Avanti's first-quarter results, released Friday (April 27), showed revenue of $94 million, a 10 percent year-to-year increase and a record quarter for Avanti. But the revenue gain lagged those of Avanti's main competitors and was below analyst expectations.

Also potentially controversial is the revelation of Avanti's $62.5 million investment in Semiconductor Manufacturing International Corp. (SMIC), an internationally-funded company that's building a deep-submicron fabrication facility in Shanghai, China. Avanti has promised a total of $100 million to the venture.

Avanti is no stranger to controversy. A criminal trial of Gerald Hsu, Avanti's president and chief executive officer, and several co-defendants on charges of source code theft is slated to begin on May 14 in Santa Clara, Calif.

The combination of these issues spell trouble for Avanti in the short term, said Bill Frerichs, senior financial analyst at DA Davidson & Co., who has downgraded Avanti's stock from "buy" to "outperform."

In late April, Avanti fired KPMG as one of its two accounting firms and retained Pricewaterhouse Coopers as its sole accountant. In an 8-K form filed with the SEC, Avanti said there were no major disagreements with KPMG. But an amended 8-K filed by KPMG told a different story, and accused Avanti of "reportable conditions" under standards set by the American Institute of Certified Public Accountants.

The letter accused Avanti of "incomplete and missing contract documentation, inadequate internal communications in connection with recording revenue on complex contracts, and the lack of timely and accurate account reconciliations in a number of areas including cash, unbilled accounts receivable, prepaid commissions, and investments in affiliates." For fiscal 2000, the letter cites "the ineffectiveness of internal controls associated with recording revenue, which resulted in numerous errors throughout the year."

Clayton Parker, Avanti's head of corporate marketing, told an analyst conference call on Monday (April 30) that the letter is "nothing unusual."

"That was what I'd consider a pretty standard letter," Parker said. "With any organization of our size, you are always going to find some small issues with an accounting firm."

In a follow-up comment to EE Times, Parker said that Avanti believes it has "remedied all the issues raised in the letter."

KPMG officials declined further comment on the letter. But Brett Trueman, professor of accounting at the University of California at Berkeley, said the language in KPMG's K-8 filing "certainly leads one to want to investigate this matter further, and doing so will be up to the SEC."

In the Monday conference call, president Hsu lauded Avanti's 29th consecutive quarter of growth, and noted that first-quarter after-tax income of $18.5 million represented a 12 percent increase over the first quarter of 2001. "We're very proud that we've achieved this outstanding performance in such a difficult economic climate," he said.

Avanti's 10 percent year-to-year revenue gain, however, lags those of rivals Cadence Design Systems Inc. and Mentor Graphics Corp., which reported year-to-year gains of 34 percent and 20 percent respectively. But both those companies posted a decline in revenue from the fourth quarter of 2000 to the first quarter of 2001, while Avanti had a slight increase, from $93 million to $94 million.

Hsu acknowledged that customers are "more cautious about spending money and buying new licenses," but said this has resulted in more maintenance revenue for Avanti. Hsu refused to offer any revenue guidance for the remainder of 2001, citing concern about shareholder lawsuits.

Garo Toomajarian, an analyst at Dain Rausher Inc., said he doesn't know how to interpret KPMG's claims of accounting irregularities, but he said he is concerned about Avanti's slower than expected revenue growth. Toomajarian also questioned Avanti's refusal to give analysts guidance. "It is very unusual. It raises cause for concern," he said.

Asked about the investment in SMIC, Hsu said Avanti has a large amount of cash and is seeking better returns than a bank can offer. He also said that Avanti will "continue to play a significant and influential role in the semiconductor community." Hsu is on the SMIC board of directors.

Parker said that Avanti expects the criminal trial to last four-to-six months. "I don't expect any interruption in our operations whatsoever," he said. The criminal trial results from a 1995 police search of Avanti headquarters, and has undergone numerous delays. A civil trial, with Cadence as the plaintiff, has also been ongoing for years.

Avanti's stock was down 10 percent to $17.55 on Tuesday (May 1). The stock has been trading in the $16 to $23 range over the past three months.