ARC International plc - Results for the six months ended 30 June 2004

July 21, 2004 - ARC International plc (LSE: ARK), a world leader in configurable processor cores and application platforms for digital media, consumer and communications devices announces its unaudited financial results for the six months ended 30 June 2004.

Highlights:

• Turnover £6.2 million ($11.3 million) from £5.3million ($8.5 million) in 1H 2003, up 18% in sterling and 33% in dollars.
• Operating costs before exceptionals, amortisation and depreciation £10.3 million: reduced by 26% over 1H’03 (1H 2003: £14.0 million)
• Pre-exceptional net loss £4.1 million: improved 59% over 1H 2003 (1H 2003: £10.0 million)
• Net loss including exceptionals £3.3 million, improved 66% over 1H 2003 (1H 2003: £9.7 million)
• Operating cash outflow £5.2 million: reduced 45% year over year (1H 2003: £9.5 million); year end cash at £36.2 million
• 11 new processor licenses signed, including 5 new licenses for the ARC 600TM core
• Strengthened top management team with 3 new appointments
• Completed sale of peripherals business to TransDimension, Inc. for £3.6 million resulting in a provisional net gain of £1.9 million and initial cash proceeds of £2.5 million in this period

Commenting on the results, Carl Schlachte, President and CEO, said:

“We are encouraged by several significant improvements in ARC’s business in the first half of 2004. Our processor license revenue improved with the addition of 11 new licenses, including 5 for the ARC 600 processor core. Additionally, we had record royalties and shipments of products based on ARC processors.

We have sold our USB business, which reduces our stated restructuring charge and contributes to working capital. Our turnover is up, costs and headcount are down and our pre-exceptional net loss has reduced by 59%, year-on-year. In the second half, our focus will be on completing our restructuring plan and adding new partners and licensees for our recent product offerings.”

CEO’s Statement

Overview

The first half of 2004 has seen a major improvement in ARC’s performance. Revenues in US dollars grew 25% sequentially and 33% year on year. After the impact of currency fluctuations, sequential revenue growth in sterling was 14% and 18% year on year. Royalty income reached a further record level as did overall shipments of ARC processor-based products.

The pre-exceptional net loss for 1H 2004 was significantly reduced to £4.1 million. The steps taken to reduce operating expenses, excluding exceptionals, amortisation and depreciation, within the business delivered a 21% reduction sequentially and 26% over the same period last year. In addition, operating cash outflow was down 45% year on year to £5.2 million.

Across our product areas of processors and peripherals, we won 24 new designs during the first half of the year, including 11 new processor and 13 new peripheral licenses. Given our focus on new processor products, we have been encouraged by the first 5 new licenses closed for the ARC 600 processor core. Additionally, we recently launched the newest processor, the ARC 700 processor core, which is now the lowest silicon area 400 MhZ processor in its class. We are also pleased to have completed sale of our USB business to TransDimension Inc. and look forward to a successful partnership to provide our customers with an integrated USB and processor solution.

Management

There were several management changes during the first half of the year, beginning with the appointment of Carl Schlachte as the new CEO in February. Carl brings a strong background in semiconductor IP, with over 20 years in the industry at companies including ARM and Motorola. Other more recent additions to the management team include the following:

• Andy Jaros (41) – Vice President, North America Sales. Andy has over 15 years of experience in the semiconductor industry. Prior to joining ARC, he was the Director of Strategic Partner Sales for ARM Ltd. Before his key revenue-generating roles at ARM, Andy worked at Motorola in Sales.
• Derek Meyer (44) – Vice President, Marketing. Derek joins ARC with 20 years in semiconductor, embedded systems and software experience, including over 10 years in Semiconductor IP. He was most recently VP of Business Development and Strategy at Ceva and prior to that spent 6 years at MIPS Technologies as VP of Marketing & Sales and later VP of Field Operations.
• Craig Slayter (53) – Vice President, Embedded Software. Craig brings over twenty-five years of experience as a successful high-technology start-up entrepreneur. Prior to joining ARC International, he co-founded oDesk Corporation and was a founding board member and vice president of Sales at Intacct Corporation. Previously, he was CEO of RealChip Communications, a fabless semiconductor company and a senior vice president for Phoenix Technologies.

Strategic Redirection

The company has made significant progress in the strategic redirection of the business announced in February. The cost reductions are on track, as evidenced by the 21% reduction in sequential operating costs, excluding exceptionals, amortisation and depreciation.

Although we had previously announced the closure of our Nashua site with the completion of USB product development, we were able to achieve a much more successful outcome with the sale of the business to TransDimension, Inc. The sale generated a purchase price of £3.6 million ($6.65 million) and net cash proceeds of £2.5 million ($4.6 million) in this period, allowing the company to avoid a large portion of the restructuring charges that would have otherwise resulted from the closure. The recognition of future proceeds of £0.9 million ($1.65 million), which will be receivable through the period to June 2005, has been deferred. The company will use the proceeds to fund the working capital requirements for the second half of the year.

As announced in February, ARC’s strategy is to focus R&D efforts on processor development while partnering for related technology. Progress in this area was marked by the announcement of several new partnership agreements as described below.

Once the remainder of the structural changes have been implemented, ARC’s half-yearly cost structure (excluding depreciation and amortisation) is on track to decrease by 40% from the Q4 2003 run rate of £12.6 million to the £7.6 million range by the end of 2004. Once that cost level has been reached, modest revenue growth should allow the company to reach breakeven.

As a result of the changes announced and the sale of the USB business, the company has taken an exceptional charge of £1.1 million in the first half related to severance, facility and equipment charges. This charge is significantly less than the previous estimate due to the sale of the USB business and favourable restructuring initiatives.

SoC Solutions Business

This business generated 78% of ARC’s revenues in the first half of 2004 through sales of processor, USB and ARC processor-based software products.

The ARC processor lies at the center of the SoC Solutions Business. ARC processors are synthesizable, configurable and extendible, enabling users to fully optimize the architecture for their specific applications. The ARC 600 CPU/DSP is an easy-to-use RISC processor core that enables customers to implement a low power, low cost solution while meeting their performance requirements. At the heart of the ARC 600 is a 32-bit five-stage RISC architecture. By combining RISC and DSP functions within a single core, the ARC 600 can replace a dual processor system and dramatically reduce area and power.

The next generation of ARC’s processor family, the ARC 700, was announced in Nuremberg, Germany on February 17th at the Embedded World trade show. The ARC™ 700 CPU/DSP is a 7 stage 32-bit scalar RISC architecture that is ideally suited for high data rate applications. While capable of high clock rates, the ARC 700 has been carefully crafted to not make large tradeoffs in area for performance. As a result, the ARC 700 is one of the smallest processors in its performance class. We are encouraged by the interest received by both new and existing customers.

Embedded System Software Business

This business segment consists of embedded system software products used to provide the application platform in embedded systems. The system tools along with ARC’s real-time operating system (RTOS), called MQX, is well-accepted by embedded system designers using Motorola and other processors, along with its protocol and security software stacks.

The embedded software business represented 22% of the revenue for the first half of the year. Although the revenue was slightly below expectations, we have made adjustments to the cost structure and appointed a new General Manager with extensive software industry experience to focus on this business segment.

Customers

ARC sold 11 licenses to new and repeat customers during the first half of 2004 including the following:

• Digeo™, - a leading provider of media center software and services, licensed the ARC 600 core and ARC’s MetaWare tools for use in its media center chipset. Digeo’s X-Stream™ Chipset features the industry’s highest level of integration and dramatically cuts cost for media center devices. The chipset combines the functions of over two-dozen chips, resulting in power and space savings as well as increased reliability.
• Tektronix, Inc. (NYSE: TEK), - a leading worldwide provider of test, measurement and monitoring instrumentation equipment, licensed the ARC 600 core, the ARC MQX™ RTOS, MetaWare tools.
• SanDisk Corporation, - the world’s largest supplier of flash storage products, licensed the ARC 600 processor core and MetaWare development tools for use in their next generation of flash storage products. SanDisk designs, manufactures and markets digital imaging and audio storage products using its patented high density flash memory and controller technology. These products are sold under the SanDisk label and by OEMs for use in products ranging from portable music players and digital cameras to smart phones and handheld computers.

Partnerships

ARC’s strategic shift in focus, as announced in February, included an emphasis on partnering with external companies who provide additional components for SoC designs in those same markets. As evidence of progress on this shift, ARC announced a number of new partnerships:

• GreenHills - a recognized market leader in embedded software development tools and royalty-free real-time operating systems (RTOS). Through this partnership with ARC, Green Hills Software, Inc. will retarget its MULTI® Integrated Development Environment (IDE), debug and emulation tools to support ARC’s configurable processors, including the ARCtangent™-A4, the ARC 600 and ARC 700 processors.
• On2 Technologies, Inc - a leading supplier of video compression software. Through this relationship, On2 will port their VP6 video codec to the ARC processor core. VP6 is On2’s latest video compression software and it is used on PCs, set-top boxes, games and wireless consumer electronics products.
• Emulation and Verification Engineering (EVE) - offers innovative intellectual property (IP) and hardware-assisted verification solutions and services. EVE will integrate ARC’s MetaWare debugger into ZeBu, its verification system. The resulting verification system will allow customers to download ARC IP into their FPGA-based hardware development system and achieve fast simulation times and efficient system debug.

Outlook

We are encouraged by the results we achieved in the first half of the year. Our processor business grew both in new licenses and in royalties from products shipping for previous license sales. The sale of the USB business will allow the company to fund working capital from the sale rather than the current cash balance. Cost reductions are on track, and when combined with the revenue growth achieved, enabled measurable progress in closing the gap towards profitability.

In the second half, our focus will be on completing our restructuring plan and adding new partners and licensees for our recent product offerings.

Financial Review

Six months ended 30 June 2004

Turnover

Total turnover at £6.2 million was up 33% at constant exchange rates and up 18% from the same period in the previous year with currency impact (2003: £5.3 million). License income was £3.8 million (2003: £3.8 million). Maintenance and service income was £0.9 million (2003: £1.0 million) and royalty income was £1.5 million (2003: £0.5 million). 78% of the revenue was generated by SoC products and the remaining 22% by embedded software products. Within the SoC segment, £1.3 million was generated by peripheral products that represent the business sold to TransDimension.

Costs

Cost of sales was £0.9 million (2003: £0.8 million), resulting in a gross margin of 85% (2003: 85%). Total operating expenses (excluding exceptional costs, amortisation of goodwill and depreciation) decreased 26% to £10.3 million (2003: £14.0 million).

Total headcount in the business at 30 June 2004 was 129 employees compared with 205 at 30 June 2003. Research and development costs were down 28% to £4.7 million (2003: £6.5 million), sales and marketing costs were down 45% to £2.6 million (2003: £4.7 million) and general and administrative costs were up 6% to £2.2 million due to one time charges (2003: £2.1 million).

Interest

Interest income decreased 59% to £0.7 million (2003: £1.7 million) due to lower cash balances.

Net loss

The net loss before exceptional items was £4.1 million (2003: £10.0 million). Net loss including exceptional items was £3.3 million (2003: £9.7 million). Exceptional items are comprised of restructuring provision charges of £1.1 million relating to reductions in workforce announced in February 2004 and onerous leases and a provisional net gain of £1.9 million on the sale of the USB business. The provisional net gain represents the initial net cash proceeds received less associated fees and asset transfers. Two additional payments are outstanding including £0.5 million due on 31/12/04 and £0.4 million due on 15/6/05. Both payments will be recognised as and when they fall due.

Cash flow and balance sheet

The net cash outflow from operations was £5.2 million (2003: £9.5 million). Capital expenditure was £0.4 million (2003: £1.5 million). Net assets at 30 June 2004 were £37.3 million (30 June 2003: £55.5 million), including net funds £36.2 million (30 June 2003: £44.9 million).

Dividend

No interim dividend payment will be made in respect of the six months ended 30 June 2004.

About ARC
ARC International is a world leader in low-power, high-performance 32-bit RISC/DSP usercustomizable processor cores, real-time operating systems and development tools for embedded system design. ARC's configurable, extendible cores assist customers in their rapid development of next generation wireless, networking and consumer electronics systems, resulting in exceptionally competitive system-on-chip products.

ARC International maintains a worldwide presence with corporate offices in Elstree, UK and San Jose, California, USA. The Company has research and development offices located in England and the United States. For more information please visit the ARC website at: www.ARC.com. ARC International is listed on the London Stock Exchange as ARC International plc (LSE:ARK).

Statements made in this press release that are not historical facts include forward-looking statements that involve risks and uncertainties. Important factors that could cause actual results to differ from those indicated by such forward-looking statements include, among others, market acceptance of the ARC technology; fluctuations in and unpredictability of the Company’s quarterly results; general economic and business conditions; regulatory policies adopted by governmental authorities; assumptions regarding the Company’s future business strategy; changes in technology; competition; ability to attract and retain qualified personnel; risks associated with the Company’s international operations; and other uncertainties that are discussed in the “Investment Considerations” section of the Company’s listing particulars dated 28 September 2000 filed with the United Kingdom Listing Authority and the Registrar of Companies in England and Wales. The Company disclaims any intention or obligation to update any forward-looking statements as a result of developments occurring after the date such statement was first made. In view of the many applications in which its Licensees may use the ARC products, ARC cannot warrant that those applications do not infringe the patents of others. ARC strongly encourages its Licensees to become familiar with the policies governing the use and licensing of intellectual property established by any organization whose standards the Licensee wishes to follow, and to review the list most standards-promulgating organizations publish, of entities that claim to have patents relating to the relevant standards or underlying technology.

ARC, the ARC logo, ARCtangent, ARCangel, ARCompact, ARChitect, ARCform, CASSEIA, High C, High C/C++, SeeCode, MetaDeveloper, MetaWare, Precise Solution, Precise/BlazeNet, Precise/EDS, Precise/MFS, Precise/MQX, Precise/MQXsim, Precise/RTCS, Precise/RTCSsim are trademarks of ARC International. All other brands or product names are the property of their respective holders.