PART I1 - FINANCIAL INFORMATION

~~MATERION CORPORATION AND SUBSIDIARIES~~



~~Item 1.~~	Item 1. Financial Statements

~~The consolidated financial statements of Materion Corporation and its subsidiaries for the third quarter and nine months ended September 29, 2017 are as follows:~~



	~~Consolidated Statements of Income -~~	2
	~~Third quarter and nine months ended September 29, 2017 and September 30, 2016~~

	~~Consolidated Statements of Comprehensive Income -~~	3
	~~Third quarter and nine months ended September 29, 2017 and September 30, 2016~~

	~~Consolidated Balance Sheets -~~	4
	~~September 29, 2017 and December 31, 2016~~

	~~Consolidated Statements of Cash Flows -~~	5
	~~Nine months ended September 29, 2017 and September 30, 2016~~

Materion Corporation and Subsidiaries

Consolidated Statements of Income

(Unaudited)


	Second Quarter Ended						Six Months Ended
(Thousands, except per share amounts)	June 26, 2020		June 28, 2019		June 26, 2020		June 28, 2019
Net sales	$	271,468	$	297,843	$	549,414	$	599,284
Cost of sales	223,378		228,249		455,749		460,378
Gross margin	48,090		69,594		93,665		138,906
Selling, general, and administrative expense	32,852		39,891		63,596		79,955
Research and development expense	4,502		4,062		8,687		7,802
Goodwill impairment charges	—		—		9,053		—
Held for sale impairment charges	—		—		1,713		—
Restructuring expense	2,387		—		4,551		—
Other—net	(357)		2,891		1,922		7,012
Operating profit	8,706		22,750		4,143		44,137
Other non-operating (income) expense—net	(851)		3,112		(1,795)		3,357
Interest expense—net	1,259		500		1,505		966
Income before income taxes	8,298		19,138		4,433		39,814
Income tax expense	1,620		3,598		858		7,368
Net income	$	6,678	$	15,540	$	3,575	$	32,446
Basic earnings per share:
Net income per share of common stock	$	0.33	$	0.76	$	0.18	$	1.60
Diluted earnings per share:
Net income per share of common stock	$	0.32	$	0.75	$	0.17	$	1.57
Weighted-average number of shares of common stock outstanding:
Basic	20,317		20,383		20,350		20,326
Diluted	20,554		20,666		20,587		20,635

Third Quarter Ended Nine Months Ended
Sept. 29, Sept. 30, Sept. 29, Sept. 30,
(Thousands, except per share amounts) 2017 2016 2017 2016
Net sales $ 294,268
$ 249,619
$ 830,779
$ 734,906
Cost of sales 239,065
198,864
678,023
595,488
Gross margin 55,203
50,755
152,756
139,418
Selling, general, and administrative expense 36,415
34,177
108,118
97,101
Research and development expense 3,429
3,237
10,103
9,860
Other—net 3,801
3,190
9,823
8,997
Operating profit 11,558
10,151
24,712
23,460
Interest expense—net 533
490
1,721
1,417
Income before income taxes 11,025
9,661
22,991
22,043
Income tax expense 1,705
1,616
3,308
3,081
Net income $ 9,320
$ 8,045
$ 19,683
$ 18,962
Basic earnings per share:
Net income per share of common stock $ 0.47
$ 0.40
$ 0.98
$ 0.95
Diluted earnings per share:
Net income per share of common stock $ 0.46
$ 0.40
$ 0.97
$ 0.94
Cash dividends per share $ 0.100
$ 0.095
$ 0.295
$ 0.280
Weighted-average number of shares of common stock outstanding:
Basic 20,040
19,957
20,007
19,996
Diluted 20,411
20,192
20,361
20,209

~~The accompanying~~See notes ~~are an integral part of the~~to these consolidated financial statements.

Materion Corporation and Subsidiaries

Consolidated Statements of Comprehensive Income

(Unaudited)


	Second Quarter Ended						Six Months Ended
	June 26,		June 28,		June 26,		June 28,
(Thousands)	2020		2019		2020		2019
Net income	$	6,678	$	15,540	$	3,575	$	32,446
Other comprehensive (loss) income:
Foreign currency translation adjustment	1,166		339		293		(164)
Derivative and hedging activity, net of tax	347		(1,000)		(507)		(73)
Pension and post-employment benefit adjustment, net of tax	89		13,953		105		14,493
Other comprehensive income (loss)	1,602		13,292		(109)		14,256
Comprehensive income	$	8,280	$	28,832	$	3,466	$	46,702

Third Quarter Ended Nine Months Ended
Sept. 29, Sept. 30, Sept. 29, Sept. 30,
(Thousands) 2017 2016 2017 2016
Net income $ 9,320
$ 8,045
$ 19,683
$ 18,962
Other comprehensive income (loss):
Foreign currency translation adjustment 271
467
1,649
2,918
Derivative and hedging activity, net of tax (120 ) 132
(755 ) (489 )
Pension and post-employment benefit adjustment, net of tax 881
673
2,397
2,923
Other comprehensive income 1,032
1,272
3,291
5,352
Comprehensive income $ 10,352
$ 9,317
$ 22,974
$ 24,314

~~The accompanying~~See notes ~~are an integral part of the~~to these consolidated financial statements.

Materion Corporation and Subsidiaries

Consolidated Balance Sheets


	(Unaudited)
	June 26,		Dec. 31,
(Thousands)	2020		2019
Assets
Current assets
Cash and cash equivalents	$	265,068	$	125,007
Accounts receivable, net	146,527		154,751
Inventories, net	209,847		190,390
Prepaid and other current assets	29,191		21,839
Assets held for sale	5,811		—
Total current assets	656,444		491,987
Deferred income taxes	1,669		1,666
Property, plant, and equipment	924,620		916,965
Less allowances for depreciation, depletion, and amortization	(685,355)		(684,689)
Property, plant, and equipment—net	239,265		232,276
Operating lease, right-of-use assets	48,942		23,413
Intangible assets	5,732		6,380
Other assets	19,169		17,937
Goodwill	70,001		79,011
Total Assets	$	1,041,222	$	852,670
Liabilities and Shareholders’ Equity
Current liabilities
Short-term debt	$	151,731	$	868
Accounts payable	52,093		43,206
Salaries and wages	24,367		41,167
Other liabilities and accrued items	33,429		32,477
Income taxes	1,779		1,342
Unearned revenue	3,003		3,380
Liabilities held for sale	2,126		—
Total current liabilities	268,528		122,440
Other long-term liabilities	10,117		11,560
Operating lease liabilities	44,830		18,091
Finance lease liabilities	16,939		17,424
Retirement and post-employment benefits	32,389		32,466
Unearned income	57,799		32,891
Long-term income taxes	3,508		3,451
Deferred income taxes	2,172		2,410
Long-term debt	—		1,260
Shareholders’ equity
Serial preferred stock (no par value; 5,000 authorized shares, none issued)	—		—
Common stock (no par value; 60,000 authorized shares, issued shares of 27,148 at June 26 and December 31)	256,756		249,674
Retained earnings	588,803		589,888
Common stock in treasury	(198,726)		(186,845)
Accumulated other comprehensive loss	(45,571)		(45,462)
Other equity	3,678		3,422
Total shareholders' equity	604,940		610,677
Total Liabilities and Shareholders’ Equity	$	1,041,222	$	852,670

(Unaudited)
Sept. 29, Dec. 31,
(Thousands) 2017 2016
Assets
Current assets
Cash and cash equivalents $ 22,486
$ 31,464
Accounts receivable 125,417
100,817
Inventories 220,223
200,865
Prepaid and other current assets 19,115
12,138
Total current assets 387,241
345,284
Long-term deferred income taxes 40,332
39,409
Property, plant, and equipment 877,002
861,267
Less allowances for depreciation, depletion, and amortization (632,435 ) (608,636 )
Property, plant, and equipment—net 244,567
252,631
Intangible assets 10,771
11,074
Other assets 6,312
5,950
Goodwill 89,720
86,950
Total Assets $ 778,943
$ 741,298
Liabilities and Shareholders’ Equity
Current liabilities
Short-term debt $ 767
$ 733
Accounts payable 44,678
32,533
Salaries and wages 30,889
29,885
Other liabilities and accrued items 27,950
21,340
Income taxes 2,953
4,781
Unearned revenue 5,859
1,105
Total current liabilities 113,096
90,377
Other long-term liabilities 18,968
17,979
Retirement and post-employment benefits 92,014
91,505
Unearned income 37,991
41,369
Long-term income taxes 1,593
2,100
Deferred income taxes 279
274
Long-term debt 3,010
3,605
Shareholders’ equity
Serial preferred stock —
—
Common stock 219,817
212,702
Retained earnings 531,683
517,903
Common stock in treasury (161,030 ) (154,399 )
Accumulated other comprehensive loss (82,890 ) (86,181 )
Other equity transactions 4,412
4,064
Total shareholders' equity 511,992
494,089
Total Liabilities and Shareholders’ Equity $ 778,943
$ 741,298

~~The accompanying~~

See the notes ~~are an integral part of the~~to these consolidated financial statements.

Materion Corporation and Subsidiaries

Consolidated Statements of Cash Flows

(Unaudited)


	Nine Months Ended							Six Months Ended
	Sept. 29,			Sept. 30,				June 26,		June 28,
(Thousands)	2017			2016			(Thousands)	2020		2019
Cash flows from operating activities:							Cash flows from operating activities:
Net income	$	19,683		$	18,962		Net income	$	3,575	$	32,446
Adjustments to reconcile net income to net cash provided from (used in) operating activities:
Adjustments to reconcile net income to net cash provided by (used in) operating activities:							Adjustments to reconcile net income to net cash provided by (used in) operating activities:
Depreciation, depletion, and amortization	33,444			34,379			Depreciation, depletion, and amortization	23,522		22,607
Amortization of deferred financing costs in interest expense	670			417			Amortization of deferred financing costs in interest expense	364		472
Stock-based compensation expense (non-cash)	4,303			2,880			Stock-based compensation expense (non-cash)	3,966		3,541
(Gain) loss on sale of property, plant, and equipment	207			(601		)
Deferred income tax expense (benefit)	1,073			(676		)
Changes in assets and liabilities net of acquired assets and liabilities:

Deferred income tax (benefit) expense							Deferred income tax (benefit) expense	(234)		4,578
Net pension curtailments and settlements							Net pension curtailments and settlements	94		3,296
Held for sale impairment charges							Held for sale impairment charges	10,766		—
Changes in assets and liabilities:							Changes in assets and liabilities:
Decrease (increase) in accounts receivable	(21,572		)	(19,781		)	Decrease (increase) in accounts receivable	5,331		(11,778)
Decrease (increase) in inventory	(9,953		)	3,294			Decrease (increase) in inventory	(20,585)		1,306
Decrease (increase) in prepaid and other current assets	(6,077		)	(956		)	Decrease (increase) in prepaid and other current assets	(7,264)		(588)
Increase (decrease) in accounts payable and accrued expenses	17,991			(2,207		)	Increase (decrease) in accounts payable and accrued expenses	(7,634)		(18,813)
Increase (decrease) in unearned revenue	4,746			(2,546		)	Increase (decrease) in unearned revenue	(257)		(88)
Increase (decrease) in interest and taxes payable	(2,083		)	898			Increase (decrease) in interest and taxes payable	1,058		(1,130)
Increase (decrease) in long-term liabilities	(5,611		)	(9,320		)
Increase (decrease) in unearned income due to customer prepayments							Increase (decrease) in unearned income due to customer prepayments	26,713		—
Domestic pension plan contributions							Domestic pension plan contributions	—		(3,000)
Other-net	(1,324		)	2,479			Other-net	(2,982)		(2,803)
Net cash provided by operating activities	35,497			27,222			Net cash provided by operating activities	36,433		30,046
Cash flows from investing activities:							Cash flows from investing activities:
Payments for purchase of property, plant, and equipment	(17,759		)	(20,052		)	Payments for purchase of property, plant, and equipment	(32,034)		(13,833)
Payments for mine development	(620		)	(8,934		)	Payments for mine development	—		(1,591)
Payments for acquisition	(16,504		)	—

Proceeds from sale of property, plant, and equipment	53			1,366			Proceeds from sale of property, plant, and equipment	33		15
Net cash used in investing activities	(34,830		)	(27,620		)	Net cash used in investing activities	(32,001)		(15,409)
Cash flows from financing activities:							Cash flows from financing activities:
Proceeds from issuance of short-term debt, net	—			3,777
Proceeds from issuance of long-term debt	55,000			10,000

Short-term debt under revolving credit agreement							Short-term debt under revolving credit agreement	150,000		—
Repayment of long-term debt	(55,608		)	(10,517		)	Repayment of long-term debt	(428)		(397)
Principal payments under capital lease obligations	(644		)	(549		)
Principal payments under finance lease obligations							Principal payments under finance lease obligations	(626)		(599)
Cash dividends paid	(5,903		)	(5,601		)	Cash dividends paid	(4,582)		(4,368)
Deferred financing costs	(300		)	(1,000		)
Common shares withheld for taxes	(2,397		)	(868		)
Repurchase of common stock	(1,086		)	(3,798		)	Repurchase of common stock	(6,766)		(199)
Net cash used in financing activities	(10,938		)	(8,556		)
Payments of withholding taxes for stock-based compensation awards							Payments of withholding taxes for stock-based compensation awards	(2,025)		(4,763)
Net cash provided by (used in) financing activities							Net cash provided by (used in) financing activities	135,573		(10,326)
Effects of exchange rate changes	1,293			524			Effects of exchange rate changes	56		(100)
Net change in cash and cash equivalents	(8,978		)	(8,430		)	Net change in cash and cash equivalents	140,061		4,211
Cash and cash equivalents at beginning of period	31,464			24,236			Cash and cash equivalents at beginning of period	125,007		70,645
Cash and cash equivalents at end of period	$	22,486		$	15,806		Cash and cash equivalents at end of period	$	265,068	$	74,856

~~The accompanying~~

See notes ~~are an integral part of the~~to these consolidated financial statements.

Materion Corporation and Subsidiaries

Consolidated Statements of Shareholders' Equity

(Unaudited)


	Common Shares				Shareholders' Equity
(Thousands, except per share amounts)	Common Shares	Common Shares Held in Treasury	Common Stock		Retained Earnings		Common Stock in Treasury		Accumulated Other Comprehensive Income (Loss)		Other Equity		Total
Balance at March 27, 2020	20,310	(6,838)	$	253,967	$	584,505	$	(198,311)	$	(47,173)	$	3,490	$	596,478
Net income	—	—	—		6,678		—		—		—		6,678
Other comprehensive income (loss)	—	—	—		—		—		1,602		—		1,602
Cash dividends declared ($0.115 per share)	—	—	—		(2,337)		—		—		—		(2,337)
Stock-based compensation activity	11	11	2,775		(43)		(259)		—		—		2,473
Payments of withholding taxes for stock-based compensation awards	—	—	—		—		(10)		—		—		(10)
Directors’ deferred compensation	1	1	14		—		(146)		—		188		56
Balance at June 26, 2020	20,322	(6,826)	$	256,756	$	588,803	$	(198,726)	$	(45,571)	$	3,678	$	604,940

Balance at March 29, 2019	20,354	(6,794)	$	241,480	$	562,941	$	(184,812)	$	(57,270)	$	4,538	$	566,877
Net income	—	—	—		15,540		—		—		—		15,540
Other comprehensive income	—	—	—		—		—		9,996		—		9,996
Pension curtailment	—	—	—		—		—		3,296		—		3,296
Cash dividends declared ($0.11 per share)	—	—	—		(2,243)		—		—		—		(2,243)
Stock-based compensation activity	55	55	4,287		(27)		(2,266)		—		—		1,994
Payments of withholding taxes for stock-based compensation awards	(12)	(12)	—		—		(785)		—		—		(785)
Directors’ deferred compensation	2	2	18		—		639		—		(547)		110
Balance at June 28, 2019	20,399	(6,749)	$	245,785	$	576,211	$	(187,224)	$	(43,978)	$	3,991	$	594,785


	Common Shares				Shareholders' Equity
(Thousands, except per share amounts)	Common Shares	Common Shares Held in Treasury	Common Stock		Retained Earnings		Common Stock in Treasury		Accumulated Other Comprehensive Income (Loss)		Other Equity		Total
Balance at December 31, 2019	20,404	(6,744)	$	249,674	$	589,888	$	(186,845)	$	(45,462)	$	3,422	$	610,677
Net income	—	—	—		3,575		—		—		—		3,575
Other comprehensive income (loss)	—	—	—		—		—		(109)		—		(109)
Cash dividends declared ($0.225 per share)	—	—	—		(4,582)		—		—		—		(4,582)
Stock-based compensation activity	110	110	7,037		(78)		(2,902)		—		—		4,057
Payments of withholding taxes for stock-based compensation awards	(36)	(36)	—		—		(2,025)		—		—		(2,025)
Repurchase of shares	(158)	(158)	—		—		(6,766)		—		—		(6,766)
Directors’ deferred compensation	2	2	45		—		(188)		—		256		113
Balance at June 26, 2020	20,322	(6,826)	$	256,756	$	588,803	$	(198,726)	$	(45,571)	$	3,678	$	604,940

Balance at December 31, 2018	20,242	(6,906)	$	234,704	$	548,374	$	(175,426)	$	(58,234)	$	4,488	$	553,906
Net income	—	—	—		32,446		—		—		—		32,446
Other comprehensive income	—	—	—		—		—		10,960		—		10,960
Pension curtailment	—	—	—		—		—		3,296		—		3,296
Cumulative effect of accounting change	—	—	—		(179)		—		—		—		(179)
Cash dividends declared ($0.215 per share)	—	—	—		(4,368)		—		—		—		(4,368)
Stock-based compensation activity	247	247	11,046		(62)		(7,443)		—		—		3,541
Payments of withholding taxes for stock-based compensation awards	(87)	(87)	—		—		(4,763)		—		—		(4,763)
Repurchase of shares	(5)	(5)	—		—		(199)		—		—		(199)
Directors’ deferred compensation	2	2	35		—		607		—		(497)		145
Balance at June 28, 2019	20,399	(6,749)	$	245,785	$	576,211	$	(187,224)	$	(43,978)	$	3,991	$	594,785

See notes to these consolidated financial statements.

Materion Corporation and Subsidiaries

Notes to Consolidated Financial Statements

(Unaudited)

Note A — Accounting Policies

~~(Dollars in thousands)~~

Basis of Presentation:In management’s opinion, the accompanying consolidated financial statements of Materion Corporation and its subsidiaries (referred to herein as the Company, our, we, or us) contain all of the adjustments necessary to present fairly the financial position, results of operations, and cash flows for the interim periods reported. All adjustments were of a normal and recurring nature. Certain amounts in prior ~~years~~periods have been reclassified to conform to the ~~2017~~2020 consolidated financial statement presentation.

These consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes included in the Company's ~~2016~~2019 Annual Report on Form 10-K. The interim period results are not necessarily indicative of the results to be expected for the full year.

~~Business Combinations:~~ The Company records assets acquired and liabilities assumed at the date of acquisition at their respective fair values. Any intangible assets acquired in a business combination are recognized and reported apart from goodwill. Goodwill represents the excess purchase price over the fair value of the tangible net assets and intangible assets acquired in a business combination. Acquisition-related expenses are recognized separately from the business combination and are expensed as incurred.

The amounts reflected in Note B to the Consolidated Financial Statements are the results of the preliminary purchase price allocation and will be updated upon completion of the final valuation. The Company is required to complete the purchase price allocation within 12 months of the acquisition date. If such completion of the allocation results in a change in the preliminary values, the measurement period adjustment will be recognized in the period in which the adjustment amount is determined.

New Pronouncements Adopted: In ~~March~~June 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) ~~2016-09,~~ ~~Improvements~~2016-13, Financial Instruments - Credit Losses. This ASU requires an entity to ~~Employee Share-Based Payment Accounting, which impacts several aspects~~change its accounting approach in determining impairment of ~~accounting for share-based payment transactions,~~certain financial instruments, including ~~income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows. Under the new~~trade receivables, from an “incurred loss” to a “current expected credit loss” model. The standard income tax benefits and deficiencies are to be recognized as income tax expense or benefit in the income statement, and the tax effects of exercised or vested awards will be treated as discrete items in the reporting period in which they occur. An entity will also recognize excess tax benefits regardless of whether the benefit reduces taxes payable in the reporting period. Excess tax benefits will be classified, along with other income tax cash flows, as an operating activity. In regard to forfeitures, the entity may make an entity-wide accounting policy election to either estimate the number of awards that are expected to vest or account for forfeitures as they occur. The ASU, which is required to be applied on a modified retrospective basis, will be effective for fiscal years, including interim periods within those fiscal years, beginning after December 15, 2016. The Company adopted the new guidance during the first quarter of 2017. An impact of adoption was the recognition of excess tax benefits in Income tax expense rather than Shareholders' equity in 2017. As a result, the Company recognized discrete tax benefits of $129 and $503 in Income tax expense during the third quarter and first nine months of 2017, respectively. The cash flow classification requirements of ASU 2016-09 were applied retrospectively. As a result, for the nine months ended September 30, 2016, cash flows from operating activities increased by $868 with a corresponding decrease to cash flows from financing activities. None of the other provisions in this ASU had a material effect on the Company's consolidated financial statements.

~~New Pronouncements Issued:~~ ~~In August 2017, the FASB issued ASU 2017-12,~~ ~~Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities, which amends and simplifies existing guidance to allow companies to more accurately present the economic effects of risk management activities in the financial statements. This ASU~~ is effective for fiscal years beginning after December 15, ~~2018,~~2019, including interim periods within ~~those periods, with early~~such fiscal years. Early adoption is permitted. The Company ~~is currently evaluating the impact of adopting~~adopted this ~~new~~ guidance ~~on its consolidated financial statements.~~

~~In March 2017, the FASB issued ASU 2017-07,~~ ~~Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost,~~ which requires an employer to report the service cost component of net benefit cost in the same line item as other compensation costs arising from services rendered by pertinent employees during the period. The other components of net benefit cost are required to be presented in the income statement separately from the service cost component and outside a subtotal of income from operations. The amendments also allow only the service cost component to be eligible for capitalization. This ASU is effective for fiscal years beginning after December 15, 2017, including interim periods within

~~Materion Corporation and Subsidiaries~~

~~Notes to Consolidated Financial Statements~~

~~(Unaudited)~~

those periods, with early adoption permitted. The amendments should be applied retrospectively for the presentation of service cost and other components of net benefit cost on the income statement and prospectively for the capitalization of service cost and net periodic postretirement benefits in assets. The Company is currently evaluating the impact of adopting this new guidance on its consolidated financial statements.

~~In February 2016, the FASB issued ASU 2016-02,~~ ~~Leases~~, which eliminates the off-balance-sheet accounting for leases. The new guidance will require lessees to report their operating leases as both an asset and liability on the balance sheet and disclose key information about leasing arrangements. The ASU, which is required to be applied on a modified retrospective basis, will be effective for fiscal years, including interim periods within those fiscal years, beginning after December 15, 2018. The Company is currently evaluating the impact of adopting this new guidance on its consolidated financial statements.

~~In May 2014, the FASB issued ASU 2014-09,~~ ~~Revenue from Contracts with Customers~~, which supersedes previous revenue recognition guidance. The new standard requires that a company recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration the Company expects to receive in exchange for those goods or services. Companies will need to use more judgment and estimates than under the guidance currently in effect, including estimating the amount of variable revenue to recognize over each identified performance obligation. Additional disclosures will be required to help users of financial statements understand the nature, amount, and timing of revenue and cash flows arising from contracts. This ASU is effective beginning in fiscal year 2018 and can be adopted either retrospectively or as a cumulative-effect adjustment as of the date of adoption. To evaluate the impact of adopting this new guidance on the consolidated financial statements, the Company established a cross-functional implementation team to assess its revenue streams against the requirements of this ASU. In addition, the Company is in the process of identifying and implementing changes to its processes and controls to meet the standard's updated reporting and disclosure requirements. The Company plans to adopt the standard as of the first quarter of 2018 using the modified retrospective approach and will record a cumulative-effect adjustment to equity for open contracts as of January 1, ~~2018. The Company continues to update its assessment of~~2020, and the ~~impact of~~adoption did not have a material effect on the ~~standard and related updates to its~~Company’s consolidated financial ~~statements,~~statements. Accounts receivable were net of an allowance for credit losses of $0.7 million and ~~will disclose material impacts, if any.~~$0.4 million at June 26, 2020 and December 31, 2019, respectively. The change in the allowance for credit losses includes expense and net write-offs, none of which is significant.

No other recently issued or effective ASUs had, or are expected to have, a material effect on the Company's results of operations, financial condition, or liquidity.

Note B ~~— Acquisitions~~

On February 28, 2017, the Company acquired the target materials business of the Heraeus Group (HTB), of Hanau, Germany, for $16.5 million. This business manufactures precious and non-precious metal target materials for the architectural and automotive glass, electronic display, photovoltaic, and semiconductor markets at facilities in Germany, Taiwan, and the United States. This business operates within the Advanced Materials segment, and the results of operations are included as of the date of acquisition.

~~Materion Corporation and Subsidiaries~~

~~Notes to Consolidated Financial Statements~~

~~(Unaudited)~~

The Company will make adjustments to the purchase price allocation prior to completion of the measurement period, as necessary. Only items identified as of the acquisition date will be considered for subsequent adjustment. The purchase price allocation for the acquisition is as follows:

(Thousands) Amount
Assets:
Inventories $ 7,221
Prepaid and other current assets 1,107
Long-term deferred income taxes 1,450
Property, plant, and equipment 7,637
Intangible assets 3,236
Goodwill 2,605
Total assets acquired $ 23,256

Liabilities:
Other liabilities and accrued items $ 1,030
Other long-term liabilities 430
Retirement and post-employment benefits 5,292
Total liabilities assumed $ 6,752

Total purchase price $ 16,504

As part of the acquisition, the Company recorded approximately $2.6 million of goodwill. Goodwill was calculated as the excess of the purchase price over the estimated fair values of the tangible net assets and intangible assets acquired. Also, the Company acquired approximately $3.2 million of other intangible assets, which will be amortized using the straight-line method over an average life of about ten years. The following table reports the intangible assets by asset category and useful life:

(Thousands) Value at Acquisition Useful Life
Customer relationships $ 1,861
15 years
Technology 1,375
3 years
Total $ 3,236

~~Note C~~ — Segment Reporting

The Company has the following ~~operating~~reportable segments: Performance Alloys and Composites, Advanced Materials, Precision Coatings, and Other. The Company’s ~~operating~~reportable segments represent components of the Company for which separate financial information is available that is utilized on a regular basis by the Chief Executive Officer, the Company's ~~Chief Operating Decision Maker,~~chief operating decision maker, in determining how to allocate the Company’s resources and evaluate performance.

Performance Alloys and Composites produces strip and bulk form alloy products, strip metal products with clad inlay and overlay metals, beryllium-based metals, beryllium, and aluminum metal matrix composites, in rod, sheet, foil, and a variety of customized forms, beryllia ceramics, and bulk metallic glass materials.

Advanced Materials produces advanced chemicals, microelectric packaging, precious metal, non-precious metal, and specialty metal products, including vapor deposition targets, frame lid assemblies, clad and precious metal preforms, high temperature braze materials, and ultra-fine wire.

Precision Coatings produces thin film coatings, optical filter materials, sputter-coated, and precision-converted thin film materials.

The Other reportable segment includes unallocated corporate costs and assets.


(Thousands)	Performance Alloys and Composites		Advanced Materials		Precision Coatings		Other		Total
Second Quarter 2020
Net sales	$	101,614	$	150,108	$	19,746	$	—	$	271,468
Intersegment sales	(213)		8,997		—		—		8,784
Operating profit (loss)	8,244		4,370		2,091		(5,999)		8,706
Second Quarter 2019
Net sales	$	135,231	$	133,238	$	29,374	$	—	$	297,843
Intersegment sales	6		19,260		—		—		19,266
Operating profit (loss)	19,328		6,139		3,937		(6,654)		22,750

First Six Months 2020
Net sales	$	200,681	$	310,273	$	38,460	$	—	$	549,414
Intersegment sales	2		18,188		—		—		18,190
Operating profit (loss)	13,035		9,155		(7,501)		(10,546)		4,143
First Six Months 2019
Net sales	$	262,344	$	277,263	$	59,677	$	—	$	599,284
Intersegment sales	15		36,473		—		—		36,488
Operating profit (loss)	38,286		13,219		6,014		(13,382)		44,137

(Thousands)
Performance
Alloys and
Composites
Advanced Materials Precision Coatings Other Total
Third Quarter 2017
Net sales $ 109,393
$ 157,770
$ 27,105
$ —
$ 294,268
Intersegment sales
54
12,814
—
—
12,868
Value-added sales 90,637
60,391
21,896
(1,542 ) 171,382
Operating profit (loss) 6,786
9,756
1,613
(6,597 ) 11,558
Third Quarter 2016
Net sales $ 103,699
$ 107,250
$ 38,670
$ —
$ 249,619
Intersegment sales 47
21,505
—
—
21,552
Value-added sales 87,247
45,960
25,803
(2,009 ) 157,001
Operating profit (loss) 4,357
8,245
3,432
(5,883 ) 10,151

First Nine Months 2017
Net sales $ 310,487
$ 429,550
$ 90,742
$ —
$ 830,779
Intersegment sales
113
42,508
—
—
42,621
Value-added sales 262,534
169,720
67,810
(3,602 ) 496,462
Operating profit (loss) 12,523
24,873
6,145
(18,829 ) 24,712
First Nine Months 2016
Net sales $ 292,024
$ 328,927
$ 113,955
$ —
$ 734,906
Intersegment sales
226
54,110
—
—
54,336
Value-added sales 248,799
135,019
75,548
(4,573 ) 454,793
Operating profit (loss) 6,103
20,748
9,803
(13,194 ) 23,460
The following table disaggregates revenue for each segment by end market for the second quarter and first six months of 2020 and 2019, respectively:


(Thousands)	Performance Alloys and Composites		Advanced Materials		Precision Coatings		Other		Total
Second Quarter 2020
End Market
Semiconductor	$	1,537	$	123,908	$	232	$	—	$	125,677
Industrial	23,831		8,419		2,574		—		34,824
Aerospace and Defense	17,952		1,650		4,119		—		23,721
Consumer Electronics	9,956		21		3,404		—		13,381
Automotive	16,415		1,186		7		—		17,608
Energy	5,590		9,327		—		—		14,917
Telecom and Data Center	12,586		788		—		—		13,374
Other	13,747		4,809		9,410		—		27,966
Total	$	101,614	$	150,108	$	19,746	$	—	$	271,468

Second Quarter 2019
End Market
Semiconductor	$	1,303	$	101,634	$	93	$	—	$	103,030
Industrial	28,585		7,704		3,842		—		40,131
Aerospace and Defense	26,046		1,125		4,750		—		31,921
Consumer Electronics	22,663		500		4,430		—		27,593
Automotive	16,564		1,669		365		—		18,598
Energy	11,303		16,027		—		—		27,330
Telecom and Data Center	18,244		713		—		—		18,957
Other	10,523		3,866		15,894		—		30,283
Total	$	135,231	$	133,238	$	29,374	$	—	$	297,843


(Thousands)	Performance Alloys and Composites		Advanced Materials		Precision Coatings		Other		Total
First Six Months 2020
End Market
Semiconductor	$	2,443	$	244,727	$	243	$	—	$	247,413
Industrial	47,171		16,781		5,671		—		69,623
Aerospace and Defense	32,158		3,077		9,228		—		44,463
Consumer Electronics	24,651		138		6,946		—		31,735
Automotive	34,579		3,266		24		—		37,869
Energy	11,019		32,795		—		—		43,814
Telecom and Data Center	22,575		1,658		—		—		24,233
Other	26,085		7,831		16,348		—		50,264
Total	$	200,681	$	310,273	$	38,460	$	—	$	549,414

First Six Months 2019
End Market
Semiconductor	$	3,268	$	206,725	$	205	$	—	$	210,198
Industrial	55,015		15,632		7,992		—		78,639
Aerospace and Defense	53,120		2,618		9,622		—		65,360
Consumer Electronics	36,218		705		7,916		—		44,839
Automotive	37,277		3,023		587		—		40,887
Energy	22,397		38,224		—		—		60,621
Telecom and Data Center	35,836		914		—		—		36,750
Other	19,213		9,422		33,355		—		61,990
Total	$	262,344	$	277,263	$	59,677	$	—	$	599,284

Intersegment sales are eliminated in consolidation.

Note DC — ~~Other-net~~Revenue Recognition

~~Other-net expense~~

Net sales consist primarily of revenue from the sale of precious and non-precious specialty metals, beryllium and copper-based alloys, beryllium composites, and other products into numerous end markets. The Company requires an agreement with a customer that creates enforceable rights and performance obligations. The Company generally recognizes revenue, in an amount that reflects the consideration to which it expects to be entitled, upon satisfaction of a performance obligation, by transferring control over a product to the customer. Control over the product is generally transferred to the customer when the Company has a present right to payment, the customer has legal title, the customer has physical possession, the customer has the significant risks and rewards of ownership, and/or the customer has accepted the product.

Transaction Price Allocated to Future Performance Obligations: Accounting Standards Codification (ASC) 606, Revenue from Contracts with Customers, requires that the Company disclose the aggregate amount of transaction price that is allocated to performance obligations that have not yet been satisfied at June 26, 2020. Remaining performance obligations include non-cancelable purchase orders and customer contracts. The guidance provides certain practical expedients that limit this requirement. As such, the Company does not disclose the value of unsatisfied performance obligations for contracts with an original expected length of one year or less.

After considering the ~~third quarter and first nine months~~practical expedient at June 26, 2020, the aggregate amount of ~~2017 and 2016 is summarized as follows:~~the transaction price allocated to remaining performance obligations was approximately $29.2 million.

Third Quarter Ended Nine Months Ended
Sept. 29, Sept. 30, Sept. 29, Sept. 30,
(Thousands) 2017 2016 2017 2016
Metal consignment fees $ 2,436
$ 1,665
$ 6,183
$ 4,851
Amortization of intangible assets 1,179
1,148
3,456
3,444
Foreign currency exchange/translation loss (gain) (201 ) 336
(794 ) 977
Fixed asset impairment 114
—
314
—
Cost reduction initiatives 189
—
189
—
Net loss (gain) on disposal of fixed assets 60
94
207
(601 )
Other items 24
(53 ) 268
326
Total $ 3,801
$ 3,190
$ 9,823
$ 8,997

Materion Corporation and Subsidiaries

Notes to Consolidated Financial Statements

(Unaudited)

Contract Balances: The timing of revenue recognition, billings, and cash collections resulted in the following contract assets and contract liabilities:


(Thousands)	June 26, 2020		December 31, 2019		$ change		% change
Accounts receivable, trade	$	141,465	$	141,168	$	297	—	%
Unbilled receivables	5,218		13,583		(8,365)		(62)	%
Unearned revenue	3,003		3,380		(377)		(11)	%

Accounts receivable, trade represents payments due from customers relating to the transfer of the Company’s products and services. The Company believes that its receivables are collectible and appropriate allowances for doubtful accounts have been recorded. Impairment losses (bad debt) incurred relating to our receivables were immaterial during the second quarter and first six months of 2020.

Unbilled receivables represent expenditures on contracts, plus applicable profit margin, not yet billed. Unbilled receivables are normally billed and collected within one year. Billings made on contracts are recorded as a reduction of unbilled receivables.

Unearned revenue is recorded for consideration received from customers in advance of satisfaction of the related performance obligations. The Company recognized approximately $3.1 million of the unearned amounts as revenue during the first six months of 2020.

As a practical expedient, the Company does not adjust the promised amount of consideration for the effects of a significant financing component because the period between the transfer of a product or service to a customer and when the customer pays for that product or service will be one year or less. The Company does not include extended payment terms in its contracts with customers.

Note D — Other-net

Other-net for the second quarter and first six months of 2020 and 2019 is summarized as follows:


	Second Quarter Ended						Six Months Ended
	June 26,		June 28,		June 26,		June 28,
(Thousands)	2020		2019		2020		2019
Metal consignment fees	$	2,037	$	2,225	$	4,266	$	5,316
Amortization of intangible assets	106		368		294		758
Foreign currency (gain) loss	(2,486)		307		(2,548)		384
Net loss on disposal of fixed assets	9		118		55		142
Other items	(23)		(127)		(145)		412
Total	$	(357)	$	2,891	$	1,922	$	7,012

Note E — Restructuring

In 2017, the Company completed cost reduction actions in order to align costs with commensurate business levels. These actions were accomplished through elimination of vacant positions, consolidation of roles, and staff reduction. Costs associated with these actions within the Other and Precision Coatings segments included severance associated with approximately twenty-three employees and other related costs.

In ~~2016,~~the first half of 2020, the Company initiated a restructuring plan ~~to close the Fukuya, Japan service center, which is a part of the~~in its Performance Alloys and Composites ~~segment.~~(PAC) segment to close its Warren, Michigan and Fremont, California locations. Costs associated with the plan totaled $2.4 million and $4.6 million in the second quarter and first six months of 2020, respectively. In the second quarter of 2020, these costs included $0.9 million of severance associated with approximately ~~twelve~~60 employees and $1.5 million of facility and other related costs. Included in restructuring charges for the first six months of 2020 was $1.4 million of severance associated with approximately 60 employees and $3.1 million of facility ~~exit~~and other related costs.

~~These costs are presented in the Consolidated Statements of Income as follows:~~

Third Quarter Ended Nine Months Ended
(Thousands) Sept. 29, 2017 Sept. 30, 2016 Sept. 29, 2017 Sept. 30, 2016
Cost of sales $ 346
$ —
$ 463
$ —
Selling, general, and administrative (SG&A) expense 127
—
1,259
—
Other-net 189
—
189
—
Total $ 662
$ —
$ 1,911
$ —

Remaining severance payments of $1.2 million and facility costs of $0.4 million related to these initiatives ~~of $0.3 million~~ are reflected within Other liabilities and accrued items in the Consolidated Balance Sheets. The Company ~~does not expect~~expects to incur additional costs related to these ~~initiatives.~~

~~Note F — Income Taxes~~

~~The Company recorded income tax expense~~initiatives of ~~$1.7~~approximately $4 million in the ~~third quarter~~remainder of 2017, an effective tax rate of 15.5% against income before income taxes, and income tax expense of $1.6 million in the third quarter of 2016, an effective tax rate of 16.7% against income before income taxes.2020.

In the first nine months of 2017, the Company recorded income tax expense of $3.3 million, an effective tax rate of 14.4%, and income tax expense of $3.1 million in the first nine months of 2016, an effective tax rate of 14.0%.

The Company recorded discrete benefits of $0.5 million and $1.3 million, respectively, in the third quarter and first nine months of 2017. Of these amounts, $0.4 million related to the reversal of uncertain tax positions due to a lapse in the statute of limitations in the third quarter of 2017. Also, $0.1 million in the third quarter and $0.5 million in the first nine months of 2017 related to the adoption of ASU 2016-09, ~~Improvements to Employee Share-based Payment Accounting.~~

~~The Company recorded discrete items in the first nine months of 2016, resulting in a net tax benefit of~~ ~~$1.0 million, primarily due to international tax planning initiatives.~~

Income tax expense in the third quarter and first nine months of both 2017 and 2016 was lower than the U.S Federal statutory income tax rate of 35% primarily due to the impact of percentage depletion, foreign rate differential, research and development credit, discrete benefits, and other items.

1012

Materion Corporation and Subsidiaries

Notes to Consolidated Financial Statements

(Unaudited)

Note F — Income Taxes

The Company's effective tax rate for the second quarter of 2020 and 2019 was 19.5% and 18.8%, respectively, and 19.4% and 18.5% for the first six months of 2020 and 2019, respectively. The effective tax rate for each period is lower than the statutory tax rate primarily due to the impact of percentage depletion and the research and development credit. Additionally, the effective tax rate for the first six months of 2020 included a net discrete income tax expense of $0.8 million, primarily related to an impairment of goodwill. The effective tax rate for the first six months of 2019 included a net discrete income tax benefit of $0.5 million, primarily related to excess tax benefits from stock-based compensation awards.

On March 27, 2020, the Coronavirus Aid, Relief and Economic Security (CARES) Act was signed into law. The CARES Act, among other things, includes provisions relating to refundable payroll tax credits, deferment of employer social security payments, net operating loss carryback periods, alternative minimum tax credit refunds, and modifications to the net interest deduction limitations. While the Company continues to examine the impacts the CARES Act may have on its business, it does not expect it will have a material impact to its consolidated financial statements.

On July 9, 2020, the U.S. Treasury Department issued final tax regulations related to the foreign-derived intangible income and global intangible low-taxed income (GILTI) provisions. Also, on July 20, 2020 the U.S. Treasury Department released final tax regulations permitting a taxpayer to elect to exclude from its GILTI inclusion items of income subject to a high effective rate of foreign tax. The Company is currently assessing the impact of the new legislation to its consolidated financial statements.

Note G — Earnings Per Share (EPS)

The following table sets forth the computation of basic and diluted EPS:


	Second Quarter Ended						Six Months Ended
	June 26,		June 28,		June 26,		June 28,
(Thousands, except per share amounts)	2020		2019		2020		2019
Numerator for basic and diluted EPS:
Net income	$	6,678	$	15,540	$	3,575	$	32,446
Denominator:
Denominator for basic EPS:
Weighted-average shares outstanding	20,317		20,383		20,350		20,326
Effect of dilutive securities:
Stock appreciation rights	36		76		36		92
Restricted stock units	63		76		80		77
Performance-based restricted stock units	138		131		121		140
Diluted potential common shares	237		283		237		309
Denominator for diluted EPS:
Adjusted weighted-average shares outstanding	20,554		20,666		20,587		20,635
Basic EPS	$	0.33	$	0.76	$	0.18	$	1.60
Diluted EPS	$	0.32	$	0.75	$	0.17	$	1.57

Third Quarter Ended Nine Months Ended
Sept. 29, Sept. 30, Sept. 29, Sept. 30,
(Thousands, except per share amounts) 2017 2016 2017 2016
Numerator for basic and diluted EPS:
Net income $ 9,320
$ 8,045
$ 19,683
$ 18,962
Denominator:
Denominator for basic EPS:
Weighted-average shares outstanding 20,040
19,957
20,007
19,996
Effect of dilutive securities:
Stock appreciation rights 149
70
148
66
Restricted stock units 94
82
95
86
Performance-based restricted stock units 128
83
111
61
Diluted potential common shares 371
235
354
213
Denominator for diluted EPS:

Adjusted weighted-average shares outstanding 20,411
20,192
20,361
20,209
Basic EPS $ 0.47
$ 0.40
$ 0.98
$ 0.95
Diluted EPS $ 0.46
$ 0.40
$ 0.97
$ 0.94

~~Stock appreciation rights (SARs)~~Adjusted weighted-average shares outstanding-diluted excludes securities totaling ~~219,292~~191,500 and ~~982,588~~84,509 for the quarters ended ~~September 29, 2017~~June 26, 2020 and ~~September 30, 2016,~~June 28, 2019, respectively, and ~~370,917~~230,893 and ~~993,418~~144,154 for the ~~nine~~six months ended ~~September 29, 2017~~June 26, 2020 and ~~September 30, 2016, respectively,~~June 28, 2019, respectively. These securities primarily related to restricted stock units and stock appreciation rights with fair market values and exercise prices less than the average market price of the Company's common shares and were excluded from the dilution calculation as ~~their~~the effect would have been anti-dilutive.

Materion Corporation and Subsidiaries

Notes to Consolidated Financial Statements

(Unaudited)

Note H — Inventories

Inventories on the Consolidated Balance Sheets are summarized as follows:


	Sept. 29,		Dec. 31,			June 26,		December 31,
(Thousands)	2017		2016		(Thousands)	2020		2019
Raw materials and supplies	$	44,924	$	36,233	Raw materials and supplies	$	54,720	$	35,612
Work in process	181,553		169,327		Work in process	172,678		177,780
Finished goods	37,671		38,147		Finished goods	30,304		25,506
Subtotal	$	264,148	$	243,707	Subtotal	$	257,702	$	238,898
Less: LIFO reserve balance	43,925		42,842		Less: LIFO reserve balance	47,855		48,508
Inventories	$	220,223	$	200,865	Inventories	$	209,847	$	190,390

The liquidation of last in, first out (LIFO) inventory layers ~~did not impact~~increased cost of sales by $0.1 million in the ~~third~~second quarter and first six months of ~~2017 or 2016.~~ both 2020 and 2019.

The Company maintains the majority of the precious metals and copper used in production on a consignment basis in order to reduce our exposure to metal price movements and to reduce our working capital investment. The notional value of off-balance sheet precious metals and copper was $333.9 million as of June 26, 2020 versus $309.3 million as of December 31, 2019.

Note I — Held for Sale

In the first ~~nine~~six months of ~~2017, cost~~2020, the Company committed to a plan to sell its Large Area Coatings (LAC) reporting unit within the Precision Coatings segment and determined that it met the criteria to be classified as held for sale. Therefore, its assets and liabilities have been presented as held for sale in the Consolidated Balance Sheet as of ~~sales~~June 26, 2020. Assets and liabilities classified as held for sale are measured at the lower of carrying value or fair value less costs to sell.

Before measuring the fair value less costs to sell of the disposal group as a whole, the Company first reviewed individual assets and liabilities to determine if any fair value adjustments were ~~increased by $0.2 million. In~~required. The Company recorded a goodwill impairment charge of $9.1 million in the first ~~nine~~half of 2020 to write-off the remaining balance of goodwill for the LAC reporting unit. The Company determined fair value based on its expected proceeds to be received, which it concluded is most representative of the value of the assets.

The Company then estimated the fair value of the disposal group as a whole, less costs to sell, and compared the fair value to the remaining carrying value. Based on this review, the Company recorded a $1.7 million asset impairment loss in the first six months of ~~2016, cost~~2020. NaN additional impairment charges were recorded in the second quarter of ~~sales~~2020.

The assets and liabilities of the LAC reporting unit classified as held for sale at June 26, 2020 were ~~reduced by $3.2 million.~~as follows:


(Thousands)
Accounts receivable, net	$	2,987
Inventories, net	1,305
Prepaid and other current assets	8
Property, plant, and equipment - net	2,508
Operating lease, right-of-use assets	716
Impairment on carrying value	(1,713)
Assets held for sale	$	5,811

Accounts payable	$	870
Salaries and wages	245
Other liabilities and accrued items	228
Operating lease liabilities	728
Other long term liabilities	55
Liabilities held for sale	$	2,126

Materion Corporation and Subsidiaries

Notes to Consolidated Financial Statements

(Unaudited)

Excluding the $9.1 million goodwill impairment charge and $1.7 million asset impairment charge recorded in the first half of 2020, the operating results of the LAC reporting unit were not material to the Company for any period presented.

Note IJ — Goodwill

A summary of changes in goodwill by reportable segment is as follows:


(Thousands)	Performance Alloys and Composites		Advanced Materials		Precision Coatings		Total
Balance at December 31, 2019	$	1,899	$	50,190	$	26,922	$	79,011
Impairment charge	—		—		(9,053)		(9,053)
Other	—		43		—		43
Balance at June 26, 2020	$	1,899	$	50,233	$	17,869	$	70,001

Goodwill is reviewed annually for impairment or more frequently if impairment indicators arise. The Company conducts its annual goodwill impairment assessment as of the first day of the fourth quarter, or more frequently under certain circumstances. Goodwill is assigned to the reporting unit, which is the operating segment level or one level below the operating segment.

Note K — Customer Prepayments

The Company entered into an investment agreement with a customer to procure equipment to manufacture product for the customer. The customer will make prepayments to the Company in the amount of approximately $70 million in the aggregate to enable the Company to purchase and install certain equipment and make necessary infrastructure improvements to supply product to the customer. The Company will own the equipment and be responsible for operating and maintenance costs. The prepayment from the customer will be applied when commercial production of the product is sold and delivered to the customer in connection with a master supply agreement. Accordingly, $31.4 million of prepayments are classified as Unearned Income in the Consolidated Balance Sheet, of which $19.6 million were received during the second quarter of 2020, and the liability is expected to be settled as commercial shipments are made.

Note L — Leases

The Company leases warehouse and manufacturing real estate, and manufacturing and computer equipment under operating leases with lease terms ranging up to 25 years. Several operating lease agreements contain options to extend the lease term and/or options for early termination. The lease term consists of the non-cancelable period of the lease, periods covered by options to extend the lease if the Company is reasonably certain to exercise the option, and periods covered by an option to terminate the lease if the Company is reasonably certain not to exercise the option. The weighted average remaining lease term for the Company's operating and finance leases as of June 26, 2020 was 13.57 years and 19.37 years, respectively.

The discount rate implicit within the leases is generally not determinable, and, therefore, the Company determines the discount rate based on its incremental borrowing rate. The incremental borrowing rate for leases is determined based on the lease term in which lease payments are made, adjusted for impacts of collateral. The weighted average discount rate used to measure the Company's operating and finance lease liabilities as of June 26, 2020 was 6.41% and 5.31%, respectively.

Materion Corporation and Subsidiaries

Notes to Consolidated Financial Statements

(Unaudited)

The components of operating and finance lease cost for the second quarter and first six months of 2020 and 2019 were as follows:


	Second Quarter Ended						Six Months Ended
(Thousands)	June 26, 2020		June 28, 2019		June 26, 2020		June 28, 2019
Components of lease expense
Operating lease cost	$	2,274	$	2,291	$	4,532	$	5,003

Finance lease cost
Amortization of right-of-use assets	350		354		701		710
Interest on lease liabilities	238		259		482		522
Total lease cost	$	2,862	$	2,904	$	5,715	$	6,235

Operating lease expense amounted to $2.3 million and $4.5 million during the second quarter and first six months of 2020, respectively, compared to $2.3 million and $5.0 million, respectively, during the same periods of 2019. The Company straight-lines its expense of fixed payments for operating leases over the lease term and expenses the variable lease payments in the period incurred. These variable lease payments are not included in the calculation of right-of-use assets or lease liabilities.

Materion Corporation and Subsidiaries

Notes to Consolidated Financial Statements

(Unaudited)

Supplemental balance sheet information related to the Company's operating and finance leases as of June 26, 2020 and December 31, 2019 was as follows:


	June 26,		Dec. 31,
(Thousands)	2020		2019
Supplemental balance sheet information

Operating Leases
Operating lease right-of-use assets	$	48,942	$	23,413
Other liabilities and accrued items	5,298		6,542
Operating lease liabilities	44,830		18,091

Finance Leases
Property, plant, and equipment	$	26,258	$	26,069
Allowances for depreciation, depletion, and amortization	(4,035)		(3,570)
Finance lease assets, net	$	22,223	$	22,499
Other liabilities and accrued items	$	1,305	$	1,265
Finance lease liabilities	16,939		17,424
Total principal payable on finance leases	$	18,244	$	18,689

Future maturities of the Company's lease liabilities as of June 26, 2020 are as follows:


	Finance		Operating
(Thousands)	Leases		Leases
2020	$	1,119	$	3,986
2021	2,238		7,841
2022	2,238		6,846
2023	1,528		6,548
2024	1,174		4,704
2025 and thereafter	21,126		46,967
Total lease payments	29,423		76,892
Less amount of lease payment representing interest	11,179		26,764
Total present value of lease payments	$	18,244	$	50,128

Supplemental cash flow information related to leases for the first six months of 2020 and 2019 were as follows:


	Six Months Ended
(Thousands)	June 26, 2020		June 28, 2019
Supplemental cash flow information
Cash paid for amounts included in the measurement of lease liabilities:
Operating cash flows from operating leases	$	7,275	$	7,710
Operating cash flows from finance leases	482		522
Financing cash flows from finance leases	626		599

Materion Corporation and Subsidiaries

Notes to Consolidated Financial Statements

(Unaudited)

Note M — Pensions and Other Post-employment Benefits

The following is a summary of the net periodic benefit cost for the ~~third~~second quarter and first ~~nine~~six months of ~~2017~~2020 and ~~2016~~2019 for the domestic pension plans (which include the defined benefit pension plan and the supplemental retirement plans) and the domestic retiree medical plan.


	Pension Benefits						Other Benefits
	Second Quarter Ended						Second Quarter Ended
	June 26,		June 28,		June 26,		June 28,
(Thousands)	2020		2019		2020		2019
Components of net periodic benefit cost (credit)
Service cost	$	—	$	1,418	$	15	$	18
Interest cost	1,215		1,347		53		99
Expected return on plan assets	(2,205)		(2,167)		—		—
Amortization of prior service cost (benefit)	—		122		(374)		(375)
Amortization of net loss (gain)	284		627		(83)		(23)
Net periodic benefit (credit) cost	$	(706)	$	1,347	$	(389)	$	(281)
Net pension settlements/curtailments	94		3,296		—		—
Total net benefit cost	$	(612)	$	4,643	$	(389)	$	(281)


	Pension Benefits						Other Benefits
	Six Months Ended						Six Months Ended
	June 26,		June 28,		June 26,		June 28,
(Thousands)	2020		2019		2020		2019
Components of net periodic benefit cost (credit)
Service cost	$	—	$	2,758	$	31	$	35
Interest cost	2,429		2,904		107		199
Expected return on plan assets	(4,410)		(4,290)		—		—
Amortization of prior service cost (benefit)	—		242		(749)		(749)
Amortization of net loss (gain)	568		1,431		(166)		(46)
Net periodic benefit (credit) cost	$	(1,413)	$	3,045	$	(777)	$	(561)
Net pension settlements/curtailments	94		3,296		—		—
Total net benefit cost	$	(1,319)	$	6,341	$	(777)	$	(561)

The Company did not make any contributions to its domestic defined benefit plan in the first six months of 2020 and made contributions of $3.0 million in the first six months of 2019.

The Company reports the service cost component of net periodic benefit cost in the same line item as other compensation costs in operating expenses and the non-service cost components of net periodic benefit cost in Other non-operating (income) expense.

In May 2019, the Company's Board of Directors approved changes to the U.S. defined benefit pension plan. The Company froze the pay and service amounts used to calculate pension benefits for active participants in the pension plan as of January 1, 2020.

1118

Materion Corporation and Subsidiaries

Notes to Consolidated Financial Statements

(Unaudited)

Pension Benefits
Other Benefits

Third Quarter Ended
Third Quarter Ended

Sept. 29,
Sept. 30,
Sept. 29,
Sept. 30,
(Thousands)
2017
2016
2017
2016
Components of net periodic benefit cost (benefit)

Service cost
$ 2,106

$ 1,946

$ 23

$ 26
Interest cost
2,372

2,595

99

140
Expected return on plan assets
(3,678 )
(3,488 )
—

—
Amortization of prior service benefit
(42 )
(115 )
(374 )
(374 )
Amortization of net loss
1,623

1,431

—

—
Net periodic benefit cost (benefit)
$ 2,381

$ 2,369

$ (252 )
$ (208 )

Pension Benefits Other Benefits
Nine Months Ended Nine Months Ended
Sept. 29, Sept. 30, Sept. 29, Sept. 30,
(Thousands) 2017 2016 2017 2016
Components of net periodic benefit cost (benefit)
Service cost $ 6,188
$ 5,838
$ 69
$ 77
Interest cost 7,098
7,785
297
422
Expected return on plan assets (11,007 ) (10,464 ) —
—
Amortization of prior service benefit (236 ) (345 ) (1,122 ) (1,122 )
Amortization of net loss 4,821
4,292
—
—
Net periodic benefit cost (benefit) $ 6,864
$ 7,106
$ (756 ) $ (623 )

~~The Company made contributions to the domestic defined benefit pension plan of $8.0 million and $12.0 million in the first nine months of 2017 and 2016, respectively.~~

Beginning in 2017, the Company has elected to use a spot-rate approach to estimate the service and interest cost components of net periodic benefit cost for its defined benefit pension plans. The spot-rate approach applies separate discount rates for each projected benefit payment in the calculation. Historically, the Company used a weighted-average approach to determine the service and interest cost components. The change is being accounted for as a change in estimate and, accordingly, is being applied prospectively. The reduction in service and interest costs for 2017 associated with this change approximated $0.3 million and $0.8 million during the third quarter and first nine months of 2017, respectively, and is expected to total approximately $1.0 million.

Note JN — Accumulated Other Comprehensive Income (Loss)

Changes in the components of accumulated other comprehensive income, including the amounts reclassified, for the ~~third~~second quarter and first ~~nine~~six months of ~~2017~~2020 and ~~2016~~2019 are as follows:


	Gains and Losses on Cash Flow Hedges																			Gains and Losses on Cash Flow Hedges
(Thousands)	Foreign Currency			Precious Metals			Total			Pension and Post-Employment Benefits			Foreign Currency Translation			Total			(Thousands)	Foreign Currency		Precious Metals		Copper		Total		Pension and Post-Employment Benefits		Foreign Currency Translation		Total
Balance at June 30, 2017	$	1,109		$	93		$	1,202		$	(80,842	)	$	(4,282	)	$	(83,922	)
Balance at March 27, 2020																			Balance at March 27, 2020	$	1,214	$	(841)	$	(330)	$	43	$	(41,330)	$	(5,886)	$	(47,173)
Other comprehensive (loss) income before reclassifications																			Other comprehensive (loss) income before reclassifications	(201)		(411)		426		(186)		—		1,166		980
Amounts reclassified from accumulated other comprehensive income																			Amounts reclassified from accumulated other comprehensive income	8		491		132		631		70		—		701
Net current period other comprehensive income (loss) before tax																			Net current period other comprehensive income (loss) before tax	(193)		80		558		445		70		1,166		1,681
Deferred taxes																			Deferred taxes	(44)		18		124		98		(19)		—		79
Net current period other comprehensive income (loss) after tax																			Net current period other comprehensive income (loss) after tax	(149)		62		434		347		89		1,166		1,602
Balance at June 26, 2020																			Balance at June 26, 2020	$	1,065	$	(779)	$	104	$	390	$	(41,241)	$	(4,720)	$	(45,571)

Balance at March 29, 2019																			Balance at March 29, 2019	$	1,663	$	(24)	$	189	$	1,828	$	(54,003)	$	(5,095)	$	(57,270)
Other comprehensive income (loss) before reclassifications	(324		)	(205		)	(529		)	—			271			(258		)	Other comprehensive income (loss) before reclassifications	(269)		(563)		(580)		(1,412)		14,224		339		13,151
Amounts reclassified from accumulated other comprehensive income	433			(94		)	339			1,345			—			1,684			Amounts reclassified from accumulated other comprehensive income	(46)		(1)		163		116		3,781		—		3,897
Net current period other comprehensive income (loss) before tax																			Net current period other comprehensive income (loss) before tax	(315)		(564)		(417)		(1,296)		18,005		339		17,048
Deferred taxes																			Deferred taxes	(72)		(130)		(94)		(296)		4,052		—		3,756
Net current period other comprehensive income (loss) after tax																			Net current period other comprehensive income (loss) after tax	(243)		(434)		(323)		(1,000)		13,953		339		13,292
Balance at June 28, 2019																			Balance at June 28, 2019	$	1,420	$	(458)	$	(134)	$	828	$	(40,050)	$	(4,756)	$	(43,978)

1219

Materion Corporation and Subsidiaries

Notes to Consolidated Financial Statements

(Unaudited)

Gains and Losses on Cash Flow Hedges
(Thousands) Foreign Currency Precious Metals Total Pension and Post-Employment Benefits Foreign Currency Translation Total
Net current period other comprehensive income (loss) before tax
109

(299 )
(190 )
1,345

271

1,426
Deferred taxes on current period activity
41

(111 )
(70 )
464

—

394
Net current period other comprehensive income (loss) after tax
68

(188 )
(120 )
881

271

1,032
Balance at September 29, 2017
$ 1,177

$ (95 )
$ 1,082

$ (79,961 )
$ (4,011 )
$ (82,890 )

Balance at July 1, 2016 $ 958
$ —
$ 958
$ (74,546 ) $ (3,037 ) $ (76,625 )
Other comprehensive income (loss) before reclassifications (126 ) —
(126 ) —
467
341
Amounts reclassified from accumulated other comprehensive income 336
—
336
1,015
—
1,351
Net current period other comprehensive income (loss) before tax 210
—
210
1,015
467
1,692
Deferred taxes on current period activity 78
—
78
342
—
420
Net current period other comprehensive income (loss) after tax 132
—
132
673
467
1,272
Balance at September 30, 2016 $ 1,090
$ —
$ 1,090
$ (73,873 ) $ (2,570 ) $ (75,353 )

Balance at December 31, 2016
$ 1,837

$ —

$ 1,837

$ (82,358 )
$ (5,660 )
$ (86,181 )
Other comprehensive income (loss) before reclassifications
(1,205 )
30

(1,175 )
—

1,649

474
Amounts reclassified from accumulated other comprehensive income
219

(182 )
37

3,655

—

3,692
Net current period other comprehensive income (loss) before tax
(986 )
(152 )
(1,138 )
3,655

1,649

4,166
Deferred taxes on current period activity
(326 )
(57 )
(383 )
1,258

—

875
Net current period other comprehensive income (loss) after tax
(660 )
(95 )
(755 )
2,397

1,649

3,291
Balance at September 29, 2017
$ 1,177

$ (95 )
$ 1,082

$ (79,961 )
$ (4,011 )
$ (82,890 )

Balance at December 31, 2015 $ 1,579
$ —
$ 1,579
$ (76,796 ) $ (5,488 ) $ (80,705 )
Other comprehensive income (loss) before reclassifications (1,571 ) —
(1,571 ) —
2,918
1,347
Amounts reclassified from accumulated other comprehensive income 793
—
793
3,045
—
3,838
Net current period other comprehensive income (loss) before tax (778 ) —
(778 ) 3,045
2,918
5,185
Deferred taxes on current period activity (289 ) —
(289 ) 122
—
(167 )
Net current period other comprehensive income (loss) after tax (489 ) —
(489 ) 2,923
2,918
5,352
Balance at September 30, 2016 $ 1,090
$ —
$ 1,090
$ (73,873 ) $ (2,570 ) $ (75,353 )

~~Materion Corporation and Subsidiaries~~

~~Notes to Consolidated Financial Statements~~

~~(Unaudited)~~


	Gains and Losses on Cash Flow Hedges
(Thousands)	Foreign Currency		Precious Metals		Copper		Total		Pension and Post-Employment Benefits		Foreign Currency Translation		Total
Balance at December 31, 2019	$	1,324	$	(452)	$	25	$	897	$	(41,346)	$	(5,013)	$	(45,462)
Other comprehensive (loss) income before reclassifications	(343)		(1,234)		(352)		(1,929)		—		293		(1,636)
Amounts reclassified from accumulated other comprehensive income	7		809		453		1,269		46		—		1,315
Net current period other comprehensive income (loss) before tax	(336)		(425)		101		(660)		46		293		(321)
Deferred taxes	(77)		(98)		22		(153)		(59)		—		(212)
Net current period other comprehensive income (loss) after tax	(259)		(327)		79		(507)		105		293		(109)
Balance at June 26, 2020	$	1,065	$	(779)	$	104	$	390	$	(41,241)	$	(4,720)	$	(45,571)

Balance at December 31, 2018	$	1,263	$	79	$	(441)	$	901	$	(54,543)	$	(4,592)	$	(58,234)
Other comprehensive (loss) income before reclassifications	248		(636)		304		(84)		14,224		(164)		13,976
Amounts reclassified from accumulated other comprehensive income	(44)		(62)		92		(14)		4,441		—		4,427
Net current period other comprehensive income (loss) before tax	204		(698)		396		(98)		18,665		(164)		18,403
Deferred taxes	47		(161)		89		(25)		4,172		—		4,147
Net current period other comprehensive income (loss) after tax	157		(537)		307		(73)		14,493		(164)		14,256
Balance at June 28, 2019	$	1,420	$	(458)	$	(134)	$	828	$	(40,050)	$	(4,756)	$	(43,978)

Reclassifications from accumulated other comprehensive income of gains and losses on foreign currency cash flow hedges are recorded in ~~Other-net~~Net sales in the Consolidated Statements of Income. Reclassifications from accumulated other comprehensive income of gains and losses on precious metal cash flow hedges are recorded in Cost of sales in the Consolidated Statements of Income. Refer to Note MQ for additional details on cash flow hedges.

Reclassifications from accumulated other comprehensive income for pension and post-employment benefits are included in the computation of the net periodic pension and post-employment benefit expense. Refer to Note IM for additional details on pension and post-employment expenses.

1420

Materion Corporation and Subsidiaries

Notes to Consolidated Financial Statements

(Unaudited)

Note KO — Stock-based Compensation Expense

Stock-based compensation expense, which includes awards settled in shares and in cash, was ~~$1.5~~$3.1 million and $4.1 million in the second quarter and first six months of 2020, respectively, compared to $3.5 million and $6.2 million, ~~in the third quarter and first nine months of 2017,~~ respectively, ~~compared to $2.1 million and $4.4 million~~ in the same periods of ~~2016.~~2019.

The Company granted ~~97,015 SARs~~64,636 stock appreciation rights (SARs) to certain employees during the first ~~nine~~six months of ~~2017.~~2020. The weighted-average exercise price per share and weighted-average fair value per share of the SARs granted during the ~~nine~~six months ended ~~September 29, 2017~~June 26, 2020 were ~~$35.26~~$50.95 and ~~$10.89,~~$13.67, respectively. The Company estimated the fair value of the SARs using the following weighted-average assumptions in the Black-Scholes model:



Risk-free interest rate	~~1.92~~1.41	%
Dividend yield	~~1.1~~0.9	%
Volatility	~~34.0~~31.8	%
Expected term (in years)	~~5.6~~		4.8

The Company granted ~~62,185~~62,841 stock-settled restricted stock units (RSUs) ~~and 32,466 cash-settled RSUs~~ to certain employees and 15,976 to non-employee directors during the first ~~nine~~six months of ~~2017.~~2020. The Company measures the fair value of stock-settled RSUs based on the closing market price of a share of Materion common stock on the date of the grant. The weighted-average fair value per share was ~~$34.95~~$49.34 and $48.42 for stock-settled RSUs granted to employees and non-employee directors, respectively, during the ~~nine~~six months ended ~~September 29, 2017. Cash-settled~~June 26, 2020. RSUs are ~~accounted for as liability-based compensation awards and adjusted based on the closing price of Materion’s common stock~~expensed over the vesting period of three ~~years.~~years for employees and one year for non-employee directors.

The Company granted stock-settled ~~and cash-settled~~ performance-based restricted stock units (PRSUs) to certain employees in the first ~~nine~~six months of ~~2017.~~2020. The weighted-average fair value of the stock-settled PRSUs was ~~$30.28~~$57.65 per share and will be expensed over the vesting period of three years. ~~The liability for cash-settled PRSUs is re-measured at fair value each reporting period, and the adjustment to income is recorded accordingly.~~ The final payout to the employees for all PRSUs will be based upon the Company’s return on invested capital and the total return to shareholders over the vesting period relative to a peer group’s performance over the same period.

At ~~September 29, 2017, unearned~~June 26, 2020, unamortized compensation cost related to the unvested portion of all stock-based awards was approximately ~~$5.3~~$12.6 million, and is expected to be recognized over the remaining vesting period of the respective grants.

Note LP — Fair Value of Financial Instruments

The Company measures and records financial instruments at fair value. A ~~fair value~~ hierarchy is used for those instruments measured at fair value that distinguishes between assumptions based on market data (observable inputs) and the Company’s assumptions (unobservable inputs). The hierarchy consists of three levels:

Level 1 — Quoted market prices in active markets for identical assets and liabilities;

Level 2 — Inputs other than Level 1 inputs that are either directly or indirectly observable; and

Level 3 — Unobservable inputs developed using estimates and assumptions developed by the Company, which reflect

those that a market participant would use.

Materion Corporation and Subsidiaries

Notes to Consolidated Financial Statements

(Unaudited)

The following table summarizes the financial instruments measured at fair value in the Consolidated Balance Sheets as of ~~September 29, 2017~~June 26, 2020 and December 31, ~~2016:~~2019:



(Thousands)	Total Carrying Value in the Consolidated Balance Sheets				Quoted Prices in Active Markets for Identical Assets (Level 1)				Significant Other Observable Inputs (Level 2)				Significant Unobservable Inputs (Level 3)				(Thousands)	Total Carrying Value in the Consolidated Balance Sheets									Quoted Prices in Active Markets for Identical Assets (Level 1)									Significant Other Observable Inputs (Level 2)						Significant Unobservable Inputs (Level 3)
	2017		2016		2017		2016		2017		2016		2017		2016					2020			2019			2020			2019			2020			2019			2020			2019
Financial Assets																	Financial Assets
Deferred compensation investments	$	2,149	$	1,734	$	2,149	$	1,734	$	—	$	—	$	—	$	—	Deferred compensation investments	$	2,625		$	3,391		$	2,625		$	3,391		$	—		$	—		$	—		$	—
Foreign currency forward contracts	149		691		—		—		149		691		—		—		Foreign currency forward contracts	2,220			188			—			—			2,220			188			—			—
Precious metal swaps	45		—		—		—		45		—		—		—		Precious metal swaps	—			35			—			—			—			35			—			—
Copper swaps																	Copper swaps	137			61			—			—			137			61			—			—
Total	$	2,343	$	2,425	$	2,149	$	1,734	$	194	$	691	$	—	$	—	Total	$	4,982		$	3,675		$	2,625		$	3,391		$	2,357		$	284		$	—		$	—
Financial Liabilities																	Financial Liabilities
Deferred compensation liability	$	2,149	$	1,734	$	2,149	$	1,734	$	—	$	—	$	—	$	—	Deferred compensation liability	$	2,625		$	3,391		$	2,625		$	3,391		$	—		$	—		$	—		$	—
Foreign currency forward contracts	669		1		—		—		669		1		—		—		Foreign currency forward contracts	523			211			—			—			523			211			—			—
Precious metal swaps	197		—		—		—		197		—		—		—		Precious metal swaps	1,013			623			—			—			1,013			623			—			—
Copper swaps																	Copper swaps	3			28			—			—			3			28			—			—
Total	$	3,015	$	1,735	$	2,149	$	1,734	$	866	$	1	$	—	$	—	Total	$	4,164		$	4,253		$	2,625		$	3,391		$	1,539		$	862		$	—		$	—

The Company uses a market approach to value the assets and liabilities for financial instruments in the table above. Outstanding contracts are valued through models that utilize market observable inputs, including both spot and forward prices, for the same underlying currencies and metals. The carrying values of the other working capital items and debt in the Consolidated Balance Sheets approximate fair values as of ~~September 29, 2017~~June 26, 2020 and December 31, ~~2016.~~2019. The Company's deferred compensation investments and liabilities are based on the fair value of the investments corresponding to the employees’ investment selections, primarily in mutual funds, based on quoted prices in active markets for identical assets. Deferred compensation investments are primarily presented in Other assets. Deferred compensation liabilities are primarily presented in Other long-term liabilities.

Note MQ — Derivative Instruments and Hedging Activity

The Company uses derivative contracts to hedge portions of its foreign currency exposures and uses derivatives to hedge a portion of its precious metal and copper exposures. The objectives and strategies for using derivatives in these areas are as follows:

Foreign Currency. The Company sells a portion of its products to overseas customers in their local currencies, primarily the euro and yen. The Company secures foreign currency derivatives, mainly forward contracts and options, to hedge these anticipated sales transactions. The purpose of the hedge program is to protect against the reduction in the dollar value of foreign currency sales from adverse exchange rate movements. Should the dollar strengthen significantly, the decrease in the translated value of the foreign currency sales should be partially offset by gains on the hedge contracts. Depending upon the methods used, the hedge contracts may limit the benefits from a weakening U.S. dollar.

The use of forward contracts locks in a firm rate and eliminates any downside ~~risk~~ from an adverse rate movement as well as any benefit from a favorable rate movement. The Company may from time to time choose to hedge with options or a tandem of options, known as a collar. These hedging techniques can limit or eliminate the downside risk but can allow for some or all of the benefit from a favorable rate movement to be realized. Unlike a forward contract, a premium is paid for an option; collars, which are a combination of a put and call option, may have a net premium but

Materion Corporation and Subsidiaries

Notes to Consolidated Financial Statements

(Unaudited)

can be structured to be cash neutral. The Company will primarily hedge with forward contracts due to the relationship between the cash outlay and the level of risk.

The use of foreign currency derivative contracts is governed by policies approved by the Audit Committee of the Board of Directors. A team consisting of senior financial managers reviews the estimated exposure levels, as defined by budgets, forecasts, and other internal data, and determines the timing, amounts, and instruments to use to hedge ~~that exposure within the confines of the policy.~~exposures. Management analyzes the effective hedged rates and the actual and projected gains and losses on the hedging transactions against the program objectives, targeted rates, and levels of risk assumed. ~~Hedge~~

~~Materion Corporation and Subsidiaries~~

~~Notes to Consolidated Financial Statements~~

~~(Unaudited)~~

Foreign currency contracts are typically layered in at different times for a specified exposure period in order to minimize the impact of market rate movements.

Precious Metals. The Company maintains the majority of its precious metal production requirements on consignment in order to reduce its working capital investment and the exposure to metal price movements. When a precious metal product is fabricated and ready for shipment to the customer, the metal is purchased out of consignment at the current market price. The price paid by the Company forms the basis for the price charged to the customer. This methodology allows for changes in either direction in the market prices of the precious metals used by the Company to be passed through to the customer and reduces the impact changes in prices could have on the Company's margins and operating profit. The consigned metal is owned by financial institutions that charge the Company a financing fee based upon the current value of the metal on hand.

In certain instances, a customer may want to establish the price for the precious metal at the time the sales order is placed rather than at the time of shipment. Setting the sales price at a different date than when the material would be purchased potentially creates an exposure to movements in the market price of the metal. Therefore, in these limited situations, the Company may elect to enter into a forward contract to purchase precious metal. The forward contract allows the Company to purchase metal at a fixed price on a specific future date. The price in the forward contract serves as the basis for the price to be charged to the customer. By doing so, the selling price and purchase price are matched, and the Company's price exposure is reduced.

The Company refines precious metal-containing materials for its customers and typically will purchase the refined metal from the customer at current market prices. In limited circumstances, the customer may want to fix the price to be paid at the time of the order as opposed to when the material is refined. The customer may also want to fix the price for a set period of time. The Company may then elect to enter into a hedge contract, either a forward contract or a swap, to fix the price for the estimated quantity of metal to be purchased, thereby reducing the exposure to adverse movements in the price of the metal. The Company may also enter into hedges to mitigate the risk relating to the prices of the metals which we process or refine.

In certain circumstances, the Company also refines metal from the customer and may retain a portion of the refined metal as payment. The Company may elect to enter into a forward contract to sell precious metal to reduce the Company's price exposure.

The Company may from time to time elect to purchase precious metal and hold in inventory rather than on consignment due to potential credit line limitations or other factors. These purchases are typically held for a short duration. A forward contract will be secured at the time of the purchase to fix the price to be used when the metal is transferred back to the consignment line, thereby limiting any price exposure during the time when the metal was owned.

Copper. The Company also uses copper in its production processes. When possible, fluctuations in the purchase price of copper are passed on to customers in the form of price adders or reductions. While over time the Company's price exposure to copper is generally in balance, there can be a lag between the change in the Company's cost and the pass-through to its customers, resulting in higher or lower margins in a given period. To mitigate this impact, the Company hedges a portion of this pricing risk.

The Company will only enter into a derivative contract if there is an underlying identified exposure. Contracts are typically held ~~until~~to maturity. The Company does not engage in derivative trading activities and does not use derivatives for speculative purposes. The Company only uses ~~currency~~ hedge contracts that are denominated in the same currency ~~as the underlying exposure and precious metal hedge contracts denominated in the same~~or metal as the underlying exposure.

Materion Corporation and Subsidiaries

Notes to Consolidated Financial Statements

(Unaudited)

All derivatives are recorded on the balance sheet at fair value. If the derivative is designated and effective as a cash flow hedge, changes in the fair value of the derivative are recognized in other comprehensive income (OCI) until the hedged item is recognized in earnings. The ineffective portion of a ~~derivative’s~~derivative's fair value, if any, is recognized in earnings immediately. If a derivative is not a hedge, changes in the fair value are adjusted through income. The fair values of the outstanding derivatives are recorded on the balance sheet as assets (if the derivatives are in a gain position) or liabilities (if the derivatives are in a loss position). The fair values will also be classified as short-term or long-term depending upon their maturity dates.

~~Materion Corporation and Subsidiaries~~

~~Notes to Consolidated Financial Statements~~

~~(Unaudited)~~

The following table summarizes the notional amount and the fair value of the Company’s outstanding derivatives not designated as hedging instruments (on a gross basis) and balance sheet classification as of ~~September 29, 2017~~June 26, 2020 and December 31, ~~2016:~~2019:


	September 29, 2017					December 31, 2016					June 26, 2020						December 31, 2019
(Thousands)	Notional Amount		Fair Value			Notional Amount		Fair Value		(Thousands)	Notional Amount		Fair Value		Notional Amount		Fair Value
Foreign currency forward contracts										Foreign currency forward contracts
Prepaid expenses										Prepaid expenses	$	152,803	$	2,198	$	13,734	$	95
Other liabilities and accrued items										Other liabilities and accrued items	9,786		63		5,757		16
Foreign currency forward contracts - euro	$	14,402	$	(11	)	$	—	$	—
Total	$	14,402	$	(11	)	$	—	$	—

These outstanding foreign currency derivatives were related to balance sheet hedges, intercompany ~~loans.~~loans, and a foreign currency hedge for the purchase of Optics Balzers AG (Optics Balzers), which the Company agreed to buy in June 2020. See Note T for additional information. Other-net included $1.7 million and $2.3 million of foreign currency ~~losses~~gains relating to these derivatives ~~of $0.5 million and $1.1 million~~ during the ~~third~~second quarter and first ~~nine~~six months of ~~2017,~~2020, respectively.

Materion Corporation and Subsidiaries

Notes to Consolidated Financial Statements

(Unaudited)

The following table summarizes the notional amount and the fair value of the Company’s outstanding derivatives designated as cash flow hedges (on a gross basis) and balance sheet classification as of ~~September 29, 2017~~June 26, 2020 and December 31, ~~2016:~~2019:


	September 29, 2017					December 31, 2016						June 26, 2020						December 31, 2019
(Thousands)	Notional Amount		Fair Value			Notional Amount		Fair Value			(Thousands)	Notional Amount		Fair Value		Notional Amount		Fair Value
Prepaid expenses											Prepaid expenses
Foreign currency forward contracts - yen	$	2,000	$	59		$	2,418	$	239		Foreign currency forward contracts - yen	$	—	$	—	$	1,025	$	10
Foreign currency forward contracts - euro	6,829		90			6,493		452			Foreign currency forward contracts - euro	5,084		22		3,466		83
Precious metal swaps	2,148		13			—		—			Precious metal swaps	—		—		1,116		34
Copper swaps											Copper swaps	2,235		137		1,951		61
Total	10,977		162			8,911		691			Total	7,319		159		7,558		188

Other assets											Other assets
Precious metal swaps	1,932		32			—		—			Precious metal swaps	—		—		157		1

Other liabilities and accrued items											Other liabilities and accrued items
Foreign currency forward contracts - yen											Foreign currency forward contracts - yen	2,031		25		2,355		12
Foreign currency forward contracts - euro											Foreign currency forward contracts - euro	11,974		420		15,686		183
Precious metal swaps											Precious metal swaps	5,910		1,004		7,034		618
Copper swaps											Copper swaps	293		3		1,266		28
Total	1,932		32			—		—			Total	20,208		1,452		26,341		841

Other liabilities and accrued items
Other long-term liabilities											Other long-term liabilities
Foreign currency forward contracts - yen											Foreign currency forward contracts - yen	112		1		—		—
Foreign currency forward contracts - euro	12,689		(658		)	537		(1		)	Foreign currency forward contracts - euro	553		14		—		—
Precious metal swaps	7,845		(170		)	—		—			Precious metal swaps	172		9		149		5
Total	20,534		(828		)	537		(1		)	Total	837		24		149		5

Other long-term liabilities
Precious metal swaps	1,999		(27		)	—		—
Total	$	35,442	$	(661	)	$	9,448	$	690		Total	$	28,364	$	1,317	$	34,205	$	657

All of these contracts were designated and effective as cash flow hedges. ~~No ineffectiveness expense was recorded in the third quarter or first nine months of 2017 or 2016.~~

~~Changes in the fair value of outstanding cash flow hedges recorded in OCI for the first nine months of 2017 and 2016 totaled decreases of $1.2 million and $1.6 million, respectively.~~ The Company expects to relieve substantially the entire balance in OCI as of ~~September 29, 2017~~June 26, 2020 to the Consolidated Statements of Income within the next ~~18-month~~15-month period. Refer to Note JN for additional OCI details.

The following table summarizes the amounts reclassified from accumulated other comprehensive income relating to the hedging relationship of the Company’s outstanding derivatives designated as cash flow hedges and income statement classification as of the second quarter and first six months of 2020 and 2019:


		Second Quarter Ended		Second Quarter Ended
(Thousands)		June 26, 2020		June 28, 2019
Hedging relationship	Line item
Foreign currency forward contracts	Net sales	$	8	$	(46)
Precious metal swaps	Cost of sales	491		(1)
Copper swaps	Cost of sales	132		163
Total		$	631	$	116

Materion Corporation and Subsidiaries

Notes to Consolidated Financial Statements

(Unaudited)


		Six Months Ended		Six Months Ended
(Thousands)		June 26, 2020		June 28, 2019
Hedging relationship	Line item
Foreign currency forward contracts	Net sales	$	7	$	(44)
Precious metal swaps	Cost of sales	809		(62)
Copper swaps	Cost of sales	453		92
Total		$	1,269	$	(14)

Note NR — Contingencies

Legal Proceedings. For general information regarding legal proceedings relating to Chronic Beryllium Disease Claims, refer to Note QR ("Contingencies and Commitments") in the Company's ~~2016~~2019 Annual Report on Form 10-K.

NaN beryllium cases were outstanding as of June 26, 2020. The Company does not expect the resolution of this matter to have a material impact on the consolidated financial statements.

Other Litigation. The Company is party to several pending legal proceedings and claims arising in the normal course of business. The Company records a liability when it is both probable that a liability has been incurred and the amount of the loss can be

~~Materion Corporation and Subsidiaries~~

~~Notes to Consolidated Financial Statements~~

~~(Unaudited)~~

reasonably estimated. In the event the Company determines that a loss is not probable, but is reasonably possible, and it becomes possible to develop what the Company believes to be a reasonable range of possible loss, then the Company will include disclosure related to such matters. To the extent there is a reasonable possibility that the losses could exceed any amounts accrued, the Company will adjust the accrual in the period the determination is made, disclose an estimate of the additional loss or range of loss, indicate that the estimate is immaterial with respect to its financial statements as a whole or, if the amount of such adjustment cannot be reasonably estimated, disclose that an estimate cannot be made.

Environmental Proceedings. The Company has an active environmental compliance program and records reserves for the probable cost of identified environmental remediation projects. The reserves are established based upon analyses conducted by the Company’s engineers and outside consultants and are adjusted from time to time based upon ongoing studies, the difference between actual and estimated costs, and other factors. The reserves may also be affected by rulings and negotiations with regulatory agencies. The undiscounted reserve balance was ~~$6.1~~$6.0 million and $5.9 million at ~~September 29, 2017~~June 26, 2020 and ~~$6.0 million at~~ December 31, ~~2016.~~2019, respectively. Environmental projects tend to be long-term, and the final actual remediation costs may differ from the amounts currently recorded.

Note S — Debt

In the second quarter of 2020, the Company borrowed $150.0 million under its revolving credit facility, and the remaining borrowing capacity as of June 26, 2020 was $179.1 million. The Company has the option to repay or borrow additional funds under the revolving credit facility until the maturity date in 2024.

Note T — Subsequent Event

In July 2020, the Company completed the acquisition of Optics Balzers, an industry leader in thin film optical coatings, with a final transaction value of approximately $160 million, including the assumption of debt. The transaction was funded with cash on hand, including a portion of the $150.0 million borrowed under our revolving credit facility in the second quarter of 2020.



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

OVERVIEW

We are an integrated producer of high-performance advanced engineered materials used in a variety of electrical, electronic, thermal, and structural applications. Our products are sold into numerous end markets, including semiconductor, industrial, aerospace and defense, automotive, consumer electronics, energy, and telecom and data center.

Coronavirus (COVID-19) Second Quarter 2020 Update

The significant macroeconomic impact of the ongoing COVID-19 pandemic impacted several of the Company’s end markets beginning in the first half of 2020 primarily in the form of reduced demand, particularly in the consumer electronics, automotive, energy, aerospace and defense, and industrial ~~components, defense, medical, automotive electronics, telecommunications infrastructure, energy, commercial aerospace, science, services,~~end markets. In the first six months of 2020, the Company recorded additional reserves for slow-moving and ~~appliance.~~excess inventory of approximately $1.3 million related to the collapse in demand in the oil and gas industry. The Company also reviewed for any other potential impairment indicators and did not identify any. We may temporarily shut down our facilities in response to reduced demand, due to employees being impacted by COVID-19, or changes in government policy. The Company is not experiencing any significant supply chain disruptions. We expect reduced demand to continue at least through the remainder of 2020, but the extent and timing cannot be reasonably estimated due to the evolving nature of this pandemic.

In the second quarter of 2020, the Company incurred $2.7 million of expense related to COVID-19. These costs were primarily related to premium pay for production workers who were deemed essential to work onsite during the pandemic.

The impact of the COVID-19 pandemic is fluid and continues to evolve, and, therefore, we cannot predict the extent to which our business, results of operations, financial condition, or cash flows will ultimately be impacted.

The Company suspended its share buyback program in the first quarter of 2020. In addition, the Company is currently evaluating the impact of the CARES Act. See Note F to the Consolidated Financial Statements for additional discussion.

From a liquidity perspective, we believe we are well positioned to manage through this global crisis. In order to ensure we have more than adequate liquidity, we borrowed $150.0 million under the revolving credit facility in April 2020. We ended the second quarter with total cash of $265.1 million and $151.8 million of total debt, or in a net cash position of $113.3 million. In addition, we had $179.1 million of available borrowings under our revolving credit facility as of the end of the second quarter.

Additionally, in July 2020, we completed the acquisition of Optics Balzers for a total transaction value of approximately $160 million, including the assumption of debt. The transaction was funded with cash on hand, including a portion of the $150.0 million borrowed under our revolving credit facility in the second quarter of 2020.

RESULTS OF OPERATIONS

~~Third~~

Second Quarter


	Third Quarter Ended											Second Quarter Ended
	Sept. 29,			Sept. 30,			$		%			June 26,			June 28,			$		%
(Thousands, except per share data)	2017			2016			Change		Change		(Thousands, except per share data)	2020			2019			Change		Change
Net sales	$	294,268		$	249,619		$	44,649	18	%	Net sales	$	271,468		$	297,843		$	(26,375)	(9)	%
Value-added sales	171,382			157,001			14,381		9	%	Value-added sales	161,569			194,896			(33,327)		(17)	%
Gross margin	55,203			50,755			4,448		9	%	Gross margin	48,090			69,594			(21,504)		(31)	%
Gross margin as a % of value-added sales	32		%	32		%	N/A		N/A		Gross margin as a % of value-added sales	30		%	36		%
Selling, general, and administrative (SG&A) expense	36,415			34,177			2,238		7	%	Selling, general, and administrative (SG&A) expense	32,852			39,891			(7,039)		(18)	%
SG&A expense as a % of value-added sales	21		%	22		%	N/A		N/A		SG&A expense as a % of value-added sales	20		%	20		%
Research and development (R&D) expense	3,429			3,237			192		6	%	Research and development (R&D) expense	4,502			4,062			440		11	%
R&D expense as a % of value-added sales	2		%	2		%	N/A		N/A		R&D expense as a % of value-added sales	3		%	2		%
Restructuring expense											Restructuring expense	2,387			—			2,387		N/A
Other—net	3,801			3,190			611		19	%	Other—net	(357)			2,891			(3,248)		(112)	%
Operating profit	11,558			10,151			1,407		14	%	Operating profit	8,706			22,750			(14,044)		(62)	%
Other non-operating (income) expense—net											Other non-operating (income) expense—net	(851)			3,112			(3,963)		(127)	%
Interest expense—net	533			490			43		9	%	Interest expense—net	1,259			500			759		152	%
Income before income taxes	11,025			9,661			1,364		14	%	Income before income taxes	8,298			19,138			(10,840)		(57)	%
Income tax expense	1,705			1,616			89		6	%	Income tax expense	1,620			3,598			(1,978)		(55)	%
Net income	$	9,320		$	8,045		$	1,275	16	%	Net income	$	6,678		$	15,540		$	(8,862)	(57)	%

Diluted earnings per share	$	0.46		$	0.40		$	0.06	15	%	Diluted earnings per share	$	0.32		$	0.75		$	(0.43)	(57)	%

N/A = Not Applicable

Net sales of ~~$294.3~~$271.5 million in the ~~third~~second quarter of ~~2017 were $44.7~~2020 decreased $26.3 million ~~higher than the $249.6~~from $297.8 million ~~recorded~~ in the ~~third~~second quarter of ~~2016.~~2019. Net sales ~~of $38.6 million during the third quarter of 2017 were attributable to the high performance target materials business of the Heraeus Group (HTB). Changes~~growth in our Advanced Materials segment was more than offset by decreased net sales in our Performance Alloys and Composites and Precision Coatings segments driven by lower sales volumes. The change in precious metal and copper prices ~~negatively~~favorably impacted net sales induring the ~~third~~second quarter of ~~2017~~2020 by ~~approximately $2.4 million when compared to the third quarter of 2016.~~$19.3 million.

Value-added sales is a non-GAAP financial measure that removes the impact of pass-through metal costs and allows for analysis without the distortion of the movement or volatility in metal ~~prices.~~prices and changes in mix due to customer-supplied material. Internally, we manage our business on this basis, and a reconciliation of net sales, the most directly comparable GAAP financial measure, to value-added sales is included herein. Value-added sales of ~~$171.4~~$161.6 million in the ~~third~~second quarter of ~~2017 increased $14.4~~2020 decreased $33.3 million, or 9%17%, compared to the ~~third~~second quarter of ~~2016. Value-added~~2019. The increase in semiconductor end market sales ~~from~~was more than offset by the ~~HTB acquisition totaled $11.4 million~~decrease in ~~the third quarter of 2017. Value-added~~value-added sales due to reduced demand in the consumer electronics, aerospace and defense, energy, industrial, and telecom and data center end ~~market, which accounted for 31% of our total value-added sales during~~markets.

Gross margin in the ~~third~~second quarter of ~~2017, increased $2.9~~2020 was $48.1 million, ~~from~~which was down 31% compared to the prior-year period. Also, value-added sales in the industrial components end market increased $4.2 million from the prior-year period. These increases were offset by weakness in the medical end market, which lowered value-added sales by approximately $6.1 million.

~~Gross margin~~ ~~in the third~~second quarter of ~~2017 was $55.2 million, or $4.4 million higher than the $50.8 million gross margin recorded during the third quarter of 2016.~~2019. Gross margin expressed as a percentage of value-added sales ~~was 32%~~decreased to 30% in the ~~third~~second quarter of ~~both 2017 and 2016.~~2020 from 36% in the second quarter of 2019. The decrease was primarily driven by lower volumes.

SG&A expense was ~~$36.4~~$32.9 million in the ~~third~~second quarter of ~~2017, or $2.2~~2020, compared to $39.9 million ~~higher than the $34.2 million recorded~~ in the ~~third~~second quarter of ~~2016.~~2019. The ~~increase is attributable to $2.1 million~~decrease in SG&A expense for the second quarter of ~~HTB expenses.~~2020 was primarily driven by lower variable compensation expense and cost management actions. Expressed as a percentage of value-added sales, SG&A expense was 20% in the second quarters of both 2020 and 2019.

R&D expense consists primarily of direct personnel costs for pre-production evaluation and testing of new products, prototypes, and applications. R&D expense ~~was flat as a percentage~~accounted for 3% and 2% of value-added sales ~~at approximately 2%~~ in the ~~third~~second quarter of ~~both 2017~~2020 and ~~2016.~~2019, respectively. The increase reflects additional investment in new product and application development.

~~Other-net~~ ~~was $3.8~~Restructuring expense consists primarily of cost reduction actions taken in order to reduce our fixed cost structure. In the second quarter of 2020, we recorded $2.4 million of ~~expense~~restructuring charges in our Performance Alloys and Composites segment

related to the closure of our Warren, Michigan and Fremont, California facilities. Refer to Note E to the Consolidated Financial Statements for additional discussion.

Other-net was $0.4 million of income in the ~~third~~second quarter of ~~2017,~~2020, or a ~~$0.6~~$3.2 million ~~increase~~decrease from the ~~third~~second quarter of ~~2016. Other-net~~2019, which was primarily driven by a $2.2 million foreign currency hedge gain realized in the ~~third~~second quarter of ~~2017 included higher metal consignment fees of $0.8 million, as compared to the third quarter of 2016.~~2020. Refer to Note D to the Consolidated Financial Statements for details of the major components within Other-net.

Other non-operating (income) expense-net includes components of pension and post-retirement expense other than service costs and a non-cash pre-tax pension curtailment charge of $3.3 million associated with the pension plan amendment to freeze the pay and service amounts used to calculate pension benefits during the second quarter of 2019. Refer to Note M to the Consolidated Financial Statements for details of the components.

Interest expense-net was $1.3 million and $0.5 million in the ~~third~~second quarter of ~~both 2017~~2020 and ~~2016.~~2019, respectively. The increase in interest expense is primarily due to higher borrowings under our revolving credit facility.

Income tax expensefor the ~~third~~second quarter of ~~2017~~2020 was ~~$1.7~~$1.6 million compared to ~~$1.6~~$3.6 million in the ~~third~~second quarter of ~~2016.~~2019. The effective tax rate for the ~~third~~second quarter of ~~2017~~2020 was ~~15.5%~~19.5% compared to ~~16.7%~~18.8% in the prior-year period. The ~~effects~~effective tax rate for each period is lower than the statutory tax rate primarily due to the impact of percentage depletion ~~the foreign rate differential,~~and the research and development ~~credit, discrete benefits, and other items were the primary factors for the difference between the effective and statutory rates in the third quarter of 2017 and 2016.~~credit. Refer to Note F to the Consolidated Financial Statements for further details on income taxes.

~~Nine~~Six Months


	Six Months Ended
	June 26,			June 28,			$		%
(Thousands, except per share data)	2020			2019			Change		Change
Net sales	$	549,414		$	599,284		$	(49,870)	(8)	%
Value-added sales	320,235			382,577			(62,342)		(16)	%
Gross margin	93,665			138,906			(45,241)		(33)	%
Gross margin as a % of value-added sales	29		%	36		%
SG&A expense	63,596			79,955			(16,359)		(20)	%
SG&A expense as a % of value-added sales	20		%	21		%
R&D expense	8,687			7,802			885		11	%
R&D expense as a % of value-added sales	3		%	2		%
Goodwill impairment charges	9,053			—			9,053		N/A
Held for sale impairment charges	1,713			—			1,713		N/A
Restructuring expense	4,551			—			4,551		N/A
Other—net	1,922			7,012			(5,090)		(73)	%
Operating profit	4,143			44,137			(39,994)		(91)	%
Other non-operating (income) expense—net	(1,795)			3,357			(5,152)		(153)	%
Interest expense—net	1,505			966			539		56	%
Income before income taxes	4,433			39,814			(35,381)		(89)	%
Income tax expense	858			7,368			(6,510)		(88)	%
Net income	$	3,575		$	32,446		$	(28,871)	(89)	%

Diluted earnings per share	$	0.17		$	1.57		$	(1.40)	(89)	%

Nine Months Ended
Sept. 29, Sept. 30, $ %
(Thousands, except per share data) 2017 2016 Change Change
Net sales $ 830,779
$ 734,906
$ 95,873
13 %
Value-added sales 496,462
454,793
41,669
9 %
Gross margin 152,756
139,418
13,338
10 %
Gross margin as a % of value-added sales 31 % 31 % N/A
N/A
SG&A expense
108,118
97,101
11,017
11 %
SG&A expense as a % of value-added sales 22 % 21 % N/A
N/A
R&D expense 10,103
9,860
243
2 %
R&D expense as a % of value-added sales 2 % 2 % N/A
N/A
Other—net 9,823
8,997
826
9 %
Operating profit 24,712
23,460
1,252
5 %
Interest expense—net 1,721
1,417
304
21 %
Income before income taxes 22,991
22,043
948
4 %
Income tax expense 3,308
3,081
227
7 %
Net income $ 19,683
$ 18,962
$ 721
4 %

Diluted earnings per share $ 0.97
$ 0.94
$ 0.03
3 %

N/A = Not Applicable

Net sales of ~~$830.8~~$549.4 million in the first ~~nine~~six months of ~~2017 were $95.9~~2020 decreased $49.9 million ~~higher than the $734.9~~from $599.3 million ~~recorded~~ in the first ~~nine~~six months of ~~2016. Changes~~2019. Net sales growth in our Advanced Materials segment was more than offset by decreased net sales in our Performance Alloys and Composites and Precision Coatings segments driven by lower sales volumes. The change in precious metal and copper prices favorably impacted net sales during the first six months of 2020 by $39.2 million.

Value-added sales of $320.2 million in the first ~~nine~~six months of ~~2017 by approximately $6.0~~2020 decreased $62.3 million, ~~when~~or 16%, compared to the first ~~nine~~six months of ~~2016. Net~~2019. The increase in semiconductor end market sales was more than offset by the decrease in value-added sales due to reduced demand in the ~~Performance Alloys~~aerospace and ~~Composites segment increased $18.5 million due to higher sales volume, including shipments of raw material beryllium hydroxide. Net sales of $77.9 million during~~defense, energy, telecom and data center, and industrial end markets.

Gross margin in the first ~~nine~~half of 2020 was $93.7 million, which was down 33% compared to the first six months of ~~2017 were attributable~~2019. Gross margin expressed as a percentage of value-added sales decreased to 29% in the first half of 2020 from 36% in the first half of 2019. The decrease was primarily driven by lower volumes, as well as a $1.3 million charge to reserve for slow moving and excess inventory related to the ~~HTB acquisition. Excluding the HTB acquisition, net sales~~collapse in demand in the ~~Advanced Materials segment increased $22.7 million due to higher sales volume in the consumer electronics~~oil and ~~industrial components end markets. These favorable impacts were offset by lower sales volume in the medical end market in the Precision Coatings segment.~~gas industry.

~~Value-added sales~~ ~~of $496.5~~SG&A expense was $63.6 million in the first ~~nine~~six months of ~~2017 increased $41.7 million, or 9%~~2020, compared to ~~the first nine months of 2016. Value-added sales from the HTB acquisition totaled approximately $24.9~~$80.0 million in the first ~~nine~~six months of ~~2017. Value-added sales to~~2019. The decrease in SG&A expense for the ~~consumer electronics end market, which accounted for 30%~~first half of ~~our total~~2020 was primarily driven by lower variable compensation expense and cost management actions. Expressed as a percentage of value-added sales, during the first nine months of 2017, increased $9.7 million from the prior-year period. Also, value-added sales in the industrial components end market increased $10.4 million from the prior-year period.

~~Gross margin~~ SG&A expense was 20% and 21% in the first ~~nine~~six months of ~~2017 was $152.8 million, or $13.4 million higher than the $139.4 million gross margin recorded during the first nine months of 2016. Gross margin was 31%~~2020 and 2019, respectively.

R&D expense accounted for 3% and 2% of value-added sales in the first ~~nine~~six months of ~~both 2017~~2020 and ~~2016.~~2019, respectively. The increase reflects additional investment in new product and application development.

~~SG&A~~Goodwill and Held for sale impairment charges includes non-recurring charges relating to goodwill and other assets in our Precision Coatings segment. Refer to Notes I and J to the Consolidated Financial Statements for additional discussion.

Restructuring expense ~~was $108.1 million~~consists primarily of cost reduction actions taken in order to reduce our fixed cost structure. In the first ~~nine~~six months of ~~2017, or $11.0~~2020, we recorded $4.6 million ~~higher than the $97.1 million recorded~~of restructuring charges in ~~the first nine months of 2016. The increase~~our Performance Alloys and Composites segment related to ~~higher incentive compensation~~the closure of our Warren, Michigan and ~~stock-based compensation expense of $8.1 million, which included $1.4 million due~~Fremont, California facilities. Refer to ~~accelerated stock compensation expense associated with~~Note E to the ~~transition of the Company's CEO. Additionally, the increase is attributable to HTB expenses of $4.2 million.~~Consolidated Financial Statements for additional discussion.

~~R&D expense~~Other-net was ~~flat as a percentage of value-added sales at approximately 2% in the first nine months of both 2017 and 2016.~~

~~Other-net~~ ~~was $9.8 million and $9.0~~$1.9 million of expense in the first ~~nine~~six months of ~~2017 and 2016, respectively.~~2020, or a $5.1 million decrease from the first six months of 2019. The decrease in Other-net was primarily driven by a $2.2 million foreign exchange hedge gain realized in the second quarter of 2020, as well as reduced metal consignment fees in the first ~~nine months~~half of ~~2017 included higher metal consignment fees of $1.3 million, as~~2020 compared to the first ~~nine months~~half of ~~2016.~~2019. Refer to Note D to the Consolidated Financial Statements for details of the major components within Other-net.

Interest expense-net was ~~$1.7~~$1.5 million and $1.0 million in the first ~~nine~~six months of ~~2017, or a $0.3~~2020 and 2019, respectively. The increase is primarily due to higher borrowings under our revolving credit facility.

Income tax expense for the first six months of 2020 was $0.9 million ~~increase from $1.4~~compared to $7.4 million in the first ~~nine~~six months of ~~2016 due to higher average debt outstanding.~~

~~Income tax expensefor the first nine months of 2017 was $3.3 million, compared to $3.1 million in the first nine months of 2016.~~2019. The effective tax rate for the first ~~nine~~six months of ~~2017~~2020 was ~~14.4%~~19.4% compared to ~~an effective tax rate of 14.0%~~18.5% in the prior-year period. The ~~effects~~effective tax rate for each period is lower than the statutory tax rate primarily due to the impact of percentage depletion ~~the foreign rate differential,~~and the research and development ~~credit, discrete benefits, and other items were~~credit. Additionally, the ~~primary factors~~effective tax rate for the ~~difference between the~~first six months of 2020 included a net discrete income tax expense of $0.8 million primarily related to an impairment of goodwill. The effective ~~and statutory rates in~~tax rate for the first ~~nine~~six months of ~~2017 and 2016.~~2019 included a net discrete income tax benefit of $0.5 million, primarily related to excess tax benefits from stock-based compensation awards. Refer to Note F to the Consolidated Financial Statements for further details on income taxes.

2230

Value-Added Sales - Reconciliation of Non-GAAP Financial Measure

A reconciliation of net sales to value-added sales, a non-GAAP financial measure, for each reportable segment and for the total Company for the second quarter and first ~~nine~~six months of ~~2017~~2020 and ~~2016~~2019 is as follows:


	Third Quarter Ended						Nine Months Ended							Second Quarter Ended						Six Months Ended
	Sept. 29,			Sept. 30,			Sept. 29,			Sept. 30,				June 26,		June 28,		June 26,		June 28,
(Thousands)	2017			2016			2017			2016			(Thousands)	2020		2019		2020		2019
Net sales													Net sales
Performance Alloys and Composites	$	109,393		$	103,699		$	310,487		$	292,024		Performance Alloys and Composites	$	101,614	$	135,231	$	200,681	$	262,344
Advanced Materials	157,770			107,250			429,550			328,927			Advanced Materials	150,108		133,238		310,273		277,263
Precision Coatings	27,105			38,670			90,742			113,955			Precision Coatings	19,746		29,374		38,460		59,677
Other	—			—			—			—			Other	—		—		—		—
Total	$	294,268		$	249,619		$	830,779		$	734,906		Total	$	271,468	$	297,843	$	549,414	$	599,284

Less: pass-through metal costs													Less: pass-through metal costs
Performance Alloys and Composites	$	18,756		$	16,452		$	47,953		$	43,225		Performance Alloys and Composites	$	11,858	$	19,988	$	27,210	$	37,500
Advanced Materials	97,379			61,290			259,830			193,908			Advanced Materials	95,443		74,931		196,420		161,449
Precision Coatings	5,209			12,867			22,932			38,407			Precision Coatings	1,968		6,285		3,693		14,051
Other	1,542			2,009			3,602			4,573			Other	630		1,743		1,856		3,707
Total	$	122,886		$	92,618		$	334,317		$	280,113		Total	$	109,899	$	102,947	$	229,179	$	216,707

Value-added sales													Value-added sales
Performance Alloys and Composites	$	90,637		$	87,247		$	262,534		$	248,799		Performance Alloys and Composites	$	89,756	$	115,243	$	173,471	$	224,844
Advanced Materials	60,391			45,960			169,720			135,019			Advanced Materials	54,665		58,307		113,853		115,814
Precision Coatings	21,896			25,803			67,810			75,548			Precision Coatings	17,778		23,089		34,767		45,626
Other	(1,542		)	(2,009		)	(3,602		)	(4,573		)	Other	(630)		(1,743)		(1,856)		(3,707)
Total	$	171,382		$	157,001		$	496,462		$	454,793		Total	$	161,569	$	194,896	$	320,235	$	382,577

The cost of gold, silver, platinum, palladium, and copper can be quite volatile. Our pricing policy is to directly pass the cost of these metals on to the customer in order to mitigate the impact of metal price volatility on our results from operations. Trends and comparisons of net sales are affected by movements in the market prices of these metals, but changes in net sales due to metal price movements may not have a proportionate impact on our profitability.

Internally, management reviews net sales on a value-added basis. Value-added sales is a non-GAAP financial measure that deducts the value of the pass-through metal costs from net sales. Value-added sales allow management to assess the impact of differences in net sales between periods, segments, or markets, and analyze the resulting margins and profitability without the distortion of movements in pass-through metal costs. The dollar amount of gross margin and operating profit is not affected by the value-added sales calculation. We sell other metals and materials that are not considered direct pass-throughs, and these costs are not deducted from net sales when calculating value-added sales. Non-GAAP financial measures, such as value-added sales, have inherent limitations and should not be considered in isolation, or as a substitute for analyses of results as reported under GAAP.

Our net sales are also affected by changes in the use of customer-supplied metal. When we manufacture a precious metal product, the customer may purchase metal from us or may elect to provide its own metal, in which case we process the metal on a toll basis and the metal value does not flow through net sales or cost of sales. In either case, we generally earn our margin based upon our fabrication efforts. The relationship of this margin to net sales can change depending upon whether or not the product was made from our metal or the customer’s metal. The use of value-added sales removes the potential distortion in the comparison of net sales caused by changes in the level of customer-supplied metal.

By presenting information on net sales and value-added sales, it is our intention to allow users of our financial statements to review our net sales with and without the impact of the pass-through metals.

Segment Results

The Company consists of four reportable segments: Performance Alloys and Composites, Advanced Materials, Precision Coatings, and Other. The Other reportable segment includes unallocated corporate costs.

Performance Alloys and Composites

~~Third~~Second Quarter


	Third Quarter Ended									Second Quarter Ended
	Sept. 29,		Sept. 30,		$		%			June 26,		June 28,		$		%
(Thousands)	2017		2016		Change		Change		(Thousands)	2020		2019		Change		Change
Net sales	$	109,393	$	103,699	$	5,694	5	%	Net sales	$	101,614	$	135,231	$	(33,617)	(25)	%
Value-added sales	90,637		87,247		3,390		4	%	Value-added sales	89,756		115,243		(25,487)		(22)	%
Operating profit	6,786		4,357		2,429		56	%	Operating profit	8,244		19,328		(11,084)		(57)	%

Net sales from the Performance Alloys and Composites segment of ~~$109.4~~$101.6 million in the ~~third~~second quarter of ~~2017~~2020 were ~~5% higher~~25% lower than net sales of ~~$103.7~~$135.2 million in the ~~third~~second quarter of ~~2016 primarily~~2019. The decrease was due to ~~higher~~reduced sales ~~volume related to~~into all major end markets, with the ~~industrial components,~~largest declines in aerospace and defense, consumer electronics, and ~~automotive electronics end markets. In addition, the impact of higher pass-through metal prices favorably impacted net sales by approximately $1.8 million.~~telecom and data center.

Value-added sales of ~~$90.6~~$89.8 million in the ~~third~~second quarter of ~~2017~~2020 were ~~4% higher~~22% lower than value-added sales of ~~$87.2~~$115.2 million in the ~~third~~second quarter of ~~2016.~~2019. The ~~increase~~decrease in value-added sales was ~~driven by stronger demand~~due to the same factors driving the decrease in ~~the aforementioned end markets of industrial components, consumer electronics, and automotive electronics, partially offset by a $3.1 million reduction in raw material beryllium hydroxide~~net sales.

Performance Alloys and Composites generated operating profit of ~~$6.8~~$8.2 million in the ~~third~~second quarter of ~~2017~~2020 compared to ~~$4.4~~$19.3 million in the ~~third~~second quarter of ~~2016.~~2019. The ~~increase~~decrease in operating profit was primarily due to ~~higher~~reduced sales ~~volume, favorable product mix,~~volumes as well as restructuring charges of $2.4 million in the second quarter of 2020 related to the closure of our Warren, Michigan and ~~productivity improvements.~~Fremont, California facilities.

~~Nine~~Six Months


	Nine Months Ended									Six Months Ended
	Sept. 29,		Sept. 30,		$		%			June 26,		June 28,		$		%
(Thousands)	2017		2016		Change		Change		(Thousands)	2020		2019		Change		Change
Net sales	$	310,487	$	292,024	$	18,463	6	%	Net sales	$	200,681	$	262,344	$	(61,663)	(24)	%
Value-added sales	262,534		248,799		13,735		6	%	Value-added sales	173,471		224,844		(51,373)		(23)	%
Operating profit	12,523		6,103		6,420		105	%	Operating profit	13,035		38,286		(25,251)		(66)	%

Net sales from the Performance Alloys and Composites segment of ~~$310.5~~$200.7 million in the first ~~nine~~six months of ~~2017~~2020 were ~~6% higher~~24% lower than net sales of ~~$292.0~~$262.3 million in the first ~~nine~~six months of ~~2016 primarily~~2019. The decrease was due to ~~increased demand~~reduced sales into all major end markets, with the largest declines in ~~the industrial components~~aerospace and ~~consumer electronics end markets. The impact of higher pass-through metal prices favorably impacted net sales by approximately $5.9 million.~~defense, telecom and data center, and energy.

Value-added sales of ~~$262.5~~$173.5 million in the first ~~nine~~six months of ~~2017~~2020 were ~~6% higher~~23% lower than value-added sales of ~~$248.8~~$224.8 million in the first ~~nine~~six months of ~~2016. Stronger demand in the consumer electronics and industrial components end markets increased value-added sales by $11.4 million compared to the first nine months of 2016. Also, the increase~~2019. The decrease in value-added sales was ~~driven by higher raw material sales of beryllium hydroxide of $2.0 million.~~due to the same factors driving the decrease in net sales.

Performance Alloys and Composites generated operating profit of ~~$12.5~~$13.0 million in the first ~~nine months~~half of ~~2017~~2020 compared to ~~$6.1~~$38.3 million in the first ~~nine months~~half of ~~2016.~~2019. The ~~increase~~decrease in operating profit was primarily due to ~~higher~~reduced sales ~~volume, favorable product mix,~~volumes as well as restructuring charges of $4.6 million in the first half of 2020 related to the closure of our Warren, Michigan and ~~productivity improvements.~~Fremont, California facilities. In addition, we recorded $1.3 million of additional reserves for slow-moving and excess inventory related to the collapse in demand in the oil and gas industry.

Advanced Materials

~~Third~~Second Quarter


	Third Quarter Ended								Second Quarter Ended
	Sept. 29,		Sept. 30,		$	%			June 26,		June 28,		$	%
(Thousands)	2017		2016		Change	Change		(Thousands)	2020		2019		Change	Change
Net sales	$	157,770	$	107,250	50,520	47	%	Net sales	$	150,108	$	133,238	16,870	13	%
Value-added sales	60,391		45,960		14,431	31	%	Value-added sales	54,665		58,307		(3,642)	(6)	%
Operating profit	9,756		8,245		1,511	18	%	Operating profit	4,370		6,139		(1,769)	(29)	%

Net sales from the Advanced Materials segment of ~~$157.8~~$150.1 million in the ~~third~~second quarter of ~~2017~~2020 were ~~47%~~13% higher than net sales of ~~$107.3~~$133.2 million in the ~~third~~second quarter of ~~2016~~2019. The increase in net sales was primarily due to ~~higher sales volume. Net sales of $38.6 million during the third quarter of 2017 were attributable to our HTB acquisition. Also, net sales increased due to higher sales volume offset by~~ the impact of ~~lower~~higher pass-through metal prices of ~~$4.7 million.~~$19.8 million, partially offset by a lower mix of precious metal-containing products and the mix of customer-supplied material.

Value-added sales of ~~$60.4~~$54.7 million in the ~~third~~second quarter of ~~2017 were 31% higher than~~2020 decreased 6% compared to value-added sales of ~~$46.0~~$58.3 million in the ~~third~~second quarter of ~~2016. This increase included~~2019. Higher semiconductor end market sales were more than offset by decreased value-added sales ~~of $11.4 million attributable to our HTB acquisition. Also,~~into the ~~increase in value-added sales was driven by higher value-added sales to the consumer electronics end market of $2.2 million due primarily to higher demand.~~energy and industrial markets.

The Advanced Materials segment generated operating profit of ~~$9.8~~$4.4 million in the ~~third~~second quarter of ~~2017~~2020 compared to ~~$8.3~~$6.1 million in the ~~third~~second quarter of ~~2016. Operating~~2019. Decreased operating profit in the ~~third~~second quarter of ~~2017~~2020, compared to the second quarter of 2019, was ~~favorably impacted by higher~~the result of lower sales ~~volume.~~volumes and reduced manufacturing yields.

~~Nine~~Six Months


	Nine Months Ended								Six Months Ended
	Sept. 29,		Sept. 30,		$	%			June 26,		June 28,		$	%
(Thousands)	2017		2016		Change	Change		(Thousands)	2020		2019		Change	Change
Net sales	$	429,550	$	328,927	100,623	31	%	Net sales	$	310,273	$	277,263	33,010	12	%
Value-added sales	169,720		135,019		34,701	26	%	Value-added sales	113,853		115,814		(1,961)	(2)	%
Operating profit	24,873		20,748		4,125	20	%	Operating profit	9,155		13,219		(4,064)	(31)	%



Ohio			34-1919973
(State or other jurisdiction of incorporation or organization)			(I.R.S. Employer Identification No.)

~~6070 Parkland Blvd., Mayfield Heights, Ohio~~		~~44124~~
~~(Address of principal executive offices)~~	~~(Zip Code)~~


Title of each class	Trading Symbol(s)	Name of each exchange on which registered
Common Stock, no par value	MTRN	New York Stock Exchange



~~Large accelerated filer~~ þ			~~Accelerated filer~~ ¨
~~Non-accelerated filer~~ ¨ ~~(Do not check if a smaller reporting company)~~			~~Smaller reporting company~~ ¨
			~~Emerging growth company~~ ¨



ý			QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934



¨			TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934



(Thousands)	Amount
Assets:
Inventories	$	7,221
Prepaid and other current assets	1,107
Long-term deferred income taxes	1,450
Property, plant, and equipment	7,637
Intangible assets	3,236
Goodwill	2,605
Total assets acquired	$	23,256

Liabilities:
Other liabilities and accrued items	$	1,030
Other long-term liabilities	430
Retirement and post-employment benefits	5,292
Total liabilities assumed	$	6,752

Total purchase price	$	16,504



(Thousands)	Value at Acquisition		Useful Life
Customer relationships	$	1,861	15 years
Technology	1,375		3 years
Total	$	3,236



	September 29,			December 31,
(Thousands)	2017			2016
Total outstanding debt	$	4,007		$	4,615
Cash	22,486			31,464
Net debt (cash)	(18,479		)	(26,849		)
Available borrowing capacity	$	266,405		$	238,886
Debt-to-debt-plus-equity ratio	1		%	1		%


▪	~~Actual net sales, operating rates, and margins for 2017;~~


▪	~~Our ability to effectively integrate the HTB acquisition;~~


▪	~~The impact of any U.S. Federal Government shutdowns and sequestrations;~~


▪	The condition of the markets which we serve, whether defined geographically or by segment, with the major market segments being: consumer electronics, industrial components, defense, medical, automotive electronics, telecommunications infrastructure, energy, commercial aerospace, and science;


▪	~~Changes in product mix and the financial condition of customers;~~


▪	~~Our success in developing and introducing new products and new product ramp-up rates;~~


▪	~~Our success in passing through the costs of raw materials to customers or otherwise mitigating fluctuating prices for those materials, including the impact of fluctuating prices on inventory values;~~


▪	~~Our success in identifying acquisition candidates and in acquiring and integrating such businesses;~~


▪	~~The impact of the results of acquisitions on our ability to fully achieve the strategic and financial objectives related to these acquisitions;~~


▪	~~Our success in implementing our strategic plans and the timely and successful completion and start-up of any capital projects;~~


▪	~~The availability of adequate lines of credit and the associated interest rates;~~


▪	~~The uncertainties related to the impact of war, terrorist activities, and acts of God;~~


▪	~~Changes in government regulatory requirements and the enactment of new legislation that impacts our obligations and operations;~~


▪	~~The conclusion of pending litigation matters in accordance with our expectation that there will be no material adverse effects;~~


▪	~~Our ability to strengthen our internal control over financial reporting and disclosure controls and procedures; and~~



Item 3.			Quantitative and Qualitative Disclosures about Market Risk



Item 2.			Unregistered Sales of Equity Securities and Use of Proceeds



Period	Total Number of Shares Purchased (1)	Average Price Paid per Share (1)		Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs (2)	Approximate Dollar Value of Shares that May Yet Be Purchased Under the Plans or Programs (2)
July 1 through August 4, 2017	895	$	38.42	—	$	15,703,744
August 5 through September 1, 2017	401	38.16		—	15,703,744
September 1 through September 29, 2017	1,062	42.88		—	15,703,744
Total	2,358	$	40.38	—	$	15,703,744



(1)			Includes ~~895, 401, and 1,062~~196 shares surrendered to the Company in ~~July, August, and September, respectively,~~May by employees to satisfy tax withholding obligations on equity awards issued under the Company's stock incentive plan.

(2)			On January 14, 2014, we announced that our Board of Directors had authorized the repurchase of up to $50.0 million of our common stock. WeDuring the three months ended June 26, 2020, we did not repurchase any shares under this ~~program during the third quarter of 2017.~~program. As of ~~September 29, 2017, $15.7~~June 26, 2020, $8.3 million may still be purchased under the program.


10.1						Form of Non-Employee Directors' Restricted Stock Units Agreement under the Materion Corporation 2006 Non-Employee Director Equity Plan (As Amended and Restated as of May 3, 2017), covering grants made in 2020*
31.1						Certification of Chief Executive Officer required by Rule 13a-14(a) or 15d-14(a)*
31.2						Certification of Chief Financial Officer required by Rule 13a-14(a) or 15d-14(a)*
32						Certifications of Chief Executive Officer and Chief Financial Officer required by 18 U.S.C. Section 1350*
95						Mine Safety Disclosure Pursuant to Section 1503(a) of the Dodd-Frank Wall Street Reform and Consumer Protection Act for the period ended September 29, 2017June 26 , 2020
101.INS						XBRL Instance DocumentDocument - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document
101.SCH						Inline XBRL Taxonomy Extension Schema Document*
101.DEF						Inline XBRL Taxonomy Extension Definition Linkbase Document*
101.CAL						Inline XBRL Taxonomy Extension Calculation Linkbase Document*
101.LAB						Inline XBRL Taxonomy Extension Label Linkbase Document*
101.PRE						Inline XBRL Taxonomy Extension Presentation Linkbase Document*
104						Cover Page Interactive Data File (formatted as Inline XBRL and contained in the Exhibit 101 attachments)