Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

You should read the following discussion in conjunction with our audited historical consolidated financial statements, including the notes thereto, which are included elsewhere in this Form 10-K. Management's Discussion and Analysis of Financial Condition and Results of Operations contains statements that are forward-looking. These statements are based on current expectations and assumptions that are subject to risk, uncertainties, and other factors. Actual results could differ materially because of the factors discussed in "Risk Factors" included elsewhere in this Form 10-K.

Executive Overview

This executive overview presents summarized information regarding our business and operating trends only. For further information relating to the information summarized herein, see "Management's Discussion and Analysis of Financial Condition and Results of Operations" in its entirety.

Recent ON Semiconductor Results

Our revenue for the year ended December 31, 2020 was $5,255.0 million, a decrease of 4.8% from $5,517.9 million for the year ended December 31, 2019. The decrease was attributable to reduced demand for our products across PSG, ASG and ISG primarily due to the negative impact from the COVID-19 pandemic. During 2020, while we reported net income attributable to ON Semiconductor of $234.2 million compared to $211.7 million in 2019, our operating income during 2020 was $348.7 million compared to $432.7 million during 2019. While the decrease in operating income was primarily due to the pervasive macroeconomic impacts of the COVID-19 pandemic, the increase in net income attributable to ON Semiconductor was due to the income tax benefit recorded during the year. Our gross margin decreased by approximately 310 basis points to 32.7% in 2020 from 35.8% in 2019. See discussion under "Results of Operations" for further discussion on the reasons for the fluctuations year over year.

Business and Macroeconomic Environment

The COVID-19 pandemic has had, and is expected to continue to have, a significant adverse impact on global economic activity, including creating supply chain and market disruption. While certain measures enacted in 2020 to contain the spread of the COVID-19 pandemic have since been relaxed in many jurisdictions, the extent to which the pandemic will impact demand for our products depends on future developments, which are highly uncertain and difficult to predict, including new information that may emerge concerning the severity and longevity of the pandemic, and actions to contain and treat its impact.

We historically have pursued, and expect to continue to pursue, cost-saving initiatives to align our overall cost structure, capital investments and other expenditures with our expected revenue, spending and capacity levels based on our current sales and manufacturing projections. We have taken, and continue to take, significant cost containment efforts, including, but not limited to, workforce reductions, reducing discretionary spending, furloughs, and mandatory vacations. While all our global

manufacturing sites are currently operational, our facilities could be required to temporarily curtail production levels or temporarily cease operations based on government mandates. There can be no assurances that we will adequately forecast the impact of adverse economic conditions on our business or that we will effectively align our cost structure, capital investments and other expenditures with our revenue, spending and capacity levels in the future.

See Note 7: ''Restructuring, Asset Impairments and Other Charges, net'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K for information relating to our most recent cost-saving initiatives.

The Impact of the COVID-19 Pandemic on our Business

In an effort to protect the health and safety of our employees, we have taken proactive, aggressive actions to adopt social distancing policies at our locations around the world, including reducing the number of people in our sites at any one time, encouraging our employees to work from home where possible, limiting the number of employees attending meetings and significantly reducing employee travel. In our role as responsible corporate citizens, we have taken actions to support our global communities by providing personal protective equipment to hospitals and health workers. We will continue to actively monitor implications of the COVID-19 pandemic on our business and may take further actions to adjust our business operations if deemed necessary, or as required by federal, state, or local law.

During the majority of 2020, our results of operations were adversely impacted due to the reduced demand from our customers, government-mandated temporary shutdowns of certain of our facilities, supply shortages and other logistical constraints arising from the COVID-19 pandemic. However, towards the end of 2020, we experienced a meaningful improvement in the demand for most of our products, specifically products in the automotive sector that had been significantly impacted by the pandemic. However, current demand levels have yet to reach levels achieved before the pandemic. While we believe that our business has stabilized from the impact of the pandemic, a possible resurgence or another wave of the pandemic could alter the business and economic landscape again. We expect volatility in demand to continue in varying duration and severity until such time as the COVID-19 pandemic is effectively contained globally. Our long-term fundamentals remain strong as we believe that we are well-positioned for growth as business conditions continue to improve. We believe that secular trends in the automotive, industrial, and cloud-power end-markets, which are our primary areas of focus, will continue to drive long-term growth in the semiconductor industry.

Results of Operations

Our results of operations for the year ended December 31, 2020 includes the full year results, and our results of operations for the year ended December 31, 2019 includes partial year results of Quantenna, which we acquired on June 19, 2019.

For a discussion and comparison of the results of our operations for the year ended December 31, 2019 with the year ended December 31, 2018, refer to "Management's Discussion and Analysis of Financial Conditions and Results of Operations" in our Form 10-K for the year ended December 31, 2019 filed with the SEC on February 19, 2020.

Operating Results

The following table summarizes certain information relating to our operating results that has been derived from our audited consolidated financial statements (in millions):

			Year ended December 31,
			2020						2019																		Change
Revenue			$	5,255.0					$	5,517.9																	$	(262.9)
Cost of revenue (exclusive of amortization shown below)			3,539.2						3,544.3																		(5.1)
Gross profit			1,715.8						1,973.6																		(257.8)
Operating expenses:
Research and development			642.9						640.9																		2.0
Selling and marketing			278.7						301.0																		(22.3)
General and administrative			258.7						284.0																		(25.3)
Litigation settlement			—						169.5																		(169.5)
Amortization of acquisition-related intangible assets			120.3						115.2																		5.1
Restructuring, asset impairments and other charges, net			65.2						28.7																		36.5
Intangible asset impairment			1.3						1.6																		(0.3)
Total operating expenses			1,367.1						1,540.9																		(173.8)
Operating income			348.7						432.7																		(84.0)
Other income (expense), net:
Interest expense			(168.4)						(148.3)																		(20.1)
Interest income			4.9						10.2																		(5.3)
Loss on debt refinancing and prepayment			—						(6.2)																		6.2
Other expense			(8.6)						(11.8)																		3.2
Other income (expense), net			(172.1)						(156.1)																		(16.0)
Income before income taxes			176.6						276.6																		(100.0)
Income tax (provision) benefit			59.8						(62.7)																		122.5
Net income			236.4						213.9																		22.5
Less: Net income attributable to non-controlling interest			(2.2)						(2.2)																		—
Net income attributable to ON Semiconductor Corporation			$	234.2					$	211.7																	$	22.5

Revenue

Revenue was $5,255.0 million and $5,517.9 million for 2020 and 2019, respectively. The decrease from 2019 to 2020 of $262.9 million, or 4.8%, was primarily attributable to a 6.5%, 3.1% and 2.5% decrease in revenue in PSG, ASG and ISG, respectively, which is further explained below. We had one customer, a distributor, whose revenue accounted for approximately 11% of the total revenue for the year ended December 31, 2020.

Revenue by operating and reportable segments was as follows (dollars in millions):

			2020						As a % of Revenue (1)						2019						As a % of Revenue (1)
PSG			$	2,606.1					49.6		%				$	2,788.3					50.5		%
ASG			1,910.4						36.4		%				1,972.3						35.7		%
ISG			738.5						14.1		%				757.3						13.7		%
Total revenue			$	5,255.0											$	5,517.9

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(1) Certain of the amounts may not total due to rounding of individual amounts.

Revenue from PSG

Revenue from PSG decreased by $182.2 million, or approximately 7%, during 2020 compared to 2019. The revenue from our Advanced Power Division and Protection and Signal Division decreased by $116.8 million and $49.1 million, respectively. The decreases were due to a combination of a general decline in demand for these products due to economic conditions caused by the COVID-19 pandemic, and was exacerbated by internal delays in fulfilling certain customer orders due to our factories in China, the Philippines and Malaysia, which operated at significantly reduced capacity levels during portions of the first half of 2020 as a result of the COVID-19 pandemic.

Revenue from ASG

Revenue from ASG decreased by $61.9 million, or approximately 3%, during 2020 compared to 2019. The revenue from our Automotive Division and Mobile, Computing and Cloud Division decreased by $47.4 million and $39.6 million, respectively, and was partially offset by an increase in revenue of $34.1 million in our Wireless Connectivity Solutions Division, which included the acquired Quantenna business. The decreases in demand for the products in these divisions was primarily due to the economic conditions as a result of the COVID-19 pandemic, and specifically the automotive industry during the first half of the year, which has started to experience a meaningful recovery during the fourth quarter. Similar to PSG, this decrease was exacerbated by delays in fulfilling certain customer orders due to our factories in China, the Philippines and Malaysia, which operated at a significantly reduced capacity levels during portions of the first half of 2020 as a result of the COVID-19 pandemic.

Revenue from ISG

Revenue from ISG decreased by $18.8 million, or 2.5%, during 2020 compared 2019, which was primarily due to the decrease in revenue from our Automotive Sensing Division of $20.0 million, which was due to decreased demand and delays in fulfilling certain customer orders due to supply chain constraints during the first half of 2020 as a result of the COVID-19 pandemic.

Revenue by Geographic Location

Revenue by geographic location, based on sales billed from the respective country or regions, are as follows (dollars in millions):

			2020						As a % of Revenue (1)						2019						As a % of Revenue (1)
Singapore			$	1,799.5					34.2		%				$	1,713.1					31.0		%
Hong Kong			1,311.6						25.0		%				1,417.3						25.7		%
United Kingdom			805.9						15.3		%				921.6						16.7		%
United States			728.6						13.9		%				810.3						14.7		%
Other			609.4						11.6		%				655.6						11.9		%
Total			$	5,255.0											$	5,517.9

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(1) Certain of the amounts may not total due to rounding of individual amounts.

Gross Profit and Gross Margin (exclusive of amortization of acquisition-related intangible assets)

Our gross profit by operating and reportable segment was as follows (dollars in millions):

			2020									As a % of Segment Revenue (1)												2019									As a % of Segment Revenue (1)
PSG			$	801.7								30.8		%										$	976.0								35.0		%
ASG			730.5									38.2		%										794.8									40.3		%
ISG			237.7									32.2		%										275.4									36.4		%
Gross profit for all segments			$	1,769.9																				$	2,046.2
Unallocated manufacturing costs (2)			(54.1)									(1.0)		%										(72.6)									(1.3)		%
Total gross profit			$	1,715.8								32.7		%										$	1,973.6								35.8		%

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(1) Certain of the amounts may not total due to rounding of individual amounts.

(2) Unallocated manufacturing costs are presented as a percentage of total revenue (2019 includes expensing of the fair market value step-up of inventory of $19.6 million acquired from Quantenna).

Our gross profit was $1,715.8 million during 2020 compared to $1,973.6 million during 2019 representing a decrease of $257.8 million, or approximately 13%. Our gross margin decreased to 32.7% during 2020 compared to 35.8% during 2019. The decrease in gross profit and gross margin were attributable to a significant decline in sales volume due to the COVID-19 pandemic and a decline in average selling prices.

While the improving business conditions during the second half of 2020 positively impacted our gross margins, we incurred additional expenses for freight, transportation and cleaning costs to operate our facilities in compliance with local government regulations that had an adverse impact on our gross margin.

Operating Expenses

Research and Development

Research and development expenses were $642.9 million and $640.9 million, or approximately 12% of revenue during each of 2020 and 2019, representing an increase of $2.0 million, or approximately 0.3% year-over-year. While there was a decrease in the cost of external consultants and travel-related expenses due to the cost-saving measures and travel restrictions implemented in response to the COVID-19 pandemic, these decreases were offset due to the payroll expenses for Quantenna employees for the entire year in 2020.

Selling and Marketing

Selling and marketing expenses were $278.7 million and $301.0 million, or approximately 5% of revenue during each of 2020 and 2019, representing a decrease of $22.3 million, or approximately 7.4% year-over-year. The decrease was primarily related to a significant decrease in travel-related expenses due to the cost-saving measures and travel restrictions implemented in response to the COVID-19 pandemic and nominal decreases in payroll expenses as a result of furloughs and the VSP and Involuntary Separation Program ("ISP") offered during 2020. Please see Note 7: ''Restructuring, Asset Impairments and Other Charges, net'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K for a more detailed description of the VSP and the ISP.

General and Administrative

General and administrative expenses were $258.7 million and $284.0 million, or approximately 5% of revenue during each of 2020 and 2019, representing a decrease of $25.3 million, or approximately 9% year-over-year. This decrease was primarily attributable to a decrease in stock compensation expense, travel-related expenses due to the cost-saving measures and travel restrictions implemented in response to the COVID-19 pandemic and certain other categories due to the general cost-saving measures.

Litigation Settlement

During 2019, we reached a litigation settlement with Power Integrations, Inc. ("PI"). In connection with the settlement, we incurred an expense of $169.5 million, and ultimately paid $175.0 million in cash, pursuant to which all outstanding legal and administrative disputes were withdrawn by both the parties. No such expenses were incurred during 2020. See Note 13: ''Commitments and Contingencies'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K for additional information with respect to the litigation settlement with PI.

Amortization of Acquisition—Related Intangible Assets

Amortization of acquisition-related intangible assets was $120.3 million and $115.2 million for 2020 and 2019, respectively. The increase of $5.1 million, or approximately 4.4%, was primarily due to the amortization of intangible assets acquired from Quantenna.

See Note 5: ''Acquisitions, Divestiture and Licensing Transactions'' and Note 6: ''Goodwill and Intangible Assets'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K for additional information with respect to the acquired intangible assets.

Restructuring, Asset Impairments and Other Charges, net

Restructuring, asset impairments and other charges, net was $65.2 million and $28.7 million for 2020 and 2019, respectively. Amounts incurred during 2020 related to the VSP, ISP and other restructuring programs, primarily through workforce reductions. Included in 2020 were also asset impairment charges amounting to $17.5 million. Amounts incurred during 2019 related to the post-Quantenna acquisition related restructuring program as well as certain restructuring actions undertaken by us aimed at cost savings, primarily through workforce reductions.

For additional information, see Note 7: ''Restructuring, Asset Impairments and Other Charges, net'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K.

Intangible Asset Impairment

Intangible asset impairment charges were $1.3 million and $1.6 million for 2020 and 2019, respectively, related to the cancellation and abandonment of certain IPRD projects during the year.

See Note 6: ''Goodwill and Intangible Assets'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K for additional information.

Other Income and Expenses

Interest Expense

Interest expense increased by $20.1 million, or approximately 14%, to $168.4 million during 2020 compared to $148.3 million in 2019, primarily due to an increase in the outstanding balances of long-term debt as a result of the borrowings under the Revolving Credit Facility (which was subsequently repaid) and our issuance of the 3.875% Notes, offset partially by the repayment of our 1.00% Notes. We recorded amortization of debt discount to interest expense of $38.2 million and $37.8 million for 2020 and 2019, respectively. Our average gross amount of long-term debt balance (including current maturities) during 2020 and 2019 was $3,669.4 million and $3,344.1 million, respectively. Our weighted average interest rate on our gross amount of long-term debt (including current maturities) was 4.6% and 4.4% per annum in 2020 and 2019, respectively.

See "Liquidity and Capital Resources—Key Financing and Capital Events" below and Note 9: ''Long-Term Debt'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K for a description of our indebtedness and our refinancing activities.

Loss on Debt Refinancing and Prepayment

We recorded loss on debt refinancing and prepayment of $6.2 million during 2019 related to the activity under the Amended Credit Agreement. No such expenses were incurred during 2020.

Other Income (Expense)

Other expense decreased by $3.2 million, or approximately 27%, from 2019 to 2020. The decrease was primarily attributable to a decrease of $11.6 million in actuarial losses on our pension obligations during 2020 compared to 2019, offset by the recognition of an indemnification gain of $7.8 million primarily attributable to the resolution of a foreign tax dispute and other IP related claims during 2019.

Income Tax Provision

We recorded an income tax benefit of $59.8 million and a provision of $62.7 million in 2020 and 2019, respectively.

The income tax benefit for the year ended December 31, 2020 consisted of discrete benefits of $63.0 million primarily due to the recognition of certain deferred tax assets, net of deferred tax liabilities, related to the domestication of certain foreign subsidiaries and a benefit of $49.4 million related to the release of valuation allowance against certain state deferred tax assets. These benefits were partially offset by a provision of $43.9 million for income and withholding taxes of certain of our foreign and domestic operations, a $2.3 million discrete provision relating to prior year uncertain tax positions, a discrete provision of $5.5 million relating to additional foreign valuation allowance, and $0.9 million of other discrete items.

The income tax provision for the year ended December 31, 2019 consisted primarily of $66.4 million for income and withholding taxes of certain of our foreign and domestic operations, $6.0 million relating to the resolution of a foreign tax dispute and $3.3 million of new reserves and interest on existing reserves for uncertain tax positions in foreign jurisdictions and $2.1 million of prior year adjustments. These amounts were offset by discrete benefits of $9.2 million relating to the release of reserves and interest for uncertain tax positions in foreign jurisdictions related to prior years and $5.9 million relating to equity award excess tax benefits.

For additional information, see Note 16: ''Income Taxes'' in the notes to the audited consolidated financial statements included elsewhere in this Form 10-K.

Liquidity and Capital Resources

This section includes a discussion and analysis of our cash requirements, off-balance sheet arrangements, contingencies, sources and uses of cash, operations, working capital and long-term assets and liabilities.

Contractual Obligations

Our principal outstanding contractual obligations relate to our long-term debt, operating lease liabilities and purchase obligations. The following table summarizes our contractual obligations at December 31, 2020 and the effect such obligations are expected to have on our liquidity and cash flow in the future (in millions):

			Payments Due by Period
Contractual obligations (1)			Total						2021						2022						2023						2024						2025						Thereafter
Long-term debt (2)			$	4,110.8					$	699.0					$	107.9					$	104.7					$	785.8					$	77.3					$	2,336.1
Operating lease liabilities			174.6						36.5						30.1						23.1						20.8						14.2						49.9
Purchase obligations for (3):
Capital expenditures			58.1						52.0						4.8						1.3						—						—						—
Inventory and external manufacturing			1,256.9						418.6						339.5						245.9						246.0						3.4						3.5
Information technology and support services			16.1						8.8						4.8						2.2						0.3						—						—
Other (4)			307.2						45.5						249.8						10.1						1.7						0.1						—
Total contractual obligations			$	5,923.7					$	1,260.4					$	736.9					$	387.3					$	1,054.6					$	95.0					$	2,389.5

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(1)The table above excludes approximately $45.1 million of liabilities related to unrecognized tax benefits because we are unable to reasonably estimate the timing of the settlement of such liabilities.

(2)Includes interest payments at applicable rates as of December 31, 2020.

(3)These represent our off-balance sheet arrangements (See "Liquidity and Capital Resources - Off-Balance Sheet Arrangements" for further information).

(4)During 2019, we incurred additional commitments relating to the pending acquisition of a manufacturing facility, of which, $170.0 million has been deposited with the seller already. The remaining commitment of $230.0 million will be owed on or around December 31, 2022. See Note 5: ''Acquisitions, Divestiture and Licensing Transactions'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K for additional information.

The table also excludes our pension obligations. We expect to make cash contributions to comply with local funding requirements and required benefit payments of approximately $22.1 million and $7.0 million, respectively, in 2021. This future payment estimate assumes we continue to meet our statutory funding requirements. The timing and amount of contributions may be impacted by a number of factors, including the funded status of the plans. Beyond 2021, the actual amounts required to be contributed are dependent upon, among other things, interest rates, underlying asset returns and the impact of legislative or regulatory actions related to pension funding obligations. See Note 12: ''Employee Benefit Plans'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K for more information on our pension obligations.

Our balance of cash and cash equivalents was $1,080.7 million as of December 31, 2020. We believe that our cash flows from operations, coupled with our existing cash and cash equivalents, and cash available from our Revolving Credit Facility, will be adequate to fund our operating, debt repayment and capital needs for at least the next 12 months. Total cash and cash equivalents at December 31, 2020 include approximately $489.1 million available in the United States. We require a substantial

amount of cash in the United States for operating requirements, debt service, debt repayments and acquisitions. While we hold a significant amount of cash and cash equivalents outside the United States in various foreign subsidiaries, we have the ability to obtain cash in the United States in order to cover our domestic needs, through distributions from our foreign subsidiaries, by utilizing existing credit facilities or through new bank loans or debt obligations.

See Note 9: ''Long-Term Debt,'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K for a discussion of our long-term debt. See "Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities" included elsewhere in this Form 10-K for a discussion of restrictions on our ability to pay dividends and our stock repurchase activities.

Off-Balance Sheet Arrangements

In the ordinary course of business, we provide standby letters of credit or other guarantee instruments to certain parties in connection with certain transactions including, but not limited to: material purchase commitments, agreements to mitigate collection risk, leases, utilities or customs guarantees. As of December 31, 2020, our Revolving Credit Facility included $15.0 million available for the issuance of letters of credit. There were $0.9 million letters of credit outstanding under our Revolving Credit Facility as of December 31, 2020, which reduced our borrowing capacity dollar-for-dollar. As of December 31, 2020, we also had outstanding guarantees and letters of credit outside of our Revolving Credit Facility in the amount of $9.7 million.

As part of securing financing in the ordinary course of business, we have issued guarantees related to certain of our subsidiaries', which totaled $0.9 million as of December 31, 2020. Based on historical experience and information currently available, we believe that we will not be required to make payments under the standby letters of credit or guarantee arrangements for the foreseeable future.

We have not recorded any liability in connection with these letters of credit and guarantee arrangements. See Note 9: ''Long-Term Debt,'' and Note 13: ''Commitments and Contingencies'' in the notes to our audited consolidated financial statements found elsewhere in this Form 10-K for additional information.

Contingencies

We are a party to a variety of agreements entered into in the ordinary course of business pursuant to which we may be obligated to indemnify other parties for certain liabilities that arise out of or relate to the subject matter of the agreements. Some of the agreements entered into by us require us to indemnify the other party against losses, including, but not limited to, losses due to IP infringement, environmental contamination and other property damage, personal injury, our failure to comply with applicable laws, our negligence or willful misconduct or our breach of representations, warranties or covenants related to such matters as title to sold assets.

We face risk of exposure to warranty and product liability claims in the event that our products fail to perform as expected or such failure of our products results, or is alleged to result, in economic damage, bodily injury or property damage. In addition, if any of our designed products are alleged to be defective, we may be required to participate in their recall. Depending on the significance of any particular customer and other relevant factors, we may agree to provide more favorable rights to such customer for valid defective product claims.

We maintain directors’ and officers’ insurance policies that indemnify our directors and officers against various liabilities, including certain liabilities under the Exchange Act that might be incurred by any director or officer in his or her capacity as such.

The agreement and plan of merger relating to the acquisition of Fairchild Semiconductor International Inc. (the "Fairchild Agreement") provides for indemnification and insurance rights in favor of Fairchild’s then current and former directors, officers and employees. Specifically, we have agreed that, for no fewer than six years following the Fairchild acquisition, we will: (a) indemnify and hold harmless each such indemnitee against losses and expenses (including advancement of attorneys’ fees and expenses) in connection with any proceeding asserted against the indemnified party in connection with such person’s servings as a director, officer, employee or other fiduciary of Fairchild or its subsidiaries prior to the effective time of the acquisition; (b) maintain in effect all provisions of the certificate of incorporation or bylaws of Fairchild or any of its subsidiaries or any other agreements of Fairchild or any of its subsidiaries with any indemnified party regarding elimination of liability, indemnification of officers, directors and employees and advancement of expenses in existence on the date of the Fairchild Agreement for acts or omissions occurring prior to the effective time of the acquisition and; (c) subject to certain qualifications, provide to Fairchild’s then current directors and officers an insurance and indemnification policy that provides

coverage for events occurring prior to the effective time of the acquisition that is no less favorable than Fairchild’s then-existing policy, or, if insurance coverage that is no less favorable is unavailable, the best available coverage.

Similarly, the agreement and plan of merger relating to the acquisition of Quantenna (the "Quantenna Agreement") provides for indemnification and insurance rights in favor of Quantenna’s then current and former directors, officers, employees and agents. Specifically, we have agreed that, for no fewer than six years following the Quantenna acquisition, we will: (a) indemnify and hold harmless each such indemnified party to the fullest extent permitted by Delaware law in the event of any threatened or actual claim suit, action, proceeding or investigation against the indemnified party based in whole or in part on, or pertaining to, such person’s serving as a director, officer, employee or agent of Quantenna or its subsidiaries or predecessors prior to the effective time of the acquisition or in connection with the Quantenna Agreement; (b) maintain in effect provisions of the certificate of incorporation and bylaws of Quantenna and each of its subsidiaries regarding the elimination of liability of directors and indemnification of officers, directors and employees that are no less advantageous to the intended beneficiaries than the corresponding provisions in the certificate of incorporation and bylaws of Quantenna and each of its subsidiaries in existence on the date of the Quantenna Agreement; and (c) obtain and fully pay the premium for a non-cancelable extension of directors’ and officers’ liability coverage of Quantenna’s directors’ and officers’ policies and Quantenna’s fiduciary liability insurance policies in effect as of the date of the Quantenna Agreement.

While our future obligations under certain agreements may contain limitations on liability for indemnification, other agreements do not contain such limitations and under such agreements it is not possible to predict the maximum potential amount of future payments due to the conditional nature of our obligations and the unique facts and circumstances involved in each particular agreement. Historically, payments made by us under any of these indemnities have not had a material effect on our business, financial condition, results of operations or cash flows, and we do not believe that any amounts that we may be required to pay under these indemnities in the future will be material to our business, financial condition, results of operations or cash flows.

See Note 13: ''Commitments and Contingencies'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K for possible contingencies related to legal matters. See also "Business—Government Regulation" for information on certain environmental matters.

Sources and Uses of Cash

Our balance of cash and cash equivalents was $1,080.7 million as of December 31, 2020. We require cash to fund our operating expenses, working capital requirements, outlays for strategic acquisitions and investments, for debt service including principal and interest, for research and development, for capital expenditures, and to repurchase our common stock. As part of our business strategy, we review acquisition and divestiture opportunities on a regular basis. During 2019, we entered into an agreement on the pending acquisition of a manufacturing facility and completed the acquisition of Quantenna.

We believe that the key factors that could affect our internal and external sources of cash include:

• Geopolitical and macroeconomic factors caused by the COVID-19 pandemic which has had, and is expected to continue to have, negative impacts on the economies of the majority of countries and industries. While there has been a nominal recovery during the second half of 2020, the ultimate effect of the COVID-19 pandemic and the responses of various governmental entities and industries thereto, the duration and severity and the possibility of the re-emergence of the pandemic in future months and the anticipated recovery period is uncertain.

• Factors that affect our results of operations and cash flows, including the impact on our business and operations as a result of changes in demand for our products, including as a result of the COVID-19 pandemic, competitive pricing pressures, effective management of our manufacturing capacity, our ability to achieve further reductions in operating expenses, the impact of our restructuring programs on our production and cost efficiency and our ability to make the research and development expenditures required to remain competitive in our business; and

• Factors that affect our access to bank financing and the debt and equity capital markets that could impair our ability to obtain needed financing on acceptable terms or to respond to business opportunities and developments as they arise, including interest rate fluctuations, macroeconomic conditions, including as a result of the COVID-19 pandemic, sudden reductions in the general availability of lending from banks or the related increase in cost to obtain bank financing and our ability to maintain compliance with covenants under our debt agreements in effect from time to time.

The following are some of the significant sources and uses of cash during 2020 outside of our operating activities and regular capital expenditures:

• Borrowing of $1,165.0 million under the Revolving Credit Facility on March 24, 2020 and repayment of $1,200.0 million of such borrowings using the net proceeds from the issuance of the 3.875% Notes and cash on hand on August 21, 2020.

• Issuance of $700.0 million of 3.875% Notes on August 21, 2020, the net proceeds of which were used to repay a portion of the outstanding borrowings under the Revolving Credit Facility.

• Additional deposit of $100.0 million for the pending acquisition of GFUS’s East Fishkill, New York site and fabrication facilities and certain other assets and liabilities on October 5, 2020.

• Repayment upon maturity of the principal portion of the 1.00% Notes amounting to $690.0 million on December 1, 2020.

• Repayment of $65.0 million of the outstanding borrowings under the Revolving Credit Facility on December 31, 2020.

• Repurchase of 3.6 million shares of common stock for an aggregate purchase price of approximately $65.3 million under the 2018 Share Repurchase Program

Our ability to service our long-term debt, including our 3.875% Notes, 1.625% Notes, Revolving Credit Facility and Term Loan "B" Facility, to remain in compliance with the various covenants contained in our debt agreements and to fund working capital, capital expenditures and business development efforts will depend on our ability to generate cash from operating activities, which is subject to, among other things, our future operating performance, timing of the full economic recovery from the COVID-19 pandemic, as well as to financial, competitive, legislative, regulatory and other conditions, some of which may be beyond our control.

If we fail to generate sufficient cash from operations, we may need to raise additional equity or borrow additional funds to achieve our longer-term objectives. There can be no assurance that such equity or borrowings will be available or, if available, will be at rates or prices acceptable to us. We believe that cash flow from operating activities coupled with existing cash and cash equivalents and existing credit facilities will be adequate to fund our operating, debt repayment and capital needs, as well as enable us to maintain compliance with our various debt agreements, through at least the next 12 months. To the extent that results or events differ from our financial projections or business plans, our liquidity may be adversely impacted.

During the ordinary course of business, we evaluate our cash requirements and, if necessary, adjust our expenditures for inventory, operating expenditures and capital expenditures to reflect the current market conditions and our projected sales and demand. Our capital expenditures are primarily directed towards manufacturing equipment. Our capital expenditure levels can materially influence our available cash for other initiatives. For example, during 2020, we paid approximately $383.6 million for capital expenditures, while in 2019 we paid approximately $534.6 million. While our capital expenditures have historically been approximately 6% to 7% of annual revenue, we incurred capital expenditures of approximately 7% and 10% of annual revenue in 2020 and 2019, respectively. We expect to incur capital expenditures in the range of 7% to 8% of revenue in 2021 to further improve our manufacturing cost structure. Future capital expenditures are expected to be lower, however, may be impacted by events and transactions that are not currently forecasted.

As of December 31, 2020, there was $1,614.5 million outstanding under the Term Loan "B" Facility and $700.0 million outstanding under the Revolving Credit Facility, in addition to the 3.875% Notes for $700.0 million and 1.625% Notes for $575.0 million, of which the 1.625% Notes net of unamortized discount and issuance costs has been reclassified as a current portion of long-term debt. The associated interest expense related to this indebtedness will continue to have a significant impact on our results of operations.

See Note 5: ''Acquisitions, Divestiture and Licensing Transactions'' and Note 9: ''Long-Term Debt'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K for additional information.

Cash Management

Our ability to manage cash is limited, as our primary cash inflows and outflows are dictated by the terms of our sales and supply agreements, contractual obligations, debt instruments and legal and regulatory requirements. While we have some flexibility with respect to the timing of capital equipment purchases, we must invest in capital equipment on a timely basis to allow us to maintain our manufacturing efficiency and support our platforms for new products.

Primary Cash Flow Sources

Our long-term cash generation is dependent on the ability of our operations to generate cash. Our cash flows from operating activities were $884.3 million, $694.7 million, and $1,274.2 million for the years ended December 31, 2020, 2019 and 2018, respectively. Our operating cash flows for the year ended December 31, 2020 increased by $189.6 million, or 27.3%, compared to the year ended December 31, 2019, which was primarily due to the payment of $175.0 million in 2019 to PI relating to a litigation settlement, which decreased our cash flows during 2019. Although, there was a significant decrease in operating income and income before income taxes in 2020 due to decreased demand for our products as a result of the COVID-19 pandemic, the negative impact on the cash flows provided from operating activities were offset by effective working capital management.

Our ability to maintain positive operating cash flows is dependent on, among other factors, our success in achieving our

revenue goals and manufacturing and operating cost targets. Our management of our assets and liabilities, including both working capital and long-term assets and liabilities, also influences our operating cash flows, and each of these components is discussed below.

Working Capital

Working capital, calculated as total current assets less total current liabilities, fluctuates depending on end-market demand and our effective management of certain items such as receivables, inventory and payables. In times of escalating demand, our working capital requirements may be affected as we purchase additional manufacturing materials and increase production. Our working capital may also be affected by restructuring programs, which may require us to use cash for severance payments, asset transfers and contract termination costs. In addition, our working capital may be affected by acquisitions and transactions involving our convertible notes and other debt instruments. Although investments made to fund working capital will reduce our cash balances, these investments are necessary to support business and operating initiatives.

Our working capital, excluding cash and cash equivalents and the current portion of long-term debt, was $960.5 million as of December 31, 2020 and has fluctuated between $879.3 million and $1,057.1 million at the end of each of our last eight fiscal quarters. Our working capital, including cash and cash equivalents and the current portion of long-term debt, was $1,509.6 million as of December 31, 2020 and has fluctuated between $1,071.4 million and $2,379.8 million at the end of each of our last eight fiscal quarters. The significant fluctuation was due to the additional borrowings under the Revolving Credit Facility during 2020 in light of the COVID-19 pandemic. For the year ended December 31, 2020, there was not a significant impact to our working capital as we tried to manage our business conservatively in light of the negative impact from the COVID-19 pandemic.

Long-Term Assets and Liabilities

Our long-term assets consist primarily of property, plant and equipment, intangible assets, deferred taxes and goodwill. Our manufacturing rationalization plans have included efforts to utilize our existing manufacturing assets and supply arrangements more efficiently. We believe that near-term access to additional manufacturing capacity, should it be required, could be readily obtained on reasonable terms through manufacturing agreements with third parties. We will continue to look for opportunities to make strategic purchases in the future for additional capacity.

Our long-term liabilities, excluding long-term debt and deferred taxes, consist of liabilities under our foreign defined benefit pension plans, operating lease liabilities and contingent tax reserves. In regard to our foreign defined benefit pension plans, our annual funding of these obligations is equal to the minimum amount legally required in each jurisdiction in which the plans operate. This annual amount is dependent upon numerous actuarial assumptions. For additional information, see Note 12: ''Employee Benefit Plans'', "Note 8: ''Balance Sheet Information'' and Note 16: ''Income Taxes'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K.

Key Financing and Capital Events

Overview

For the past several years, we have undertaken various measures to secure liquidity to pursue acquisitions, repurchase shares of our common stock, reduce interest costs, amend existing key financing arrangements and, in some cases, extend a portion of our debt maturities to continue to provide us additional operating flexibility. Certain of these measures continued in 2020. Set forth below is a summary of certain key financing events affecting our capital structure during the last three years. For further discussion of our debt instruments, see Note 9: ''Long-Term Debt'' and for further discussion on the 2018 Share Repurchase Program and the 2014 Share Repurchase Program (as defined below), see Note 10: ''Earnings Per Share and Equity'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K.

2020 Financing Events

Maturity and Settlement of 1.00% Notes due 2020

The 1.00% Notes matured on December 1, 2020. The maturity of the notes resulted in us paying $690.0 million in cash, representing the principal portion of the 1.00% Notes, to holders of the 1.00% Notes using our available cash and cash equivalents.

The excess over the principal amount was settled by issuing shares of common stock held in treasury. At the time of issuance of

the 1.00% Notes, we concurrently entered into hedge transactions with certain of the initial purchasers of the 1.00% Notes, and accordingly, repurchased an equivalent number of shares of our common stock at fair market value, to effectively offset the issuance of shares.

Also at the time of issuance of the 1.00% Notes, we sold warrants to certain bank counterparties whereby the holders of the warrants have the option to purchase from us, the equivalent number of shares of our common stock at a price of $25.96 per share. These warrants can be exercised by the holders beginning in March 2021 and expire no later than April 2021. We currently anticipate the holders to exercise the warrants to purchase up to 37.3 million shares of common stock from us, which will be settled on a net-share basis depending on the average stock price on the day of exercise.

Issuance of 3.875% Notes

On August 21, 2020, we completed a private offering of $700.0 million aggregate principal amount of the 3.875% Notes. The 3.875% Notes were offered in the United States to qualified institutional buyers pursuant to Rule 144A under the Securities Act and outside the United States pursuant to Regulation S under the Securities Act. The 3.875% Notes are fully and unconditionally guaranteed, on a joint and several basis, by each of our subsidiaries that is a borrower or guarantor under the Amended Credit Agreement and will also be fully and unconditionally guaranteed by any our subsidiaries that becomes a borrower or guarantees any indebtedness under the Amended Credit Agreement in the future.

The 3.875% Notes and the guarantees thereof are ours' and the guarantors' general unsecured obligations, respectively, and (i) rank equally in right of payment with all of ours' and the guarantors’ existing and future senior indebtedness (including the 1.625% Notes); (ii) rank senior to any subordinated indebtedness that we or the guarantors may incur; (iii) are effectively subordinated to all of ours' or the guarantors’ existing and future secured indebtedness (including indebtedness under the Amended Credit Agreement), in each case, to the extent of the value of the assets securing such indebtedness; and (iv) are structurally subordinated in right of payment to all existing and future obligations of our subsidiaries that are not guarantors of the 3.875% Notes.

The 3.875% Notes bear interest at a rate of 3.875% per year, payable semi-annually on March 1 and September 1 of each year, beginning on March 1, 2021, and will mature on September 1, 2028, unless earlier redeemed or repurchased by us. In connection with the issuance, we incurred original issue discount and debt issuance costs amounting to $9.4 million, which has been capitalized and will be amortized to interest expense through the maturity date of September 1, 2028. The net proceeds from the issuance of the 3.875% Notes were used entirely to repay borrowings under the Revolving Credit Facility.

Borrowing and repayment under the Revolving Credit Facility

On March 24, 2020, we borrowed $1,165.0 million under the Revolving Credit Facility as a precautionary measure in order to increase the Company’s cash position and provide financial flexibility in light of the uncertainty resulting from the impact of the COVID-19 pandemic. Due to better macroeconomic and business conditions, on August 21, 2020, we used the net proceeds from the issuance of the 3.875% Notes along with cash on hand to repay $1,200.0 million of outstanding borrowings. Additionally, on December 31, 2020, we repaid $65.0 million of outstanding borrowings under the Revolving Credit Facility. As of December 31, 2020, approximately $1,269.0 million was available for future borrowings under the Revolving Credit Facility.

Amendments to the Amended Credit Agreement

On June 23, 2020, we entered into the Eighth Amendment ("Eighth Amendment") to the Amended Credit Agreement with the subsidiary guarantors party thereto, Deutsche Bank AG New York Branch, as administrative agent and collateral agent, and certain Lenders party thereto constituting the Required Lenders (as defined in the Amended Credit Agreement). The Eighth Amendment provided for, among other things, (i) replacing the defined term "Capital Lease Obligations" with a new defined term "Finance Lease Obligations," providing that such obligations only include property classified as finance leases under U.S. GAAP and (ii) making certain amendments in connection with the proposed domestication of ON Management Ltd. and Quantenna Ltd., each of which is our subsidiary that is not a Loan Party (as defined in the Amended Credit Agreement) and both of which hold economic rights in certain intellectual property, from Bermuda entities to Delaware entities, including, among other things, (a) permitting Investments (as defined in the Amended Credit Agreement) by any Loan Party in any Foreign Subsidiary (as defined in the Amended Credit Agreement) if the proceeds of such Investments are used for Capital Expenditures (as defined in the Amended Credit Agreement) ("Capital Expenditure Investments") and (b) increasing the amount of certain permitted intercompany Investments by any Loan Party in any subsidiary that is not a Loan Party by an amount (which shall not be less than zero) equal to (A) Net Royalties (as defined in the Amended Credit Agreement) minus (B) the aggregate amount of Capital Expenditure Investments.

2018 Share Repurchase Program

During 2020, we repurchased 3.6 million shares of our common stock for an aggregate purchase price of $65.3 million pursuant to the 2018 Share Repurchase Program.

2019 Financing Events

Amendments to the Amended Credit Agreement

On June 12, 2019, we entered into the Fifth Amendment to the Amended Credit Agreement (the "Fifth Amendment"), with the subsidiary guarantors party thereto, Deutsche Bank AG New York Branch, as administrative agent, collateral agent and issuing lender, the "2019 Incremental Revolving Lenders" (as defined in the Fifth Amendment) party thereto, and the "New Required Lenders" (as defined in the Fifth Amendment) party thereto. The Fifth Amendment provided for, among other things, modifications to the Amended Credit Agreement to: (i) increase the amount that may be borrowed pursuant to the Revolving Credit Facility by $900.0 million to $1.9 billion; (ii) extend the maturity date of borrowings under the Revolving Credit Facility to the later of (x) December 30, 2022 or (y) June 12, 2024, so long as the borrowings under the Term Loan "B" Facility have been fully repaid or otherwise redeemed, discharged or defeased on or prior to December 30, 2022, or if the maturity date of borrowings under the Term Loan "B" Facility has been extended prior to December 30, 2022, to a date no earlier than June 12, 2024; and (iii) amend certain financial covenants, including deleting the minimum Interest Coverage Ratio and increasing the maximum Consolidated Total Net Leverage Ratio (as such terms are defined in the Amended Credit Agreement) from 4.00 to 1.00 to 4.50 to 1.00 during any period of four consecutive fiscal quarters commencing after a Permitted Acquisition (as defined in the Amended Credit Agreement) with consideration in excess of $250.0 million. On June 19, 2019, we drew $900.0 million of the Revolving Credit Facility to partially fund the acquisition of Quantenna.

On August 15, 2019, we entered into the Sixth Amendment to the Amended Credit Agreement (the "Sixth Amendment"), which increased amounts that may be borrowed under the Revolving Credit Facility by $70.0 million to $1.97 billion.

On September 19, 2019, we entered into the Seventh Amendment to the Amended Credit Agreement (the "Seventh Amendment"). The Seventh Amendment provided for, among other things, modifications to the Amended Credit Agreement to (i) increase the amount that may be borrowed pursuant to the Term Loan "B" Facility by approximately $500.5 million, up to an aggregate principal amount of $1.635 billion; (ii) extend the maturity date of borrowings under the Term Loan "B" Facility to September 19, 2026; (iii) for any interest period ending after the date of the Seventh Amendment, increase the interest rate for borrowings under the Term Loan "B" Facility to (a) with respect to eurocurrency loans, a base rate per annum equal to the Adjusted LIBO Rate (as defined in the Amended Credit Agreement) plus an applicable margin of 2.00% and (b) with respect to alternate base rate loans, a base rate per annum equal to the Alternate Base Rate (as defined in the Amended Credit Agreement) plus an applicable margin equal to 1.00%; and (iv) make certain amendments providing for the determination of an alternate interest rate to the Adjusted LIBO Rate and/or the LIBO Rate (as defined in the Amended Credit Agreement) in the event of certain circumstances that result in the inability to adequately and reasonably determine such rates or such rates no longer adequately and fairly reflecting the cost of the applicable loans. In addition, pursuant to the Fifth Amendment (defined above), as a result of the extension described in (ii) above, the maturity date of borrowings under the Revolving Credit Facility was extended to June 12, 2024. We utilized the additional borrowings pursuant to the Seventh Amendment to repay $500.0 million of the outstanding balance under the Revolving Credit Facility.

2018 Share Repurchase Program

During 2019, we repurchased 7.8 million shares of our common stock for an aggregate purchase price of $138.9 million pursuant to the 2018 Share Repurchase Program.

2018 Financing Events

Amendments to the Amended Credit Agreement

On May 31, 2018, we, the Guarantors (as defined in the Amended Credit Agreement), the several lenders party thereto and the Agent (as defined in the Amended Credit Agreement) entered into the Fourth Amendment to the Amended Credit Agreement (the “Fourth Amendment”). Pursuant to the Fourth Amendment, for any interest period ending after the date of the Fourth Amendment, Eurocurrency Loans (as defined in the Amended Credit Agreement) will accrue interest at (i) a base rate per annum equal to the Adjusted LIBO Rate (as defined in the Amended Credit Agreement) plus (ii) an applicable margin equal to (x) 1.25% with respect to borrowings under the Revolving Credit Facility (with step-downs and step-ups as set forth in the Amended Credit Agreement) or (y) 1.75% with respect to borrowings under the Term Loan “B” Facility.

Pursuant to the Fourth Amendment, ABR Loans (as defined in the Amended Credit Agreement) will accrue interest at (i) a base rate per annum equal to the highest of (x) the federal funds rate plus 0.50%, (y) the prime commercial lending rate announced by the Agent from time to time as its prime lending rate and (z) the Adjusted LIBO Rate (as defined in the Amended Credit Agreement) for a one month interest period (or if such day is not a business day, the immediately preceding business day) (determined after giving effect to any applicable “floor”) plus 1.00%; provided that, the Adjusted LIBO Rate for any day shall be based on the LIBO Rate (as defined in the Amended Credit Agreement), subject to the interest rate floors set forth in the Amended Credit Agreement, plus (ii) an applicable margin equal to (x) 0.25% with respect to borrowings under the Revolving Credit Facility (with step-ups as set forth in the Amended Credit Agreement) or (y) 0.75% with respect to borrowings under the Term Loan "B" Facility.

During the year ended December 31, 2018, we prepaid $70.0 million of borrowings under the Term Loan "B" Facility.

2014 Share Repurchase Program

During 2018, we repurchased 16.8 million shares of our common stock for an aggregate purchase price of $315.0 million under the 2014 Share Repurchase Program (as defined below).

Debt Guarantees and Related Covenants

As of December 31, 2020, we were in compliance with the indentures relating to our 3.875% Notes and 1.625% Notes and with covenants relating to our Term Loan "B" Facility and Revolving Credit Facility. Our 3.875% Notes and 1.625% Notes are senior to the existing and future subordinated indebtedness of ON Semiconductor and our guarantor subsidiaries and rank equally in right of payment to all of our existing and future senior debt and as unsecured obligations and are subordinated to all of our existing and future secured debt to the extent of the assets securing such debt. See Note 9: ''Long-Term Debt'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K for additional information.

Critical Accounting Policies and Estimates

The accompanying discussion and analysis of our financial condition and results of operations is based upon our audited consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. We believe certain of our accounting policies are critical to understanding our financial position and results of operations. We utilize the following critical accounting policies in the preparation of our financial statements.

Use of Estimates. The preparation of financial statements in accordance with GAAP requires us to make estimates and assumptions that affect the reported amount of assets and liabilities at the date of the financial statements and the reported amount of revenue and expenses during the reporting period. We evaluate these estimates and judgments on an ongoing basis and base our estimates on experience, current and expected future conditions, third-party evaluations and various other assumptions that we believe are reasonable under the circumstances. Significant estimates have been used by management in conjunction with the following: (i) future payouts for customer incentives and amounts subject to allowances and returns; (ii) valuation and obsolescence relating to inventories; (iii) variable and share-based compensation; and (iv) measurement of valuation allowances against deferred tax assets, and evaluations of uncertain tax positions. Additionally, during periods where it becomes applicable, significant estimates will be used by management in determining the future cash flows used to assess and test for impairment of indefinite-lived intangible assets, long-lived assets and goodwill and in assumptions used in connection with business combinations. Actual results may differ from the estimates and assumptions used in the consolidated financial statements.

Revenue**.** We generate revenue from sales of our semiconductor products to OEMs, electronic manufacturing service providers and distributors. We also generate revenue, to a much lesser extent, from product development agreements and manufacturing services provided to customers. We recognize revenue when we satisfy a performance obligation in an amount reflecting the consideration to which we expect to be entitled. For sales agreements, we have identified the promise to transfer products, each of which is distinct, to be the performance obligation. For product development agreements, we have identified the completion of a service defined in the agreement to be the performance obligation. We apply a five-step approach in determining the amount and timing of revenue to be recognized: (1) identifying the contract with a customer; (2) identifying the performance obligations in the contract; (3) determining the transaction price; (4) allocating the transaction price to the performance obligations in the contract; and (5) recognizing revenue when the performance obligation is satisfied. We allocate the transaction price to each distinct product based on its relative stand-alone selling price. In determining the transaction price, we evaluate whether the price is subject to refund or adjustment to determine the net consideration to which we expect to be entitled. Substantially all of our revenue is recognized at the time control of the products transfers to the customer.

Sales to certain distributors, primarily those with ship and credit rights, can be subject to price adjustment on certain products. We develop an estimate of their expected claims under the ship and credit program based on the historical claims data submitted by product and customer and expected future claims, which requires the use of estimates and assumptions related to the amount of each claim as well as the historical period used to develop the estimate.

Our OEM customers do not have the right to return products, other than pursuant to the provisions of our standard warranty. Sales to distributors, however, are typically made pursuant to agreements that provide return rights and stock rotation provisions permitting limited levels of product returns. Provisions for discounts and rebates to customers, estimated returns and allowances, ship and credit claims and other adjustments are provided for in the same period the related revenue are recognized, and are netted against revenue. For non-quality related returns, we recognize a related asset for the right to recover returned products with a corresponding reduction to cost of goods sold. We record a reserve for cash discounts as a reduction to accounts receivable and a reduction to revenue, based on the experience with each customer.

Inventories**.** We carry our inventories at the lower of standard cost (which approximates actual cost on a first-in, first-out basis) or net realizable value and record provisions for potential excess and obsolete inventories based upon a regular analysis of inventory on hand compared to historical and projected end-user demand. The determination of projected end-user demand requires the use of estimates and assumptions related to projected unit sales for each product. These provisions can influence our results from operations. For example, when demand falls for a given part, all or a portion of the related inventory that is considered to be in excess of anticipated demand is reserved, impacting our cost of revenue and gross profit. The majority of product inventory that has been previously reserved is ultimately discarded. However, we do sell some products that have previously been written down, such sales have historically been consistently insignificant and the related impact on our margins has also been insignificant.

Variable and Share-Based Compensation. We record compensation expense for all share-based payment awards, including RSUs and shares issued under the ESPP, and measure them at the grant date, based on the estimated fair value of the award, and we recognize each such award as an expense over the performance measurement period and/or employee's requisite service period. We have outstanding awards with service, performance, and market-based vesting conditions. Determining the amount of share-based compensation requires us to develop estimates and use valuation models in calculating the grant-date fair value of the award. Additionally, employees are compensated on a variable basis during periods when we are profitable and certain performance goals are achieved. Determining the amount of variable compensation expense requires us to estimate future profitability and achievement of performance goals, which involves judgment.

Income Taxes. Income taxes are accounted for using the asset and liability method. Under this method, deferred income tax assets and liabilities are recognized for the future tax consequences attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred income tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which these temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is provided for those deferred tax assets for which we cannot conclude that it is more likely than not that such deferred tax assets will be realized.

In determining the amount of the valuation allowance, estimated future taxable income, feasible tax planning strategies, future reversals of existing temporary differences and taxable income in prior carryback years, if a carryback is permitted are considered. If we determine it is more likely than not that all or a portion of the remaining deferred tax assets will not be realized, the valuation allowance will be increased with a charge to income tax expense. Conversely, if we determine it is more likely than not to be able to utilize all or a portion of the deferred tax assets for which a valuation allowance has been provided, the related portion of the valuation allowance will be recorded as a reduction to income tax expense.

We recognize and measure benefits for uncertain tax positions using a two-step approach. The first step is to evaluate the tax position taken or expected to be taken in a tax return by determining if the weight of available evidence indicates that is it more likely than not that the tax positions will be sustained upon audit, including resolution of any related appeals or litigation processes. For tax positions that are more likely than not to be sustained upon audit, the second step is to measure the tax benefit as the largest amount that is more than 50% likely to be realized upon settlement. No tax benefit is recognized for tax positions that are not more likely than not to be sustained. Our practice is to recognize interest and/or penalties related to income tax matters in income tax expense. Significant judgment is required to evaluate uncertain tax positions. Evaluations are based upon a number of factors, including changes in facts or circumstances, changes in tax law, correspondence with tax authorities during the course of tax audits and effective settlement of audit issues. Changes in the recognition or measurement of uncertain tax positions could result in material increases or decreases in income tax expense in the period in which the change is made, which could have a material impact to our effective tax rate.

Business Combination. We use significant estimates and assumptions in allocating the purchase price of acquired business by utilizing established valuation techniques appropriate for the technology industry to record the acquired assets and liabilities at fair value. We utilize the income approach, cost approach or market approach, depending upon which approach is the most appropriate based on the nature and reliability of available data. If the income approach is used, the fair value determination is predicated upon the value of the future cash flows that an asset is expected to generate over its economic life and involves significant assumptions as to cash flows, associated expenses, long-term growth rates and discount rates. The cost approach takes into account the cost to replace (or reproduce) the asset and involves assumptions relating to the asset's value of physical, functional and/or economic obsolescence that has occurred with respect to the asset. The market approach is used to estimate value from an analysis of actual transactions or offerings for economically comparable assets available as of the valuation date. Determining the fair value of acquired technology assets is judgmental in nature and requires the use of significant estimates and assumptions, including the discount rate, revenue growth rates, projected gross margins, and estimated research and development expenses.

Impairment of Goodwill, Indefinite-lived Intangible Assets and Long-Lived Assets. We evaluate our goodwill for potential impairment annually during the fourth quarter and whenever events or changes in circumstances indicate the carrying value of goodwill may not be recoverable. Our impairment evaluation consists of a qualitative assessment, and if deemed necessary, a quantitative test is performed which compares the fair value of a reporting unit with its carrying amount, including goodwill.

Determining the fair value of our reporting units is subjective in nature and involves the use of significant estimates and assumptions, including projected net cash flows, discount and long-term growth rates. We determine the fair value of our reporting units based on an income approach, whereby the fair value of the reporting unit is derived from the present value of estimated future cash flows. The assumptions about estimated cash flows include factors such as future revenue, gross profit, operating expenses, and industry trends. We consider historical rates and current market conditions when determining the discount and long-term growth rates to use in its analysis. We consider other valuation methods, such as the cost approach or market approach, if it is determined that these methods provide a more representative approximation of fair value.

We are required to test our IPRD assets for impairment annually using the guidance for indefinite-lived intangible assets. Our impairment evaluation consists of first assessing qualitative factors, and if deemed necessary, we calculate the fair value of the IPRD asset and record an impairment charge if the carrying amount exceeds fair value. We determine the fair value based on an income approach, which is calculated as the present value of the estimated future cash flows of the IPRD asset. The assumptions about estimated cash flows include factors such as future revenue, gross profit, operating expenses, and industry trends.

We evaluate the recoverability of the carrying amount of our property, plant and equipment and intangible assets (excluding IPRD), whenever events or changes in circumstances indicate that the carrying amount of an asset group may not be fully recoverable. Impairment is first assessed when the undiscounted expected cash flows derived for an asset group are less than its carrying amount. Impairment losses, if applicable, are measured as the amount by which the carrying value of an asset group exceeds its fair value and are recognized in operating results. We continually apply our best judgment when applying these impairment rules to determine the timing of the impairment test, the undiscounted cash flows used to assess impairments and the fair value of an impaired asset group. The dynamic economic environment in which we operate and the resulting assumptions used to estimate future cash flows impact the outcome of our impairment tests.

Contingencies**.** We are involved in a variety of legal matters that arise in the normal course of business. Based on the available information, we evaluate the relevant range and likelihood of potential outcomes and we record the appropriate liability when the amount is deemed probable and reasonably estimable.

For a further listing and discussion of our accounting policies, see Note 2: ''Significant Accounting Policies'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K.

Recent Accounting Pronouncements

For a discussion of recent accounting pronouncements, see Note 4: ''Recent Accounting Pronouncements'' in the notes to our audited consolidated financial statements included elsewhere in this Form 10-K.