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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTER ENDED April 30, 1999 COMMISSION FILE NUMBER: 0-26968
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ETEC SYSTEMS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
NEVADA 94-3094580
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER IDENTIFICATION NO.)
INCORPORATION OR ORGANIZATION)
26460 CORPORATE AVENUE, HAYWARD, CALIFORNIA 94545
(ADDRESS AND ZIP CODE OF PRINCIPAL EXECUTIVE OFFICES)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (510)783-9210
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days.
Yes X No
21,407,749 shares of Common Stock were outstanding as of June 4, 1999.
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Part 1. Financial Information
Item 1. Consolidated Financial Statements
ETEC SYSTEMS, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
(Unaudited)
April 30, July 31,
1999 1998
------------ ------------
ASSETS
Current assets:
Cash and cash equivalents.......................... $40,604 $63,600
Marketable securities.............................. 19,658 36,689
Accounts receivable, less allowance for
doubtful accounts of $1,897 and $1,226............ 78,108 84,529
Inventory.......................................... 92,036 86,512
Deferred tax assets................................ 17,902 17,902
Other current assets............................... 13,969 11,322
------------ ------------
Total current assets.............................. 262,277 300,554
Property, plant and equipment, net................. 50,539 48,970
Other assets....................................... 8,455 8,990
------------ ------------
$321,271 $358,514
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable................................... $28,126 $26,506
Accrued and other liabilities...................... 34,058 60,804
Taxes payable...................................... 10,140 18,132
------------ ------------
Total current liabilities......................... 72,324 105,442
Deferred gain on sale of asset..................... 2,516 2,649
Other liabilities.................................. 6,603 3,754
------------ ------------
Total liabilities................................. 81,443 111,845
------------ ------------
Commitments and contingencies
Stockholders' equity:
Preferred Stock, par value $0.01 per share;
10,000,000 shares authorized; none outstanding.... -- --
Common Stock, par value $0.01 per share;
60,000,000 shares authorized; 21,399,281 and
21,977,070 issued and outstanding................. 214 220
Warrants........................................... 600 600
Additional paid-in capital......................... 187,402 201,327
Cumulative translation adjustments................. 928 (1,200)
Retained earnings ................................. 50,684 45,722
------------ ------------
Total stockholders' equity........................ 239,828 246,669
------------ ------------
$321,271 $358,514
============ ============
See the accompanying notes to these consolidated financial statements.
ETEC SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
Three Months Ended Nine Months Ended
April 30, April 30,
------------------- -------------------
1999 1998 1999 1998
--------- --------- --------- ---------
Revenue:
Products........................... $46,668 $60,969 $157,849 $173,101
Services........................... 10,517 9,059 31,270 27,460
--------- --------- --------- ---------
57,185 70,028 189,119 200,561
--------- --------- --------- ---------
Cost of revenue:
Products........................... 31,040 27,145 80,886 76,750
Services........................... 9,090 7,133 26,433 20,850
--------- --------- --------- ---------
40,130 34,278 107,319 97,600
--------- --------- --------- ---------
Gross profit......................... 17,055 35,750 81,800 102,961
--------- --------- --------- ---------
Operating expenses:
Research, development and
engineering....................... 14,601 13,056 45,445 37,388
Selling, general and
administrative.................... 9,989 7,362 28,029 24,735
Restructuring charges.............. 2,515 -- 2,515 --
--------- --------- --------- ---------
27,105 20,418 75,989 62,123
--------- --------- --------- ---------
(Loss)/income from operations........ (10,050) 15,332 5,811 40,838
Interest expense..................... (69) (257) (381) (617)
Interest income and other, net....... 786 1,222 2,088 3,371
--------- --------- --------- ---------
(Loss)/income before income tax
provision (benefit).................. (9,333) 16,297 7,518 43,592
Income tax provision................. (3,173) 5,623 2,556 15,039
--------- --------- --------- ---------
Net (loss)/income.................... ($6,160) $10,674 $4,962 $28,553
========= ========= ========= =========
Net (loss)/income per share-basic..... ($0.29) $0.49 $0.23 $1.30
========= ========= ========= =========
Weighted-average shares............. 21,380 22,004 21,429 21,881
========= ========= ========= =========
Net (loss)/income per share-diluted.. ($0.29) $0.47 $0.23 $1.25
========= ========= ========= =========
Dilutive potential common shares..... 21,380 22,916 21,998 22,827
========= ========= ========= =========
See the accompanying notes to these consolidated financial statements.
ETEC SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
Nine Months Ended
April 30,
---------------------
1999 1998
---------- ----------
Cash flows from operating activities:
Net income............................................... $4,962 $28,553
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization.......................... 10,276 5,459
Changes in assets and liabilities:
Accounts receivable.................................... (2,019) (38,319)
Factoring of accounts receivable....................... 8,440 6,200
Inventory.............................................. (5,524) (18,021)
Other assets........................................... (2,245) (14,571)
Accounts payable....................................... 1,620 646
Accrued and other liabilities.......................... (15,728) 19,722
---------- ----------
Net cash used in operating activities................ (218) (10,331)
---------- ----------
Cash flows from investing activities:
Sales (purchases) of marketable securities, net........ 17,031 (22,055)
Capital expenditures for property and equipment, net... (11,845) (8,781)
Proceeds from sale of facilities....................... -- 11,000
---------- ----------
Net cash provided by (used in) investing activities.. 5,186 (19,836)
---------- ----------
Cash flows from financing activities:
Repayment of debt and capital leases................... (128) (93)
Financing from (repayment to) intermediary............. (13,981) 12,115
Collection of notes receivable
from stockholders..................................... -- 201
Repurchase of Common Stock ............................ (19,822) --
Proceeds from issuance of Common Stock................. 5,891 4,128
---------- ----------
Net cash (used in) provided by financing activities.. (28,040) 16,351
---------- ----------
Effect of exchange rate changes on cash.................. 76 (1,285)
---------- ----------
Net change in cash and cash equivalents.................. (22,996) (15,101)
Cash and cash equivalents at the beginning
of the period.......................................... 63,600 55,975
---------- ----------
Cash and cash equivalents at the end of the period....... $40,604 $40,874
========== ==========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the period for interest................. $535 $531
========== ==========
Cash paid during the period for income taxes............. $10,510 $6,734
========== ==========
Tax benefits from stock option transactions.............. $1,411 $2,077
========== ==========
See the accompanying notes to these consolidated financial statements.
NOTE 1 - BASIS OF PRESENTATION
In the opinion of the management of Etec Systems, Inc. ("Etec"
or the "Company"), the unaudited consolidated interim financial
statements included herein have been prepared on the same basis as
the July 31, 1998 audited consolidated financial statements and
include all adjustments, consisting of normal recurring adjustments,
necessary for a fair presentation of the interim period results.
The results of operations for current interim periods are not
necessarily indicative of results to be expected for the current year
or for any other period.
These consolidated financial statements should be read in
conjunction with the audited consolidated financial statements and
notes thereto for the fiscal year ended July 31, 1998 included in the
Company's Annual Report on Form 10-K (File No. 0-26968). The July
31, 1998 balance sheet included herein was derived from audited
consolidated financial statements, but does not include all
disclosures required by generally accepted accounting principles.
The Company operates on a 52-week calendar. For purposes of
presentation, the Company has indicated its interim fiscal periods as
ending April 30, 1999 and July 31, 1998.
The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets
and liabilities and disclosures of contingent assets and liabilities
at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting periods. Actual results
could differ from those estimates.
Net Income Per Share
Basic net income per share has been computed using the weighted
average number of common shares outstanding during the period.
Diluted net income per share has been computed using the weighted
average number of common shares and equivalents (representing the
dilutive effect of stock options) outstanding during the period. Net
income has not been adjusted for any period presented for purposes of
computing basic and diluted net income per share. Due to the net loss
incurred for the three months ended April 30, 1999, common stock
equivalents outstanding were considered anti-dilutive and excluded
from the calculation of net loss per share-diluted.
For purposes of computing diluted net income per share,
weighted average potential common shares do not include stock options
with an exercise price that exceeds the average fair market value of
the Company's common stock for the period. The number of shares
excluded from the computation for the respective quarters ended April
30, 1999 and 1998 were 2,682,605 and 184,200 shares at an average
exercise price of $27.62 and $58.92, respectively.
Recent Accounting Pronouncements
In June 1997, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 131, "Disclosures
about Segments of an Enterprise and Related Information" (SFAS 131).
SFAS 131 establishes standards for reporting information about
operating segments in annual and interim financial statements and
also establishes standards for related disclosures about products and
services, geographic areas and major customers. SFAS 131 is
effective for fiscal years beginning after December 15, 1997. The
Company will begin reporting segment information for product groups
exceeding the quantitative thresholds in its Annual Report on Form
10-K for the year ending July 31, 1999.
In June 1998, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities" (SFAS 133). SFAS 133
establishes new standards of accounting and reporting for derivative
instruments and hedging activities. SFAS 133 requires that all
derivatives be recognized at their fair value in the statement of
financial position and the corresponding gains or losses be either
reported in the statement of operations or as a component of
comprehensive income, depending on the type of hedging relationship
that exists. The Company has not yet determined the effect of
adopting SFAS 133, which is expected to be effective for the
Company's fiscal year 2000.
NOTE 2 - CASH EQUIVALENTS AND MARKETABLE SECURITIES
The Company considers all highly liquid debt instruments having
a maturity of three months or less to be cash equivalents.
The Company has classified all investments as available for
sale. Investments classified as available for sale are recorded at
fair value and any temporary difference between an investment's cost
and fair value is recorded as a separate component of stockholders'
equity. At April 30, 1999, these available for sale securities
totaling approximately $19.7 million were included in cash and cash
equivalents or marketable securities. The investment portfolio at
April 30, 1999 is comprised of money market funds, corporate
debentures, and municipal obligations. Temporary differences between
cost and fair value at April 30, 1999 and July 31, 1998 were not
material.
NOTE 3 - INVENTORY
April 3, July 31,
1999 1998
----------- -----------
(in thousands)
Purchased parts.................... $17,706 $30,407
Work-in-process.................... 45,607 35,554
Spares............................. 28,723 20,551
----------- -----------
$92,036 $86,512
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NOTE 4 - INCOME TAXES
The Company recorded a benefit and a provision for income taxes
for the three months ended April 30, 1999 and 1998 of $3.2 million
and $5.6 million, respectively. The Company's benefit for income
taxes for the three months ended April 30, 1999 reflects a reversal
of income tax provisions taken in the first two quarters of fiscal
1999 to adjust the tax liability to the year to date earnings at the
Company's effective tax rate. Management will continue to evaluate
the recoverability of the deferred tax assets in future periods.
NOTE 5 - COMPREHENSIVE INCOME
As of the first quarter of fiscal 1999, the Company adopted
Statement of Financial Accounting Standards No. 130 (SFAS 130),
"Reporting Comprehensive Income," which establishes standards for the
reporting and display of comprehensive income and its components.
SFAS 130 requires that unrealized gains or losses on investments and
foreign currency translation adjustments be included in other
comprehensive income. The components of comprehensive income are as
follows:
Three Months Ended Nine Months Ended
------------------------ ------------------------
April 30, April 30,
1999 1998 1999 1998
----------- ----------- ----------- -----------
(in thousands)
Net (loss)/income......... ($6,160) $10,674 $4,962 $28,553
Change in cumulative
translation adjustments.. (438) 437 2,128 (799)
----------- ----------- ----------- -----------
Total comprehensive
(loss)/income............ ($6,598) $11,111 $7,090 $27,754
=========== =========== =========== ===========
NOTE 6 - CONTINGENT LIABILITIES
Semiconductor-related industries have experienced substantial
litigation regarding patent and other intellectual property rights.
As is typical in the industry, Etec has from time to time received,
and may in the future receive, communications from third parties
alleging infringements of patents and other intellectual property
rights. In the future, protracted litigation may be necessary to
defend us against alleged infringement of others' rights. Any such
litigation, even if we are ultimately successful in our defense,
could result in substantial cost and diversion of time and effort by
management. This in and of itself could have a material adverse
effect on our business, financial condition and results of
operations. Further, adverse determinations in such litigation could
result in our loss of proprietary rights, subject Etec to significant
liabilities (including treble damages under certain circumstances),
require us to seek licenses from third parties, or prevent us from
manufacturing or selling our systems.
The Lemelson Foundation has filed a suit against numerous
semiconductor manufacturers, claiming patent infringement of a number
of basic U.S. patents granted to Jerome Lemelson over many years.
Some of these semiconductor companies, and the attorneys for the
Lemelson Foundation, have also contacted semiconductor equipment
companies and commercial maskmaking companies, claiming potential
liability for infringement of these same patents. We, in turn, have
been contacted by two of our customers, notifying us of the fact that
they have received claims and claiming that we may have
responsibility for indemnifying them under the terms of our sales
contracts. We have reached a settlement with one customer, and we
believe that we will be able to settle with the other customer on
reasonable terms, without any material adverse effect. However, there
is no assurance that we will be able to do so, and the costs of a
lengthy litigation, or a judgment in which we are found liable, could
have a material adverse effect. In addition, we may receive similar
claims for indemnity from other U.S. customers who are pursued by the
Lemelson Foundation.
NOTE 7 - RESTRUCTURING AND OTHER CHARGES
During the quarter ended April 30, 1999, management implemented
a plan to respond to the industry downturn adversely affecting the
Company's business by restructuring certain operating activities.
Accordingly, the Company recorded pre-tax restructuring and other
charges of $12.2 million. The components of these charges were as
follows (in thousands):
Three Months
Ended
April 30, 1999
-----------
Inventory reserves........ $8,272
Restructuring............. 2,515
Other..................... 1,415
-----------
Total..................... $12,202
===========
Inventory reserves
The Company's policy is to reserve against inventory in excess
of that needed over a period deemed short enough to assure management
that the inventory is usable and not obsolete. During the quarter
ended April 30, 1999, the Company recorded additional provisions for
inventory reserves of $8.3 million primarily as a result of shorter
manufacturing cycle times, decreased order visibility, and a reduced
planning horizon caused by reduced backlog. Each of these factors
either shortened the period over which the Company feels confident
that inventory will be usable, or reduced the amount of inventory
that the Company forecasts as needed over the period. The charges for
additional inventory reserves are included in cost of sales.
Restructuring
The Company recorded restructuring charges totaling $2.5
million in the quarter ended April 30, 1999. The restructuring
charges are comprised mainly of severance costs related to the
involuntary termination of 91 employees, of which 73 were based in
Hayward, 12 in Oregon and 6 in France. These charges also include
facility costs arising from the consolidation of the Company's
European and Oregon operations.
The following table shows the components of the restructuring
charge recorded in the three months ended April 30, 1999 (in
thousands):
Provision Incurred Balance
Three Months Three Months
Ended Ended At
April 30,1999April 30,1999April 30,1999
----------- ----------- -----------
(in thousands)
Severance and benefits.... $1,593 $828 $765
Facilities closure costs
and other................ 922 330 592
----------- ----------- -----------
Total..................... $2,515 $1,158 $1,357
=========== =========== ===========
Cash outlays were primarily made for severance and benefit
costs. The Company expects to incur approximately $1.2 million of
cash expenditures during the next twelve months. The balance due for
severance and benefits at April 30, 1999 primarily relates to amounts
due to French employees.
Other
Other charges of $1.4 million principally consist of additional
reserves taken against accounts receivable, arising from management's
assessment of the collectability of all outstanding balances in the
context of the general industry downturn. This charge is included in
selling, general and administrative expenses.
Item 2. Management's Discussion and Analysis of Financial condition and
Restults of Operations
A. Results of Operations
Quarters Ended April 30, 1999 and April 30, 1998
Revenue. Revenues comprise primarily sales of the Company's MEBES(R),
CORE(R), and ALTA(R) mask pattern generation systems, accessories and
upgrades, and the provision of technical support, maintenance and
other services on such products. Product sales, as a percentage of
total revenue, decreased from 87% in the quarter ended April 30, 1998
to 82% in the quarter ended April 30, 1999, while service revenues
increased from 13% to 18% of total revenue over the same period.
These fluctuations are primarily a function of the number of systems
recognized as revenue. The Company recognized revenue on eight
Semiconductor Products Group (SPG) systems in the quarter ended April
30, 1998 compared to four SPG systems and one Interconnect Products
Group (IPG) system in the quarter ended April 30, 1999. The Company
derives most of its revenues from the sale of a small number of
systems and upgrades. As such, any delay in the recognition of
revenue for a single system or upgrade can have a material adverse
effect on the Company's consolidated results of operations in a
particular period.
Product revenue decreased 23% to $46.7 million from $61.0 million for
the quarters ended April 30, 1999 and 1998, respectively. The reduced
revenue resulting from the decrease in system shipments was partially
offset by an increase in average sales prices and by higher shipments
of accessories and upgrades during the quarter. Weak global demand
for semiconductors has translated into reduced demand for masks and
for the Company's products, which will likely result in reduced
product revenue for the remainder of the fiscal year compared to the
prior fiscal year. Beyond fiscal 1999, the duration and impact of the
reduced demand is unclear.
Service revenue increased 16% to $10.5 million from $9.1 million for
the quarters ended April 30, 1999 and 1998, respectively, due
primarily to an increase in the number of systems under service
contracts.
Gross Profit. The Company's gross profit on product revenue decreased
54% to $15.6 million from $33.8 million for the quarters ended April
30, 1999 and 1998, respectively. In the quarter ended April 30, 1999,
the Company incurred inventory and other charges totaling $8.2
million that were recorded to cost of revenue. These charges
comprised $7.6 million of additional reserves for excess and obsolete
inventory resulting from the Company's reassessment of future demand
for its products and $0.6 million of other miscellaneous charges.
Without these charges, product gross margin for the quarter ended
April 30, 1999 would have been 51%, compared with 55% for the quarter
ended April 30, 1998. This 4% decrease is primarily attributable to
changes in product mix and to the spreading of fixed costs over lower
product revenues. The Company anticipates that gross margin,
excluding the third quarter inventory and other charges, will remain
relatively constant or potentially decline in the remainder of fiscal
1999. However, the Company expects that any decline in gross profit
will be partially mitigated by benefits arising from reduced
headcount and facilities costs resulting from the restructuring in
the quarter ended April 30, 1999. Margins could be negatively
impacted by a number of factors, including lower than expected
volume, especially if coupled with costs associated with new
manufacturing facilities starting in the fourth quarter of fiscal
1999. Margins could also be adversely affected by product mix skewing
toward older, less expensive mask pattern generation equipment or
lower than anticipated margins in the laser direct imaging business
(the Company's Interconnect Products Group) where the Company does
not have significant prior experience or sales volumes. A substantial
portion of the Company's international sales are denominated in U.S.
dollars. As a result, changes in the values of foreign currencies
relative to the value of the U.S. dollar can render our products
comparatively more expensive. Although the Company has not been
negatively impacted in the past by foreign currency fluctuations,
such conditions could affect our international sales in future
periods. A combination of some or all of these factors may have a
material adverse effect on margins in the remainder of fiscal 1999.
The Company's gross profit on service revenue declined 26% to $1.4
million from $1.9 million for the quarters ended April 30, 1999 and
1998, respectively. Gross margin on service revenue was 14% and 21%
for the quarters ended April 30, 1999 and 1998, respectively. The
decreased gross profit and gross margin reflect higher costs due to
increased personnel and inventory levels required to service the
growing installed base and to improve customer satisfaction.
Research, Development and Engineering. The Company's research,
development and engineering expenses continue to reflect its
commitment to high levels of product development effort. These
expenses, net of third-party funding under cooperative development
agreements, increased to $14.6 million, representing 26% of revenue,
from $13.1 million, representing 19% of revenue, for the quarters
ended April 30, 1999 and 1998, respectively. The increase is
primarily due to expenses incurred in the development of future
generation ALTA and MEBES systems. Funding received under cooperative
development contracts was $2.1 million and $1.5 million for the
quarters ended April 30, 1999 and 1998, respectively. Research and
development expense in the remainder of fiscal 1999 could be higher
than expected if the Company is unable to meet milestones necessary
to secure funding under its cooperative development contracts.
Selling, General and Administrative. Selling, general and
administrative expenses increased 36% to $10.0 million, representing
17% of revenue, from $7.4 million, representing 11% of revenue, for
the quarters ended April 30, 1999 and 1998, respectively. Included in
selling, general and administrative expenses for the quarter ended
April 30, 1999 are other charges totaling $1.4 million, consisting
primarily of an increase in the bad debt provision. The remainder of
the increase in selling, general and administrative expenses was
primarily due to headcount growth and incremental costs incurred to
support the ramp-up of the Company's IPG operations. These increases
were partially offset by the reversal during the quarter ended April
30, 1999 of accruals made earlier in the year for employee incentive
programs.
Restructuring Charges. The Company recorded restructuring charges
totaling $2.5 million in the quarter ended April 30, 1999. The
restructuring charges are comprised mainly of severance and benefit
costs related to the involuntary termination of 91 employees, of
which 73 were based in Hayward, 12 in Oregon and 6 in France. These
charges also include facility costs arising from the consolidation of
the Company's European and Oregon operations.
Interest Expense. Interest expense for the quarters ended April 30,
1999 and 1998 was $0.1 million and $0.3 million, respectively.
Interest Income and Other, net. Interest and other income was $0.8
million for the quarter ended April 30, 1999, compared with $1.2
million in the quarter ended April 30, 1998. The decrease is mainly
due to lower average cash balances available for investment and lower
interest rates, as the Company shifted much of its portfolio to tax-
exempt instruments.
Income Tax Provision. The Company recorded an income tax benefit of
$3.2 million for the quarter ended April 30, 1999 and a provision for
income taxes of $5.6 million for the quarter ended April 30, 1998.
The Company's effective tax rate decreased from 34.5% in the quarter
ended April 30, 1998 to 34% in the quarter ended April 30, 1999,
primarily due to increased research and development tax credits and
increased benefits from the use of a foreign sales corporation. The
benefit recorded for the three months ended April 30, 1999 reflects a
reversal of income tax provisions taken in the first two quarters of
fiscal 1999 to adjust the tax liability to the year to date earnings
at the Company's effective tax rate.
Nine Months Ended April 30, 1999 and April 30, 1998
Revenue. Product revenue decreased 9% to $157.8 million from $173.1
million for the nine months ended April 30, 1999 and 1998,
respectively. This decrease reflects the sale of ten fewer systems,
substantially offset by an increase in the number of upgrades
shipped, changes in product mix toward higher-priced products, and
generally higher average selling prices.
Service revenue increased 14% to $31.3 million from $27.5 million for
the nine months ended April 30, 1999 and 1998, respectively, due
primarily to higher service activity caused by an increase in the
number of systems under service contracts.
Gross Profit. The Company's gross profit on product revenue
decreased 20% to $77.0 million from $96.4 million for the nine months
ended April 30, 1999 and 1998, respectively. The decrease in gross
profit on product revenue was due to a decrease in product revenue as
noted previously and a lower gross margin on product revenue, which
decreased to 49% for the nine months ended April 30, 1999 from 56%
for the nine months ended April 30, 1998. Excluding the inventory
and other charges of $8.2 million taken in the quarter ended April
30, 1999, gross margin on product revenue would have been 54%. The 2%
decrease in product gross margin, excluding these charges, is
primarily attributable to excess manufacturing capacity and to
pricing pressures arising from current market conditions.
The Company's gross profit on service revenue decreased 27% to $4.8
million from $6.6 million for the nine months ended April 30, 1999
and 1998, respectively. Gross margin on service revenue was 15% and
24% for the nine months ended April 30, 1999 and 1998, respectively.
The decreased gross profit and gross margin reflect higher costs due
to increased personnel and inventory levels required to service the
growing installed base and to improve customer satisfaction.
Research, Development and Engineering. The Company's research,
development and engineering expenses continue to reflect its
commitment to high levels of product development effort. These
expenses, net of third-party funding under cooperative development
agreements, increased to $45.4 million, representing 24% of revenue,
from $37.4 million, representing 19% of revenue, for the nine months
ended April 30, 1999 and 1998, respectively. The increase was
primarily due to higher consumption of materials on next-generation
MEBES and ALTA development projects. These increased expenses were
partially offset by an increase in funding from $5.1 million in the
first nine months of fiscal 1998 to $6.1 million in the first nine
months of fiscal 1999. The Company expects future increases in net
spending due to its commitment to product development.
Selling, General and Administrative. Selling, general and
administrative expenses increased 13% to $28.0 million, representing
15% of revenue, from $24.7 million, representing 12% of revenue, for
the nine months ended April 30, 1999 and 1998, respectively. Without
the $1.4 million of other charges referred to previously, selling,
general and administrative expenses for the nine months ended April
30, 1999 would have been 14% of revenue. The increase, net of these
charges, is primarily due to headcount growth and higher costs
incurred to support the Company's IPG operations.
Restructuring Charges. The Company recorded restructuring charges
totaling $2.5 million in the quarter ended April 30, 1999. The
restructuring charges are comprised mainly of severance and benefit
costs related to the involuntary termination of 91 employees, of
which 73 were based in Hayward, 12 in Oregon and 6 in France. These
charges also include facility costs arising from the consolidation of
the Company's European and Oregon operations.
Income Tax Provision. The Company recorded provisions for income
taxes for the nine months ended April 30, 1999 and 1998 of $2.6
million and $15.0 million, respectively. The Company's provision for
income taxes for the nine months ended April 30, 1999 reflects the
utilization of tax credits and tax benefits from the use of a foreign
sales corporation, partially offset by foreign earnings taxed at
higher rates. Management's evaluation of the recoverability of the
Company's deferred tax assets is based in part upon the current
product backlog and the Company's presumed ability to meet
manufacturing demand. Management will continue to evaluate the
recoverability of the deferred tax assets in future periods.
B. Liquidity and Capital Resources
In addition to its operational cash flows, in fiscal 1998 the Company
entered into agreements with its landlords under which they agreed to
make investments of up to $121.0 million for the construction of
additional manufacturing facilities under operating lease
arrangements. The Company has used $94.0 million of the $121.0
million total in fiscal 1998 and the first three quarters of fiscal
1999. In fiscal 1996 and fiscal 1997 the Company raised approximately
$108.0 million from sales of its common stock in an initial public
offering, two additional public offerings, and a private placement.
In fiscal 1997, the Company received $5.0 million from the sale and
leaseback of its headquarters campus.
The Company spent approximately $11.8 million for net capital
expenditures in the nine months ended April 30,1999, primarily to
purchase testing and process equipment.
In October 1997, the Company purchased approximately 4.2 acres of
land in Hayward, California for $0.9 million. This site provides the
Company flexibility for future expansion of its Hayward-based
operations. In addition, in November 1997, the Company completed the
purchase of approximately 15.2 acres of land in Hillsboro, Oregon for
approximately $2.4 million. The Company is having a new facility
constructed on this site to meet development and manufacturing
requirements for its laser mask pattern generation products and to
back up its electron-beam manufacturing capabilities in Hayward,
California. The new facilities in Hayward and Hillsboro are scheduled
to be completed in the fourth quarter of fiscal 1999. The operating
lease costs associated with these facilities will increase the
Company's manufacturing costs, starting in the fourth quarter of
fiscal 1999. There can be no assurance that revenue growth and
maintenance of product price levels will be adequate to completely
offset these costs.
As of April 30, 1999, the Company had cash, cash equivalents and
marketable securities of $60.3 million. This decline from the $100.3
million in cash, cash equivalents and marketable securities at 1998
fiscal year end is primarily due to the use of cash to repurchase
Common Stock, to repay certain indebtedness to an intermediary, and
the payment of accrued and other liabilities. The Company believes
that existing cash balances (including cash equivalents and
marketable securities), together with other sources of liquidity,
including cash flows from operating activities and amounts available
under the existing $50.0 million revolving line of credit (all of
which was available at April 30, 1999), will provide adequate cash to
fund its operations for at least the next twelve months. The Company
also believes that success in its industry requires substantial
capital to maintain the flexibility to take advantage of
opportunities as they arise. As such, the Company may effect
additional equity or debt financings from time to time in the future.
Cash Flows from Operations
Net cash used in operations for the nine months ended April 30, 1999
and 1998 were $0.2 million and $10.3 million respectively.
Cash flows provided by operating activities in the nine months ended
April 30, 1999 primarily reflected net income of $5.0 million,
depreciation and amortization of $10.3 million, factoring of accounts
receivable of $8.4 million, increases in inventory of $5.5 million,
increases in accounts payable of $1.6 million and decreases in
accrued and other liabilities of $15.7 million.
Cash flows from operating activities for the nine months ended April
30, 1998 primarily reflected net income of $28.6 million; increases
in depreciation and amortization of $5.5 million; increases in
accounts receivable of $38.3 million; factoring of accounts
receivable of $6.2 million; increases in inventory of $18.0 million;
increases in other current assets of $14.6 million (including $11.0
million in respect of the sale and leaseback of building
improvements); and increases in accrued and other liabilities of
$19.7 million (primarily due to increases in advances from customers
of approximately $11.5 million).
Fluctuations in accounts receivable, inventory and current
liabilities for the above periods were caused primarily by the timing
of system orders, the timing of revenue recognition, variations in
unit shipments and the timing of payments to vendors. In the
remainder of fiscal 1999, there is risk that receivables could
increase disproportionately to revenues due to continued difficulties
for the Company's Asian customers, as well as longer payment terms
for sales of direct laser imaging products, a new business for the
Company. Inventories in fiscal 1999 could be adversely affected by
the inability of the Company to achieve its expected unit sales
volume, coupled with inability to cancel or delay orders for raw
materials.
Prior to the shipment of a system, the Company generally receives
payment for a portion of the system sales price. Such payments are
generally received when the Company accepts an order and at various
points while the system is being installed and thereafter. Therefore,
the amount of customer advances at each reporting period fluctuates
based on the number of systems on order, the timing of order
acceptance, and the status of each system within the manufacturing
cycle. Advances from customers decreased to $4.8 million at April 30,
1999 from $10.3 million at July 31, 1998.
Cash Flows from Investing Activities
Net cash provided by investing activities for the nine months ended
April 30, 1999 was $5.2 million. Net cash used in investing
activities for the nine months ended April 30, 1998 was $19.8
million. Cash flows from investing activities in the nine months
ended April 30, 1999 comprised net sales of marketable securities of
$17.0 million offset by net capital expenditures of $11.8 million.
Cash flows from investing activities for the nine months ended April
30, 1998 reflected net purchases of marketable securities of $22.1
million and net capital expenditures of $8.8 million, less the sale
of $11.0 million of building improvements which were leased back.
Cash Flows from Financing Activities
Net cash used in financing activities for the nine months ended April
30, 1999 was $28.0 million. Net cash provided by financing
activities for the nine months ended April 30, 1998 was $16.4
million. Cash flows used in financing activities for the nine months
ended April 30, 1999 primarily reflected repayments of $14.0 million
to a third-party financing intermediary and open market purchases of
the Company's stock totaling $19.8 million, partially offset by stock
issuance proceeds of $5.9 million. In June 1998, the Board of
Directors authorized the repurchase of up to $30 million of Common
Stock. Shares may be repurchased at prevailing market rates from time
to time. In fiscal 1998, the Company repurchased 165,000 shares of
Common Stock for approximately $5.6 million. In the nine months
ended April 30, 1999, the Company has repurchased 840,000 for
approximately $19.8 million. Cash flows from financing activities for
the nine months ended April 30, 1998 comprised receipts of $12.1
million from a third-party financing intermediary and proceeds from
issuing Common Stock of $4.1 million.
Certain Factors that May Affect Future Results
Statements in this report that are prefaced with words such as
"expects," "anticipates," "believes" and similar words and other
statements of similar sense, are forward-looking statements. These
statements are based on the Company's current expectations and
estimates as to prospective events and circumstances that may or may
not be within the Company's control and as to which there can be no
firm assurances. These forward-looking statements, like any other
forward-looking statements, involve risks and uncertainties that
could cause actual results to differ materially from those projected
or anticipated.
In addition to other risks and uncertainties that may be described
elsewhere in this document, certain risks and uncertainties that
could affect the Company's financial results include, but are not
limited to, the following: risks associated with the timely
development and market acceptance of new products in an environment
of rapid technological change, reduced or postponed orders as a
result of changes in customers' planned capital spending, timely
availablity of key components, delays in factory testing and
acceptance, increased costs and manufacturing capacity associated
with the addition of new facilities, ability of certain potential
new customers to finance new system purchases, the possibility of new
products or technologies introduced by competitors, and material
variations in financial results due to a delay in delivery of even
one system. (See additional discussion contained in "Management's
Discussion and Analysis of Financial Condition and Results of
Operations-Other Factors Affecting Company Results," set forth in
Part II, Item 7 of the Company's Report on Form 10-K for the year
ended July 31, 1998, which data is incorporated herein by reference.)
Year 2000 Readiness Disclosure
Computer programs and systems which make use of dates represented by
only two digits (98 rather than 1998) may not operate properly after
the year 2000. Two digit fields can cause problems with sorting,
mathematical calculations, and comparisons when working with years
outside the range of 1900 through 1999. The problem also potentially
extends to any systems or devices which include embedded technology
such as microchips.
The Company has established a formal project with a project office
and project team to address this issue and achieve Year 2000 (Y2K)
Readiness. The Company has chosen the U.S. Government Accounting
Office (GAO) Program Management Model, as modified, to manage and
measure its progress. The project focuses on four key readiness
areas: 1) Product readiness, addressing product functionality; 2)
Supplier readiness, addressing the preparedness of our suppliers; 3)
Internal infrastructure readiness, addressing mission-critical
internal information technology (IT) and non IT systems; 4) Customer
readiness, addressing customer preparedness and the Company's
customer support. For each readiness area, the Company is
systematically performing an enterprise wide risk assessment,
implementing the GAO Program Management Model as a project, and
developing contingency plans to mitigate unknown risk. The Company is
also communicating with its customers, suppliers, employees and other
third party business partners to reinforce awareness and to inform
them of its progress toward Year 2000 Readiness. The Company is doing
this through a variety of media. Etec's Y2K web site provides a
comprehensive report on its efforts, the status of product testing
and validation, and field implementation. As defined by Etec's Y2K
Project, the Awareness and Assessment phases, representing 40% of the
project effort, have been completed and the Renovation phase,
representing 10% of the project effort is now 90% complete .
Testing/Validation and Implementation phases are on schedule. The
Company engaged a third party who assessed the comprehensiveness of
the Company's Y2K effort and schedule.
Product Readiness: A single test suite is used to test all of the
Company's products. This provides a complete assessment of potential
Y2K impacts and precludes inefficient use of resources that would
result from the performance of individual customer test suites. Etec
has performed its testing in accordance with SEMATECH Year 2000 Test
Scenarios guidelines. All of the Company's products have completed
the renovation and validation phases. Field upgrades have already
been released or are on schedule to be released through the period
ending July 31, 1999. The Company is installing these upgrades in its
customers' systems through its standard Service Update Plan Process.
The upgrade schedule is determined by customer requirements.
Approximately 30% of the systems requiring an upgrade have such
installed, validated and tested, and have received a Y2K readiness
certification from Etec. The Company will offer all of its customers
the opportunity to install this upgrade for any problems through the
first calendar quarter of 2000.
Supplier Readiness: This aspect of the program is focused on
minimizing risk associated with the Company's suppliers by requesting
satisfactory answers to two key questions: Are the supplier's
products Y2K compliant; and, will the supplier continue production
unaffected by Y2K problems? All of the Company's major suppliers were
contacted using the SEMATECH Year 2000 Supplier Readiness
Questionnaire. The Company has received responses from 100 % of those
contacted. The Company also identified suppliers critical to its
ability to sustain product manufacturing over a short period of time.
A critical supplier list was developed and the Company is working
directly with those suppliers to determine their Y2K capability. A
critical supplier action list and contingency plans are being
developed based upon this assessment.
Internal Infrastructure Readiness: The Company has completed an
assessment of its IT and non-IT applications and its business
processes. Suppliers of IT and non-IT applications or processes
critical to sustaining the short run operating capability of the
enterprise have been contacted to determine their capability to
provide Y2K capable equipment, services and supplies. Contingency
plans have been or are being developed for these applications and
processes as well.
The Company estimates that the total Y2K project costs will range
from $5 to $8 million. Approximately 60% of these costs have been
incurred with the remainder expected to be spent over the next four
fiscal quarters. The Company is continuing its assessment and
developing alternatives which will result in a further refinement of
this estimate over time. There can be no assurance that this estimate
will be sufficient or that actual costs will not differ materially
from the current estimate.
Etec believes that its most reasonably likely worst case scenario
would be the failure of services, supplies or products provided by
third parties. As the Company has little or no control over
remediating the Y2K problems of third parties such as utilities,
telecommunication providers, computer system and software suppliers,
the risks are relatively more difficult to assess than with the
Company's internal systems or its products. Third party failures
would disrupt the Company's operations and could have a material
adverse effect on its financial condition. Etec is not in a position
to identify all possible scenarios nor can it estimate the impact of
such disruptions.
Various disclosures and announcements of the Company concerning its
products and Y2K Readiness Program are intended to constitute "Year
2000 Readiness Disclosures" as defined in the Year 2000 Information
and Readiness Disclosure Act.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
The Company's market risk exposures as set forth in Item 7A of its
Annual Report on Form 10-K for the year ended July 31, 1998 have not
changed significantly.
Part II - Other Information
Item 1. Legal Proceedings
Semiconductor-related industries have experienced substantial
litigation regarding patent and other intellectual property rights.
As is typical in the industry, Etec has from time to time received,
and may in the future receive, communications from third parties
alleging infringements of patents and other intellectual property
rights. In the future, protracted litigation may be necessary to
defend us against alleged infringement of others' rights. Any such
litigation, even if we are ultimately successful in our defense,
could result in substantial cost and diversion of time and effort by
management. This in and of itself could have a material adverse
effect on our business, financial condition and results of
operations. Further, adverse determinations in such litigation could
result in our loss of proprietary rights, subject Etec to significant
liabilities (including treble damages under certain circumstances),
require us to seek licenses from third parties, or prevent us from
manufacturing or selling our systems.
The Lemelson Foundation has filed a suit against numerous
semiconductor manufacturers, claiming patent infringement of a number
of basic U.S. patents granted to Jerome Lemelson over many years.
Some of these semiconductor companies, and the attorneys for the
Lemelson Foundation, have also contacted semiconductor equipment
companies and commercial maskmaking companies, claiming potential
liability for infringement of these same patents. We, in turn, have
been contacted by two of our customers, notifying us of the fact that
they have received claims and claiming that we may have
responsibility for indemnifying them under the terms of our sales
contracts. We have reached a settlement with one customer, and we
believe that we will be able to settle with the other customer on
reasonable terms, without any material adverse effect. However, there
is no assurance that we will be able to do so, and the costs of a
lengthy litigation, or a judgment in which we are found liable, could
have a material adverse effect on our business. In addition, we may
receive similar claims for indemnity from other U.S. customers who
are pursued by the Lemelson Foundation.
Item 6. Exhibits and Reports on Form 8-K
(a) The following exhibits are filed herewith:
Exhibit No. Description
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27 Financial Data Schedule
(b) Reports on Form 8-K: None.
ETEC SYSTEMS, INC.
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf
by the undersigned, thereunto duly authorized, on June 11, 1999.
ETEC SYSTEMS, INC.
(Registrant)
By /s/ William D. Snyder
---------------------------------
Vice President and Chief Financial Officer
(Principal Financial Officer and Principal Accounting Officer)
ETEC SYSTEMS, INC.
INDEX OF EXHIBITS
Exhibit
No. Description
- ---------- -----------------
27 Financial Data Schedule.