SECURITIES AND EXCHANGE COMMISSION

FORMForm 10-Q

Commission file number 0-26946

INTEVAC, INC.Intevac, Inc.

3560 Bassett Street

Registrant’s telephone number, including area code:

     Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.     Yes xþ          No o

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

APPLICABLE ONLY TO CORPORATE ISSUERS:

     On March 30, 2002, 12,060,00329, 2003, 12,182,100 shares of the Registrant’s Common Stock, no par value, were outstanding.

INTEVAC, INC.

INDEX

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PART I.     FINANCIAL INFORMATION

INTEVAC, INC.

See accompanying notes.

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INTEVAC, INC.

See accompanying notes.

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INTEVAC, INC.

See accompanying notes.

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INTEVAC, INC.

1.     Business Activities and Basis of Presentation

     Intevac, Inc.’s businesses are the design, manufacture and sale of complex capital equipment used to manufacture products such as thin-film disks and flat panel displays and thin-film disks (“Equipment”(the “Equipment Products Division”) and, the development of highly sensitive electro-optical devices and systems (“Photonics”for the US military and its allies (the “Photonics Technology Division”) and the design, manufacture and sale of commercial products based on technology developed by the Photonics Technology Division (the “Commercial Imaging Division”).

     Systems sold by the Equipment Products Division are typically used to deposit highly engineered thin-films of material on a substrate, or to modify the characteristics and properties of thin-films already deposited on a substrate. Systems manufactured by the Equipment DivisionThese systems generally utilize proprietary manufacturing techniques and processes, and operate under high levels of vacuum. The systemsvacuum, are designed for high-volume continuous operation and use precision robotics, computerized controls and complex software programs to fully automate and control the production process. Products manufactured with these systems include cell phone color displays, automotive displays, computer monitors and disks for computer hard disk drives. The Equipment Division has also designed ultra high vacuum automated equipmentdrives and flat panel displays for Photonics to be used for the future manufacture of low-cost low-light-level cameras.use in consumer electronics products.

     The Photonics Technology Division (“PTD”) is developing electro-optical devicessensors, cameras and systems that permit highly sensitive detection of photons in the visible and short wave infrared portions of the spectrum. This development work is aimed at creating new products for both military and industrial applications. Products include Laser Illuminated Viewing and Ranging (“LIVAR®”) systems for positive target identification at long range and low-cost low-light-levelextreme low light level cameras for use in security and military applications and photodiodesapplications.

     The Commercial Imaging Division was formed in July 2002 with the charter of developing products based on PTD technology for use in high-speed fiber optic systems.sale to commercial markets.

     The financial information at March 30, 200229, 2003 and for the three-month periods ended March 30, 200229, 2003 and March 31, 200130, 2002 is unaudited, but includes all adjustments (consisting only of normal recurring accruals) that the CompanyIntevac considers necessary for a fair presentation of the financial information set forth herein, in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information, the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, it does not include all of the information and footnotes required by U.S. GAAP for annual financial statements. For further information, refer to the Consolidated Financial Statements and footnotes thereto included in the Company’sIntevac’s Annual Report on Form 10-K for the fiscal year ended December 31, 2001.2002.

     The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and reported amounts of revenue and expenses during the reporting period. Actual results inevitably will differ from those estimates, and such differences may be material to the financial statements.

     The CompanyOn January 1, 2003, Intevac changed its revenue recognition policy for system orders received after December 31, 2002.

     Intevac evaluates the collectibility of trade receivables on an ongoing basis and provides reserves against potential losses when appropriate.

     The results for the three-month period ended March 30, 200229, 2003 are not considered indicative of the results to be expected for any future period or for the entire year.

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

2.     Inventories

     The components of inventory consist of the following:

     Finished goods inventory consists solely of completed units at customer sites that are undergoing installation and acceptance testing.

     Inventory reserves included in the above numbers were $9.9 million and $9.6 million at March 29, 2003 and December 31, 2002, respectively. Each quarter, we analyze our inventory (raw materials, WIP and finished goods) against the forecast demand for the next 12 months. Parts with no forecast requirements in that period are considered excess and inventory provisions are established to write those parts down to zero net book value. During this process, some inventory is identified as having no future use or value to us and is disposed of against the reserves. During the three months ended March 29, 2003, $0.4 million was added to inventory reserves based on the quarterly analysis and $45,000 of inventory was disposed of and charged to the reserve.

3.     Employee Stock Plans

     At March 29, 2003, Intevac had two stock-based employee compensation plans. We account for those plans under the recognition and measurement principles of APB Opinion No. 25, “Accounting for Stock Issued to Employees”, and related Interpretations. No stock-based employee compensation cost is reflected in net income, as all options granted under those plans had an exercise price equal to the market value of the underlying common stock on the date of grant. Intevac does not have any plans to adopt the fair value requirements of SFAS 123 for reporting purposes.

The following table illustrates the effects on net income and earnings per share if Intevac had applied the fair value-recognition provisions of FASB Statement No. 123, “Accounting for Stock-Based Compensation”, to stock-based employee compensation.

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

4.     Warranty

The following table displays the activity in the warranty provision account for the three month periods ending March 29, 2003 and March 30, 2002:

5.     Net Income (Loss) Per Share

     The following table sets forth the computation of basic and diluted earnings per share:

(1)	Diluted EPS for the three-month periods ended March 30, 200229, 2003 and March 31, 200130, 2002 exclude “as converted” treatment of the convertible notes as their inclusion would be anti-dilutive. The number of “as converted” shares excluded for the three-month periods ended March 29, 2003 and March 30, 2002 was 4,269,983 and March 31, 2001 was 1,820,364, and 1,999,758, respectively.
(2)	Diluted EPS for the three-month periods ended March 30, 2002 and March 31, 2001 exclude the effectPotentially dilutive securities, consisting of shares issuable upon exercise of employee stock options, are excluded from the calculation of diluted EPS as their inclusioneffect would be anti-dilutive. The weighted average number of employee stock option sharesoptions excluded for the three-month periods ended March 29, 2003 and March 30, 2002 was 1,790,168 and March 31, 2001 was 59,882 and 173,590,1,875,013, respectively.

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

4.6.     Segment Reporting

     Intevac, Inc. has twothree reportable operating segments: Equipment Products, Photonics Technology and Photonics. The Company’sCommercial Imaging. Our Equipment Products Division sells complex capital equipment used in the manufacturing of thin-film disks and flat panel displays and thin-film disks. The Company’sdisplays. Our Photonics Technology Division (“PTD”) is developing devicessensors and systems utilizing electron sourcescameras that permit highly sensitive detection of photons in the visible and infrared portions of the short-wave infrared spectrum. Our Commercial Imaging Division is developing commercial products based on technology developed by PTD.

     Included in corporate activities are general corporate expenses less an allocation of corporate expenses to operating units equal to 3% and 1% of net revenues.revenues for the three months ended March 29, 2003 and March 30, 2002, respectively.

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

5.7.     Income Taxes

     The CompanyFor the three months ended March 29, 2003, Intevac did not accrue a tax benefit due to the inability to realize additional refunds from loss carry-backs. Intevac accrued a $2.2 million tax benefit for the three-month period ended March 30, 2002. This resulted2002, resulting from recent federal tax law changes that allowallowed losses incurred in 2001 and 2002 to be carried back 5 years. The Company paid federal income taxes of approximately $5.1 million for 1996 and $0.9 million for 1997. The Company believes that at least $2.2 million of taxes paid are recoverable based on the loss incurred in 2001 and that additional taxes may also be recoverable, but the amount will not be determined and recorded until the Company files its 2001 federal income tax return either in the second or third quarter of 2002. For the three months ended March 31, 2001, the Company did not accrue a tax benefit due to the inability at that time to realize additional refunds from loss carry-backs. The Company’s $16.5Intevac’s $13.5 million deferred tax asset is fully offset by a $16.5$13.5 million valuation allowance, resulting in a net deferred tax asset of zero at March 30, 2002.29, 2003.

6.8.     Capital Transactions

     During the three-month period ending March 30, 2002,29, 2003, Intevac sold stock to its employees under the Company’sIntevac’s Stock Option and Employee Stock Purchase Plan.Plans. A total of 56,38156,916 shares were issued for which Intevac received $150,000.

9.     Financial Presentation

     Certain prior year amounts in the Company received $144,000.Condensed Consolidated Financial Statements have been reclassified to conform to 2003 presentation.

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Item 2.	Item 2.     Management’s Discussion and Analysis of Financial Condition and Results of Operations

     This Quarterly Report on Form 10-Q contains forward-looking statements which involve risks and uncertainties. Words such as “believes,” “expects,” “anticipates” and the like indicate forward-looking statements. The Company’sThese forward looking statements include comments related to our projected orders, revenue, operating results and cash balances. Intevac’s actual results may differ materially from thosethe results discussed in the forward-looking statements. Factors that might cause suchstatements for a difference include, but are not limited to, the risk factorsvariety of reasons, including those set forth elsewhere in this Quarterly Report on Form 10-Q under “Certain Factors Which May Affect Future Operating Results” and in other documents the Company fileswe file from time to time with the Securities and Exchange Commission, including the Company’sIntevac’s Annual Report on Form 10-K filed in March 2002,2003, Form 10-Q’s and Form 8-K’s.

Critical Accounting Policies and Estimates

     Management’s discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America (“US GAAP”). We review the accounting policies we use in reporting our financial results on a regular basis. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosuresdisclosure of contingent assets and liabilities. On an ongoing basis, we evaluate our estimates, including those related to revenue recognition, accounts receivable, inventories, income taxes, warranty obligations, long-lived assets, contingencies and litigation. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities. Results may differ from these estimates due to actual outcomes being different from those on which we based our assumptions. These estimates and judgments are reviewed by management on an ongoing basis. The Audit Committee and our auditors review significant estimates and judgements at the end of each quarter prior to the public release of our financial results.

     Our significant accounting policies are described in Note 2 to the consolidated financial statements included in Item 8 of the Company’sIntevac’s Annual Report on Form 10-K. We believe the following critical accounting policies affect the more significant judgments and estimates made in the preparation of our consolidated financial statements.

     Revenue Recognition —  — Intevac recognizesWe recognize revenue using the guidance from SEC Staff Accounting Bulletin No. 101 “Revenue Recognition in Financial Statements.” Our policy allows revenue recognition when persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, our price is fixed or determinable, and collectibility is reasonably assured. On January 1, 2003, Intevac changed its revenue recognition policy for system orders received after December 31, 2002.

     Certain of Intevac’s product sales with customer acceptance provisions are accounted for as multiple-element arrangements. If we have previously met defined customer acceptance levels with the specific type of equipment, then Intevac recognizes revenue for the fair market value of the equipment upon shipment and transfer of title and recognizes revenue for the fair market value of installation and acceptance services when those services are completed. For products that have not been demonstrated to meet product specifications prior to shipment, revenue is recognized at customer acceptance. In the event that Intevac’s customer chooses not to complete installation and acceptance, and Intevac’s obligations under the contract to complete installation, acceptance or any other tasks (with the exception of warranty obligations) have been fully discharged, then Intevac recognizes any remainder revenue to the extent that collectibility under the contract is reasonably assured. For contracts with end user customer acceptance provisions established prior to 2003, Intevac has deferred all revenue recognition until completion of installation and customer acceptance. The revenue recognition policy outlined above and implemented for system orders received after December 31, 2002 was adopted to better conform Intevac’s revenue recognition policies to industry accounting practice for companies selling similar equipment. The effect of adopting this policy requires that there be persuasive evidencein years prior to 2003 would have been no change in 2002 revenues, a decrease in 2001 revenues of $1.5 million and an increase of 2000 revenues of

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     Revenues for systems are recognized upon customer acceptance. For large deposition and RTPrapid thermal processing systems shipped through a distributor, revenue is typically recognized after the distributor has accepted the system at Intevac’sour factory and the system has been shipped. For large deposition and RTP systems sold direct to end customers, revenue is recognized after installation and acceptance of the system at the customer site.

     There is a written acceptance and test procedure (“ATP”) for each system, which is specified in the customer purchase order. The ATP includes a detailed set of criteria that are required as a condition of customer acceptance. The ATP is typically conducted over one or more days, during which the system is subjected to a number of tests to validate that the system is performing in a repeatable fashion, reliably and to specification. If material issues or problems are discovered during the ATP process, then they are corrected prior to customer acceptance.

     In the case of a direct end user sale, there are typically two ATP’s performed. The first ATP is performed at Intevac’s factory and must be approved by the customer prior to shipment of the system. The second ATP is performed after the system has been installed at the customer’s factory, with the customer in attendance. Once the second ATP is approved by the customer, and the customer has accepted the system in writing and agreed to make any remaining payments due on the system, then the system is recognized as a sale and revenue for the entire system is recorded.

     In the case of a shipment through a distributor, an ATP is performed at Intevac’s factory. Upon completion of the ATP, and after the distributor has accepted the system in writing and agreed to make any remaining payments due on the system, then the system is shipped and revenue for the entire system is recorded. The distributor then completes customer factory installation and the ATP at its cost. When the Company believeswe believe that there may be higher than normal end-user installation and acceptance issues for systems shipped through a distributor, such as when a major new version of a product is delivered for the first unittime, then the acceptance and revenue recognition process follows the model described above for a direct end user sale. The primary difference in this case is that revenue recognition is dependent on Intevac obtaining acceptance of the product by both our customer (the distributor) and our distributor’s customer (the end user).

     During the period that a system is undergoing customer acceptance (either distributor or end user), the value of the system remains in inventory, and any payments received, or amounts invoiced, related to the system are included in customer advances. When revenue is recognized on the system, the inventory is charged to cost of net revenues, the customer advance is liquidated and the customer is billed for the unpaid balance of the system revenue.

As of March 29, 2003 Intevac reported $3.2 million of finished goods (seeInventories), which consisted of a newly designedFPD silicon deposition system is delivered, thenundergoing final acceptance testing at the Company defers revenue recognition until the distributor’s customer has also accepted the system.end user’s facility.

     Revenues for systems without installation and acceptance provisions, technology upgrades, spare parts, consumableconsumables and prototype products built by the Photonics DivisionPTD are generally recognized upon shipment. Service and maintenance contract revenue, which to date has been insignificant, is recognized ratably over applicable contract periods or as the service is performed.

     The Company performsOur shipping terms are customarily FOB shipping point. For systems sold directly to the end user, our obligations remaining after shipment typically include installation, end user factory acceptance and warranty. For systems sold to distributors, typically the distributor assumes responsibility for installation and end user customer acceptance. In some cases, the distributor will assume some or all of the warranty liability. For products other than systems and system upgrades, warranty is the only obligation we have after shipment.

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     We perform best efforts research and development work under various government-sponsored research contracts. Revenue on these contracts is recognized in accordance with contract terms, typically as costs are incurred. Typically, for each contract, the Company commitswe commit to perform certain research and development efforts up to an agreed upon amount. In connection with these contracts, the Company receiveswe receive funding on an incremental basis up to a ceiling. Some of these contracts are cost sharing in nature, where Intevac is reimbursed for a portion of the total costs expended. Revenue on these contracts is recognized in accordance with contract terms, typically as costs are incurred. In addition, the Company has,we have, from time to time, negotiated with a third party to fund a portion of the Company’sour costs in return for a joint interest to the Company’sin our technology rights at the end

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     These contracts are accounted for under ARB No. 43, Chapter 11, Section A, which addresses Cost-Plus-Fixed-Fee Contracts. The contracts are all cost-type, with financial terms that are a mixture of fixed fee, incentive fee, no fee and cost-sharing. The deliverables under each contract range from providing reports to providing prototype hardware. In none of the contracts is there an obligation for either party to continue the program once the funds have been expended. The efforts can be terminated at any time for convenience, in which case we would be reimbursed for our actual incurred costs, plus fee, if applicable, for the completed effort. We own the entire right, title and interest to each invention discovered under the contract, unless we specifically give up that right. The US Government has a paid-up license to use any invention/intellectual property for government purposes only.

     Inventories —  — Intevac makesWe make provisions for potentially excess and obsolete inventory based on backlog and forecasted demand. However, order backlog is subject to revisions, cancellations, and rescheduling. Actual demand will inevitably differ from forecasted demand due to a number of factors. For example, the thin-film disk industry has suffered from over-capacity and poor financial results, which has led to industry consolidation. Consolidation can lead to the availability of used equipment that competes at very low prices with the Company’sour products. Financial stress and consolidation in the Company’sour customer base can also lead to the cancellation of orders for products after the Company haswe have incurred substantial costs related to those orders. Such problems have resulted, and may continue to result, in excess and obsolete inventory, and the provision of related reserves.

     Warranty —  — The Company’sIntevac’s standard warranty is twelve months from customer acceptance. During this warranty period any necessary non-consumable parts are supplied and installed. A provision for the estimated warranty cost is recorded at the time revenue is recognized.

Valuation of long-lived and intangible assets and goodwill —We assess the impairment of identifiable intangibles, long-lived assets and goodwill annually and whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Factors we consider important which could trigger an impairment review include the following:

	•	significant under-performance relative to expected historical or projected future operating results;
	•	significant changes in the manner of our use of the acquired assets or the strategy for our overall business;
	•	significant negative industry or economic trends;
	•	significant decline in our stock price for a sustained period; and
	•	our market capitalization relative to net book value.

     When we determine that the carrying value of long-lived assets, intangibles or goodwill may not be recoverable based upon the existence of one or more of the above indicators of impairment, we measure any impairment based on a projected discounted cash flow method using a discount rate determined by our management to be commensurate with the risk inherent in our current business model.

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Results of Operations

  Three Months Ended March 30, 2002 and March 31, 2001

     Net revenues.Net revenues consist primarily of sales of equipment used to manufacture flat panel displays, equipment used to manufacture thin-film disks, related equipment and system components, and contract research and development related to the development of electro-optical devices and systems. Net revenues decreasedincreased by 33%80% to $12.0 million for the three months ended March 29, 2003 from $6.7 million for the three months ended March 30, 2002 from $10.02002.

     Equipment Product Division (“EPD”) revenues increased to $10.4 million for the three months ended March 31, 2001. Net revenues29, 2003 from Equipment decreased to $4.9 million for the three months ended March 30, 2002. The increase in EPD revenue was the result of customer acceptance of $7.3 million of upgrades to flat panel display manufacturing systems that were shipped in early 2002 and to higher revenue from $7.9disk equipment technology upgrades and spare parts, partially offset by a decrease in sales of disk manufacturing systems. Photonics Technology Division (“PTD”) net revenues decreased to $1.6 million for the three months ended March 31, 2001. The decrease in Equipment revenue was the result of decreased shipments of flat panel manufacturing equipment and of disk equipment spare parts. Equipment revenues included the sale of a MDP 200 modular add-on system that was integrated with a previously delivered MDP 250 disk manufacturing system. Net revenues29, 2003 from Photonics decreased to $1.7 million for the three months ended March 30, 20022002. The decrease in PTD net revenues was the result of lower revenues from $2.1prototype products.

     International sales increased by 308% to $9.9 million for the three months ended March 31, 2001. The decrease in Photonics net revenues was the result of lower research and development contract revenues in the three-month period ended March 30, 2002, partially offset by revenue29, 2003 from the sale of two Model 120 LIVAR Cameras.

     International sales decreased by 65% to $2.4 million for the three months ended March 30, 20022002. The increase in international sales was due to the increase in net revenues from $6.9 millionflat panel manufacturing equipment referred to above. International sales constituted 83% of net revenues for the three months ended March 31, 2001. The decrease in international sales was due to a reduction in net revenues from disk manufacturing equipment29, 2003 and from flat panel manufacturing equipment. International sales constituted 37% of net revenues for the three months ended March 30, 2002 and 69% of net revenues for the three months ended March 31, 2001.2002.

     Backlog.The Company’sIntevac’s backlog of orders for its products was $12.2 million at March 29, 2003 and $27.3 million at March 30, 2002 and $46.0 million at March 31, 2001.2002. The reduction was primarily due to a lower backlogrevenue recognition of the flat panel deposition systems, five of which were taken to revenuesystem upgrades previously shipped, a reduction in the fourth quarternumber of 2001. The Company includesdisk manufacturing systems on order and the sale of the rapid thermal processing product line in November 2002. We include in backlog the value of purchase orders for itsour products that have scheduled delivery dates.

 ��     Gross margin.Cost of net revenues consists primarily of purchased materials, fabrication, assembly, test and installation labor and overhead, customer-specific engineering costs, warranty costs, royalties, provisions for inventory reserves, scrap and costs attributable to contract research and development. Gross margin decreased to 9.7% for the three months ended March 29, 2003 from 14.4% for the three months ended March 30, 2002 from 34.0%2002.

     Gross margin in EPD decreased to 8.3% for the three monthsthree-month period ended March 31, 2001.

     Equipment gross margins decreased to29, 2003 from 15.5% for the three-month period ended March 30, 2002 from 45.0% for the three-month period ended March 31, 2001. Equipment margins decreased2002. The decrease in EPD was primarily due to the flat panel system upgrade revenue contributing minimal gross margin and to the establishment of a reduction$0.3 million cost to market reserve on the remaining MDP 250B disk manufacturing system in shipments of technology upgrades and high initial costs to complete Intevac’s first MDP 200 system. Photonicsinventory. PTD gross margins increased to 18.7% during the three months ended March 29, 2003 from 11.3% during the three months ended March 30, 2002 from (8.1%) during the three months ended March 31, 2001. Photonics2002. PTD gross margins in the first quarter of 2002

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     Research and development.Research and development expense consists primarily of prototype materials, salaries and related costs of employees engaged in ongoing research, design and development activities for disk manufacturing equipment, flat panel manufacturing equipment, disk manufacturing equipment,imaging products and research by the Photonics Division. Companycompany funded research performed by PTD. Research and development expense decreased to $2.6 million for the three months ended March 29, 2003 from $3.1 million for the three months ended March 30, 2002, from $3.5 million for the three months ended March 31, 2001, representing 46.9%21.9% and 34.9%46.9%, respectively, of net revenue. This decrease was primarily the result of reduced spending for development of flat panel manufacturing equipment, partially offset by increased spending for photonics.the development of commercial imaging products.

     Research and development expenses do not include costs of $1.3$1.1 million and $2.1$1.3 million, respectively, for the three-month periods ended March 30, 200229, 2003 and March 31, 200130, 2002 related to contract research and development performed by the Company’s Photonics business.PTD. These expenses are included in cost of net revenues.

Research and

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     Selling, general and administrative.Selling, general and administrative expense consists primarily of selling, marketing, customer support, production of customer samples, financial, travel, management, liability insurance, legal and professional services and bad debt expense. Domestic sales and international sales of disk manufacturing products in Singapore, Malaysia and Taiwan are made by the Company’sIntevac’s direct sales force, whereas other international sales of disk manufacturing products and other products are made by distributors and representatives that provide services such as sales, installation, warranty and customer support. The CompanyWe also hashave a subsidiary in Singapore to support customers in Southeast Asia.

     Selling, general and administrative expense wasincreased to $1.9 million for the three months ended March 29, 2003 from $1.7 million for the both the three-month periodsthree months ended March 30, 2002, representing 16.0% and March 31, 2001, representing 25.6% and 16.7%, respectively, of net revenue. The increase was the result of $0.3 million of surplus facility costs being recorded in selling, general and administrative expense and an increase in the cost of director’s and officer’s insurance, partially offset by a reduction in the provision for bad debts.

     Interest expense.Interest expense consists primarily of interest on the Company’sIntevac’s convertible notes. Interest expense wasdecreased to $0.5 million in the three months ended March 29, 2003 from $0.7 million in both of the three-month periodsthree months ended March 30, 2002 and March 31, 2001.2002. The decrease in interest expense was due to a reduction in convertible notes outstanding as a result of the exchange offer completed by Intevac in July 2002.

     Interest income and other, net.Interest income and other, net totaled $0.2($0.1) million and ($1.3)$0.2 million for the three months ended March 29, 2003 and March 30, 2002, respectively. Interest income and March 31, 2001, respectively.other, net in 2003 consisted of $0.2 million of interest and dividend income on investments offset by the establishment of a $0.3 million reserve for the disposition of a fixed asset that is no longer in use. Interest income and other, net in 2002 consisted of $0.2 million of interest and dividend income on investments. Interest income and other, net in 2001 consisted of $0.7 million of interest and dividend income on investments offset by the establishment of a reserve related to the Company’s $2.0 million investment in commercial paper issued by Pacific Gas and Electric Company, which had filed for reorganization under Chapter 11 of the US Bankruptcy Code in early 2001.

     Provision for (benefit from) income taxes.The CompanyFor the three months ended March 29, 2003, Intevac did not accrue a tax benefit due to the inability to realize additional refunds from loss carry-backs. We accrued a $2.2 million tax benefit for the three-month period ended March 30, 2002. This resulted from recent federal tax law changes that allow losses incurred in 2001 and 2002 to be carried back 5 years. The CompanyIntevac paid federal income taxes of approximately $5.1 million for 1996 and $0.9 million for 1997. The Company believes thatOur federal tax returns, and any refunds resulting from them, are subject to audit for 3 years from the date filed. Intevac’s $13.5 million deferred tax asset is fully offset by a $13.5 million valuation allowance, resulting in a net deferred tax asset of zero at least $2.2 million of taxes paid are recoverable based on the loss incurred in 2001 and that additional taxes may also be recoverable, but the amount will not be determined and recorded until the Company files its 2001 federal income tax return either in the second or third quarter of 2002. For the three months ended March 31, 2001, the Company did not accrue a tax benefit due to the inability at that time to realize additional refunds from loss carry-backs.29, 2003.

Liquidity and Capital Resources

     The Company’sIntevac’s operating activities used cash of $3.7$4.7 million during the three months ended March 30, 2002.29, 2003. The cash used was due primarily to the net loss incurred and the semi-annual interest payment on our convertible notes. In the three months ended March 30, 2002, our operating activities used cash of $3.7 million due primarily to the net loss incurred, the semi-annual interest payment on our convertible notes and increases in receivables and inventory, which were partially offset by increased customer advances and depreciation and amortization. In the three

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     The Company’sIntevac’s investing activities used cash of $0.8 million and $0.2 million forin the three months ended March 29, 2003 and March 30, 2002, as a result ofrespectively, for the purchase of fixed assets. In the three months ended March 31, 2001, the Company’s investing activities provided cash of $26.2 million as a result of the net sale of investments. During the three months ended March 31, 2001, the Company converted the majority of its short-term investments into cash or cash equivalents.

     The Company’sIntevac’s financing activities provided cash of $0.2 million and $0.1 million and $0.2 million forin the three-month periods ended March 30, 200229, 2003 and March 31, 2001,30, 2002, respectively, as the result of the sale of the Company’sIntevac stock to itsour employees through the Company’sIntevac’s employee benefit plans.

     At March 29, 2003, Intevac had $23.1 million of cash and cash equivalents. Intevac intends to undertake approximately $2 million in capital expenditures during the next 9 months and believes the existing cash and cash equivalent balances will be sufficient to meet its cash requirements for the balance of 2003.

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     Intevac has incurred operating losses each year since 1998 and the Company cannot predict with certainty when it will return to operating profitability. We anticipate generating positive2003 operating results and cash flow duringare contingent upon a number of factors, but in particular on the 2002 fiscal year, but thatreceipt by the Equipment Products Division of large multi-system disk manufacturing equipment orders. While Intevac is dependent on continued growthforecasting the receipt of these orders in the business and our continued ability to obtain advances from our customers. Additionally, as of March 30, 2002 we had $37.5 million of outstanding Convertible Notes, which mature in March 2004. We do2003, it is not currently have the funds available to repay the debt and there can be no assurance that the Company will be able to restructureaccurately predict when, or if, its Equipment Products Division will actually receive these orders, or the debt or secure additional equity and/or debt financingtiming of the resulting revenue. Without the receipt of substantial equipment orders deliverable for revenue during 2003, Intevac is likely to redeem the Convertible Notes on terms favorable to the Companyincur an operating loss and consume a significant portion of its shareholders, if the Convertible Notes are not converted by their holders into Intevac common stock prior to their maturity.cash during 2003.

Certain Factors Which May Affect Future Operating Results

     $37.5 Million of convertible notes are outstandingRevenue generated by our businesses during 2003 may not provide sufficient gross profit to cover operating and will mature in 2004.interest expenses.

     In connection with the sale of $57.5 million of its 6 1/2% Convertible Subordinated Notes Due 2004 (the “Convertible Notes”) in February 1997, Intevac incurred a substantialA significant increase in the ratiosales of long-term debt to total capitalization (shareholders’ equity plus long-term debt). At each noteholder’s option,disk manufacturing equipment and/or deposition equipment for the Convertible Notes maymanufacture of flat panel displays and/or photonics-based revenues will be exchanged, prior to maturity, into Intevac common shares at a price of $20.625 per share, which is substantially above current market price. During 2001 and 1999 Intevac spent a total of $11.9 million to repurchase $20.0 million of the Convertible Notes. The $37.5 million of the Convertible Notes that remain outstanding as of March 30, 2002 commitnecessary for Intevac to substantial principalbe able to generate sufficient gross profit to offset expected operating and net interest obligations that are significantly in excessexpenses during 2003. The majority of our revenues and gross profit have historically been derived from sales of disk manufacturing equipment and deposition and rapid thermal processing equipment for the Company’s $14.5 million cash balance at March 30, 2002. Intevac may, from time to time, repurchase and retire additional Convertible Notes prior to their maturity date.

The degree to which Intevac is leveraged couldmanufacture of flat panel displays. Our sales of disk manufacturing equipment have an adverse effect on Intevac’s ability to obtain additional financing for working capital, acquisitions or other purposes, and could make it more vulnerable to industry downturns and competitive pressures. Intevac’s ability to meet its debt service obligations will be dependent on Intevac’s future performance, which will be subject to financial, business and other factors affectingbeen severely depressed since the operationsmiddle of Intevac, many of which are beyond its control. In the event1998. While we believe that the Company’s noteholders do not choosedisk manufacturing industry will need to exchange their Convertible Notes for Intevac common stock priormake substantial investments to upgrade its productive capacity, the Convertible Notes’ 2004 maturity date, the Company will be required to repay the Convertible Notes at maturity. Iftiming of this investment is the case, thenuncertain and there can be no assurance that it will happen, or that we will be selected to provide these upgrades. We sold our rapid thermal processing product line to Photon Dynamics in November 2002, a product line which accounted for $7.1 million of our net revenues during 2002. Additionally, other than for products that are already shipped and undergoing installation and acceptance testing, we have no current backlog of orders for deposition products for the Company willmanufacture of flat panel displays. PTD has yet to earn an annual profit. Failure to generate sufficient net revenues and gross profit in 2003 to offset operating and interest expenses would have generated sufficient cashan adverse effect on our business, net worth and cash.

We sell our Equipment Products to a small number of large customers. Competition is intense and loss of one of those customers would significantly reduce potential future revenues.

     We experience intense competition in EPD. For example, our disk and flat panel products experience competition worldwide from operations to repay the Convertible Notes without raising additional capital through the salecompetitors including Anelva Corporation, Ulvac Japan, Ltd. and Unaxis Holdings, Ltd., each of additional debt or equity. Additionally, therewhich has sold substantial numbers of systems worldwide. Anelva, Ulvac and Unaxis all have substantially greater financial, technical, marketing, manufacturing and other resources than we do. There can be no assurance that our competitors will not develop enhancements to, or future generations of, competitive products that will offer superior price or performance features or that new competitors will not enter our markets and develop such enhanced products. Accordingly, competition for our customers is intense, and suppliers of equipment may offer substantial pricing concessions and incentives to attract our customers or retain existing customers. The loss of any one of our large customers would significantly reduce potential future revenues.

We may not have the Companyfinancial resources to repurchase our convertible notes if one of the events giving holders the right to require us to repurchase their notes occurs.

     Certain events give holders of our convertible notes, including both our convertible notes due 2004 (“2004 Notes”) and convertible notes due 2009 (“2009 Notes”), the right to require us to repurchase their notes. These events include the termination of trading of our common stock or a transaction that results in a change in control (which includes a person acquiring beneficial ownership of greater than 50% of our shares, a merger or consolidation, the sale of all or substantially all of our assets, or a change in the majority of our directors). In the case of the 2009 Notes only, a distribution to our common stock holders of all the capital stock of a subsidiary that at the time constitutes our Photonics business will also give the holders of the 2009 Notes the right to require us to repurchase their 2009 Notes. If one of these designated events were to occur, we may not have enough funds to pay the repurchase price for all notes for which repurchase is requested. Moreover, any future credit agreements or other debt agreements may prohibit such a repurchase,

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The majority of our future revenue is dependent on new products. If these new products are not successful, then our results of operations will be ableseverely impacted.

     We have invested heavily, and continue to secure additional equity and/or debt financing on terms favorable to the Company and its shareholders, or at all.

     Intevac has invested heavilyinvest, in the development of products that address new markets. The Equipment Division has developed a flexibleproducts. PTD’s LIVAR® target identification and low light level camera technologies are designed to offer significantly improved capability to military customers. EPD’s D-STAR® deposition tool and a rapid thermal processing tool to address growing segments of thefor flat panel display equipment market that aremanufacturing is intended to displace products offered by competing manufacturers. The Photonics Division’s LIVAR target identification systemEPD continues to invest heavily to develop products for the thin-film disk manufacturing industry. CID is developing commercial products based on the technology developed by PTD. These businesses will require substantial further investment in sales and low-cost low-light level camera products are designed to offer significantly improved capability relative tomarketing, in product development and in additional production facilities. There can be no assurance that we will succeed in these activities and generate significant sales of products. Failure of any products currently offered in the marketplace. Additionally, the Photonics Division is entering a new market for the

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     IntevacEPD sells capital equipment to capital intensive industries, which manufacture and sell commodity products such as disk drives and flat panel displays and disk drives.displays. These industries operate with high fixed costs. When demand for these commodity products exceeds capacity, then demand for new capital equipment such as Intevac’sours tends to be amplified. When supply of these commodity products exceeds capacity, thendemand, the demand for new capital equipment such as Intevac’sours tends to be depressed. The cyclical nature of the capital equipment industry means that in some years sales of new systems by the Companyus will be unusually high, and that in other years sales of new systems by the Companyus will be severely depressed. Sales of systems for thin-film disk production have been severely depressed since the middle of 1998, and continue to be depressed. Failure to anticipate or respond quickly to the industry business cycle could have an adverse effect on Intevac’sour business.

Our significant amount of debt could have a negative effect on us and on our security holders.

     We have $1.0 million of convertible notes due in 2004 and $29.6 million of convertible notes due in 2009 outstanding. The aggregate $30.6 million of convertible notes commits us to substantial principal and interest obligations. Our significant amount of debt could harm Intevac and holders of our common stock and convertible notes in many ways, including:

	The Equipment Business is subject•	reducing the funds available to rapid technical change.finance our business operations and for other corporate purposes because a portion of our cash flow from operations must be dedicated to the payment of principal and interest on our debt;
	•	impairing our ability to obtain additional financing for working capital, capital expenditures, acquisitions or general corporate purposes;
	•	placing us at a competitive disadvantage because we are substantially more leveraged than certain of our competitors;
	•	hindering our ability to adjust rapidly to changing market conditions; and
	•	making us more vulnerable financially in the event of a further downturn in general economic conditions or in our business.

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     Our ability to meet our debt service obligations will depend on our future operating performance and cash flow. Our operating performance and cash flow, in part, are subject to business, financial and economic factors beyond our control.

We may undertake significant additional financing transactions in order to maintain sufficient cash to conduct our operations.

     We may need to obtain additional financing to fund our future operations, and we may seek to raise additional funds through a variety of alternative sources, including the sale of additional securities or from other financing arrangements or asset sales. Our board of directors has from time to time considered a number of possible transactions. Such transactions might include:

	•	selling off a portion of our assets to raise additional capital;
	•	undertaking a rights offering to obtain financing from our existing shareholders;
	•	attempting to raise additional equity through public or private offerings;
	•	attempting to raise additional debt financing; or
	•	obtaining a line of credit.

     Intevac’sWe may undertake one or more of these transactions. We do not know whether we will be able to complete any of these transactions on a timely basis, on terms satisfactory to us, or at all. For example, we may not have access to new capital in the public or private markets until our results of operations improve, if at all. In addition, some of these transactions may result in significant dilution to our existing security holders or impairment of their rights. Nonetheless, if we are unable to complete one or more of these transactions, our ability to maintain our ongoing operations, and to pay principal and interest in cash on our outstanding notes when due, may be jeopardized.

Our business is subject to rapid technical change, which requires us to continually develop new products in order to sustain and grow our revenue.

     Our ability to remain competitive requires substantial investments in research and development. The failure to develop, manufacture and market new systems, or to enhance existing systems, willwould have an adverse effect on Intevac’sour business. From time to time, in the past, Intevac haswe have experienced delays in the introduction of, and technical difficulties with, some of itsour systems and enhancements. Intevac’sOur future success in developing and selling equipment will depend upon a variety of factors, including accurate prediction ofour ability to accurately predict future customer requirements, technologytechnological advances, cost of ownership, our introduction of new products on schedule, cost-effective manufacturing and product performance in the field. Intevac’sOur new product decisions and development commitments must anticipate continuously evolving industry requirements significantly in advance of sales. Any failure to accurately predict customer requirements and to develop new generations of products to meet those requirements would have an adverse effect on Intevac’sour business.

Our products are complex, constantly evolving and are often designed and manufactured to individual customer requirements that require additional engineering.

     Intevac’s Equipment Division productsEPD systems have a large number of components and are highly complex. IntevacWe may experience delays and technical and manufacturing difficulties in future introductions or volume production of new systems or enhancements. In addition, some of the systems built by Intevacthat we manufacture must be customized to meet individual customer site or operating requirements. Intevac hasWe have limited manufacturing capacity and engineering resources and may be unable to complete the development, manufacture and shipment of itsthese products, or to meet the required technical specifications for itsthese products, in a timely manner. Such delays could lead to rescheduling of orders in backlog or, in extreme situations, to cancellation of orders. In addition, Intevacwe may incur substantial unanticipated costs early in a product’s life cycle, such as increased engineering, manufacturing, installation and support costs, whichthat we may not be ableunable to be passedpass on to the customer. In some instances, Intevac is dependent we depend

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