Zebra Technologies - 10-Q quarterly report FY

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D. C. 20549

FORM 10-Q

For the quarterly period ended October 2, 2004

OR

Commission File Number:  000-19406

Zebra Technologies Corporation

(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code: (847) 634-6700

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   ý  No  o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2). Yes  ý  No  o

As of November 1, 2004, there were the following shares outstanding:

Class A Common Stock, $.01 par value            71,757,433

Note 4 – Investments and Marketable Securities

We classify the majority of our investments and marketable securities as available-for-sale in accordance with the classifications defined in SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities.

SFAS No. 115 requires that changes in the market value of available-for-sale securities be reflected in the accumulated other comprehensive income caption of stockholders’ equity in the balance sheet, until we dispose of the securities. Once these securities are disposed of, either by sale or maturity, the accumulated changes in market value are transferred to investment income. On the cash flow statements, changes in the balances of available-for-sale securities are shown as purchases, sales and maturities of investments and marketable securities.

Changes in market value of trading securities are recorded in investment income as they occur, and the related cash flow statement includes changes in the balances of trading securities as operating cash flows.

Unrealized gains and losses on investment securities are included in these financial statements as follows (in thousands):

Note 5—Stockholders’ Equity

Share count and par value data related to stockholders’ equity are as follows:

On July 15, 2004, the Board of Directors authorized a fifty percent (50%) Class A common stock dividend on each issued share of Class A common stock payable before the close of business on August 25, 2004, to the holders of record of all such shares at the close of business on July 29, 2004. All share counts and per-share amounts have been restated to reflect this stock dividend.

Note 6—Other Comprehensive Income (Loss)

Stockholders’ equity includes certain items classified as other comprehensive income, including:

•                  Foreign currency translation adjustment relates to our non-U.S. subsidiary companies that have designated a functional currency other than the U.S. dollar. We are required to translate the subsidiary functional currency financial statements to dollars using a combination of historical, month-end, and average foreign exchange rates. This combination of rates creates the foreign currency translation adjustment component of other comprehensive income.

•                  Unrealized gains (losses) on foreign currency hedging activities relate to derivative instruments used to hedge the currency exchange rates for forecasted euro sales. These hedges are designated as cash flow hedges, and we have deferred income statement recognition of gains and losses until the hedged transaction occurs. See Note 9 for more details.

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•                  Unrealized gains (losses) on investments classified as available-for-sale are deferred from income statement recognition until the gains or losses are realized. See Note 4 for more details.

The components of other comprehensive income (loss) included in the Consolidated Statements of Comprehensive Income are as follows (in thousands):

The components of other comprehensive income (loss) included in the Consolidated Balance Sheets are as follows (in thousands):

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We test the impairment of goodwill each year or whenever events or changes in circumstances indicate that the carrying value may not be recoverable. We completed our last assessment during June 2004.

We evaluate the impairment of other long-lived assets including identifiable intangible assets whenever events or changes in circumstances indicate that the carrying value may not be recoverable.

Factors considered that might trigger an impairment review consist of:

•                  Significant underperformance relative to historical or projected future operating results

•                  Significant changes in the manner of use of the acquired assets or the strategy for the overall business

•                  Significant negative industry or economic trends

•                  Significant decline in Zebra’s stock price for a sustained period

•                  Significant decline in market capitalization relative to net book value

If we believe that one or more of the above indicators of impairment have occurred, we measure impairment based on a projected discounted cash flow methodology using a discount rate that incorporates the risk inherent in the cash flows.

Note 9—Derivative Instruments

In the normal course of business, portions of Zebra’s operations are subject to fluctuations in currency values. We manage these risks using derivative financial instruments.

Hedging of Net Assets

We use forward contracts and options to manage exposure related to our pound and euro denominated net assets and designate these contracts and options as fair value hedges. We record gains and losses on these contracts and options in income each quarter along with the transaction gains and losses related to our net euro asset position, which would ordinarily offset each other to a large extent. Summary financial information related to these activities follows (in thousands):

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During January 2004, we announced plans to consolidate our Warwick, Rhode Island, printer manufacturing and repair service into our Camarillo, California and Vernon Hills, Illinois locations. This transition was expected to take 12 to 18 months to complete. The Warwick facility will continue to manufacture and distribute bar code label printer supplies, as well as house engineering, product management, and the key account sales functions for mobile products. As of October 2, 2004, we expect the following exit costs (in thousands):

Liabilities and expenses related to exit activities for the three and nine months ended October 2, 2004 were as follows (in thousands):

Note 11—Contingencies

On April 24, 2003, Paxar Americas, Inc. (Paxar Americas) filed a patent infringement lawsuit in the United States District Court for the Southern District of Ohio against Zebra and certain of its subsidiaries. Paxar Americas’ Complaint alleges that certain of Zebra’s products infringe on one or more of eight identified Paxar Americas patents, although not each product is accused of infringing each patent. Zebra has filed an Answer to Paxar Americas’ Complaint, denying Paxar Americas’ allegations of infringement and asserting several affirmative defenses, including the invalidity of Paxar Americas’ asserted patent claims. Paxar has moved to amend its complaint to add other allegations of infringement and a trademark-based claim. Zebra has opposed Paxar’s Motion to Amend, and the Court’s ruling on the Motion is pending. On July 15, 2004, the Court heard argument from the parties regarding the proper construction of the claims of the patents in suit. The parties have fully briefed the issue of claim construction, and that issue is now before the Court.

On November 21, 2003, Zebra’s wholly-owned subsidiary, ZIH Corp. (ZIH), filed a Complaint in the United States District Court for the District of Massachusetts against Paxar Corporation, alleging that Paxar Corporation printers infringe ZIH’s U.S. Patent Nos. 5,813,343 and 5,860,753. Paxar Corporation answered ZIH’s Complaint, denying infringement and seeking a declaratory judgment that ZIH’s patents-in-suit are not infringed and are invalid and/or unenforceable. Paxar Corporation filed a motion to transfer ZIH’s Massachusetts suit to the United States District Court for the Southern District of Ohio. ZIH opposed Paxar Corporation’s motion to transfer, and the Court’s ruling on the transfer motion is pending.

On November 25, 2003, Paxar Americas filed a Complaint against ZIH in the United States District Court for the Southern District of Ohio, seeking a declaratory judgment that the patents asserted by ZIH in its Massachusetts Complaint are not infringed and are invalid and unenforceable. On December 17, 2003, Paxar Americas amended its complaint to add Zebra Technologies Corporation as a defendant. The Court granted the parties’ motion to stay this action pending the District Court of Massachusetts’ ruling on Paxar Corporation’s motion to transfer. The parties have

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Quarterly product development expenses fluctuate widely depending on the status of on-going projects. We are committed to a long-term strategy of significant investment in product development. For the third quarter of 2004, payroll and benefits increased by $794,000 in relation to the third quarter of 2003.  Increases in project expenses ($676,000) and consulting costs ($172,000) also resulted from additional expenditures for new products including radio frequency identification (RFID) products. We expect to invest a larger portion of our engineering expenditures in the future on the development of RFID printer/encoders.

General and Administrative Expenses

General and administrative expenses are summarized in the table below (in thousands, except percentages):

For the third quarter of 2004, information system expenses increased $769,000, and legal expenses increased $1,303,000. The increase in legal expenses is related to litigation with Paxar as described in Note 11 and increased intellectual property work. We expect large increases in legal expenses to continue for subsequent quarters, based on the legal activity we are currently experiencing.

Exit Costs

During the fourth quarter of 2003, we announced plans to close our engineering site in Varades, France. This plan is accounted for under SFAS No. 146, Accounting for Costs Associated with Exit or Disposal Activities. Included in operating expenses for the third quarter of 2004 are exit costs in the amount of $218,000.  These costs consist primarily of severance costs, asset disposal costs and other employee related expenses. For the first nine months of 2004, exit costs relating to the Varades closure were $832,000.

During the first quarter of 2004, we announced plans to consolidate our Warwick, Rhode Island, printer manufacturing and repair service business into our Camarillo, California and Vernon Hills, Illinois locations. During the third quarter, we incurred exit costs of $497,000 for severance and travel costs related to the consolidation. For the first nine months of 2004, exit costs relating to the Warwick consolidation were $1,121,000.

Operating Income

Operating income is summarized in the following table (in thousands, except percentages):

The increase in operating income is attributable to the following factors:

•                  Higher third quarter and year-to-date sales,

•                  Improved gross margins,

•                  Favorable changes in foreign exchange rates for Zebra’s non-dollar denominated businesses, and

•                  Operating expense growth held below the rate of sales growth.

As a result of these factors, operating income increased by 6.7 percentage points more than the rate of sales growth during the third quarter and 7.6 percentage points more than the rate of sales growth year-to-date.

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Non-operating Income and Expenses

Zebra’s non-operating income and expense items are summarized in the following table (in thousands):