
                   
Engineering and Construction
 
$
169,102
 
$
141,868
 
$
316,560
 
$
265,156
 
Field Solutions
   
36,320
   
32,186
   
79,362
   
77,613
 
Mobile Solutions
   
14,851
   
6,437
   
27,458
   
13,838
 
Advanced Devices
   
26,114
   
24,552
   
49,586
   
46,921
 
Total Gross Consolidated Revenue
 
$
246,387
 
$
205,043
 
$
472,966
 
$
403,528
 
Eliminations
   
(1,061
)
 
(818
)
 
(1,786
)
 
(3,920
)
Total External Consolidated Revenue
 
$
245,326
 
$
204,225
 
$
471,180
 
$
399,608
 
 

NOTE 8. LONG TERM DEBT

Credit Facilities

On July 28, 2005, Trimble entered into a $200 million unsecured revolving credit agreement (“2005 Credit Facility”) with a syndicate of 10 banks with The Bank of Nova Scotia as the administrative agent. The 2005 Credit Facility replaced the Company’s $175 million secured 2003 Credit Facility. The funds available under the new 2005 Credit Facility may be used by the Company for general corporate purposes and up to $25 million of the 2005 Credit Facility may be used for letters of credit.

The Company may borrow funds under the 2005 Credit Facility in U.S. Dollars or in certain other currencies, and will bear interest, at the Company's option, at either: (i) a base rate, based on the administrative agent's prime rate, plus a margin of between 0% and 0.125%, depending on the Company's leverage ratio as of its most recently ended fiscal quarter, or (ii) a reserve-adjusted rate based on LIBOR, EURIBOR, STIBOR or other agreed-upon rate, depending on the currency borrowed, plus a margin of between 0.625% and 1.125%, depending on the Company's leverage ratio as of the most recently ended fiscal quarter. The Company's obligations under the 2005 Credit Facility are guaranteed by certain of the Company's domestic subsidiaries.

The 2005 Credit Facility contains customary affirmative, negative and financial covenants including, among other requirements, negative covenants that restrict the Company's ability to dispose of assets, create liens, incur indebtedness, repurchase stock, pay dividends, make acquisitions, make investments, enter into mergers and consolidations and make capital expenditures, and financial covenants that require the maintenance of leverage and fixed charge coverage ratios. The 2005 Credit Facility contains events of default that include, among others, non-payment of principal, interest or fees, breach of covenants, inaccuracy of representations and warranties, cross defaults to certain other indebtedness, bankruptcy and insolvency events, material judgments, and events constituting a change of control. Upon the occurrence and during the continuance of an event of default, interest on the obligations will accrue at an increased rate and the lenders may accelerate the Company's obligations under the 2005 Credit Facility, however that acceleration will be automatic in the case of bankruptcy and insolvency events of default. Trimble incurs a commitment fee if the 2005 Credit Facility is not used. The commitment fee is not material to the Company’s results during all periods presented.
At June 30, 2006, the Company had a zero balance outstanding under the 2005 Credit Facility and was in compliance with all financial covenants.

Notes Payable

As of June 30, 2006, the Company had other notes payable totaling approximately $0.9 million consisting of government loans to foreign subsidiaries and loans assumed from acquisitions.

NOTE 9. PRODUCT WARRANTIES:

The Company accrues for warranty costs as part of its cost of sales based on associated material product costs, technical support labor costs, and costs incurred by third parties performing work on Trimble's behalf. The products sold are generally covered by a warranty for periods ranging from 90 days to three years, and in some instances up to 5.5 years.

While the Company engages in extensive product quality programs and processes, including actively monitoring and evaluating the quality of component suppliers, its warranty obligation is affected by product failure rates, material usage, and service delivery costs incurred in correcting a product failure. Should actual product failure rates, material usage, or service delivery costs differ from the estimates, revisions to the estimated warranty accrual and related costs may be required.


Changes in the Company’s product warranty liability during the three and six months ended June 30, 2006 and July 1, 2005 are as follows:

   
Three Months Ended
 
Six Months Ended
 
   
June 30,
 
July 1,
 
June 30,
 
July 1,
 
   
2006
 
2005
 
2006
 
2005
 
(In thousands)
                 
                   
Beginning balance
 
$
7,445
 
$
6,844
 
$
7,466
 
$
6,425
 
Warranty accrued
   
1,413
   
1,802
   
3,257
   
4,159
 
Warranty claims
   
(1,383
)
 
(1,454
)
 
(3,248
)
 
(3,392
)
Ending Balance
 
$
7,475
 
$
7,192
 
$
7,475
 
$
7,192
 

The product warranty liability is classified as accrued warranty in the accompanying condensed consolidated balance sheets.

NOTE 1 0. EARNINGS PER SHARE:

The following data was used in computing earnings per share and the effect on the weighted-average number of shares of potentially dilutive Common Stock.

   
Three Months Ended
 
Six Months Ended
 
   
June 30,
 
July 1,
 
June 30,
 
July 1,
 
   
2006
 
2005
 
2006
 
2005
 
(In thousands, except per share amounts)
                 
                   
Numerator:
                 
Income available to common shareholders:
                 
Used in basic and diluted earnings per share
 
$
28,503
 
$
23,787
 
$
54,331
 
$
41,226
 
                           
Denominator:
                         
Weighted average number of common shares used in basic earnings per share
   
54,847
   
52,959
   
54,544
   
52,729
 
Effect of dilutive securities (using treasury stock method):
                         
Common stock options
   
2,634
   
3,215
   
2,679
   
3,246
 
Common stock warrants
   
647
   
883
   
538
   
805
 
Weighted average number of common shares and dilutive potential common shares used in diluted earnings per share
   
58,128
   
57,057
   
57,761
   
56,780
 
                           
Basic earnings per share
 
$
0.52
 
$
0.45
 
$
1.00
 
$
0.78
 
Diluted earnings per share
 
$
0.49
 
$
0.42
 
$
0.94
 
$
0.73
 

NOTE 11. RESTRUCTURING CHARGES:

The Company did not record any restructuring charge during the second quarter of fiscal 2006 and fiscal 2005. Payments of $0.1 million and $0.2 million, and $0.2 million and $0.3 million, were made during the three and six months ended June 30, 2006 and July 1, 2005, respectively, relating to previous restructuring plans.   As of June 30, 2006, the remaining restructuring accrual balance is $0.2 million which relates to the closure of one of Trimble’s sales offices and is expected to be paid over the next several years. The restructuring accrual is included on the Condensed Consolidated Balance Sheets under the heading of “Accrued Liabilities”.

NOTE 12. COMPREHENSIVE INCOME:

The components of comprehensive income, net of related tax in the Condensed Consolidated Statement of Income as follows:

   
Three Months Ended
 
Six Months Ended
 
   
June 30,
 
July 1,
 
June 30,
 
July 1,
 
   
2006
 
2005
 
2006
 
2005
 
(In thousands)
                 
                   
Net income
 
$
28,503
 
$
23,787
 
$
54,331
 
$
41,226
 
Foreign currency translation adjustments
   
8,448
   
(13,966
)
 
9,743
   
(22,794
)
Net gain (loss) on hedging transactions
   
-
   
(226
)
 
-
   
(108
)
Net unrealized gain (loss) on investments
   
(4
)
 
17
   
(14
)
 
(7
)
Comprehensive income
 
$
36,947
 
$
9,612
 
$
64,060
 
$
18,317
 
 

The components of accumulated other comprehensive income, net of related tax in the Condensed Consolidated Balance Sheets as follows:

   
June 30,
 
December 30,
 
As of
 
2006
 
2005
 
(In thousands)
         
           
Accumulated foreign currency translation adjustments
 
$
29,247
 
$
19,504
 
Accumulated net unrealized gain on investments
   
16
   
30
 
Total accumulated other comprehensive income
 
$
29,263
 
$
19,534
 


NOTE 13. LITIGATION:

From time to time, the Company is involved in litigation arising out of the ordinary course of its business. There are no known claims or pending litigation expected to have a material effect on the Company’s overall financial position, results of operations, or liquidity.
 

This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, which are subject to the “safe harbor” created by those sections. Actual results could differ materially from those indicated in the forward-looking statements due to a number of factors including, but not limited to, the risk factors discussed in “Risks and Uncertainties” below and elsewhere in this report as well as in the Company's Annual Report on Form 10-K for fiscal year 2005 and other reports and documents that the Company files from time to time with the Securities and Exchange Commission. The Company has attempted to identify forward-looking statements in this report by placing an asterisk (*) before paragraphs. Discussions containing such forward-looking statements may be found in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” below. In some cases, forward-looking statements can be identified by terminology such as “may,” ”will,” “should,” “could,” “predicts,” “potential,” “continue,” “expects,” “anticipates,” “future,” “intends,” “plans,” “believes,” “estimates,” and similar expressions. These forward-looking statements are made as of the date of this Quarterly Report on Form 10-Q, and the Company disclaims any obligation to update these statements or to explain the reasons why actual results may differ.
 
IT EM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The discussion and analysis of our financial condition and results of operations are based upon our condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate our estimates, including those related to product returns, doubtful accounts, inventories, investments, intangible assets, income taxes, warranty obligations, restructuring costs, and contingencies and litigation. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the amount and timing of revenue and expenses and the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. See the discussion of our critical accounting policies under the heading Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Form 10-K for fiscal 2005.

RECENT BUSINESS DEVELOPMENTS

BitWyse Solutions, Inc.

On May 1, 2006, we acquired BitWyse Solutions, Inc. in an all-cash transaction. BitWyse is a provider of engineering & construction information management software dedicated to providing engineering companies and owner operators a competitive advantage. BitWyse’s performance is reported under our Engineering and Constructions business segment.

Eleven Technology, Inc.

On April 28, 2006, we acquired Eleven Technology, Inc. of Cambridge, Massachusetts in an all-cash transaction. Eleven is a mobile application software company with a leading market and technology position in the Consumer Packaged Goods or, CPG, industry. Eleven’s performance is reported under our Mobile Solutions business segment.

Quantm International, Inc.

On April 5, 2006, we acquired privately-held Quantm International, Inc. a leading provider of transportation route optimization solutions used for planning highways, railways, pipelines and canals. Quantm’s innovative software system enables infrastructure planners to examine and select route corridors and alignments that simultaneously optimize construction costs, environmental restrictions, existing feature avoidance and legislative obligations. The improved solution for the proposed route may result in significant reductions to the customer in project planning time and cost. Quantm’s performance is reported under our Engineering and Construction business segment.

XYZ of GPS, Inc..

On February 26, 2006, we acquired the assets of XYZ of Dickerson, Maryland. XYZ develops real-time Global Navigation Satellite System or, GNSS, reference station, integrity monitoring and dynamic positioning software for meter, decimeter and centimeter applications. The purchase of XYZ’s intellectual property is expected to extend our product portfolio of infrastructure solutions by providing software that enhances differential GNSS correction systems used in marine aides to navigation, surveying, civil engineering, hydrography, mapping and Geographic Information System or, GIS, and scientific applications. XYZ’s performance is reported under our Engineering and Construction business segment.

Advanced Public Safety, Inc.

On December 30, 2005, we acquired APS of Deerfield Beach, Florida. APS provides mobile and handheld software products used by law enforcement, fire-rescue and other public safety agencies. With the APS acquisition, we plan to leverage our rugged mobile computing devices and our fleet management systems to provide complete mobile resource solutions for the public safety industry. APS is reported within our Mobile Solutions business segment.


MobileTech Solutions, Inc.

On October 25, 2005, we acquired MobileTech Solutions, Inc. of Plano, Texas. MobileTech Solutions provides field workforce automation solutions and has a leading market position in the Direct Store Delivery or, DSD, market. We expect the MobileTech Solutions acquisition to extend our portfolio of fleet management and field workforce applications. MobileTech Solutions’ performance is reported under our Mobile Solutions business segment.

Apache Technologies, Inc.

On April 19, 2005, we acquired Apache Technologies Inc. of Dayton, Ohio.  Apache is a leading developer of laser detection technology.  With the acquisition, we extended our laser product portfolio for handheld laser detectors and entry-level machine displays and control systems, as well as our distribution network in the United States.  Apache’s performance is reported under our Engineering and Construction business segment.

The effects of these acquisitions were not material to our overall results during all periods presented.
 
RESULTS OF OPERATIONS

Overview

The following table is a summary of revenue and operating income for the periods indicated and should be read in conjunction with the narrative descriptions below.

   
Three Months Ended
 
Six Months Ended
 
   
June 30,
 
July 1,
 
June 30,
 
July 1,
 
   
2006
 
2005
 
2006
 
2005
 
(in thousands)
                 
Total consolidated revenue
 
$
245,326
 
$
204,225
 
$
471,180
 
$
399,608
 
Gross margin
   
121,656
   
102,407
   
229,119
   
200,214
 
Gross margin %
   
49.6
%
 
50.1
%
 
48.6
%
 
50.1
%
Total consolidated operating income
   
38,669
   
38,737
   
71,734
   
68,937
 
Operating income %
   
15.8
%
 
19.0
%
 
15.2
%
 
17.3
%

Revenue

In the three months ended June 30, 2006, total revenue increased by $41.1 million or 20%, as compared to the same corresponding period in fiscal 2005. The increase was primarily due to stronger performances in our Engineering and Construction and Mobile Solutions segments. The Engineering and Construction and Mobile Solutions segments increased $26.9 million and $8.4 million, respectively, compared to the same corresponding period in fiscal 2005. Revenue growth within these segments was primarily driven by new product introductions and increased penetration of existing markets. Both segments also benefited from acquisitions.

In the six months ended June 30, 2006, total revenue increased by $71.6 million or 18%, as compared to the same corresponding period in fiscal 2005. The increase was primarily due to stronger performances in our Engineering and Construction and Mobile Solutions segments. The Engineering and Construction and Mobile Solutions segments increased $53.5 million and $13.6 million, respectively, compared to the same corresponding period in fiscal 2005. Revenue growth within these segments was primarily driven by new product introductions and increased penetration of existing markets, as well as the impact of acquisitions for the six month period ended June 30, 2006 that were not applicable in the comparable period in 2005.

During the second fiscal quarter of fiscal 2006, sales to customers in the United States represented 55%, Europe represented 25%, Asia Pacific represented 11% and other regions represented 9% of our total revenues. During the same corresponding period in fiscal 2005, sales to customers in the United States represented 54%, Europe represented 25%, Asia Pacific represented 11% and other regions represented 10% of our total revenues.

 
Gross Margin

Gross margin varies due to a number of factors including product mix, pricing, distribution channel used, the effects of production volumes, new product start-up costs, and foreign currency translations. Gross margin as a percentage of total revenues was 49.6% and 48.6% for the three and six months ended June 30, 2006, respectively, compared to 50.1% for the three and six months ended July 1, 2005. Gross margin for the three months ended June 30, 2006 decreased primarily due to the impact of CTCT transactions of $5.1 million previously recorded in non-operating expenses, amortization of software-related purchased intangibles of $1.3 million and stock-based compensation expense of $0.3 million that were not included in gross margin during the second quarter of fiscal 2005, for a total impact of 2.7%. Gross margin for the six months ended June 30, 2006 decreased primarily due to the impact of CTCT transactions of $10.4 million previously recorded in non-operating expenses, amortization of software-related purchased intangibles of $2.2 million and stock-based compensation expense of $0.6 million that were not included in gross margin during the same period in fiscal 2005, for a total impact of 2.8%. Underlying margins increased due to stronger sales of our new, higher margin products, and higher revenue.

Operating Income

Operating income as a percentage of total revenue was 15.8% and 19.0% for the second quarter of fiscal 2006 and 2005, respectively and 15.2% and 17.3% for the first six months of fiscal 2006 and 2005, respectively. The decrease in operating income for the three months ended June 30, 2006 compared to the corresponding period last year is driven by the impact of CTCT transactions of $5.1 million and stock-based compensation expense of $3.3 million that were not included in operating income during the second quarter of fiscal 2005. In addition, expenses related to acquisitions, namely amortization of purchased intangibles and purchased in-process research and development expenses, increased by $2.6 million versus the same period last year. The decrease in operating income for the six months ended June 30, 2006 is driven by the impact of CTCT transactions of $10.4 million and stock-based compensation expense of $6.5 million that were not included in operating income during the same period last year. In addition, expenses related to acquisitions, namely amortization of purchased intangibles and purchased in-process research and development expenses, increased by $2.6 million versus the same period last year. The fluctuations for both three and six month periods ended June 30, 2006 were partially offset by an increase in revenue and an increase in the underlying gross margins.

Results by Segment

To achieve distribution, marketing, production, and technology advantages in our targeted markets, we manage our operations in the following four segments: Engineering and Construction, Field Solutions, Mobile Solutions, and Advanced Devices. Operating income (loss) equals net revenue less cost of sales and operating expenses, excluding general corporate expenses, amortization of purchased intangibles, restructuring charges, non-operating income (expense), and income taxes.

In the first fiscal quarter of 2006, we combined the operating results of the former Components Technologies and Portfolio Technologies segments and included the combined operating results in the Advanced Devices segment. The change in presentation was made in recognition of the small size of each of the businesses relative to the total company. The presentation of prior period’s segment operating results has been changed to conform to our current segment presentation.

The following table is a breakdown of revenue and operating income by segment (in thousands, except percentages):

   
Three Months Ended
 
Six Months Ended
 
   
June 30,
 
July 1,
 
June 30,
 
July 1,
 
   
2006
 
2005
 
2006
 
2005
 
                   
Engineering and Construction
                 
Revenue
 
$
168,041
 
$
141,096
 
$
314,775
 
$
261,294
 
Segment revenue as a percent of total revenue
   
68
%
 
69
%
 
67
%
 
65
%
Operating income
 
$
38,803
 
$
37,173
 
$
65,182
 
$
58,663
 
Operating income as a percent of segment revenue
   
23
%
 
26
%
 
21
%
 
22
%
Field Solutions
                         
Revenue
 
$
36,320
 
$
32,187
 
$
79,363
 
$
77,612
 
Segment revenue as a percent of total revenue
   
15
%
 
16
%
 
17
%
 
19
%
Operating income
 
$
11,299
 
$
8,044
 
$
25,207
 
$
23,621
 
Operating income as a percent of segment revenue
   
31
%
 
25
%
 
32
%
 
30
%
Mobile Solutions
                         
Revenue
 
$
14,851
 
$
6,437
 
$
27,458
 
$
13,838
 
Revenue as a percent of total revenue
   
6
%
 
3
%
 
6
%
 
4
%
Operating income (loss)
 
$
374
 
$
(1,879
)
$
597
 
$
(2,515
)
Operating income (loss) as a percent of segment revenue
   
3
%
 
(29
%)
 
2
%
 
(18
%)
Advanced Devices
                         
Revenue
 
$
26,114
 
$
24,507
   
49,584
   
46,864
 
Segment revenue as a percent of total revenue
   
11
%
 
12
%
 
11
%
 
12
%
Operating income
 
$
2,243
 
$
4,578
 
$
4,566
 
$
7,810
 
Operating income as a percent of segment revenue
   
9
%
 
19
%
 
9
%
 
17
%
 
 
A reconciliation of our consolidated segment operating income to consolidated income before income taxes follows:

   
Three Months Ended
 
Six Months Ended
 
   
June 30,
 
July 1,
 
June 30,
 
July 1,
 
   
2006
 
2005
 
2006
 
2005
 
(In thousands)
                 
                   
Consolidated segment operating income
 
$
52,719
 
$
47,916
 
$
95,552
 
$
87,579
 
Unallocated corporate expense
   
(9,287
)
 
(7,002
)
 
(16,716
)
 
(13,889
)
Amortization of purchased intangible assets
   
(3,742
)
 
(2,177
)
 
(6,082
)
 
(4,475
)
In-process research and development expense
   
(1,020
)
 
--
   
(1,020
)
     
Restructuring charges
   
--
   
--
   
--
   
(278
)
Non-operating income (expense), net
   
2,524
   
(2,617
)
 
5,332
   
(6,394
)
Consolidated income before income taxes
 
$
41,194
 
$
36,120
 
$
77,066
 
$
62,543
 

Engineering and Construction

Engineering and Construction revenues increased by $26.9 million or 19% and $53.5 million or 20% while segment operating income increased $1.6 million or 4% and $6.5 million or 11% for the three and six months ended June 30, 2006 as compared to the same corresponding periods in fiscal 2005.

The revenue growth for both the three and six months ended June 30, 2006 was driven by a steady market, strong sales of new products and aggressive marketing programs. In addition, for the three months ended June 30, 2006 segment operating income increased as a result of higher revenues and increased sales of higher margin products, partially offset by $4.9 million in expenses related to CTCT transactions and $1.1 million in stock-based compensation expense that were not present in the corresponding period of fiscal 2005, as well as higher costs incurred due to meeting the requirements of a European lead free initiative (known as RoHS). For the six months ended June 30, 2006 segment operating income increased as a result of higher revenues and increased sales of higher margin products, partially offset by $9.7 million in expenses related to CTCT transactions and $2.1 million in stock-based compensation expense that were not present in the corresponding period of fiscal 2005.

Field Solutions  

Field Solutions revenues increased by $4.1 million or 13% and $1.7 million or 2% while segment operating income increased $3.3 million or 40% and $1.6 million or 7% for the three and six months ended June 30, 2006 as compared to the same corresponding periods in fiscal 2005.

Revenues increased for the second quarter ended June 30, 2006 compared to the corresponding period of fiscal 2005 due to double digit growth in both our agricultural and GIS businesses. In GIS, growth was due to new products and a continuing shift to a higher value, differentiated distribution channel. In agriculture, growth was driven by higher demand for both automated and manual guidance products as farmers increasingly utilized technology to increase yields and improve productivity. Operating income increased primarily due to higher revenue and stronger operating leverage.

Revenue growth for the first six months of 2006 was relatively flat to fiscal 2005 due to the strong revenue generated by new products introduced, primarily in agriculture, in the prior year. Operating income was up, driven by the timing of expenses related to new product introduction.

Mobile Solutions

Mobile Solutions revenues increased by $8.4 million or 131% and $13.6 million or 98% while segment operating income increased $2.3 million or 120% and $3.1 million or 124% for the three and six months ended June 30, 2006 as compared to the same corresponding periods in fiscal 2005.

Revenues for the three and six months ended June 30, 2006 compared to the corresponding periods of fiscal 2005 grew due to increased subscriber growth, an increase in recurring revenues, the benefit of acquisitions not in the prior period, and our entry into new vertical markets. Operating income for three and six months ended June 30, 2006 compared to the corresponding periods of fiscal 2005 increased primarily due to higher subscription revenue and gross margins.


Advanced Devices

Advanced Devices revenues increased by $1.6 million or 7% and $2.7 million or 6% while operating income decreased by $2.3 million or 51% and $3.2 million or 42% for the three and six months ended June 30, 2006 as compared to the corresponding period in fiscal 2005.

For the three and six months ended June 30, 2006 compared to the corresponding periods in fiscal 2005, the increase in revenue was primarily due to stronger performance in our Applanix airborne business and sales of components to our non-automotive Original Equipment Manufacturers (“OEM’s”). Operating income for the three and six months ended June 30, 2006 compared to the same period in fiscal 2005 decreased primarily due to a reduction in revenue in our automotive and timing businesses and relatively flat sales in our Military and Advanced Systems product line. Operating income year over year also declined due to development costs related to the introduction of the TrimTrac® GSM version, costs incurred due to meeting the requirements of the European lead free initiative, and product mix.


Research and Development, Sales and Marketing, and General and Administrative Expenses

Research and development (“R&D”), sales and marketing (“S&M”), and general and administrative (“G&A”) expenses are summarized in the following table (in thousands, except percentages):

   
Three Months Ended
 
Six Months Ended
 
                   
   
June 30,
 
July 1,
 
June 30,
 
July 1,
 
   
2006
 
2005
 
2006
 
2005
 
Research and development
 
$
27,607
 
$
20,865
 
$
52,053
 
$
42,693
 
Percentage of revenue
   
11.3
%
 
10.2
%
 
11.0
%
 
10.7
%
Sales and marketing
   
35,747
   
28,704
   
68,453
   
59,075
 
Percentage of revenue
   
14.6
%
 
14.1
%
 
14.5
%
 
14.8
%
General and administrative
   
16,205
   
11,924
   
31,966
   
24,756
 
Percentage of revenue
   
6.6
%
 
5.8
%
 
6.8
%
 
6.2
%
Total
 
$
79,559
 
$
61,493
 
$
152,472
 
$
126,524
 
Percentage of revenue
   
32.4
%
 
30.1
%
 
32.4
%
 
31.7
%

Overall, R&D, S&M, and G&A expense increased by approximately $18.1 million and $25.9 million for the three and six months ended June 30, 2006 compared to the same corresponding periods in fiscal 2005. Included in the increase were approximately $2.9 million and $5.9 million of stock-based compensation for the three and six months ended June 30, 2006, respectively, not included in the prior year periods.

The increase in R&D expenses in the second quarter of fiscal 2006 as compared with the second quarter of fiscal 2005 was primarily due to the inclusion of expenses of $1.6 million from acquisitions not applicable in the prior fiscal quarter, $1.5 million increase in compensation related expenses, $0.7 million in stock-based compensation expense which was not present in the second quarter of fiscal 2005, $0.5 million increase in consulting fees, and $3.0 million increase in R&D outside services and parts expenses which was primarily due to compliance with the European lead free initiative.
 
The increase in R&D expenses in the first six months of fiscal 2006 as compared with the corresponding period in fiscal 2005 was primarily due to the to the inclusion of expenses of $2.6 million from acquisitions not applicable in the prior corresponding period, $1.1 million increase in compensation related expenses, $1.3 million in stock-based compensation expense which was not present in the six months ended July 1, 2005, and $3.0 million increase in R&D outside services and parts expenses which was primarily due to compliance with the European lead free initiative.

All of our R&D costs have been expensed as incurred. Cost of software developed for external sale subsequent to reaching technical feasibility were not considered material and were expensed as incurred.

* We believe that the development and introduction of new products are critical to our future success and we expect to continue active development of new products.


The increase in S&M expenses in the second quarter of fiscal 2006 as compared with the corresponding period of fiscal 2005 was primarily due the inclusion of expenses from acquisitions not applicable in the prior period in the amount of $2.1 million, $3.0 million increase in compensation related expenses, $0.7 million in stock-based compensation expense which was not present in the second quarter of fiscal 2005, and $0.6 million increase in tradeshow related expenses. The increase in S&M expenses in the first six months of fiscal 2006 as compared with the corresponding period of fiscal 2005 was primarily due the inclusion of expenses from acquisitions not applicable in the prior period in the amount of $2.7 million, $3.4 million increase in compensation related expenses, $1.5 million in stock-based compensation expense which was not present in the six months ended July 1, 2005, $1.8 million increase in tradeshow related expenses, and $0.7 million increase in travel expenses.

* Our future growth will depend in part on the timely development and continued viability of the markets in which we currently compete as well as our ability to continue to identify and develop new markets for our products.

The increase in G&A expenses in the second quarter of fiscal 2006 as compared with the corresponding period in fiscal 2005 was primarily due the inclusion of expenses from acquisitions not applicable in the prior year in the amount of $0.4 million, $1.3 million increase in compensation related expenses, $1.6 million in stock-based compensation expense which was not present in the second quarter of fiscal 2005, and $0.7 increase in bad debt expense, partially offset by $0.3 million decrease in G&A equipment and material related expenses. The increase in G&A expenses in the first six months of fiscal 2006 compared with the corresponding period in fiscal 2005 was primarily due the inclusion of expenses from acquisitions not applicable in the prior year in the amount of $1.8 million, $2.2 million increase in compensation related expenses, $3.1 million in stock-based compensation expense which was not present in the second quarter of fiscal 2005, and $1.1 million increase in facilities expenses, partially offset by $0.3 million decrease in G&A equipment and material related expenses and $0.7 million decrease in consulting expenses.

Amortization of Purchased Intangible Assets

Amortization of purchased intangible assets was $3.7 million, of which $1.3 million was recorded in cost of sales, in the second quarter of fiscal 2006, compared with $2.2 million in the second quarter of fiscal 2005. The increase was due to several acquisitions made by the Company since the last fiscal year. Amortization of purchased intangible assets was $6.1 million, of which $2.2 was recorded in cost of revenue, in the first six months of fiscal 2006, compared with $4.5 million in the first six months of fiscal 2005. The increase was primarily due to the acquisition of certain technology and patent intangibles as a result of acquisitions not applicable in the comparable period of fiscal 2005, partially offset by Spectra-related intangible assets that were fully amortized in June 2005.

In-Process Research and Development

We recorded In-process research and development (IPR&D) expense of $1.0 million related to acquisitions during the three and six month period ended June 30, 2006. We did not record any IPR&D expense during the same corresponding periods in fiscal 2005. At the date of each acquisition, the projects associated with the IPR&D efforts had not yet reached technological feasibility and the research and development in process had no alternative future uses. The value of the IPR&D was determined using a discounted cash flow model similar to the income approach, focusing on the income producing capabilities of the in-process technologies. Accordingly, the value assigned to these IPR&D amounts were charged to expense on the respective acquisition date of each of the acquired companies.

Restructuring Charges

We did not record any restructuring charges during the second quarter of fiscal 2006 and 2005. During the first quarter of fiscal 2005, we recorded a restructuring charge of approximately $0.3 million associated with the closure of one of our sales offices as a result of integration efforts of a previous acquisition. There were no restructuring charges recorded during the first quarter of 2006. Payments of $0.1 million and $0.2 million, and $0.2 million and $0.3 million, were made during the three and six months ended June 30, 2006 and July 1, 2005, respectively, relating to previous restructuring plans.  As of June 30, 2006, the remaining restructuring accrual balance is $0.2 million which is related to the office closure expected to be paid over the next several years. The restructuring accrual is included on the Condensed Consolidated Balance Sheets under the heading of “Accrued Liabilities.”
 
Non-operating Income (Expense), Net

The components of non-operating income (expense), net, are as follows (in thousands):

   
Three Months Ended
 
Six Months Ended
 
   
June 30,
 
July 1,
 
June 30,
 
July 1,
 
   
2006
 
2005
 
2006
 
2005
 
(In thousands)
                 
                   
Interest income (expense), net
 
$
598
 
$
(419
)
$
1,032
 
$
(1,030
)
Foreign currency transaction gain, net
   
334
   
163
   
927
   
6
 
Income (expenses) for affiliated operations, net
   
1,575
   
(2,499
)
 
3,191
   
(5,538
)
Other income, net
   
18
   
138
   
182
   
168
 
Total non-operating income (expense), net
 
$
2,525
 
$
(2,617
)
$
5,332
 
$
(6,394
)
 

Non-operating income, net increased $5.1 million or 196% for second quarter of fiscal 2006 compared with the corresponding period in fiscal 2005 primarily due to a $4.1 million increase in income from affiliated operations, resulting from a $1.1 million increase in profits from our joint ventures and the absence of $3.0 million in transfer pricing expense with CTCT that were included in the second quarter of fiscal 2005 but now included in operating income in fiscal 2006. In addition, non-operating income increased due to an increase in net interest income of $1.0 million as a result of interest expense incurred in the second quarter of fiscal 2005 on debt subsequently repaid and higher interest income earned on the investment of cash balances.

Non-operating income, net increased by $11.7 million or 183% during the first six months of fiscal 2006 compared with the corresponding period in fiscal 2005 primarily due to a $8.7 million increase in income from affiliated operations, resulting from a $2.6 million increase in gains from our joint ventures and the absence of $6.1 million in transfer pricing expense with CTCT that were included in the first six months of fiscal 2005, but now included in operating income in fiscal 2006. In addition, non-operating income increased due to an increase in net interest income of $2.0 million as a result of interest expense incurred in the second quarter of fiscal 2005 on debt subsequently repaid and higher interest income earned on the investment of cash balances, as well as due to $0.9 million increase in foreign currency transaction gains.
 
Income Tax Provision

Our income tax provision reflects an effective tax rate of 31% and 30% for the three and six months ended June 30, 2006, respectively. The effective tax rates for the comparable periods in fiscal 2005 were 34%. The 2006 year-to-date tax rate is lower than the 2005 tax rate due to the favorable outcomes of two foreign income tax audits which were partially offset by the impact of the accounting for stock based compensation in accordance with SFAS 123R.

* We expect the tax rate to normalize at 35% for the second half of fiscal 2006, for an estimated effective annual tax rate of approximately 32% for the balance of fiscal 2006. The effective tax rate could be affected by several factors including stock option activity, geographic mix of our pre-tax income, legislative changes, or changes to our existing valuation allowance or contingent tax liabilities.
 
Critical Accounting Policies
 
We believe that there have been no significant changes during the six months ended June 30, 2006 to the items that we disclosed as our critical accounting policies and estimates in our discussion and analysis of financial condition and results of operations in our 2005 Form 10-K, except as noted below.

Stock-based Compensation

We have adopted the Financial Accounting Standards Board (“FASB”) issued SFAS No. 123R, “Share-Based Payment” (“SFAS 123(R)”) using the modified prospective method which requires the adoption of the accounting standard for fiscal years beginning June 15, 2005. As a result, our financial statements for fiscal periods after December 30, 2005 will include stock-based compensation expenses that are not comparable to financial statements of fiscal periods prior to December 30, 2005. SFAS 123(R) requires stock-based compensation to be estimated using the fair value on the date of grant using an option-pricing model. The value of the portion of the award that is expected to vest is recognized as expense over the requisite service periods of the related employees’ in the Company’s Condensed Consolidated Statement of Income. Prior to the adoption of SFAS 123(R), the Company accounted for stock-based compensation to employees and directors using the intrinsic value method in accordance with APB Opinion No. 25 as allowed under Statement of Financial Accounting Standards No. 123, “Accounting for Stock-Based Compensation” (“SFAS 123”). Under the intrinsic value method, no stock-based compensation expense had been recognized in the Company’s Condensed Consolidated Statement of Income because the exercise price of the Company’s stock options granted to employees and directors equaled the fair market value of the underlying stock at the date of grant.

For options granted prior to October 1, 2005, the fair value for these options was estimated at the date of grant using the Black-Scholes option-pricing model. For stock options granted on or after October 1, 2005, the fair value of each award is estimated on the date of grant using a binomial valuation model. Similar to the Black-Scholes model, the binomial model takes into account variables such as volatility, dividend yield rate, and risk free interest rate. In addition,   the binomial model incorporates actual option-pricing behavior and changes in volatility over the option’s contractual term. For these reasons, we believe that the binomial model provides a fair value for stock options that is more representative of actual experience and future expected experience than the value calculated using the Black-Scholes model. The fair value of rights granted under the Employee Stock Purchase Plan is estimated at the date of grant using the Black-Scholes option-pricing model.

For the three and six months ended 2006, we recognized $3.0 million and $5.9 million in net stock-based compensation expense, respectively. This is compared to the three and six months ended 2005 pro forma net stock-based compensation expense of $2.7 million and $5.8, respectively. As of June 30, 2006, the total unamortized stock option expense is $16.1 million with a weighted-average recognition period of 1.5 years.

 
See Note 3 to the Notes to the Condensed Consolidated Financial Statements for additional information.

OFF-BALANCE SHEET FINANCINGS AND LIABILITIES

Other than lease commitments incurred in the normal course of business, we do not have any off-balance sheet financing arrangements or liabilities, guarantee contracts, retained or contingent interests in transferred assets, or any obligation arising out of a material variable interest in an unconsolidated entity. We do not have any majority-owned subsidiaries that are not included in the condensed consolidated financial statements. Additionally, we do not have any interest in, or relationship with, any special purpose entities.

LIQUIDITY AND CAPITAL RESOURCES

As of
 
June 30, 2006
 
December 30,
2005
 
(dollars in thousands)
         
           
Cash and cash equivalents
 
$
107,726
 
$
73,853
 
Accounts receivable days sales outstanding
   
55
   
66
 
Inventory turns per year
   
4
   
4
 
Total debt
 
$
890
 
$
649
 
               
 
Six Months Ended
   
June 30, 2006
 
 
July 1, 2005
 
(in thousands)
             
               
Net cash provided by operating activities
 
$
59,369
 
$
36,570
 
Net cash used in investing activities
 
$
(49,080
)
$
(27,541
)
Net cash provided (used) in financing activities
 
$
21,155
 
$
(22,490
)
Net increase (decrease) in cash and cash equivalents
 
$
33,873
 
$
(15,012
)

Cash and Cash Equivalents

Our financial condition further strengthened at June 30, 2006. Cash and cash equivalents totaled $107.7 million compared to $73.9 million at December 30, 2005. We essentially have no debt at June 30, 2006.

* For the first six months of fiscal 2006, cash provided by operating activities was $59.4 million, compared to $36.6 million in cash provided by operating activities during the first six months of fiscal 2005. This increase of $22.8 million was primarily driven by a $13.1 million increase in net income and a $7.7 million increase in deferred revenue. Our ability to continue to generate cash from operations will depend in large part on profitability, the rate of collections of accounts receivable, our inventory turns, and our ability to manage other areas of working capital. Our accounts receivable days for sales outstanding improved to 55 days at the end of the second quarter of fiscal 2006, from 66 days at the end of fiscal 2005. The decrease is due to increased collection efforts and improvement in monitoring of outstanding receivables. Our inventory turns were unchanged at four for the first six months of fiscal 2006 and at fiscal year end 2005.

We used $49.1 million in net cash for investing activities during the first six months of 2006, compared to $27.6 million in the first six months of 2005. The $21.5 million increase in spending was primarily due to an increase of $17.9 million in cash used for acquisitions and an increase of $3.2 million in investment in Enterprise Resource Planning systems.

* We expect fiscal 2006 capital expenditures to be approximately $15 million to $20 million, primarily for computer equipment, software, manufacturing tools and test equipment, and leasehold improvements associated with business expansion.   Decisions related to how much cash is used for investing are influenced by the expected amount of cash to be provided by operations.

We generated $21.2 million in net cash from financing activities in the first six months of 2006, compared to $22.5 million in cash used during the first six months of 2005. The $43.7 million improvement was primarily due to a $38.3 million decrease in repayment of net debt, $4.8 million in excess tax benefits relating to stock-based compensation which was not present in the first quarter of fiscal 2005 and a $1.7 million increase in proceeds received from issuance of common stock.

* We believe that our cash and cash equivalents, together with our credit facilities ($200 million as of June 30, 2006), will be sufficient to meet our anticipated operating cash needs for at least the next twelve months.
 
Debt

At June 30, 2006, our total debt was approximately $0.9 million compared to $0.6 million at the end of fiscal 2005. This relates to government loans to foreign subsidiaries and loans assumed from acquisitions.


On July 28, 2005, we entered into a $200 million unsecured revolving credit agreement (“2005 Credit Facility”) with a syndicate of 10 banks with The Bank of Nova Scotia as the administrative agent. The 2005 Credit Facility replaces our $175 million secured 2003 Credit Facility. The funds available under the new 2005 Credit Facility may be used for our general corporate purposes and up to $25 million of the 2005 Credit Facility may be used for letters of credit. We incur a commitment fee if the 2005 Credit Facility is not used. The commitment fee is not material to our results during all periods presented. As of June 30, 2006, the Company had a zero balance outstanding under the 2005 Credit Facility and was in compliance with all financial covenants.
 
ITE M 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

We are exposed to market risk related to changes in interest rates and foreign currency exchange rates. We use certain derivative financial instruments to manage these risks. We do not use derivative financial instruments for speculative or trading purposes. All financial instruments are used in accordance with policies approved by our board of directors.