SPWRA_07.03.2011_10-Q
 
 
 
 
 
 
 
 
 
 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 
T
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended July 3, 2011
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 001-34166
SunPower Corporation
(Exact Name of Registrant as Specified in Its Charter)
Delaware
 
94-3008969
(State or Other Jurisdiction of Incorporation or Organization)
 
(I.R.S. Employer Identification No.)

77 Rio Robles, San Jose, California 95134
(Address of Principal Executive Offices and Zip Code)

(408) 240-5500
(Registrant's Telephone Number, Including Area Code)

 
 
 
 
 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Sections 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  T    No  o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes  T    No  o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer x
Accelerated filer o
Non-accelerated filer o
Smaller reporting company o
 
 
(Do not check if a smaller reporting company)
 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).    Yes  o    No  T

The total number of outstanding shares of the registrant's class A common stock as of August 5, 2011 was 57,974,366.
The total number of outstanding shares of the registrant's class B common stock as of August 5, 2011 was 42,033,287.

SunPower Corporation

INDEX TO FORM 10-Q
 
 
Page
 
 
 
Item 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 2.
 
 
 
Item 6.
 
 
 
 
 




2

Index

PART I. FINANCIAL INFORMATION

Item 1.         Financial Statements
SunPower Corporation
Condensed Consolidated Balance Sheets
(In thousands, except share data)
(unaudited)
 
July 3, 2011
 
January 2, 2011
Assets
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
245,790

 
$
605,420

Restricted cash and cash equivalents, current portion
104,722

 
117,462

Short-term investments

 
38,720

Accounts receivable, net
395,991

 
381,200

Costs and estimated earnings in excess of billings
144,370

 
89,190

Inventories
412,614

 
313,398

Advances to suppliers, current portion
36,075

 
31,657

Project assets - plants and land, current portion
89,857

 
23,868

Prepaid expenses and other current assets (1)
207,252

 
192,934

Total current assets
1,636,671

 
1,793,849

 
 
 
 
Restricted cash and cash equivalents, net of current portion
120,885

 
138,837

Property, plant and equipment, net
592,659

 
578,620

Project assets - plants and land, net of current portion
25,773

 
22,238

Goodwill
346,509

 
345,270

Other intangible assets, net
52,902

 
66,788

Advances to suppliers, net of current portion
268,466

 
255,435

Other long-term assets (1)
285,067

 
178,294

Total assets
$
3,328,932

 
$
3,379,331

 
 
 
 
Liabilities and Stockholders' Equity
 

 
 

Current liabilities:
 

 
 

Accounts payable (1)
$
413,554

 
$
382,884

Accrued liabilities
194,121

 
137,704

Billings in excess of costs and estimated earnings
47,210

 
48,715

Short-term debt
108,623

 
198,010

Convertible debt, current portion
189,200

 

Customer advances, current portion (1)
20,194

 
21,044

Total current liabilities
972,902

 
788,357

 
 
 
 
Long-term debt
105,000

 
50,000

Convertible debt, net of current portion
416,367

 
591,923

Customer advances, net of current portion (1)
154,049

 
160,485

Other long-term liabilities
188,512

 
131,132

Total liabilities
1,836,830

 
1,721,897

Commitments and contingencies (Note 8)


 


Stockholders' equity:
 

 
 

Preferred stock, 10,042,490 shares authorized, $0.001 par value; none issued and outstanding

 

Common stock, 217,500,000 shares of class A common stock authorized, $0.001 par value; 59,101,667 and 56,664,413 shares of class A common stock issued; 57,959,170 and 56,073,083 shares of class A common stock outstanding, as of July 3, 2011 and January 2, 2011, respectively; 150,000,000 shares of class B common stock authorized, $0.001 par value; 42,033,287 shares of class B common stock issued and outstanding as of both July 3, 2011 and January 2, 2011
100

 
98

Additional paid-in capital
1,635,157

 
1,606,697

Retained earnings (accumulated deficit)
(86,321
)
 
63,672

Accumulated other comprehensive income (loss)
(30,765
)
 
3,640

Treasury stock, at cost; 1,142,497 and 591,330 shares of class A common stock as of July 3, 2011 and January 2, 2011, respectively
(26,069
)
 
(16,673
)
Total stockholders' equity
1,492,102

 
1,657,434

Total liabilities and stockholders' equity
$
3,328,932

 
$
3,379,331


(1)
The Company has related party balances in connection with transactions made with its joint ventures which are recorded within the "Prepaid expenses and other current assets," "Other long-term assets," "Accounts payable," "Customer advance, current portion" and "Customer advances, net of current portion" financial statement line items in the Condensed Consolidated Balance Sheets (see Note 8 and Note 9).

The accompanying notes are an integral part of these condensed consolidated financial statements.

3

Index

SunPower Corporation
Condensed Consolidated Statements of Operations
(In thousands, except per share data)
(unaudited)
 
Three Months Ended
 
Six Months Ended
 
July 3, 2011
 
July 4, 2010
 
July 3, 2011
 
July 4, 2010
Revenue:
 
 
 
 
 
 
 
Utility and power plants
$
302,439

 
$
119,999

 
$
548,348

 
$
264,093

Residential and commercial
289,816

 
264,239

 
495,325

 
467,419

Total revenue
592,255

 
384,238

 
1,043,673

 
731,512

Cost of revenue:
 
 
 
 
 
 
 
Utility and power plants
309,032

 
97,224

 
512,043

 
208,652

Residential and commercial
263,929

 
199,163

 
423,814

 
363,266

Total cost of revenue
572,961

 
296,387

 
935,857

 
571,918

Gross margin
19,294

 
87,851

 
107,816

 
159,594

Operating expenses:
 
 
 
 
 
 
 
Research and development
15,255

 
11,206

 
28,901

 
21,613

Sales, general and administrative
90,856

 
78,376

 
167,035

 
142,656

Restructuring charges
13,308

 

 
13,308

 

Total operating expenses
119,419

 
89,582

 
209,244

 
164,269

Operating loss
(100,125
)
 
(1,731
)
 
(101,428
)
 
(4,675
)
Other income (expense), net:
 
 
 
 
 
 
 
Interest income
488

 
279

 
1,231

 
552

Interest expense
(16,059
)
 
(19,310
)
 
(31,318
)
 
(30,250
)
Gain on change in equity interest in unconsolidated investee
322

 
28,348

 
322

 
28,348

Gain (loss) on mark-to-market derivatives
(97
)
 
34,070

 
(141
)
 
31,852

Other, net
(9,527
)
 
(10,806
)
 
(18,734
)
 
(16,397
)
Other income (expense), net
(24,873
)
 
32,581

 
(48,640
)
 
14,105

Income (loss) before income taxes and equity in earnings of unconsolidated investees
(124,998
)
 
30,850

 
(150,068
)
 
9,430

Provision for income taxes
(22,702
)
 
(46,992
)
 
(6,886
)
 
(16,117
)
Equity in earnings (loss) of unconsolidated investees
(172
)
 
2,030

 
6,961

 
5,148

Loss from continuing operations
(147,872
)
 
(14,112
)
 
(149,993
)
 
(1,539
)
Income from discontinued operations, net of taxes

 
7,896

 

 
7,896

Net income (loss)
$
(147,872
)
 
$
(6,216
)
 
$
(149,993
)
 
$
6,357

 
 
 
 
 
 
 
 
Net income (loss) per share of class A and class B common stock:
 
 
 
 
 
 
 
Net income (loss) per share - basic and diluted:
 
 
 
 
 
 
 
Continuing operations
$
(1.51
)
 
$
(0.15
)
 
$
(1.55
)
 
$
(0.01
)
Discontinued operations

 
0.08

 

 
0.08

Net income (loss) per share
$
(1.51
)
 
$
(0.07
)
 
$
(1.55
)
 
$
0.07

 
 
 
 
 
 
 
 
Weighted-average shares:
 
 
 
 
 
 
 
Basic and diluted
97,656

 
95,564

 
97,054

 
95,359


The accompanying notes are an integral part of these condensed consolidated financial statements.

4

Index

SunPower Corporation
Condensed Consolidated Statements of Cash Flows
(In thousands)
(unaudited)
 
Six Months Ended
 
July 3, 2011
 
July 4, 2010
Cash flows from operating activities:
 
 
 
Net income (loss)
$
(149,993
)
 
$
6,357

Less: Income from discontinued operations, net of taxes

 
7,896

Loss from continuing operations
(149,993
)
 
(1,539
)
Adjustments to reconcile loss from continuing operations to net cash used in operating activities of continuing operations
 
 
 

Stock-based compensation
25,980

 
22,399

Depreciation
53,664

 
49,273

Amortization of other intangible assets
13,932

 
16,461

Loss (gain) on sale of investments
191

 
(1,572
)
Loss (gain) on mark-to-market derivatives
141

 
(31,852
)
Non-cash interest expense
14,332

 
15,768

Debt issuance costs
2,734

 
1,790

Amortization of promissory notes
3,352

 
2,919

Gain on change in equity interest in unconsolidated investee
(322
)
 
(28,348
)
Third-party inventories write-down
16,399

 

Project assets write-down
16,053

 

Equity in earnings of unconsolidated investees
(6,961
)
 
(5,148
)
Deferred income taxes and other tax liabilities
(2,084
)
 
12,219

Changes in operating assets and liabilities, net of effect of acquisition:
 
 
 
Accounts receivable
3,109

 
41,662

Costs and estimated earnings in excess of billings
(47,114
)
 
(32,564
)
Inventories
(102,997
)
 
(72,248
)
Project assets
(83,842
)
 
(47,906
)
Prepaid expenses and other assets
(9,328
)
 
(107,315
)
Advances to suppliers
(17,470
)
 
3,757

Accounts payable and other accrued liabilities
(16
)
 
120,782

Billings in excess of costs and estimated earnings
(2,480
)
 
(5,288
)
Customer advances
(7,812
)
 
951

Net cash used in operating activities of continuing operations
(280,532
)
 
(45,799
)
Net cash provided by operating activities of discontinued operations

 
649

Net cash used in operating activities
(280,532
)
 
(45,150
)
Cash flows from investing activities:
 
 
 
Decrease (increase) in restricted cash and cash equivalents
30,693

 
(8,253
)
Purchase of property, plant and equipment
(68,164
)
 
(100,292
)
Proceeds from sale of equipment to third-party
499

 
2,875

Proceeds from sales or maturities of available-for-sale securities
43,759

 
1,572

Cash paid for acquisition, net of cash acquired

 
(272,699
)
Cash paid for investments in joint ventures and other non-public companies
(50,000
)
 
(1,618
)
Net cash used in investing activities of continuing operations
(43,213
)
 
(378,415
)
Net cash used in investing activities of discontinued operations

 
(17,708
)
Net cash used in investing activities
(43,213
)
 
(396,123
)
Cash flows from financing activities:
 
 
 
Proceeds from issuance of bank loans, net of issuance costs
189,221

 

Proceeds from issuance of project loans, net of issuance costs

 
5,134

Proceeds from issuance of convertible debt, net of issuance costs

 
244,241

Repayment of bank loans
(226,136
)
 
(30,000
)
Cash paid for bond hedge

 
(75,200
)
Proceeds from warrant transactions

 
61,450

Proceeds from exercise of stock options
3,926

 
346

Purchases of stock for tax withholding obligations on vested restricted stock
(9,396
)
 
(1,977
)
Net cash provided by (used in) financing activities of continuing operations
(42,385
)
 
203,994

Net cash provided by financing activities of discontinued operations

 
17,059

Net cash provided by (used in) financing activities
(42,385
)
 
221,053

Effect of exchange rate changes on cash and cash equivalents
6,500

 
(12,691
)
Net decrease in cash and cash equivalents
(359,630
)
 
(232,911
)
Cash and cash equivalents at beginning of period
605,420

 
615,879

Cash and cash equivalents at end of period
245,790

 
382,968

Less: Cash and cash equivalents of discontinued operations

 

Cash and cash equivalents of continuing operations, end of period
$
245,790

 
$
382,968

 
 
 
 
Non-cash transactions:
 
 
 
Property, plant and equipment acquisitions funded by liabilities
$
6,494

 
$
113,008

Non-cash interest expense capitalized and added to the cost of qualified assets
1,294

 
1,095



The accompanying notes are an integral part of these condensed consolidated financial statements.

5

Index

SunPower Corporation
Notes to Condensed Consolidated Financial Statements
(unaudited)

Note 1. THE COMPANY AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

The Company
 
SunPower Corporation (together with its subsidiaries, the “Company” or “SunPower”) is a vertically integrated solar products and services company that designs, manufactures and delivers high-performance solar electric systems worldwide for residential, commercial and utility-scale power plant customers.

The Company's President and Chief Executive Officer, as the chief operating decision maker (“CODM”), has organized the Company and manages resource allocations and measures performance of the Company's activities between these two business segments: the Utility and Power Plants ("UPP") Segment and the Residential and Commercial ("R&C") Segment. The Company's UPP Segment refers to its large-scale solar products and systems business, which includes power plant project development and project sales, turn-key engineering, procurement and construction (“EPC”) services for power plant construction, and power plant operations and maintenance (“O&M”) services. The UPP Segment also sells components, including large volume sales of solar panels and mounting systems, to third parties, often on a multi-year, firm commitment basis. The Company's R&C Segment focuses on solar equipment sales into the residential and small commercial market through its third-party global dealer network, as well as direct sales and EPC and O&M services in the United States for rooftop and ground-mounted solar power systems for the new homes, commercial and public sectors.

On June 21, 2011, the Company became a majority owned subsidiary of Total Gas & Power USA, SAS, a French société par actions simplifiée ("Total”), a subsidiary of Total S.A., a French société anonyme ("Total S.A."), through a tender offer and Total's purchase of 60% of the outstanding class A common stock and class B common stock of the Company as of June 13, 2011 (see Note 2).

Basis of Presentation and Preparation
    
Principles of Consolidation

The accompanying condensed consolidated interim financial statements have been prepared under the rules and regulations of the Securities and Exchange Commission (“SEC”) regarding interim financial reporting and include the accounts of the Company and all of its subsidiaries. Intercompany transactions and balances have been eliminated in consolidation. The year-end Condensed Consolidated Balance Sheet data was derived from audited financial statements contained in the Company's Annual Report on Form 10-K for the fiscal year ended January 2, 2011 (the "fiscal 2010 Form 10-K").

Fiscal Years

The Company reports on a fiscal-year basis and ends its quarters on the Sunday closest to the end of the applicable calendar quarter, except in a 53-week fiscal year, in which case the additional week falls into the fourth quarter of that fiscal year. Both fiscal year 2011 and 2010 consist of 52 weeks. The second quarter of fiscal 2011 ended on July 3, 2011 and the second quarter of fiscal 2010 ended on July 4, 2010.

Management Estimates

The preparation of the condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States (“U.S. GAAP”) requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Significant estimates in these financial statements include percentage-of-completion for construction projects, allowances for doubtful accounts receivable and sales returns, inventory and project assets write-downs, stock-based compensation, estimates for future cash flows and economic useful lives of property, plant and equipment, goodwill, valuations for business combinations, other intangible assets and other long-term assets, asset impairments, fair value of financial instruments, certain accrued liabilities including accrued warranty, restructuring and termination of supply contracts reserves, valuation of debt without the conversion feature, valuation of share lending arrangements, income taxes and tax valuation allowances. Actual results could materially differ from those estimates.

In the opinion of management, the accompanying condensed consolidated financial statements contain all adjustments, consisting only of normal recurring adjustments, which the Company believes are necessary for a fair statement of the

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Index

Company's financial position as of July 3, 2011, its results of operations for the three and six months ended July 3, 2011 and July 4, 2010 and cash flows for the six months ended July 3, 2011 and July 4, 2010. These condensed consolidated financial statements are not necessarily indicative of the results to be expected for the entire year.

Summary of Significant Accounting Policies
 
These condensed consolidated financial statements and accompanying notes should be read in conjunction with the Company's annual consolidated financial statements and notes thereto contained in the fiscal 2010 Form 10-K.

There have been no significant changes in the Company's significant accounting policies for the three months ended July 3, 2011, as compared to the significant accounting policies described in the fiscal 2010 Form 10-K. Further, there has been no issued accounting guidance not yet adopted by the Company that it believes is material or potentially material to its condensed consolidated financial statements.
 
Note 2. TRANSACTIONS WITH TOTAL

On April 28, 2011, the Company and Total entered into a Tender Offer Agreement (the “Tender Offer Agreement”), pursuant to which, on May 3, 2011, Total commenced a cash tender offer to acquire up to 60% of the Company's outstanding shares of class A common stock and up to 60% of the Company's outstanding shares of class B common stock (the “Tender Offer”) at a price of $23.25 per share for each class. The consummation of the Tender Offer was subject to customary closing conditions, including a minimum of 50% of the outstanding shares of each of the class A common stock and class B common stock being tendered, clearance by U.S. and European Union antitrust authorities, and other customary closing conditions. On May 9, 2011 the U.S. Federal Trade Commission granted the Company and Total S.A. early termination of the waiting period otherwise required for the parties to achieve U.S. antitrust approval.

The offer expired on June 14, 2011 and Total accepted for payment on June 21, 2011 a total of 34,756,682 shares of the Company's class A common stock and 25,220,000 shares of the Company's class B common stock, representing 60% of each class of its outstanding common stock as of June 13, 2011, for a total cost of approximately $1.4 billion. On June 28, 2011, the European Commission granted clearance for the Tender Offer transaction. As a result of the Commission clearance, Total is permitted to fully exercise voting and election rights over the purchased shares, as well as fully exercise its rights under the Credit Support Agreement, the Affiliation Agreement, and the Research & Collaboration Agreement described below.

Credit Support Agreement

In connection with the Tender Offer, the Company and Total S.A. entered into a Credit Support Agreement (the “Credit Support Agreement”) under which Total S.A. has agreed to enter into one or more guarantee agreements (each a “Guaranty”) with banks providing letter of credit facilities to the Company in support of certain Company businesses and other permitted purposes. Total S.A. will guarantee the payment to the applicable issuing bank of the Company's obligation to reimburse a draw on a letter of credit and pay interest thereon in accordance with the letter of credit facility between such bank and the Company. The Credit Support Agreement became effective on June 28, 2011, the date on which the European Commission granted anti-trust clearance (the “CSA Effective Date”). Under the Credit Support Agreement, at any time from the CSA Effective Date until the fifth anniversary of the CSA Effective Date, the Company may request that Total S.A. provide a Guaranty in support of the Company's payment obligations with respect to a letter of credit facility. Total S.A. is required to issue and enter into the Guaranty requested by the Company, subject to certain terms and conditions that may be waived by Total S.A., and subject to certain other conditions.

In consideration for the commitments of Total S.A., the Company is required to pay Total S.A. a guarantee fee for each letter of credit that is the subject of a Guaranty and was outstanding for all or part of the preceding calendar quarter.

The Company is also required to reimburse Total S.A. for payments made under any Guaranty and certain expenses of Total S.A., plus interest on both.

The Company has agreed to undertake certain actions, including, but not limited to, ensuring that the payment obligations of the Company to Total S.A. rank at least equal in right of payment with all of the Company's other present and future indebtedness, other than certain permitted secured indebtedness. The Company has also agreed to refrain from taking certain actions, including refraining from making any equity distributions so long as it has any outstanding repayment obligation to Total S.A. resulting from a draw on a guaranteed letter of credit.

The Credit Support Agreement will terminate following the fifth anniversary of the CSA Effective Date, after the later of

7

Index

the payment in full of all obligations thereunder and the termination or expiration of each Guaranty provided thereunder.

Affiliation Agreement

In connection with the Tender Offer, the Company and Total entered into an Affiliation Agreement that governs the relationship between Total and the Company following the close of the Tender Offer (the “Affiliation Agreement”). Until the expiration of a standstill period (the “Standstill Period”), Total, Total S.A., any of their respective affiliates and certain other related parties (the “Total Group”) may not effect, seek, or enter into discussions with any third party regarding any transaction that would result in the Total Group beneficially owning shares of the Company in excess of certain thresholds, or request the Company or the Company's independent directors, officers or employees, to amend or waive any of the standstill restrictions applicable to the Total Group.

The Affiliation Agreement imposes certain limitations on the Total Group's ability to seek to effect a tender offer or merger to acquire 100% of the outstanding voting power of the Company and imposes certain limitations on the Total Group's ability to transfer 40% or more of outstanding shares or voting power of the Company to a single person or group that is not a direct or indirect subsidiary of Total S.A.. During the Standstill Period, no member of the Total Group may, among other things, solicit proxies or become a participant in an election contest relating to the election of directors to the Company's Board of Directors.

The Affiliation Agreement provides Total with the right to maintain its percentage ownership in connection with any new securities issued by the Company, and Total may also purchase shares on the open market or in private transactions with disinterested stockholders, subject in each case to certain restrictions.

In accordance with the terms of the Affiliation Agreement, on July 1, 2011, the Company's Board of Directors expanded the size of the Board of Directors to eleven members and elected six nominees from Total as directors, following which the Board of Directors was composed of the Chief Executive Officer of the Company (who also serves as the chairman of the Company's Board of Directors), four current members of the Company's Board of Directors, and six directors designated by Total. Directors designated by Total will also serve on certain committees of the Company's Board of Directors. On the first anniversary of the consummation of the Tender Offer, the size of the Company's Board of Directors will be reduced to nine members and one non-Total designated director and one director designated by Total will resign from the Company's Board of Directors. If the Total Group's ownership percentage of Company common stock declines, the number of members of the Company's Board of Directors that Total is entitled to nominate to the Company's Board of Directors will be reduced as set forth in the Affiliation Agreement.

The Affiliation Agreement also imposes certain restrictions with respect to the Company's and the Company's Board of Directors' ability to take certain actions, including specifying certain actions that require approval by the directors other than the directors appointed by Total and other actions that require stockholder approval by Total.

Affiliation Agreement Guaranty

Total S.A. has entered into a guaranty (the “Affiliation Agreement Guaranty”) pursuant to which Total S.A. unconditionally guarantees the full and prompt payment of Total S.A.'s, Total's and each of Total S.A.'s direct and indirect subsidiaries' payment obligations under the Affiliation Agreement and the full and prompt performance of Total S.A.'s, Total's and each of Total S.A.'s direct and indirect subsidiaries' representations, warranties, covenants, duties and agreements contained in the Affiliation Agreement.

Research & Collaboration Agreement

In connection with the Tender Offer, Total and the Company have entered into a Research & Collaboration Agreement (the “R&D Agreement”) that establishes a framework under which they may engage in long-term research and development collaboration (“R&D Collaboration”). The R&D Collaboration is expected to encompass a number of different projects (“R&D Projects”), with a focus on advancing technology in the area of photovoltaics. The primary purpose of the R&D Collaboration is to: (i) maintain and expand the Company's technology position in the crystalline silicon domain; (ii) ensure the Company's industrial competitiveness; and (iii) guarantee a sustainable position for both the Company and Total to be best-in-class industry players.

The R&D Agreement contemplates a joint committee (the “R&D Strategic Committee”) that will identify, plan and manage the R&D Collaboration. Due to the impracticability of anticipating and establishing all of the legal and business terms that will be applicable to the R&D Collaboration or to each R&D Project, the R&D Agreement sets forth broad principles

8

Index

applicable to the parties' potential R&D Collaboration, and Total and the Company expect that the R&D Strategic Committee will establish the particular terms governing each particular R&D Project consistent with the terms set forth in the R&D Agreement.

Registration Rights Agreement

In connection with the Tender Offer, Total and the Company entered into a customary registration rights agreement (the “Registration Rights Agreement”) related to Total's ownership of Company shares. The Registration Rights Agreement provides Total with shelf registration rights, subject to certain customary exceptions, and up to two demand registration rights in any 12-month period, also subject to certain customary exceptions. Total also has certain rights to participate in any registrations of securities initiated by the Company. The Company will generally pay all costs and expenses incurred by the Company and Total in connection with any shelf or demand registration (other than selling expenses incurred by Total). The Company and Total have also agreed to certain indemnification rights. The Registration Rights Agreement terminates on the first date on which: (i) the shares held by Total constitute less than 5% of the then-outstanding common stock; (ii) all securities held by Total may be immediately resold pursuant to Rule 144 promulgated under the Securities and Exchange Act of 1934 (the "Exchange Act") during any 90-day period without any volume limitation or other restriction; or (iii) the Company ceases to be subject to the reporting requirements of the Exchange Act.

Stockholder Rights Plan

On April 28, 2011, prior to the execution of the Tender Offer Agreement, the Company entered into an amendment (the “Rights Agreement Amendment”) to the Rights Agreement, dated August 12, 2008, by and between the Company and Computershare Trust Company, N.A., as Rights Agent (the “Rights Agreement”), in order to, among other things, render the rights therein inapplicable to each of: (i) the approval, execution or delivery of the Tender Offer Agreement; (ii) the commencement or consummation of the Tender Offer; (iii) the consummation of the other transactions contemplated by the Tender Offer Agreement and the related agreements; and (iv) the public or other announcement of any of the foregoing.

On June 14, 2011, the Company entered into a second amendment to the Rights Agreement (the “Second Rights Agreement Amendment”), in order to, among other things, exempt Total, Total S.A. and certain of their affiliates and certain members of a group of which they may become members from the definition of “Acquiring Person” such that the rights issuable pursuant to the Rights Agreement will not become issuable in connection with the completion of the Tender Offer.

By-laws Amendment

On June 14, 2011, the Board of Directors approved the amendment of the Company's By-laws (the “By-laws”). The changes are required under the Affiliation Agreement. The amendments: (i) allow any member of the Total Group to call a meeting of stockholders for the sole purpose of considering and voting on a proposal to effect a Terra Merger (as defined in the Affiliation Agreement) or a Transferee Merger (as defined in the Affiliation Agreement); (ii) provide that the number of directors of the Board shall be determined from time to time by resolution adopted by the affirmative vote of a majority of the entire Board at any regular or special meeting; (iii) require, prior to the termination of the Affiliation Agreement, a majority of independent directors' approval to amend the By-laws so long as Total, together with Total S.A.'s subsidiaries collectively own at least 30% of the voting securities of the Company as well as require, prior to the termination of the Affiliation Agreement, Total's written consent during the Terra Stockholder Approval Period (as defined in the Affiliation Agreement) to amend the By-laws; and (iv) make certain other conforming changes to the By-laws.

The Tender Offer Agreement, Tender Offer Agreement Guaranty, Credit Support Agreement, Affiliation Agreement, Affiliation Agreement Guaranty, Research and Collaboration Agreement, Registration Rights Agreement, Rights Agreement Amendment, Second Rights Agreement Amendment and By-laws are attached to, and more fully described in, the Company's Form 8-Ks as filed with the SEC on May 2, 2011, June 7, 2011, and June 15, 2011.


Note 3. SALE OF DISCONTINUED OPERATIONS

In connection with a strategic acquisition on March 26, 2010, the Company acquired a European project company, Cassiopea PV S.r.l (“Cassiopea”), which operated a previously completed 20 megawatt alternating current ("MWac") solar power plant in Montalto di Castro, Italy. In the period in which an asset of the Company is classified as held-for-sale, it is required to present for all periods the related assets, liabilities and results of operations associated with that asset as discontinued operations. Cassiopea's results of operations in fiscal 2010 were classified as “Income from discontinued operations, net of taxes” in the Condensed Consolidated Statement of Operations. On August 5, 2010, the Company sold the

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assets and liabilities of Cassiopea.

In both the three and six months ended July 4, 2010, results of operations related to Cassiopea were as follows:

(In thousands)
 
July 4, 2010
Utility and power plants revenue
 
$
7,905

Gross margin
 
7,905

Income from discontinued operations before sale of business unit
 
11,510

Gain on sale of business unit
 

Income before income taxes
 
11,510

Income from discontinued operations, net of taxes
 
7,896

 
Note 4. GOODWILL AND OTHER INTANGIBLE ASSETS

Goodwill

The following table presents the changes in the carrying amount of goodwill under the Company's reportable business segments:

(In thousands)
 
UPP
 
R&C
 
Total
As of January 2, 2011
 
226,350

 
118,920

 
345,270

Translation adjustment
 

 
1,239

 
1,239

As of July 3, 2011
 
$
226,350

 
$
120,159

 
$
346,509


Intangible Assets

The following tables present details of the Company's acquired other intangible assets:

(In thousands)
 
Gross
 
Accumulated
Amortization
 
Net
As of July 3, 2011
 
 
 
 
 
 
Project assets
 
$
79,160

 
$
(33,643
)
 
$
45,517

Patents, trade names and purchased technology
 
50,320

 
(50,001
)
 
319

Purchased in-process research and development
 
1,000

 
(111
)
 
889

Customer relationships and other
 
28,717

 
(22,540
)
 
6,177

 
 
$
159,197

 
$
(106,295
)
 
$
52,902

 
 
 

 
 

 
 

As of January 2, 2011
 
 

 
 

 
 

Project assets
 
$
79,160

 
$
(22,627
)
 
$
56,533

Patents, trade names and purchased technology
 
55,144

 
(54,563
)
 
581

Purchased in-process research and development
 
1,000

 
(28
)
 
972

Customer relationships and other
 
40,525

 
(31,823
)
 
8,702

 
 
$
175,829

 
$
(109,041
)
 
$
66,788


All of the Company's acquired other intangible assets are subject to amortization. Aggregate amortization expense for other intangible assets totaled $6.9 million and $13.9 million in the three and six months ended July 3, 2011, respectively, and $11.7 million and $16.5 million in the three and six months ended July 4, 2010, respectively. As of July 3, 2011, the estimated future amortization expense related to other intangible assets is as follows:
 

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(In thousands)
 
Amount
Year
 
 
2011 (remaining six months)
 
$
13,273

2012
 
22,721

2013
 
16,331

2014
 
252

2015
 
186

Thereafter
 
139

 
 
$
52,902

 

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Index

Note 5. BALANCE SHEET COMPONENTS
 
 
As of
(In thousands)
 
July 3, 2011
 
January 2, 2011
Accounts receivable, net:
 
 
 
 
Accounts receivable, gross
 
$
410,705

 
$
389,554

Less: allowance for doubtful accounts
 
(12,403
)
 
(5,967
)
Less: allowance for sales returns
 
(2,311
)
 
(2,387
)
 
 
$
395,991

 
$
381,200

Inventories:
 
 
 
 
Raw materials
 
$
78,612

 
$
70,683

Work-in-process
 
59,731

 
35,658

Finished goods
 
274,271

 
207,057

 
 
$
412,614

 
$
313,398

Prepaid expenses and other current assets:
 
 
 
 
VAT receivables, current portion
 
$
52,741

 
$
26,500

Short-term deferred tax assets
 
1,224

 
3,605

Foreign currency derivatives
 
13,853

 
35,954

Income tax receivable
 
5,912

 
1,513

Deferred project costs
 
804

 
934

Note receivable
 
10,000

 
10,000

Other receivables (1)
 
90,613

 
83,712

Other prepaid expenses
 
32,105

 
30,716

 
 
$
207,252

 
$
192,934


(1)
Includes tolling agreements with suppliers in which the Company provides polysilicon required for silicon ingot manufacturing and procures the manufactured silicon ingots from the suppliers (see Notes 8 and 9).

Project assets - plants and land:
 
 
 
 
Project assets - plants
 
$
83,199

 
$
28,784

Project assets - land
 
32,431

 
17,322

 
 
$
115,630

 
$
46,106

Project assets - plants and land, current portion
 
$
89,857

 
$
23,868

Project assets - plants and land, net of current portion
 
25,773

 
22,238


Property, plant and equipment, net:
 
 
 
 
Land and buildings
 
$
13,912

 
$
13,912

Leasehold improvements
 
236,607

 
207,248

Manufacturing equipment (2)
 
578,015

 
551,815

Computer equipment
 
49,628

 
46,603

Solar power systems
 
11,307

 
10,614

Furniture and fixtures
 
5,766

 
5,555

Construction-in-process
 
35,189

 
28,308

 
 
930,424

 
864,055

Less: accumulated depreciation (3)
 
(337,765
)
 
(285,435
)
 
 
$
592,659

 
$
578,620


(2)
Certain manufacturing equipment associated with solar cell manufacturing lines located at one of the Company’s facilities in the Philippines is collateralized in favor of a third-party lender. The Company provided security for advance payments received from a third party in fiscal 2008 totaling $40.0 million in the form of collateralized manufacturing equipment with a net book value of $24.5 million and $28.3 million as of July 3, 2011 and January 2, 2011, respectively.

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(3)
Total depreciation expense was $28.0 million and $53.7 million for the three and six months ended July 3, 2011, respectively, and $24.6 million and $49.3 million for the three and six months ended July 4, 2010, respectively.
    
 
 
As of
(In thousands)
 
July 3, 2011
 
January 2, 2011
Property, plant and equipment, net by geography (4):
 
 
 
 
Philippines
 
$
484,065

 
$
502,131

United States
 
103,342

 
73,860

Europe
 
5,026

 
2,400

Australia
 
226

 
229

 
 
$
592,659

 
$
578,620


(4)
Property, plant and equipment, net are based on the physical location of the assets.

 
 
Three Months Ended
 
Six Months Ended
(In thousands)
 
July 3, 2011
 
July 4, 2010
 
July 3, 2011
 
July 4, 2010
Interest expense:
 
 
 
 
 
 
 
 
Interest cost incurred
 
$
(17,652
)
 
$
(20,246
)
 
$
(34,103
)
 
$
(32,117
)
Cash interest cost capitalized - property, plant and equipment
 
555

 
376

 
885

 
772

Non-cash interest cost capitalized - property, plant and equipment
 
472

 
560

 
721

 
1,095

Cash interest cost capitalized - project assets - plant and land
 
242

 

 
606

 

Non-cash interest cost capitalized - project assets - plant and land
 
324

 

 
573

 

Interest expense
 
$
(16,059
)
 
$
(19,310
)
 
$
(31,318
)
 
$
(30,250
)

 
 
As of
(In thousands)
 
July 3, 2011
 
January 2, 2011
Other long-term assets:
 
 
 
 
Investments in joint ventures
 
$
173,724

 
$
116,444

Bond hedge derivative
 
65,964

 
34,491

Investments in non-public companies
 
6,418

 
6,418

VAT receivables, net of current portion
 
6,750

 
7,002

Long-term debt issuance costs
 
10,938

 
12,241

Other
 
21,273

 
1,698

 
 
$
285,067

 
$
178,294



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Index

 
 
As of
(In thousands)
 
July 3, 2011
 
January 2, 2011
Accrued liabilities:
 
 
 
 
VAT payables
 
$
13,756

 
$
11,699

Foreign currency derivatives
 
49,197

 
10,264

Short-term warranty reserves
 
12,910

 
14,639

Interest payable
 
6,839

 
6,982

Deferred revenue
 
27,380

 
21,972

Employee compensation and employee benefits
 
26,034

 
33,227

Restructuring liability
 
11,039

 

Other
 
46,966

 
38,921

 
 
$
194,121

 
$
137,704

 
 
 

 
 

Other long-term liabilities:
 
 

 
 

Embedded conversion option derivatives
 
$
66,453

 
$
34,839

Long-term warranty reserves
 
66,351

 
48,923

Unrecognized tax benefits
 
26,958

 
24,894

Other
 
28,750

 
22,476

 
 
$
188,512

 
$
131,132


Note 6. INVESTMENTS

The Company's investments in money market funds and debt securities are carried at fair value. Fair values are determined based on a hierarchy that prioritizes the inputs to valuation techniques by assigning the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities ("Level 1") and the lowest priority to unobservable inputs ("Level 3"). Level 2 measurements are inputs that are observable for assets or liabilities, either directly or indirectly, other than quoted prices included within Level 1.

The following tables present information about the Company's investments in money market funds and debt securities that are measured at fair value on a recurring basis and indicate the fair value hierarchy of the valuation techniques utilized by the Company to determine such fair value. Information about the Company's convertible debenture derivatives measured at fair value on a recurring basis is disclosed in Note 10. Information about the Company's foreign currency derivatives measured at fair value on a recurring basis is disclosed in Note 12. The Company does not have any nonfinancial assets or liabilities that are recognized or disclosed at fair value on a recurring basis in its condensed consolidated financial statements.

 
 
July 3, 2011
 
January 2, 2011
(In thousands)
 
Level 1
 
Level 2
 
Level 3
 
Total
 
Level 1
 
Level 2
 
Level 3
 
Total
Assets
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Money market funds
 
$
358,277

 
$

 
$

 
$
358,277

 
$
488,626

 
$

 
$
172

 
$
488,798

Debt securities
 

 

 

 

 

 
38,548

 

 
38,548

 
 
$
358,277

 
$

 
$

 
$
358,277

 
$
488,626

 
$
38,548

 
$
172

 
$
527,346


There have been no transfers between Level 1, Level 2 and Level 3 measurements during the three or six months ended July 3, 2011.

Money Market Funds

The majority of the Company's money market fund instruments are classified within Level 1 of the fair value hierarchy because they are valued using quoted prices for identical instruments in active markets. Investments in money market funds utilizing Level 3 inputs consisted of the Company's investment in the Reserve International Liquidity Fund which amounted to $0.2 million as of January 2, 2011. The Company had estimated the value of its investment in the Reserve International Liquidity Fund to be $0.2 million based on information publicly disclosed by the Reserve International Liquidity Fund relative to its holdings and remaining obligations. On March 3, 2011, the Company recovered $0.3 million from the Reserve

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International Liquidity Fund. The recovery was $0.1 million in excess of the recorded fair value and was reflected as a gain within "Other, net" in the Condensed Consolidated Statement of Operations for the six months ended July 3, 2011. The Company had no remaining investments with Level 3 measurements as of July 3, 2011.

Debt Securities

Investments in debt securities utilizing Level 2 inputs as of January 2, 2011 consist of bonds purchased in the fourth quarter of fiscal 2010. The bonds are guaranteed by the Italian government. The Company based its valuation of these bonds on movements of Italian sovereign bond rates since the time of purchase and incurred no other-than-temporary impairment loss in the three and six months ended July 3, 2011. This valuation is corroborated by comparison to third-party financial institution valuations.

The fair value of the Company's investments in bonds totaled €29.5 million as of January 2, 2011. On May 23, 2011, the bonds were sold for net proceeds of €29.3 million which was €0.2 million below the recorded fair value of €29.5 million on the sale date. The €0.2 million difference was reflected as a loss within "Other, net" in the Condensed Consolidated Statement of Operations for the three and six months ended July 3, 2011. The Company had no remaining investments in debt securities as of July 3, 2011.

Available-for-Sale Securities

Available-for-sale securities are comprised of the fair value of the Company's debt securities, including any other-than temporary impairment loss incurred. The classification of available-for-sale securities and cash and cash equivalents is as follows:

 
 
July 3, 2011
 
January 2, 2011
(In thousands)
 
Available-For-Sale
 
Cash and Cash Equivalents (2)
 
Total
 
Available-For-Sale
 
Cash and Cash Equivalents (2)
 
Total
Cash and cash equivalents
 
$

 
$
245,790

 
$
245,790

 
$

 
$
605,420

 
$
605,420

Short-term restricted cash and cash equivalents (1)
 

 
104,722

 
104,722

 

 
117,462

 
117,462

Short-term investments
 

 

 

 
38,548

 
172

 
38,720

Long-term restricted cash and cash equivalents (1)
 

 
120,885

 
120,885

 

 
138,837

 
138,837

 
 
$

 
$
471,397

 
$
471,397

 
$
38,548

 
$
861,891

 
$
900,439


(1)
Details regarding the Company's cash in restricted accounts are contained in the Company's annual consolidated financial statements and notes thereto for the year ended January 2, 2011 included in the fiscal 2010 Form 10-K.

(2)
Includes money market funds.

Minority Investments in Joint Ventures and Other Non-Public Companies

The Company holds minority investments comprised of common and preferred stock in joint ventures and other non-public companies. The Company monitors these minority investments for impairment, which are included in “Other long-term assets” in its Condensed Consolidated Balance Sheets and records reductions in the carrying values when necessary. Circumstances that indicate an other-than-temporary decline include the valuation ascribed to the issuing company in subsequent financing rounds, decreases in quoted market prices and declines in operations of the issuer. As of July 3, 2011 and January 2, 2011, the Company had $173.7 million and $116.4 million, respectively, in investments in joint ventures accounted for under the equity method and $6.4 million, as of both periods, in investments accounted for under the cost method (see Note 9).

Note 7. RESTRUCTURING

In response to reductions in European government incentives, primarily in Italy, which have had a significant impact on the global solar market, on June 13, 2011, the Company's Board of Directors approved a restructuring plan to realign the

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Company's resources. In connection with this plan, which is expected to be completed within the next 12 months, the Company expects to eliminate approximately 85 positions, 2% of the Company's workforce, in addition to the expected consolidation or closure of certain facilities in Europe. As a result, the Company expects to record restructuring charges of up to $22.0 million related to the UPP Segment, composed of severance benefits, lease and related termination costs, and other associated costs. The Company expects greater than 90% of these charges to be cash.

Restructuring charges recognized during both the three and six months ended July 3, 2011 in the Condensed Consolidated Statements of Operations consisted of $12.3 million of employee severance, benefits and accelerated vesting of promissory notes, $0.7 million of lease and related termination costs, and $0.3 million of legal and other related charges.

As of July 3, 2011, $11.0 million associated with the restructuring was recorded in "Accrued liabilities" on the Company's Condensed Consolidated Balance Sheet. The following table summarizes the restructuring reserve activity during the six months ended July 3, 2011:
(In thousands)
 
Severance Benefits
(1)
 
Lease and Related Termination Costs
 
Other Costs (2)
 
Total
Accrued liability as of January 2, 2011
 
$

 
$

 
$

 
$

Charges
 
10,911

 
713

 
320

 
11,944

Payments
 
(905
)
 

 

 
(905
)
Accrued liability as of July 3, 2011
 
$
10,006

 
$
713

 
$
320

 
$
11,039


(1)
Restructuring reserve charges above exclude $1.4 million of accrued compensation associated with the accelerated vesting of promissory notes, in accordance with the terms of each agreement, previously issued as consideration for an acquisition completed in the first quarter of fiscal 2010. The $1.4 million is separately recorded in "Accrued liabilities" on the Company's Condensed Consolidated Balance Sheet as of July 3, 2011, and in "Restructuring charges" on its Condensed Consolidated Statement of Operations for the three and six months ended July 3, 2011.

(2)
Other costs primarily represent associated legal services.

Note 8. COMMITMENTS AND CONTINGENCIES

Operating Lease Commitments

The Company leased its San Jose, California facility under a non-cancellable operating lease from Cypress Semiconductor Corporation ("Cypress") which expired in May 2011. In May 2011 the Company moved to new offices in San Jose, California under a non-cancellable operating lease from an unaffiliated third party through April 2021. In addition, the Company leases its Richmond, California facility under a non-cancellable operating lease from an unaffiliated third party, which expires in December 2018. The Company also has various lease arrangements, including for its European headquarters located in Geneva, Switzerland under a lease that expires in September 2012, as well as sales and support offices in Southern California, New Jersey, Oregon, Australia, England, France, Germany, Greece, Israel, Italy, Malta, Spain and South Korea, all of which are leased from unaffiliated third parties. In addition, in the first quarter of fiscal 2010 the Company acquired a lease arrangement in London, England, which was leased from a party affiliated with the Company which expired on August 7, 2011.

In fiscal 2009, the Company signed a commercial project financing agreement with Wells Fargo to fund up to $100 million of commercial-scale solar power system projects through December 31, 2010. On July 16, 2011, the Company and Wells Fargo amended the agreement to extend through June 30, 2012. As of July 3, 2011, the Company leases six solar power systems from Wells Fargo over minimum lease terms of up to 20 years that it had previously sold to Wells Fargo, of which two of these sales occurred during the second quarter of fiscal 2011. Separately, the Company entered into power purchase agreements ("PPAs") with end customers, who host the leased solar power systems and buy the electricity directly from the Company under PPAs with a duration of up to 20 years. At the end of the lease term, the Company has the option to purchase the systems at fair value or remove the systems. The deferred profit on the sale of the systems to Wells Fargo is recognized over the minimum term of the lease.

Future minimum obligations under all non-cancellable operating leases as of July 3, 2011 are as follows:

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Index

(In thousands)
 
Amount
Year
 
 
2011 (remaining six months)
 
$
7,435

2012
 
12,483

2013
 
12,255

2014
 
10,921

2015
 
9,490

Thereafter
 
46,380

 
 
$
98,964


Purchase Commitments
 
The Company purchases raw materials for inventory and manufacturing equipment from a variety of vendors. During the normal course of business, in order to manage manufacturing lead times and help assure adequate supply, the Company enters into agreements with contract manufacturers and suppliers that either allow them to procure goods and services based on specifications defined by the Company, or that establish parameters defining the Company's requirements. In certain instances, these agreements allow the Company the option to cancel, reschedule or adjust the Company's requirements based on its business needs prior to firm orders being placed. Consequently, only a portion of the Company's disclosed purchase commitments arising from these agreements are firm, non-cancellable and unconditional commitments.

The Company also has agreements with several suppliers, including some of its non-consolidated joint ventures, for the procurement of polysilicon, ingots, wafers, solar cells and solar panels which specify future quantities and pricing of products to be supplied by the vendors for periods up to 10 years and provide for certain consequences, such as forfeiture of advanced deposits and liquidated damages relating to previous purchases, in the event that the Company terminates the arrangements. Where pricing is specified for future periods, in some contracts, the Company may reduce its purchase commitment under the contract if the Company obtains a bona fide third party offer at a price that is a certain percentage lower than the applicable purchase price in the existing contract. If market prices decrease, the Company intends to use such provisions to either move its purchasing to another supplier or to force the initial supplier to reduce its price to remain competitive with market pricing.

As of July 3, 2011, total obligations related to non-cancellable purchase orders totaled $200.2 million and long-term supply agreements with suppliers totaled $5.3 billion. Of the total future purchase commitments of $5.5 billion as of July 3, 2011, $2.3 billion are for commitments to its non-consolidated joint ventures. Future purchase obligations under non-cancellable purchase orders and long-term supply agreements as of July 3, 2011 are as follows:

(In thousands)
 
Amount
Year
 
 
2011 (remaining six months)
 
$
792,736

2012
 
655,195

2013
 
653,957

2014
 
846,983

2015
 
881,985

Thereafter
 
1,655,721

 
 
$
5,486,577


Total future purchase commitments of $5.5 billion as of July 3, 2011 included tolling agreements with suppliers in which the Company provides polysilicon required for silicon ingot manufacturing and procures the manufactured silicon ingots from the supplier. Annual future purchase commitments in the table above are calculated using the gross price paid by the Company for silicon ingots and are not reduced by the price paid by suppliers for polysilicon. Total future purchase commitments as of July 3, 2011 would be reduced by $1.3 billion to $4.2 billion had the Company's obligations under such tolling agreements been disclosed using net cash outflows.

The Company expects that all obligations related to non-cancellable purchase orders for manufacturing equipment will be recovered through future cash flows of the solar cell manufacturing lines and solar panel assembly lines when such long-lived assets are placed in service. Factors considered important that could result in an impairment review include significant underperformance relative to expected historical or projected future operating results, significant changes in the manner of use

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of acquired assets and significant negative industry or economic trends. Total obligations related to non-cancellable purchase orders for inventories match current and forecasted sales orders that will consume these ordered materials and actual consumption of these ordered materials are compared to expected demand regularly. The Company anticipates total obligations related to long-term supply agreements for inventories will be recovered because quantities are less than management's expected demand for its solar power products. However, the terms of the long-term supply agreements are reviewed by management and the Company establishes accruals for estimated losses on adverse purchase commitments as necessary, such as lower of cost or market value adjustments, forfeiture of advanced deposits and liquidated damages. Such accruals will be recorded when the Company determines the cost of purchasing the components is higher than the estimated current market value or when it believes it is probable such components will not be utilized in future operations. In the second quarter of fiscal 2011, the Company recorded charges of $32.5 million related to the write-down of third-party inventory and costs associated with the termination of third-party solar cell supply contracts after reductions in European government incentives have driven down demand and average selling price in certain areas of Europe.

Advances to Suppliers

As noted above, the Company has entered into agreements with various polysilicon, ingot, wafer, solar cell and solar panel vendors that specify future quantities and pricing of products to be supplied by the vendors for periods up to 10 years. Certain agreements also provide for penalties or forfeiture of advanced deposits in the event the Company terminates the arrangements. Under certain agreements, the Company is required to make prepayments to the vendors over the terms of the arrangements. During the six months ended July 3, 2011, the Company paid advances totaling $26.9 million in accordance with the terms of existing long-term supply agreements. As of July 3, 2011 and January 2, 2011, advances to suppliers totaled $304.5 million and $287.1 million, respectively, the current portion of which is $36.1 million and $31.7 million, respectively. Two suppliers accounted for 76% and 22% of total advances to suppliers as of July 3, 2011, and 83% and 13% as of January 2, 2011.

The Company's future prepayment obligations related to these agreements as of July 3, 2011 are as follows:
(In thousands)
 
Amount
Year
 
 
2011 (remaining six months)
 
$
111,186

2012
 
105,281

2013
 
7,934

 
 
$
224,401


In January 2008, the Company entered into an Option Agreement with NorSun AS ("NorSun"), a manufacturer of silicon ingots and wafers, under which the Company would deliver cash advance payments to NorSun for the purchase of polysilicon under a long-term polysilicon supply agreement. The Company paid a cash advance of $5.0 million to NorSun during the fourth quarter of fiscal 2009. The Option Agreement provided NorSun an option to sell a 23.3% equity interest in a joint venture to the Company at a price equal to the $5.0 million cash advance. On December 3, 2010, NorSun entered into an agreement with a third party to sell its equity interest in the joint venture at cost, including the Company's indirect equity interest of 23.3% at $5.0 million. That agreement became effective in the first quarter of fiscal 2011 and accordingly the Option Agreement was terminated. In connection with the termination of the Option Agreement, on March 31, 2011, the $5.0 million cash advance was returned to the Company.

Product Warranties
 
The Company generally warrants or guarantees the performance of the solar panels that it manufactures at certain levels of power output for 25 years. In addition, the Company passes through to customers long-term warranties from the original equipment manufacturers ("OEM") of certain system components, such as inverters. Warranties of 25 years from solar panels suppliers are standard in the solar industry, while inverters typically carry warranty periods ranging from 5 to 10 years. In addition, the Company generally warrants its workmanship on installed systems for periods ranging up to 10 years. The Company maintains reserves to cover the expected costs that could result from these warranties. The Company's expected costs are generally in the form of product replacement or repair. Warranty reserves are based on the Company's best estimate of such costs and are recognized as a cost of revenue. The Company continuously monitors product returns for warranty failures and maintains a reserve for the related warranty expenses based on various factors including historical warranty claims, results of accelerated lab testing, field monitoring, vendor reliability estimates, and data on industry averages for similar products. Historically, warranty costs have been within management's expectations.

Provisions for warranty reserves charged to cost of revenue were $10.6 million and $18.4 million in the three and six

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Index

months ended July 3, 2011, respectively, and $4.6 million and $9.7 million during the three and six months ended July 4, 2010, respectively. Activity within accrued warranty for the three and six months ended July 3, 2011 and July 4, 2010 is summarized as follows:
 
 
Three Months Ended
 
Six Months Ended
(In thousands)
 
July 3, 2011
 
July 4, 2010
 
July 3, 2011
 
July 4, 2010
Balance at the beginning of the period
 
$
70,119

 
$
49,424

 
$
63,562

 
$
46,475

Accruals for warranties issued during the period
 
10,629

 
4,646

 
18,368

 
9,705

Settlements made during the period
 
(1,487
)
 
(2,079
)
 
(2,669
)
 
(4,189
)
Balance at the end of the period
 
$
79,261

 
$
51,991

 
$
79,261

 
$
51,991


Contingent Obligations

Projects often require the Company to undertake customer obligations including: (i) system output performance guarantees; (ii) system maintenance; (iii) penalty payments or customer termination rights if the system the Company is constructing is not commissioned within specified timeframes or other milestones are not achieved; (iv) guarantees of certain minimum residual value of the system at specified future dates; and (v) system put-rights whereby the Company could be required to buy-back a customer's system at fair value on specified future dates if certain minimum performance thresholds are not met. To date, no such repurchase obligations have been required.

Future Financing Commitments

As specified in the Company's joint venture agreement with AU Optronics Singapore Pte. Ltd. ("AUO"), both the Company and AUO contributed certain funding to the joint venture during fiscal 2010 and the first half of fiscal 2011. The Company and AUO will each contribute additional amounts to the joint venture in the second half of fiscal 2011 through 2014 amounting to $271.0 million, or such lesser amount as the parties may mutually agree. In addition, if the Company, AUO, or the joint venture requests additional equity financing to the joint venture, then both the Company and AUO will be required to make additional cash contributions of up to $50.0 million in the aggregate.

On September 28, 2010, the Company invested $0.2 million in a non-public company accounted for under the cost method. The Company will be required to provide additional financing of up to $4.9 million, subject to certain conditions.

The Company's future financing obligations related to these agreements as of July 3, 2011 are as follows:
(In thousands)
 
Amount
Year
 
 
2011 (remaining six months)
 
$
1,900

2012
 
75,870

2013
 
101,400

2014
 
96,770

 
 
$
275,940


Liabilities Associated with Uncertain Tax Positions
 
Total liabilities associated with uncertain tax positions were $27.0 million and $24.9 million as of July 3, 2011 and January 2, 2011, respectively, and are included in "Other long-term liabilities" in the Company's Condensed Consolidated Balance Sheets as they are not expected to be paid within the next twelve months. Due to the complexity and uncertainty associated with its tax positions, the Company cannot make a reasonably reliable estimate of the period in which cash settlement will be made for its liabilities associated with uncertain tax positions in other long-term liabilities (see Note 13).
 
Indemnifications
 
The Company is a party to a variety of agreements under which it may be obligated to indemnify the other party with respect to certain matters. Typically, these obligations arise in connection with contracts and license agreements or the sale of assets, under which the Company customarily agrees to hold the other party harmless against losses arising from a breach of warranties, representations and covenants related to such matters as title to assets sold, negligent acts, damage to property,

19

Index

validity of certain intellectual property rights, non-infringement of third-party rights and certain tax related matters. In each of these circumstances, payment by the Company is typically subject to the other party making a claim to the Company under the procedures specified in the particular contract. These procedures usually allow the Company to challenge the other party's claims or, in case of breach of intellectual property representations or covenants, to control the defense or settlement of any third party claims brought against the other party. Further, the Company's obligations under these agreements may be limited in terms of activity (typically to replace or correct the products or terminate the agreement with a refund to the other party), duration and/or amounts. In some instances, the Company may have recourse against third parties and/or insurance covering certain payments made by the Company.

Legal Matters

Three securities class action lawsuits were filed against the Company and certain of its current and former officers and directors in the United States District Court for the Northern District of California on behalf of a class consisting of those who acquired the Company's securities from April 17, 2008 through November 16, 2009. The cases were consolidated as In re SunPower Securities Litigation, Case No. CV-09-5473-RS (N.D. Cal.), and lead plaintiffs and lead counsel were appointed on March 5, 2010. Lead plaintiffs filed a consolidated complaint on May 28, 2010. The actions arise from the Audit Committee's investigation announcement on November 16, 2009 regarding certain unsubstantiated accounting entries. The consolidated complaint alleges that the defendants made material misstatements and omissions concerning the Company's financial results for 2008 and 2009, seeks an unspecified amount of damages, and alleges violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, and Sections 11 and 15 of the Securities Act of 1933. The Company believes it has meritorious defenses to these allegations and will vigorously defend itself in these matters. The court held a hearing on the defendants' motions to dismiss the consolidated complaint on November 4, 2010. The court dismissed the consolidated complaint with leave to amend on March 1, 2011. An amended complaint was filed on April 18, 2011. Defendants filed motions to dismiss the amended complaint on May 23, 2011. The motion to dismiss the amended complaint is scheduled to be heard by the court on August 11, 2011. The Company is currently unable to determine if the resolution of these matters will have an adverse effect on the Company's financial position, liquidity or results of operations.

Derivative actions purporting to be brought on the Company's behalf have also been filed in state and federal courts against several of the Company's current and former officers and directors based on the same events alleged in the securities class action lawsuits described above. The California state derivative cases were consolidated as In re SunPower Corp. S'holder Derivative Litig., Lead Case No. 1-09-CV-158522 (Santa Clara Sup. Ct.), and co-lead counsel for plaintiffs have been appointed. The complaints assert state-law claims for breach of fiduciary duty, abuse of control, unjust enrichment, gross mismanagement, and waste of corporate assets. Plaintiffs are scheduled to file a consolidated complaint after entry of an order deciding defendants' motion to dismiss the amended class action complaint. The federal derivative complaints were consolidated as In re SunPower Corp. S'holder Derivative Litig., Master File No. CV-09-05731-RS (N.D. Cal.), and lead plaintiffs and co-lead counsel were appointed on January 4, 2010. The complaints assert state-law claims for breach of fiduciary duty, waste of corporate assets, and unjust enrichment, and seek an unspecified amount of damages. Plaintiffs filed a consolidated complaint on May 13, 2011. A Delaware state derivative case, Brenner v. Albrecht, et al., C.A. No. 6514-VCP (Del Ch.), was filed on May 23, 2011. The complaint asserts state-law claims for breach of fiduciary duty and contribution and indemnification, and seeks an unspecified amount of damages. The Company intends to oppose the derivative plaintiffs' efforts to pursue this litigation on the Company's behalf. The Company is currently unable to determine if the resolution of these matters will have an adverse effect on the Company's financial position, liquidity or results of operations.

The Company is also a party to various other litigation matters and claims that arise from time to time in the ordinary course of its business. While the Company believes that the ultimate outcome of such matters will not have a material adverse effect on the Company, their outcomes are not determinable and negative outcomes may adversely affect the Company's financial position, liquidity or results of operations.

Note 9. JOINT VENTURES

Joint Venture with Woongjin Energy Co., Ltd (“Woongjin Energy”)

The Company and Woongjin Holdings Co., Ltd. (“Woongjin”) formed Woongjin Energy in fiscal 2006, a joint venture to manufacture monocrystalline silicon ingots in Korea. The Company supplies polysilicon, services and technical support required for silicon ingot manufacturing to the joint venture. Once manufactured, the Company purchases the silicon ingots from the joint venture under a nine-year agreement through 2016. There is no obligation or expectation for the Company to provide additional funding to Woongjin Energy.

On June 30, 2010, Woongjin Energy completed its initial public offering ("IPO") and the sale of 15.9 million new shares

20

Index

of common stock. As a result of the completion of the IPO, the Company concluded that Woongjin Energy is no longer a variable interest entity ("VIE"). The Company continues to hold 19.4 million shares, or a percentage equity interest of 31%, as of both July 3, 2011 and January 2, 2011. The market value of the Company's equity interest in Woongjin Energy was $237.1 million on July 1, 2011.

As of July 3, 2011 and January 2, 2011, the Company's carrying value of its investment in the joint venture totaled $83.6 million and $76.6 million, respectively, in its Condensed Consolidated Balance Sheets. The Company accounts for its investment in Woongjin Energy using the equity method under which the investment is classified as “Other long-term assets” in the Condensed Consolidated Balance Sheets and the Company's share of Woongjin Energy's income totaling $2.2 million and $6.7 million in the three and six months ended July 3, 2011, respectively, and $1.7 million and $4.8 million in the three and six months ended July 4, 2010, respectively, is included in “Equity in earnings (loss) of unconsolidated investees” in the Condensed Consolidated Statements of Operations. The Company recorded a non-cash gain of $0.3 million in both the three and six months ended July 3, 2011 and $28.3 million in both the three and six months ended July 4, 2010 in "Gain on change in equity interest in unconsolidated investee" in the Company's Condensed Consolidated Statement of Operations due to its equity interest in Woongjin Energy being diluted as a result of the issuance of additional equity to other investors. As of July 3, 2011, the Company's maximum exposure to loss as a result of its involvement with Woongjin Energy is limited to the carrying value of its investment.

As of July 3, 2011 and January 2, 2011, $18.5 million and $18.4 million, respectively, remained due and receivable from Woongjin Energy related to polysilicon the Company supplied to the joint venture for silicon ingot manufacturing. Payments to Woongjin Energy for manufactured silicon ingots totaled $43.8 million and $92.6 million in the three and six months ended July 3, 2011, respectively, and $42.3 million and $89.3 million in the three and six months ended July 4, 2010, respectively. As of July 3, 2011 and January 2, 2011, $51.3 million and $32.6 million, respectively, remained due and payable to Woongjin Energy. In addition, the Company conducted other related-party transactions with Woongjin Energy in the first half of fiscal 2010. The Company recognized revenue related to the sale of solar panels to Woongjin Energy of $0.3 million during each of the three and six months ended July 4, 2010. As of both July 3, 2011 and January 2, 2011, zero remained due and receivable from Woongjin Energy related to the sale of these solar panels.

Woongjin Energy qualified as a "significant investee" of the Company in fiscal 2009 as defined in SEC Regulation S-X Rule 10-01(b)(1). Summarized financial information adjusted to conform to U.S. GAAP for Woongjin Energy for the six months ended July 3, 2011 and July 4, 2010 is as follows:
Statement of Operations
 
 
Six Months Ended
(In thousands)
 
July 3, 2011
 
July 4, 2010
Revenue
 
$
138,458

 
$
55,754

Cost of revenue
 
118,153

 
27,983

Gross margin
 
20,305

 
27,771

Operating income
 
13,439

 
24,923

Net income
 
13,123

 
15,159


Joint Venture with First Philec Solar Corporation (“First Philec Solar”)

The Company and First Philippine Electric Corporation (“First Philec”) formed First Philec Solar in fiscal 2007, a joint venture to provide wafer slicing services of silicon ingots to the Company in the Philippines. The Company supplies to the joint venture silicon ingots and technology required for slicing silicon. Once manufactured, the Company purchases the completed silicon wafers from the joint venture under a five-year wafering supply and sales agreement through 2013. There is no obligation or expectation for the Company to provide additional funding to First Philec Solar.

As of July 3, 2011 and January 2, 2011, the Company's carrying value of its investment in the joint venture totaled $6.8 million and $6.1 million, respectively, in its Condensed Consolidated Balance Sheets which represented a 15% equity investment in both periods. The Company accounts for its investment in First Philec Solar using the equity method since the Company is able to exercise significant influence over the joint venture due to its board positions. The Company's investment is classified as “Other long-term assets” in the Condensed Consolidated Balance Sheets and the Company's share of First Philec Solar's income of $0.2 million and $0.7 million in the three and six months ended July 3, 2011, respectively, and $0.3 million in both of the three and six months ended July 4, 2010, is included in “Equity in earnings (loss) of unconsolidated investees” in the Condensed Consolidated Statements of Operations. As of July 3, 2011, the Company's maximum exposure to loss as a result of its involvement with First Philec Solar is limited to the carrying value of its investment.

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Index


As of July 3, 2011 and January 2, 2011, $5.7 million and $3.3 million, respectively, remained due and receivable from First Philec Solar related to the wafer slicing process of silicon ingots supplied by the Company to the joint venture. Payments to First Philec Solar for wafer slicing services of silicon ingots totaled $36.0 million and $64.4 million during the three and six months ended July 3, 2011, respectively, and $22.7 million and $38.2 million during the three and six months ended July 4, 2010, respectively. As of July 3, 2011 and January 2, 2011, $12.5 million and $9.0 million, respectively, remained due and payable to First Philec Solar related to the purchase of silicon wafers.

The Company has concluded that it is not the primary beneficiary of the joint venture since, although the Company and First Philec are both obligated to absorb losses or have the right to receive benefits from First Philec Solar that are significant to First Philec Solar, such variable interests held by the Company do not empower it to direct the activities that most significantly impact First Philec Solar's economic performance. In reaching this determination, the Company considered the significant control exercised by First Philec over the joint venture's Board of Directors, management and daily operations.

Joint Venture with AUO SunPower Sdn. Bhd. ("AUOSP")

The Company, through its subsidiaries SunPower Technology, Ltd. (“SPTL") and AUOSP, formerly SunPower Malaysia Manufacturing Sdn. Bhd., formed AUOSP with AUO and AU Optronics Corporation, the ultimate parent company of AUO (“AUO Taiwan”) in the third quarter of fiscal 2010. The Company, through SPTL, and AUO each own 50% of the joint venture AUOSP. AUOSP owns a solar cell manufacturing facility ("FAB 3") in Malaysia and manufactures solar cells and sells them on a “cost-plus” basis to the Company and AUO.

In connection with the joint venture agreement, the Company and AUO also entered into licensing and joint development, supply, and other ancillary transaction agreements. Through the licensing agreement, SPTL and AUO licensed to AUOSP, on a non-exclusive, royalty-free basis, certain background intellectual property related to solar cell manufacturing (in the case of SPTL), and manufacturing processes (in the case of AUO). Under the seven-year supply agreement with AUOSP, renewable by the Company for one-year periods thereafter, the percentage of AUOSP's total annual output allocated on a monthly basis to the Company, which the Company is committed to purchase, ranges from 95% in the fourth quarter of fiscal 2010 to 80% in fiscal year 2013 and thereafter. The Company and AUO have the right to reallocate supplies from time to time under a written agreement. As required under the joint venture agreement, on November 5, 2010, the Company and AUOSP entered into an agreement under which the Company will resell to AUOSP polysilicon purchased from a third-party supplier and AUOSP will provide prepayments to the Company related to such polysilicon, which prepayment will then be made by the Company to the third-party supplier.

The Company and AUO are not permitted to transfer any of AUOSP's shares held by them, except to each other and to their direct or indirect wholly-owned subsidiaries. During the second half of fiscal 2010, the Company, through SPTL, and AUO each contributed total initial funding of $27.9 million. Both the Company and AUO each contributed an additional $30.0 million and $50.0 million in the three and six months ended July 3, 2011, respectively, and will each contribute additional amounts in the second half of fiscal 2011 through 2014 amounting to $271.0 million, or such lesser amount as the parties may mutually agree. In addition, if AUOSP, SPTL or AUO requests additional equity financing to AUOSP, then SPTL and AUO will each be required to make additional cash contributions of up to $50.0 million in the aggregate (See Note 8).

The Company has concluded that it is not the primary beneficiary of the joint venture since, although the Company and AUO are both obligated to absorb losses or have the right to receive benefits, the Company alone does not have the power to direct the activities of the joint venture that most significantly impact its economic performance. In making this determination the Company considered the shared power arrangement, including equal board governance for significant decisions, elective appointment, and the fact that both parties contribute to the activities that most significantly impact the joint venture's economic performance. As a result of the shared power arrangement the Company deconsolidated AUOSP in the third quarter of fiscal 2010 and accounts for its investment in the joint venture under the equity method.

As of July 3, 2011 and January 2, 2011, the Company's carrying value of its investment totaled $83.3 million and $33.7 million, respectively, in its Condensed Consolidated Balance Sheets which represents its 50% equity investment. The Company accounts for its investment in AUOSP using the equity method in which the investment is classified as “Other long-term assets” in the Condensed Consolidated Balance Sheets. The Company's share of AUOSP's net loss for the three and six months ended July 3, 2011 totaled $2.6 million and $0.4 million, respectively, which is included in “Equity in earnings (loss) of unconsolidated investees” in the Condensed Consolidated Statement of Operations. The Company accounts for its share of AUOSP's net loss on a quarterly lag in reporting.

As of July 3, 2011 and January 2, 2011, $15.4 million and $6.0 million, respectively, remained due and payable to

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Index

AUOSP and $26.3 million and $7.5 million, respectively, remained due and receivable from AUOSP. Payments to AUOSP for solar cells totaled $42.8 million and $70.7 million during the three and six months ended July 3, 2011, respectively. As of July 3, 2011, the Company's maximum exposure to loss as a result of its involvement with AUOSP is limited to the carrying value of its investment.
 
Note 10. DEBT AND CREDIT SOURCES

The following table summarizes the Company's outstanding debt as of July 3, 2011 and the related maturity dates:
 
 
 
 
Payments Due by Period
(In thousands)
 
Face Value
 
2011
(remaining
six months)
 
2012
 
2013
 
2014
 
2015
 
Beyond
2015
Convertible debt:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
4.50% debentures
 
$
250,000

 
$

 
$

 
$

 
$

 
$
250,000

 
$

4.75% debentures
 
230,000

 

 

 

 
230,000

 

 

1.25% debentures
 
198,608

 

 
198,608

 

 

 

 

0.75% debentures
 
79

 

 

 

 

 
79

 

IFC mortgage loan
 
75,000

 

 

 
12,500

 
15,000

 
15,000

 
32,500

CEDA loan
 
30,000

 

 

 

 

 

 
30,000

Société Générale revolving credit facility
 
108,623

 
108,623

 

 

 

 

 

 
 
$
892,310

 
$
108,623

 
$
198,608

 
$
12,500

 
$
245,000

 
$
265,079

 
$
62,500


Convertible Debt

The following table summarizes the Company's outstanding convertible debt (which is additionally reflected in the table above):
 
 
July 3, 2011
 
January 2, 2011
(In thousands)
 
Carrying Value
 
Face Value
 
Fair Value (1)
 
Carrying Value
 
Face Value
 
Fair Value (1)
4.50% debentures
 
$
186,288

 
$
250,000

 
$
276,750

 
$
179,821

 
$
250,000

 
$
230,172

4.75% debentures
 
230,000

 
230,000

 
245,525

 
230,000

 
230,000

 
215,050

1.25% debentures (2)
 
189,200

 
198,608

 
196,870

 
182,023

 
198,608

 
188,429

0.75% debentures
 
79

 
79

 
79

 
79

 
79

 
75

 
 
$
605,567

 
$
678,687

 
$
719,224

 
$
591,923

 
$
678,687

 
$
633,726


(1)
The fair value of the convertible debt was determined based on quoted market prices as reported by an independent pricing source.

(2)
The carrying value of the 1.25% senior convertible debentures ("1.25% debentures") was reclassified from long-term liabilities to short-term liabilities within "Convertible debt, current portion" in the Condensed Consolidated Balance Sheet as of July 3, 2011 as the holders may require the Company to repurchase all of their 1.25% debentures on February 15, 2012.

4.50% Debentures

On April 1, 2010, the Company issued $220.0 million in principal amount of its 4.50% senior cash convertible debentures (“4.50% debentures”). On April 5, 2010, initial purchasers of the 4.50% debentures exercised the $30.0 million over-allotment option in full. Interest is payable semi-annually, on March 15 and September 15 of each year, at a rate of 4.50% per annum. The 4.50% debentures mature on March 15, 2015 unless repurchased or converted in accordance with their terms prior to such date. The 4.50% debentures are convertible only into cash, and not into shares of the Company's class A common stock (or any other securities).

23

Index


The embedded cash conversion option within the 4.50% debentures and the over-allotment option related to the 4.50% debentures are derivative instruments that are required to be separated from the 4.50% debentures and accounted for separately as derivative instruments (derivative liabilities) with changes in fair value reported in the Company's Condensed Consolidated Statements of Operations until such transactions settle or expire. The over-allotment option was settled on April 5, 2010, however, the embedded cash conversion option continues to require mark-to-market accounting treatment. The initial fair value liabilities of the embedded cash conversion option and over-allotment option were classified within “Other long-term liabilities” and simultaneously reduced the carrying value of “Convertible debt, net of current portion” in the Company's Condensed Consolidated Balance Sheets.
 
In the three and six months ended July 3, 2011, the Company recognized a non-cash loss of $9.7 million and $31.6 million, respectively, recorded in “Gain (loss) on mark-to-market derivatives” in the Company's Condensed Consolidated Statement of Operations related to the change in fair value of the embedded cash conversion option. In the three and six months ended July 4, 2010, the Company recognized a non-cash gain of $39.2 million and $38.9 million, respectively, recorded in “Gain (loss) on mark-to-market derivatives” in the Company's Condensed Consolidated Statement of Operations related to the change in fair value of the embedded cash conversion option and over-allotment option. The fair value liability of the embedded cash conversion option as of July 3, 2011 and January 2, 2011 totaled $66.5 million and $34.8 million, respectively, and is classified within “Other long-term liabilities” in the Company's Condensed Consolidated Balance Sheets.

The embedded cash conversion option is fair valued utilizing Level 2 inputs consisting of the exercise price of the instrument, the Company's class A common stock price and volatility, the risk free interest rate and the contractual term. Such derivative instruments are not traded on an open market as the banks are the counterparties to the instruments.

Significant inputs for the valuation of the embedded cash conversion option are as follows:

 
As of (1)
 
July 3, 2011
 
January 2, 2011
Stock price
$
19.71

 
$
12.83

Exercise price
$
22.53

 
$
22.53

Interest rate
1.26
%
 
1.63
%
Stock volatility
45.10
%
 
49.80
%
Maturity date
February 18, 2015

 
February 18, 2015


(1)
The valuation model utilizes these inputs to value the right but not the obligation to purchase one share at $22.53. The Company utilized a Black-Scholes valuation model to value the embedded cash conversion option. The underlying input assumptions were determined as follows:
(i)
Stock price. The closing price of the Company's class A common stock on the last trading day of the quarter.
(ii)
Exercise price. The exercise price of the embedded conversion option.
(iii)
Interest rate. The Treasury Strip rate associated with the life of the embedded conversion option.
(iv)
Stock volatility. The volatility of the Company's class A common stock over the life of the embedded conversion option.

Call Spread Overlay with Respect to 4.50% Debentures (“CSO2015”)

Concurrent with the issuance of the 4.50% debentures, the Company entered into privately negotiated convertible debenture hedge transactions (collectively, the "4.50% Bond Hedge") and warrant transactions (collectively, the "4.50% Warrants" and together with the 4.50% Bond Hedge, the “CSO2015”), with certain of the initial purchasers of the 4.50% cash convertible debentures or their affiliates. The CSO2015 transactions represent a call spread overlay with respect to the 4.50% debentures, whereby the cost of the 4.50% Bond Hedge purchased by the Company to cover the cash outlay upon conversion of the debentures is reduced by the sales prices of the 4.50% Warrants. Assuming full performance by the counterparties (and 4.50% Warrants strike prices in excess of the conversion price of the 4.50% debentures), the transactions effectively reduce the Company's potential payout over the principal amount on the 4.50% debentures upon conversion of the 4.50% debentures.

Under the terms of the 4.50% Bond Hedge, the Company bought from affiliates of certain of the initial purchasers options to acquire, at an exercise price of $22.53 per share, subject to customary adjustments for anti-dilution and other events,

24

Index

cash in an amount equal to the market value of up to 11.1 million shares of the Company's class A common stock. Under the terms of the original 4.50% Warrants, the Company sold to affiliates of certain of the initial purchasers of the 4.50% cash convertible debentures warrants to acquire, at an exercise price of $27.03 per share (subject to customary adjustments for anti-dilution and other events), cash in an amount equal to the market value of up to 11.1 million shares of the Company's class A common stock. Each 4.50% Bond Hedge and 4.50% Warrant transaction is a separate transaction, entered into by the Company with each counterparty, and is not part of the terms of the 4.50% debentures. On December 23, 2010, the Company amended and restated the original 4.50% Warrants so that the holders would, upon exercise of the 4.50% Warrants, no longer receive cash but instead would acquire up to 11.1 million shares of the Company's class A common stock. According to the counterparties to the warrants, the consummation of the Total Tender Offer triggered their rights to make a downward adjustment to the strike price of the warrants. The Company is currently in discussions with the counterparties to determine the appropriate adjustments, if any, to the warrants.

The 4.50% Bond Hedge, which is indexed to the Company's class A common stock, is a derivative instrument that requires mark-to-market accounting treatment due to the cash settlement features until such transactions settle or expire. Similarly, the original 4.50% Warrants was a derivative instrument that required mark-to-market accounting treatment through December 23, 2010. The initial fair value of the 4.50% Bond Hedge was classified as “Other long-term assets” in the Company's Condensed Consolidated Balance Sheets.

The fair value of the 4.50% Bond Hedge as of July 3, 2011 and January 2, 2011 totaled $66.0 million and $34.5 million, respectively, and is classified within "Other long-term assets" in the Company's Condensed Consolidated Balance Sheets. In the three and six months ended July 3, 2011, the Company recognized a non-cash gain of $9.6 million and $31.5 million, respectively, in “Gain (loss) on mark-to-market derivatives” in the Company's Condensed Consolidated Statement of Operations related to the change in fair value of the 4.50% Bond Hedge. In the three and six months ended July 4, 2010, the change in fair value of the original CSO2015 resulted in a mark-to-market non-cash loss of $5.1 million and $7.0 million, respectively, in “Gain (loss) on mark-to-market derivatives” in the Company's Condensed Consolidated Statement of Operations.

The 4.50% Bond Hedge derivative instruments are fair valued utilizing Level 2 inputs consisting of the exercise price of the instruments, the Company's class A stock price and volatility, the risk free interest rate and the contractual term. Such derivative instruments are not traded on an open market. Valuation techniques utilize the inputs described above in addition to liquidity and institutional credit risk inputs.

Significant inputs for the valuation of the 4.50% Bond Hedge at the measurement date are as follows:

 
As of (1)
 
July 3, 2011
 
January 2, 2011
Stock price
$
19.71

 
$
12.83

Exercise price
$
22.53

 
$
22.53

Interest rate
1.26
%
 
1.63
%
Stock volatility
45.10
%
 
49.80
%
Credit risk adjustment
1.11
%
 
1.25
%
Maturity date
February 18, 2015

 
February 18, 2015


(1)
The valuation model utilizes these inputs to value the right but not the obligation to purchase one share at $22.53 for the 4.50% Bond Hedge. The Company utilized a Black-Scholes valuation model to value the 4.50% Bond Hedge. The underlying input assumptions were determined as follows:
(i)
Stock price. The closing price of the Company's class A common stock on the last trading day of the quarter.
(ii)
Exercise price. The exercise price of the 4.50% Bond Hedge.
(iii)
Interest rate. The Treasury Strip rate associated with the life of the 4.50% Bond Hedge.
(iv)
Stock volatility. The volatility of the Company's class A common stock over the life of the 4.50% Bond Hedge.
(v)
Credit risk adjustment. Represents the weighted average of the credit default swap rate of the counterparties.

4.75% Debentures


25

Index

In May 2009, the Company issued $230.0 million in principal amount of its 4.75% senior convertible debentures (“4.75% debentures”), before payment of the net cost for the call spread overlay described below. Interest on the 4.75% debentures is payable on April 15 and October 15 of each year. Holders of the 4.75% debentures are able to exercise their right to convert the debentures at any time into shares of the Company's class A common stock at a conversion price equal to $26.40 per share. The applicable conversion rate may adjust in certain circumstances, including upon a fundamental change, as described in the indenture governing the 4.75% debentures. If not earlier converted, the 4.75% debentures mature on April 15, 2014. Holders may also require the Company to repurchase all or a portion of their 4.75% debentures upon a fundamental change at a cash repurchase price equal to 100% of the principal amount plus accrued and unpaid interest. In the event of certain events of default, such as the Company's failure to make certain payments or perform or observe certain obligations thereunder, Wells Fargo, the trustee, or holders of a specified amount of then-outstanding 4.75% debentures will have the right to declare all amounts then outstanding due and payable.

Call Spread Overlay with Respect to 4.75% Debentures (“CSO2014”)

Concurrent with the issuance of the 4.75% debentures, the Company entered into certain convertible debenture hedge transactions (the “4.75% Bond Hedge”) and warrant transactions (the "4.75% Warrants") with affiliates of certain of the underwriters of the 4.75% debentures. The 4.75% Bond Hedge and the 4.75% Warrants described below represent a call spread overlay with respect to the 4.75% debentures (the "CSO2014", whereby the cost of the 4.75% Bond Hedges purchased by the Company to cover the potential share outlays upon conversion of the debentures is reduced by the sales prices of the 4.75% Warrants). Assuming full performance by the counterparties (and no adjustments to the strike prices of the 4.75% Warrants), the CSO2014 transactions reduce dilution of the Company's common stock by effectively increasing the conversion price of the 4.75% debentures from $26.40 to the 4.75% Warrant strike prices (currently $38.50).

The 4.75% Bond Hedge allows the Company to purchase up to 8.7 million shares of the Company's class A common stock and are intended to reduce the potential dilution upon conversion of the 4.75% debentures in the event that the market price per share of the Company's class A common stock at the time of exercise is greater than the conversion price of the 4.75% debentures. The 4.75% Bond Hedge will be settled on a net share basis. Each 4.75% Bond Hedge and 4.75% Warrant is a separate transaction, entered into by the Company with each counterparty, and is not part of the terms of the 4.75% debentures. Holders of the 4.75% debentures do not have any rights with respect to the 4.75% Bond Hedges and 4.75% Warrants. The current exercise prices of the 4.75% Bond Hedge are $26.40 per share of the Company's class A common stock, subject to customary adjustment for anti-dilution and other events.

Under the 4.75% Warrants, the Company sold warrants to acquire up to 8.7 million shares of the Company's class A common stock at an exercise price of $38.50 per share of the Company's class A common stock, subject to adjustment for certain anti-dilution and other events. The 4.75% Warrants expire in 2014. According to the counterparties to the warrants, the consummation of the Total Tender Offer triggered their rights to make a downward adjustment to the strike price of the warrants. The Company is currently in discussions with the counterparties to determine the appropriate adjustments, if any, to the warrants.

July 2007 Share Lending Arrangement
 
Concurrent with the offering of the 0.75% senior convertible debentures ("0.75% debentures"), the Company lent 1.8 million shares of its class A common stock to Credit Suisse International ("CSI"), an affiliate of Credit Suisse Securities (USA) LLC ("Credit Suisse"), one of the underwriters of the 0.75% debentures. The loaned shares are to be used to facilitate the establishment by investors in the 1.25% debentures and 0.75% debentures of hedged positions in the Company's class A common stock. The Company did not receive any proceeds from the offerings of class A common stock, but received a nominal lending fee of $0.001 per share for each share of common stock that is loaned under the share lending agreement. As of July 3, 2011 the fair value of the 1.8 million outstanding loaned shares of class A common stock was $35.5 million (based on a market price of $19.71 as of July 1, 2011).
 
Share loans under the share lending agreement terminate and the borrowed shares must be returned to the Company under the following circumstances: (i) CSI may terminate all or any portion of a loan at any time; (ii) the Company may terminate any or all of the outstanding loans upon a default by CSI under the share lending agreement, including a breach by CSI of any of its representations and warranties, covenants or agreements under the share lending agreement, or the bankruptcy or administrative proceeding of CSI; or (iii) either party may terminate if the Company enters into a merger or similar business combination transaction with an unaffiliated third party (as defined in the agreement). In addition, CSI has agreed to return to the Company any borrowed shares in its possession on the date anticipated to be five business days before the closing of certain merger or similar business combinations described in the share lending agreement. Except in limited circumstances, any such shares returned to the Company cannot be re-borrowed.

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Index


Any shares loaned to CSI are considered issued and outstanding for corporate law purposes and, accordingly, the holders of the borrowed shares have all of the rights of a holder of the Company's outstanding shares, including the right to vote the shares on all matters submitted to a vote of the Company's stockholders and the right to receive any dividends or other distributions that the Company may pay or make on its outstanding shares of class A common stock. However, CSI agreed that it will not participate in shareholder voting matters and further agreed to pay to the Company an amount equal to any dividends or other distributions that the Company pays on the borrowed shares. The shares are listed for trading on the Nasdaq Global Select Market.

While the share lending agreement does not require cash payment upon return of the shares, physical settlement is required (i.e., the loaned shares must be returned at the end of the arrangement). In view of this share return provision and other contractual undertakings of CSI in the share lending agreement, which have the effect of substantially eliminating the economic dilution that otherwise would result from the issuance of the borrowed shares, historically the loaned shares were not considered issued and outstanding for the purpose of computing and reporting the Company's basic and diluted weighted average shares or earnings per share.

The shares lent to CSI will continue to be excluded for the purpose of computing and reporting the Company's basic and diluted weighted average shares or earnings per share. If Credit Suisse or its affiliates, including CSI, were to file bankruptcy or commence similar administrative, liquidating, restructuring or other proceedings, the Company may have to consider 1.8 million shares lent to CSI as issued and outstanding for purposes of calculating earnings per share.

Mortgage Loan Agreement with International Finance Corporation (“IFC”)

In fiscal 2010, SunPower Philippines Manufacturing Ltd. ("SPML") and SPML Land, Inc. (“SPML Land”), both subsidiaries of the Company, entered into a mortgage loan agreement with IFC. Under the loan agreement, SPML may borrow up to $75.0 million from IFC after satisfying certain conditions to disbursement. On June 9, 2011, SPML borrowed $25.0 million under the loan agreement. As of July 3, 2011 and January 2, 2011, SPML had $75.0 million and $50.0 million, respectively, outstanding under the mortgage loan agreement which is classified as "Long-term debt" in the Company's Condensed Consolidated Balance Sheets. As of July 3, 2011, no additional amounts remained available for borrowing under the loan agreement.

Loan Agreement with California Enterprise Development Authority ("CEDA")

On December 29, 2010, the Company borrowed the proceeds of the $30.0 million aggregate principal amount of CEDA's tax-exempt Recovery Zone Facility Revenue Bonds (SunPower Corporation - Headquarters Project) Series 2010 (the "Bonds") maturing April 1, 2031 under a loan agreement with CEDA. The Company's obligations under the loan agreement are contained in a promissory note dated December 29, 2010 issued by the Company to CEDA, which assigned the promissory note, along with all right, title and interest in the loan agreement, to Wells Fargo, as trustee, with respect to the Bonds for the benefit of the holders of the Bonds. The Bonds initially bore interest at a variable interest rate (determined weekly), but at the Company's option were converted into fixed-rate bonds (which include covenants of, and other restrictions on, the Company). As of January 2, 2011 the $30.0 million aggregate principal amount of the Bonds was classified as "Short-term debt" in the Company's Condensed Consolidated Balance Sheet due to the potential for the Bonds to be redeemed or tendered for purchase on June 22, 2011 under the reimbursement agreement described below. On June 1, 2011, the Bonds were converted to bear interest at a fixed rate of 8.50% to maturity and the holders' rights to tender the Bonds prior to their stated maturity was removed. As such, the $30.0 million aggregate principal amount of the Bonds were reclassified as "Long-term debt" in the Company's Condensed Consolidated Balance Sheet as of July 3, 2011.

Concurrently with the execution of the loan agreement and the issuance of the Bonds by CEDA, the Company entered into a reimbursement agreement with Barclays Capital Inc. ("Barclays") pursuant to which the Company caused Barclays to deliver to Wells Fargo a direct-pay irrevocable letter of credit in the amount of $30.4 million (an amount equal to the principal amount of the Bonds plus 38 days' interest thereon). The letter of credit permitted Wells Fargo to draw funds to pay the Company's obligations to pay principal and interest on the Bonds and, in the event the Bonds are redeemed or tendered for purchase, the redemption price or purchase price thereof. Under the reimbursement agreement, the Company deposited $31.8 million in a sequestered account with Barclays, subject to an account control agreement, which funds collateralized the letter of credit pursuant to a cash collateral account pledge agreement entered into by the Company and Barclays on December 29, 2010. Such funds were classified as short-term restricted cash as of January 2, 2011 on the Condensed Consolidated Balance Sheet.

Following the conversion of the Bonds to a fixed rate instrument (for which the letter of credit is no longer required)

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Barclays returned $31.8 million of the deposit, plus any remaining unspent funds and interest earnings, to the Company. The amounts returned were included in cash and cash equivalents on the Condensed Consolidated Balance Sheet as of July 3, 2011. In addition, the letter of credit terminated on June 16, 2011, and the Company's obligations under the reimbursement agreement, the cash collateral account pledge agreement and the related account control agreement were thereby terminated.

Revolving Credit Facility with Société Générale, Milan Branch ("Société Générale")

In fiscal 2010, the Company entered into a revolving credit facility with Société Générale under which the Company may borrow up to €75.0 million from Société Générale. On May 25, 2011 the Company entered into an amendment of its revolving credit facility with Société Générale which extended the maturity date to November 23, 2011. Under the amended facility the Company may borrow up to €75.0 million of which amounts borrowed may be repaid and reborrowed until October 23, 2011. The Company is required to pay interest on outstanding borrowings of (1) EURIBOR plus 3.25% per annum for advances outstanding before May 26, 2011, and (2) EURIBOR plus 2.70% for advances outstanding on May 26, 2011 or thereafter; a front-end fee of 0.50% on the available borrowing; and a commitment fee of 1% per annum on funds available for borrowing and not borrowed.

As of both July 3, 2011 and January 2, 2011, an aggregate amount of €75.0 million, or approximately $108.6 million and $98.0 million, respectively, based on the exchange rates as of those dates, remain outstanding under the revolving credit facility which is classified as "Short-term debt" in the Condensed Consolidated Balance Sheets.

April 2010 Letter of Credit Facility with Deutsche Bank AG New York Branch ("Deutsche Bank")

In fiscal 2010, the Company and certain subsidiaries of the Company entered into a letter of credit facility with Deutsche Bank, as issuing bank and as administrative agent, and certain financial institutions. The letter of credit facility provides for the issuance, upon request by the Company, of letters of credit by the issuing bank in order to support obligations of the Company. On May 27, 2011, the Company received an additional $25.0 million commitment from a financial institution under the Deutsche Bank letter of credit facility, which increased the aggregate amount of letters of credit that may be issued under the facility from $375.0 million to $400.0 million.

As of July 3, 2011, letters of credit issued under the letter of credit facility totaled $378.1 million and were collateralized by short-term and long-term restricted cash of $92.2 million and $108.3 million, respectively, on the Condensed Consolidated Balance Sheet. As of January 2, 2011, letters of credit issued under the letter of credit facility totaled $326.9 million and were collateralized by short-term and long-term restricted cash of $55.7 million and $118.3 million, respectively, on the Condensed Consolidated Balance Sheet.

On August 9, 2011, the Company terminated its April 2010 letter of credit facility agreement with Deutsche Bank subsequent to the establishment of the August 2011 letter of credit facility agreement as described below. All outstanding letters of credit under the April 2010 letter of credit facility were transferred to the August 2011 letter of credit facility and $197.8 million in collateral as of August 9, 2011 was released to the Company.

August 2011 Letter of Credit Facility with Deutsche Bank

On August 9, 2011, the Company entered into a letter of credit facility agreement with Deutsche Bank, as issuing bank and as administrative agent, and certain financial institutions. Payment of obligations under the letter of credit facility is guaranteed by Total S.A. pursuant to the Credit Support Agreement. The letter of credit facility provides for the issuance, upon request by the Company, of letters of credit by the issuing banks thereunder in order to support certain obligations of the Company, in an aggregate amount not to exceed (a) $645.0 million for the period from August 9, 2011 through December 31, 2011; (b) $725.0 million for the period from January 1, 2012 through December 31, 2012; and (c) $771.0 million for the period from January 1, 2013 through December 31, 2013. Aggregate letter of credit amounts may be increased upon the agreement of the parties but may not exceed (i) $878.0 million for the period from January 1, 2014 through December 31, 2014; (ii) $936.0 million for the period from January 1, 2015 through December 31, 2015; and (iii) $1.0 billion for the period from January 1, 2016 through June 28, 2016.

Each letter of credit issued under the letter of credit facility must have an expiration date no later than the second anniversary of the issuance of that letter of credit, provided that up to 15% of the outstanding value the letters of credit may have an expiration date of between two and three years from the date of issuance.

The letter of credit facility includes representations, covenants, and events of default customary for financing transactions of this type. The letter of credit facility does not have a requirement for establishing a collateral account or any

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other security arrangements with Deutsche Bank or otherwise.

October 2010 Collateralized Revolving Credit Facility with Union Bank

In fiscal 2010, the Company entered into a revolving credit facility with Union Bank under which the Company was able to borrow up to $70.0 million from Union Bank until October 28, 2011. The amount available for borrowing under the revolving credit facility was further capped at 30% of the market value of the Company's holding of 19.4 million shares of common stock of Woongjin Energy which were pledged as security under the facility. The Company repaid $70.0 million of outstanding borrowings plus fees in the second quarter of fiscal 2011. On June 20, 2011, the Company terminated the facility and the pledge on all shares of Woongjin Energy held by the Company.

July 2011 Uncollateralized Revolving Credit Facility with Union Bank

On July 18, 2011, the Company entered into a Credit Agreement with Union Bank under which the Company may borrow up to $50.0 million from Union Bank until October 28, 2011. Amounts borrowed may be repaid and reborrowed until October 28, 2011. All outstanding amounts under the facility are due and payable on October 31, 2011.
 
The Company is required to pay interest on outstanding borrowings of, at the Company's option, (1) LIBOR plus 2.75% or (2) 1.75% plus a base rate equal to the higher of (a) the federal funds rate plus 0.50%, or (b) Union Bank's reference rate as announced from time to time; a front-end fee of 0.15% on the total amount available for borrowing; and a commitment fee of 0.50% per annum, calculated on a daily basis, on funds available for borrowing and not borrowed. 
 
The obligations of the Company under the revolving credit facility are guaranteed by its subsidiaries SunPower North America, LLC and SunPower Corporation, Systems. The revolving credit facility includes representations, covenants, and events of default customary for financing transactions of this type. The revolving credit facility will be terminated, and amounts due thereunder must be prepaid, upon the closing of any new domestic credit facility in favor of the Company or any of its subsidiaries.

Other Debt and Credit Sources

There has been no significant change in the Company's remaining debt balance, composition or terms since the end of the most recently completed fiscal year end other than those described above. Additional details regarding the Company's debt arrangements may be referenced from the Company's annual consolidated financial statements and notes thereto for the year ended January 2, 2011 included in the fiscal 2010 Form 10-K and its Forms 8-K subsequently filed with the SEC.

Note 11. COMPREHENSIVE INCOME (LOSS)

The components of comprehensive income (loss) are as follows:
 
 
As of
 (In thousands)
 
July 3, 2011
 
January 2, 2011
Accumulated other comprehensive income (loss):
 
 

 
 

Cumulative translation adjustment
 
$
(3,905
)
 
$
(2,761
)
Net unrealized gain (loss) on derivatives
 
(30,348
)
 
10,647

Deferred taxes
 
3,488

 
(4,246
)
 
 
$
(30,765
)
 
$
3,640


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Index

 
 
Three Months Ended
 
Six Months Ended
(In thousands)
 
July 3, 2011
 
July 4, 2010
 
July 3, 2011
 
July 4, 2010
Net income (loss)
 
$
(147,872
)
 
$
(6,216
)
 
$
(149,993
)
 
$
6,357

Components of comprehensive income (loss):
 

 

 

 

Translation adjustment
 
(954
)
 
1,563

 
(1,144
)
 
1,734

Net unrealized gain (loss) on derivatives (Note 12)
 
54

 
36,216

 
(40,995
)
 
62,279

Unrealized loss on investments
 
(355
)
 

 

 

Income taxes
 
(8
)
 
(4,248
)
 
7,734

 
(7,276
)
Net change in accumulated other comprehensive income (loss)
 
(1,263
)
 
33,531

 
(34,405
)
 
56,737

Total comprehensive income (loss)
 
$
(149,135
)
 
$
27,315