UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2001
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ________ to ________
Commission File Number 0-9992
KLA-TENCOR CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 04-2564110
-------- ----------
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
160 Rio Robles
San Jose, California, 95134
(Address of principal executive offices)
(Zip Code)
(408) 875-3000
(Registrant's telephone number, including area code)
- --------------------------------------------------------------------------------
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
The Registrant had 185,319,172 shares of common stock outstanding as of
October 31, 2001.
INDEX
Page
----
PART I FINANCIAL INFORMATION
Item 1 Financial Statements (unaudited)
Condensed Consolidated Balance Sheets at
June 30, 2001 and September 30, 2001............................. 3
Condensed Consolidated Statements of Operations
for the Three-Month Periods Ended September 30, 2000
and 2001 ........................................................ 4
Condensed Consolidated Statements of Cash Flows
for the Three-Month Periods Ended September 30, 2000 and 2001 ... 5
Notes to Condensed Consolidated Financial Statements............. 6
Item 2 Management's Discussion and Analysis of Financial Condition
and Results of Operations........................................... 10
Item 3 Quantitative and Qualitative Disclosures About Market Risk.......... 17
PART II OTHER INFORMATION
Item 1 Legal Proceedings................................................... 18
Item 6 Exhibits and Reports on Form 8-K.................................... 18
Signatures .................................................................... 19
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
KLA-TENCOR CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
September 30, June 30,
(in thousands) 2001 2001
- -----------------------------------------------------------------------------------------
ASSETS
Current assets:
Cash and cash equivalents $ 339,171 $ 529,674
Marketable securities 245,870 167,421
Accounts receivable, net 368,543 402,013
Inventories 361,181 394,406
Other current assets 387,463 403,432
- -----------------------------------------------------------------------------------------
Total current assets 1,702,228 1,896,946
Land, property and equipment, net 306,003 290,254
Marketable securities 501,949 446,765
Other assets 116,702 110,586
- -----------------------------------------------------------------------------------------
Total assets $ 2,626,882 $ 2,744,551
=========================================================================================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 54,811 $ 60,740
Deferred profit 348,564 422,054
Other current liabilities 425,895 501,291
- -----------------------------------------------------------------------------------------
Total current liabilities 829,270 984,085
- -----------------------------------------------------------------------------------------
Stockholders' equity:
Common stock and capital in excess of par value 664,148 714,333
Retained earnings 1,129,994 1,043,529
Accumulated other comprehensive income 3,470 2,604
- -----------------------------------------------------------------------------------------
Total stockholders' equity 1,797,612 1,760,466
- -----------------------------------------------------------------------------------------
Total liabilities and stockholders' equity $ 2,626,882 $ 2,744,551
=========================================================================================
See accompanying notes to condensed consolidated financial statements.
3
KLA-TENCOR CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three months ended
September 30,
(in thousands, except per share data) 2001 2000
- --------------------------------------------------------------------------------------------
Revenues $ 502,832 $ 382,715
Costs and operating expenses:
Costs of goods sold 244,368 183,009
Engineering, research and development 72,923 80,648
Selling, general and administrative 81,248 90,897
- --------------------------------------------------------------------------------------------
Total costs and operating expenses 398,539 354,554
- --------------------------------------------------------------------------------------------
Income from operations 104,293 28,161
Interest income and other, net 12,552 12,002
- --------------------------------------------------------------------------------------------
Income before income taxes 116,845 40,163
Provision for income taxes 30,380 11,246
- --------------------------------------------------------------------------------------------
Income before cumulative effect of
change in accounting principle 86,465 28,917
Cumulative effect of change in accounting
principle, net of tax benefit -- (306,375)
- --------------------------------------------------------------------------------------------
Net income (loss) $ 86,465 $(277,458)
============================================================================================
Earnings per basic share:
Income before cumulative effect of
change in accounting principle $ 0.46 $ 0.15
Cumulative effect of change in
accounting principle $ -- $ (1.63)
- --------------------------------------------------------------------------------------------
Net income (loss) $ 0.46 $ (1.48)
=============================================================================================
Earnings per diluted share:
Income before cumulative effect of
change in accounting principle $ 0.44 $ 0.15
Cumulative effect of change in
accounting principle $ -- $ (1.56)
- ---------------------------------------------------------------------------------------------
Net income (loss) $ 0.44 $ (1.41)
=============================================================================================
Weighted average number of shares:
Basic 187,717 187,282
========= =========
Diluted 195,079 195,975
========= =========
See accompanying notes to condensed consolidated financial statements.
4
KLA-TENCOR CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Three Months Ended
September 30,
(in thousands) 2001 2000
- -------------------------------------------------------------------------------------------
Cash flows from operating activities:
Net income (loss) $ 86,465 $(277,458)
Adjustments to reconcile net income (loss) to net
cash provided by operating activities:
Cumulative effect of accounting change, net of tax benefit -- 306,375
Depreciation and amortization 17,889 14,310
Deferred income taxes (2,645) (27,593)
Net gain (loss) on sale of marketable securities (642) 432
Changes in assets and liabilities:
Accounts receivable, net 33,463 (66,820)
Inventories 33,313 (46,624)
Other assets 8,084 (16,304)
Accounts payable (5,928) 4,392
Deferred profit (73,490) 104,912
Other current liabilities (77,115) 27,989
- -------------------------------------------------------------------------------------------
Net cash provided by operating activities 19,394 23,611
- ------------------------------------------------------------------------------------------
Cash flows from investing activities:
Purchase of property and equipment, net (31,169) (41,359)
Purchase of marketable securities (381,608) (266,884)
Proceeds from sale or maturity of marketable securities 252,211 188,482
- ------------------------------------------------------------------------------------------
Net cash used in investing activities (160,566) (119,761)
- ------------------------------------------------------------------------------------------
Cash flows from financing activities:
Issuance of common stock, net 2,162 6,474
Stock repurchases (53,484) (18,745)
Net borrowings under short term debt obligations 409 2,615
- ------------------------------------------------------------------------------------------
Net cash used in financing activities (50,913) (9,656)
- -------------------------------------------------------------------------------------------
Effect of exchange rate changes on cash
and cash equivalents 1,582 4,947
- ------------------------------------------------------------------------------------------
Net decrease in cash and cash equivalents (190,503) (100,859)
Cash and cash equivalents at beginning of period 529,674 478,212
- ------------------------------------------------------------------------------------------
Cash and cash equivalents at end of period $ 339,171 $ 377,353
==========================================================================================
Supplemental cash flow disclosures:
Income taxes paid, net of refunds $ 3,630 $ 13,921
========= =========
Interest paid $ 320 $ 178
========= =========
See accompanying notes to condensed consolidated financial statements.
5
KLA-TENCOR CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1 - BASIS OF PRESENTATION
The condensed consolidated financial statements have been prepared by
KLA-Tencor Corporation ("KLA-Tencor" or the "Company") pursuant to the rules and
regulations of the Securities and Exchange Commission ("SEC"). Certain
information and footnote disclosures normally included in financial statements
prepared in accordance with accounting principles generally accepted in the
United States of America have been condensed or omitted pursuant to such rules
and regulations. In the opinion of management, the unaudited interim financial
statements reflect all adjustments (consisting only of normal recurring
adjustments) necessary for a fair presentation of the financial position,
results of operations and cash flows for the periods indicated. These financial
statements and notes, however, should be read in conjunction with the Company's
audited consolidated financial statements and notes included in the Company's
Annual Report on Form 10-K for the fiscal year ended June 30, 2001, filed with
the SEC on September 21, 2001.
The results for the three-month period ended September 30, 2000 have
been adjusted to reflect the adoption of Staff Accounting Bulletin No. 101,
"Revenue Recognition in Financial Statements" (SAB 101).
The results of operations for the three-month period ended September 30,
2001 are not necessarily indicative of the results that may be expected for any
other interim period or for the full fiscal year ending June 30, 2002.
NOTE 2 - INVENTORIES
Inventories are stated at the lower of cost (on a first-in, first-out
basis) or market. The components of inventories were as follows:
September 30, June 30,
(in thousands) 2001 2001
- -------------------------------------------------------------------------------
Inventories
Customer service parts $ 106,578 $ 99,099
Raw materials 114,315 140,765
Work-in-process 64,599 61,453
Demonstration equipment 50,674 60,228
Finished goods 25,015 32,861
- -------------------------------------------------------------------------------
$ 361,181 $ 394,406
===============================================================================
NOTE 3 - STOCK REPURCHASE PROGRAM
The Company has adopted a plan to repurchase shares of its common stock
on the open market for the purpose of partially offsetting dilution created by
employee stock options and stock purchase plans. During the three-month period
ended September 30, 2001, the Company repurchased 2,068,000 shares of its common
stock at a cost of approximately $74 million, of which $53 million was paid.
6
NOTE 4 - COMPREHENSIVE INCOME
The components of comprehensive income, net of tax, are as follows:
Three months ended
September 30
(in thousands) 2001 2000
- -------------------------------------------------------------------------------------------
Net income (loss) $ 86,465 $(277,458)
- -------------------------------------------------------------------------------------------
Other comprehensive income (loss)
Currency translation adjustments 3,927 (1,861)
Gain on cash flow hedging instruments (2,742) --
Unrealized losses on investment, net of tax benefits of $201
in 2001 and $2,211 in 2000 (319) (3,502)
- -------------------------------------------------------------------------------------------
Other comprehensive income (loss) 866 (5,363)
- -------------------------------------------------------------------------------------------
Total comprehensive income (loss) $ 87,331 $(282,821)
===========================================================================================
NOTE 5 - EARNINGS PER SHARE
Basic earnings per share ("EPS") is calculated using the weighted
average number of shares of common stock outstanding during the period. Diluted
earnings per share is computed in the same manner and also gives effect to all
dilutive common equivalent shares outstanding during the period. Dilutive common
equivalent shares consist of stock options.
During the three-month period ended September 30, 2000, options to
purchase approximately 696,000 shares at prices ranging from $56.31 to $68.00
were not included in the computation of diluted EPS because the exercise price
was greater than the average market price of common shares for the period.
During the three-month period ended September 30, 2001, options to purchase
approximately 866,000 shares at prices ranging from $49.58 to $68.00 were not
included in the computation of diluted EPS because the exercise price was
greater than the average market price of common shares for the period.
The reconciling difference between the computation of basic and diluted
earnings per share for the periods presented is the inclusion of the dilutive
effect of stock options issued to employees under employee stock option plans.
NOTE 6 - RESTRUCTURING AND OTHER COSTS
In the fourth quarter of fiscal 2001 KLA-Tencor entered into a
restructuring plan to address the downturn in the semiconductor industry. The
plan included consolidation of facilities, writedown of assets associated with
affected programs and a reduction in the Company's global workforce, resulting
in a restructuring charge of $8 million. As of September 30, 2001, the remaining
balance of the restructuring reserve was $2 million.
NOTE 7 - COMMITMENTS AND CONTINGENCIES
The Company is currently a party to various legal proceedings. While
management currently believes the ultimate outcome of these proceedings, both
individually and in the aggregate, will not have a material adverse effect on
the Company's financial position or operating results, the results of complex
legal proceedings are difficult to predict. However, the Company believes that
it has defenses in each of the pending claims and is vigorously contesting each
of these matters.
7
NOTE 8 - GOODWILL AND OTHER INTANGIBLE ASSETS
In July 2001, the Financial Accounting Standards Board (FASB) issued
FASB Statements Nos. 141 and 142 (SFAS 141 and SFAS 142), "Business
Combinations" and "Goodwill and Other Intangible Assets," respectively. SFAS 141
replaces APB 16 and eliminates pooling-of-interests accounting prospectively. It
also provides guidance on purchase accounting related to the recognition of
intangible assets and accounting for negative goodwill. SFAS 142 changes the
accounting for goodwill from an amortization method to an impairment-only
approach. Under SFAS 142, goodwill will be tested annually and whenever events
or circumstances occur indicating that goodwill might be impaired. SFAS 141 and
SFAS 142 are required to be adopted for fiscal years beginning after December
15, 2001 but must be applied to all business combinations completed after June
30, 2001. Upon adoption of SFAS 142, amortization of goodwill recorded for
business combinations consummated prior to July 1, 2001 will cease, and
intangible assets acquired prior to July 1, 2001 that do not meet the criteria
for recognition under SFAS 141 will be reclassified to goodwill. The provisions
of SFAS 141 and SFAS 142 will be effective for fiscal years beginning after
December 15, 2001; however, KLA-Tencor has elected to early adopt the provisions
of SFAS 142 effective July 1, 2001.
The net carrying value of goodwill recorded through acquisitions is
$12.7 million as at September 30, 2001. The amounts will be assessed for
impairment at least annually or upon an adverse change in operations. KLA-Tencor
will complete a transitional impairment test required under SFAS 142 during the
second quarter of fiscal 2002. The following table reflects consolidated results
adjusted as though the adoption of SFAS 141 and SFAS 142 occurred as of the
beginning of the three-month period ended September 30, 2000:
Three months ended September 30,
----------------------------------------
2001 2000
--------- --------------------------
As Reported As Reported As Adjusted
----------- ----------- -----------
(in thousands, except per share amounts)
Operating income ......................... $ 104,293 $ 28,161 $ 28,454
Net income ............................... 86,465 (277,458) (277,247)
Basic earning per share................... 0.46 (1.48) (1.48)
Diluted earning per share................. 0.44 (1.41) (1.41)
The following table reflects the components of other intangible assets
as of September 30, 2001 (in thousands):
Gross Carrying Accumulated
Amount Amortization
-------------- ------------
Existing technology.......................... $6,062 $1,544
Trademark .................................. 625 73
Favorable leases............................. 270 81
Other intangible assets are amortized on a straight-line basis over
their estimated useful lives of five years. For the three months ended September
30, 2001 and 2000, amortization expense for other intangible assets was $0.3
million. Estimated amortization expense for each of the five succeeding fiscal
years is as follows:
Fiscal year ended June 30: Amount
2002 $ 1,391
2003 1,391
2004 1,391
2005 1,132
2006 296
8
NOTE 9 - SUBSEQUENT EVENTS
In September 2001, KLA-Tencor entered into a definitive merger agreement
to acquire QC Optics, Inc., a publicly traded company (AMEX: OPC), for
consideration of approximately $3 million in cash. QC Optics, Inc. is a
manufacturer of laser-based inspection systems for the semiconductor, flat panel
and computer hard disk manufacturing industries. The transaction is expected to
close in the second quarter of fiscal 2002. The closing of the transaction is
subject to the approval of the stockholders of QC Optics in addition to
customary closing conditions. The purchase price will be allocated to the
estimated fair value of assets acquired and liabilities assumed based on
management estimates.
NOTE 10 - RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In August 2001, the FASB issued Statement No. 143 ("SFAS 143"),
"Accounting for Asset Retirement Obligations," which is effective for fiscal
years beginning after June 15, 2002. SFAS 143 addresses financial accounting and
reporting for obligations associated with the retirement of tangible long-lived
assets and the associated asset retirement costs. SFAS 143 applies to all
entities. It applies to legal obligations associated with the retirement of
long-lived assets that result from the acquisition, construction, development,
and/or the normal operation of a long-lived asset, except for certain
obligations of lessees. KLA-Tencor does not expect the adoption of SFAS 143 to
have a significant impact on its financial position and results of operations.
In October 2001, the FASB issued Statement No. 144 ("SFAS 144"),
"Accounting for the Impairment or Disposal of Long-Lived Assets." SFAS 144
addresses financial accounting and reporting for the impairment of long-lived
assets and for long-lived assets to be disposed. SFAS 144 will be effective for
fiscal years beginning after December 15, 2001. KLA-Tencor is currently
evaluating the impact of SFAS 144, but does not expect that its adoption on July
1, 2002 will have a material effect on its financial statements.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FORWARD-LOOKING STATEMENTS
This report contains certain forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933 and Section 21E of the
Securities Exchange Act of 1934. All statements included in or incorporated by
reference in this Quarterly Report on Form 10-Q, other than statements of
historical fact, are forward-looking statements. Such forward-looking statements
include, among others, those statements regarding the future results of our
operations; technological trends in the semiconductor industry; our future
product offerings and product features, as well as market acceptance of new
products; anticipated revenue from various domestic and international regions;
international sales and operations; maintenance of competitive advantage;
success of our product offerings; completion of backlog; creation of programs
for research and development; attraction and retention of employees; management
of risks involved in acquisitions of third parties, or the technology or assets
thereof; benefits received from any acquisitions and development of acquired
technologies; the outcome of any litigation to which we are a party; results of
our investment in leading edge technologies and strategic acquisitions; our
future income tax rate; sufficiency of our existing cash balance, investments
and cash generated from operations to meet our operating and working capital
requirements; and the effects of hedging transactions.
Our actual results may differ significantly from those projected in the
forward-looking statements in this report. Factors that might cause or
contribute to such differences include, but are not limited to, those discussed
in this section and those set forth in the Company's most recent Annual Report
on Form 10-K. You should carefully review these risks and also review the risks
described in other documents we file from time to time with the Securities and
Exchange Commission. You are cautioned not to place undue reliance on these
forward-looking statements. We undertake no obligation to update forward-looking
statements.
RESULTS OF OPERATIONS
KLA-Tencor Corporation ("KLA-Tencor") is the world's leading supplier of
process control and yield management solutions for the semiconductor and related
microelectronics industries. Our comprehensive portfolio of products, software,
analysis, services and expertise is designed to help integrated circuit
manufacturers manage yield throughout the entire wafer fabrication process -
from research and development to final mass production yield analysis.
Currently we continue to face a significant downturn in the
semiconductor industry. For several quarters, there has been a worldwide
softening in demand for semiconductors resulting in excess capacity and reduced
demand for semiconductor manufacturing equipment. Consequently we experienced
declines in both revenue and bookings in the first fiscal quarter compared to
the prior quarter.
Despite the market fluctuations, our financial position has remained
strong and we continue to have no long-term debt. In response to the downturn in
the semiconductor industry, we have implemented initiatives to reduce costs and
control spending. However, we continued our new product development by investing
in leading edge technologies and by strategic acquisitions and alliances. These
investments, acquisitions and alliances should position our extensive product
line to address the critical initiatives that are key to our customers.
Effective July 1, 2000 KLA-Tencor changed its revenue recognition
policy, based on guidance provided in SEC Staff Accounting Bulletin No. 101
("SAB 101"). KLA-Tencor changed its method of accounting for system sales to
generally recognize revenue upon a positive affirmation by the customer that the
system has been installed and is operating according to pre-determined
specification. The
10
deferred profit balance at of September 30, 2001 was $349 million which included
deferred revenue of $531 million and deferred cost of good sold of $182 million.
The balance decreased from $422 million at June 30, 2001 primarily due to lower
shipments than acceptances.
Revenues were $503 million for the three-month period ended September
30, 2001, compared to $383 million for the same period of the prior fiscal year,
representing an increase of 31%. Improved customer acceptance under SAB 101
resulted in higher revenues across virtually all product lines although
shipments declined approximately 32% versus the same period of the prior fiscal
year.
Gross margins as a percentage of revenues were 51% for the three-month
period ended September 30, 2001, compared to 52% for the same period in the
prior fiscal year. Gross margins declined slightly due to unfavorable overhead
absorption in our system gross margin as shipment volume decreased. Higher
warranty and installation costs also contributed due to higher complexity of
recently introduced products. We continue to focus on the productivity and
efficiency of our manufacturing and service operations as we ramp our new
products in the face of lower overall volumes due to the downturn.
Engineering, research and development ("R&D") expenses were $73 million
for the three-month period ended September 30, 2001, compared to $81 million for
the same period in the prior fiscal year. As a percentage of revenues, R&D
expenses decreased to 15% for the three-month period ended September 30, 2001,
compared to 21% for the same period in the prior fiscal year. The decrease is
primarily attributable to temporary shutdowns, management paycuts, reductions in
temporary labor and discretionary spending as well as other cost saving measures
implemented over the last two quarters, and a lower level of non-recurring
engineering expenses due to products reaching Beta stage. Our investment in R&D
represents a continued commitment to product development in new and emerging
market segments and enhancements to existing products for 0.18 micron, copper
development and 300mm wafers.
Selling, general and administrative expenses were $81 million for the
three-month period ended September 30, 2001, compared to $91 million for the
same period in the prior fiscal year. As a percentage of revenues, selling,
general and administrative expenses were 16% for the three-month period ended
September 30, 2001, compared to 24% for the same period in the prior fiscal
year. Selling, general and administrative expenses decreased primarily due to
temporary shutdowns, management paycuts, reductions in temporary labor and
discretionary spending as well as other cost saving measures implemented over
the last two quarters in response to the industry slowdown.
In the fourth quarter of fiscal 2001 we entered into a restructuring
plan to address the downturn in the semiconductor industry. The plan included
consolidation of facilities, writedown of assets associated with affected
programs and a reduction in our global workforce, resulting in a restructuring
charge of $8 million. As of September 30, 2001, the remaining balance of the
restructuring reserve was $2 million.
Interest income and other, net, was $13 million for the three-month
period ended September 30, 2001, compared to $12 million in the same period in
the prior fiscal year. The increase was due to increased interest income
resulting from higher average investment balances.
During the three-month period ended September 30, 2001, we realized an
effective 26% tax rate. This is lower than the effective 28% tax rate realized
in the same period of the prior fiscal year which is due primarily to the
greater relative benefits expected to be realized from Tax Exempt Interest and
from benefits related to sales and operations overseas.
11
LIQUIDITY AND CAPITAL RESOURCES
During the three-month period ended September 30, 2001, cash, cash
equivalents, short-term investments and marketable securities balances decreased
to $1.09 billion from $1.14 billion at June 30, 2001. Net cash provided by
operating activities for the three-month period ended September 30, 2001 was $19
million, compared to $24 million of net cash provided by operating activities
for the same period of the prior fiscal year. Capital expenditures for the
three-month period ended September 30, 2001 of $31 million were for
manufacturing and engineering equipment and leasehold improvements necessary for
our operations. We received $2 million from sales of common stock issued through
our employee stock purchase program and through stock option exercises during
the three-month period ended September 30, 2001 and paid $53 million for the
repurchase of our common stock under our stock repurchase program during the
same period.
Working capital was $873 million as of September 30, 2001, compared to
$913 million at June 30, 2001. We believe that existing liquid capital resources
and funds generated from operations combined with the ability, if necessary, to
borrow funds will be adequate to meet our operating and capital requirements
through the foreseeable future. However, we can give no assurances that we will
continue to generate sufficient funds from operations or that we will be able to
borrow funds on reasonable terms in the future, if necessary.
FACTORS AFFECTING RESULTS, INCLUDING RISKS AND UNCERTAINTIES
Fluctuations in Operating Results and Stock Price
Our operating results have varied widely in the past and our future
operating results will continue to be subject to quarterly variations based upon
a wide variety of factors including those listed in this section and throughout
this Quarterly Report on Form 10-Q for the period ending September 30, 2001. In
addition, future operating results may not follow any past trends. The factors
we believe make our results fluctuate and difficult to predict include:
- the cyclical nature of the semiconductor industry;
- the fluctuating demand for semiconductors impacts the need for our
customers to order our products
- the change in the price and the profitability of our products;
- our timing of new product introductions;
- our ability to develop and implement new technologies;
- the change in customers' schedules for fulfillment of orders;
- the cancellation of contracts by major customers;
- the shortage of qualified workers in the areas we operate; and
- our ability to manage our manufacturing requirements.
Operating results also could be affected by sudden changes in customer
requirements, currency exchange rate fluctuations and other economic conditions
affecting customer demand and the cost of operations in one or more of the
global markets in which we do business. As a result of these or other factors,
we could fail to achieve our expectations as to future revenues, gross profit
and income from operations. Our failure to meet the performance expectations set
and published by external sources could result in a sudden and significant drop
in the price of our stock, particularly on a short-term basis, and could
negatively affect the value of any investment in our stock.
12
Semiconductor Equipment Industry Volatility
The semiconductor equipment industry is highly cyclical. The purchasing
decisions of our customers are highly dependent on the economies of both the
local markets in which they are located and the semiconductor industry
worldwide. The timing, length and severity of the up-and-down cycles in the
semiconductor equipment industry are difficult to predict. This cyclical nature
of the industry in which we operate affects our ability to accurately predict
future revenues and, thus, future expense levels. When cyclical fluctuations
result in lower than expected revenue levels, operating results may be adversely
affected and cost reduction measures may be necessary in order for us to remain
competitive and financially sound. During a down cycle, we must be in a position
to adjust our cost and expense structure to prevailing market conditions and to
continue to motivate and retain our key employees. In addition, during periods
of rapid growth, we must be able to increase manufacturing capacity and
personnel to meet customer demand. We can provide no assurance that these
objectives can be met in a timely manner in response to industry cycles. If we
fail to respond to industry cycles, our business could be seriously harmed.
Currently we are in a significant industry down cycle. We are not able
to predict when the semiconductor industry will recover. During a down cycle,
the semiconductor industry typically experiences excess production capacity that
causes semiconductor manufacturers to decrease capital spending. We generally do
not have long-term volume production contracts with our customers, and we do not
control the timing or volume of orders placed by our customers. Whether and to
what extent our customers place orders for any specific products, as well as the
mix and quantities of products included in those orders, are factors beyond our
control. Insufficient orders, especially in our down cycles, will result in
under-utilization of our manufacturing facilities and infrastructure and will
negatively affect our operating results and financial condition.
International Trade and Economic Conditions
Ours is an increasingly global market. A majority of our annual revenues
are derived from outside the United States, and we expect that international
revenues will continue to represent a substantial percentage of our revenues.
Our international revenues and operations are affected by economic conditions
specific to each country and region. Because of our significant dependence on
international revenues, a decline in the economies of any of the countries or
regions in which we do business could negatively affect our operating results.
Managing global operations and sites located throughout the world
presents challenges associated with, among other things, cultural diversity and
organizational alignment. Moreover, each region in the global semiconductor
equipment market exhibits unique characteristics that can cause capital
equipment investment patterns to vary significantly from period to period.
Periodic local or international economic downturns, trade balance issues,
political instability and fluctuations in interest and currency exchange rates
could negatively affect our business and results of operations. Although we
attempt to manage near-term currency risks through the use of hedging
instruments, there can be no assurance that such efforts will be adequate.
Competition
Our industry includes large manufacturers with substantial resources to
support customers worldwide. Our future performance depends, in part, upon our
ability to continue to compete successfully worldwide. Some of our competitors
are diversified companies with greater financial resources and more extensive
research, engineering, manufacturing, marketing and customer service and support
capabilities than we can provide. We face competition from companies whose
strategy is to provide a broad array of products and services, some of which
compete with the products and services
13
that we offer. These competitors may bundle their products in a manner that may
discourage customers from purchasing our products. In addition, we face
competition from smaller emerging semiconductor equipment companies whose
strategy is to provide a portion of the products and services, which we offer,
using innovative technology to sell products into specialized markets. Loss of
competitive position could negatively impact our prices, customer orders,
revenues, gross margins, and market share, any of which would negatively affect
our operating results and financial condition. Our failure to compete
successfully with these other companies would seriously harm our business.
Technological Change and Customer Requirements
Success in the semiconductor equipment industry depends, in part, on
continual improvement of existing technologies and rapid innovation of new
solutions. For example, the semiconductor industry continues to shrink the size
of semiconductor devices and has begun to commercialize the process of
copper-based interconnects. These and other evolving customer needs require us
to respond with continued development programs and to cut back or discontinue
older programs, which may no longer have industry-wide support. Technical
innovations are inherently complex and require long development cycles and
appropriate professional staffing. Our competitive advantage and future business
success depend on our ability to accurately predict evolving industry standards,
to develop and introduce new products which successfully address changing
customer needs, to win market acceptance of these new products and to
manufacture these new products in a timely and cost-effective manner. If we do
not develop and introduce new products and technologies in a timely manner in
response to changing market conditions or customer requirements, our business
could be seriously harmed.
In this environment, we must continue to make significant investments in
research and development in order to enhance the performance and functionality
of our products, to keep pace with competitive products and to satisfy customer
demands for improved performance, features and functionality. There can be no
assurance that revenues from future products or product enhancements will be
sufficient to recover the development costs associated with such products or
enhancements or that we will be able to secure the financial resources necessary
to fund future development. Substantial research and development costs typically
are incurred before we confirm the technical feasibility and commercial
viability of a product, and not all development activities result in
commercially viable products. In addition, we cannot ensure that these products
or enhancements will receive market acceptance or that we will be able to sell
these products at prices that are favorable to us. Our business will be
seriously harmed if we are unable to sell our products at favorable prices or if
our products are not accepted by the market in which we operate.
Key Suppliers
We use a wide range of materials in the production of our products,
including custom electronic and mechanical components, and we use numerous
suppliers to supply materials. We generally do not have guaranteed supply
arrangements with our suppliers. Because of the variability and uniqueness of
customers' orders, we do not maintain an extensive inventory of materials for
manufacturing. We seek to minimize the risk of production and service
interruptions and/or shortages of key parts by selecting and qualifying
alternative suppliers for key parts, monitoring the financial stability of key
suppliers and maintaining appropriate inventories of key parts. Although we make
reasonable efforts to ensure that parts are available from multiple suppliers,
key parts may be available only from a single supplier or a limited group of
suppliers. There can be no assurance that our business will not be harmed if we
do not receive sufficient parts to meet our production requirements in a timely
and cost-effective manner.
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Manufacturing Disruption
Operations at our primary manufacturing facilities and our assembly
subcontractors are subject to disruption for a variety of reasons, including
work stoppages, fire, earthquake, flooding or other natural disasters. In
addition, this year, California suffered from a severe energy shortage, causing
rolling blackouts through the state. Such disruption could cause delays in
shipments of products to our customers. We cannot ensure that alternate
production capacity would be available if a major disruption were to occur or
that, if it were available, it could be obtained on favorable terms. Such a
disruption could result in cancellation of orders or loss of customers and could
seriously harm our business.
Intellectual Property Obsolescence and Infringement
Our success is dependent in part on our technology and other proprietary
rights. We own various United States and international patents and have
additional pending patent applications relating to some of our products and
technologies. The process of seeking patent protection is lengthy and expensive,
and we cannot be certain that pending or future applications will actually
result in issued patents or that issued patents will be of sufficient scope or
strength to provide meaningful protection or commercial advantage to us. Other
companies and individuals, including our larger competitors, may develop
technologies that are similar or superior to our technology or may design around
the patents we own.
We also maintain trademarks on certain of our products and services and
claim copyright protection for certain proprietary software and documentation.
However, we can give no assurance that our trademarks and copyrights will be
upheld or successfully deter infringement by third parties.
While patent, copyright and trademark protection for our intellectual
property is important, we believe our future success in highly dynamic markets
is most dependent upon the technical competence and creative skills of our
personnel. We attempt to protect our trade secrets and other proprietary
information through agreements with our customers, suppliers, employees and
consultants and through other security measures. We also rely on trade secret
protection for our technology, in part through confidentiality agreements with
our employees, consultants and third parties. We also maintain exclusive and
non-exclusive licenses with third parties for strategic technology used in
certain products. However, these employees, consultants and third parties may
breach these agreements, and we may not have adequate remedies for wrongdoing.
In addition, the laws of certain territories in which we develop, manufacture or
sell our products may not protect our intellectual property rights to the same
extent, as do the laws of the United States.
As is typical in the semiconductor equipment industry, from time to time
we have received communications from other parties asserting the existence of
patent rights, copyrights, trademark rights or other intellectual property
rights which they believe cover certain of our products, processes, technologies
or information. Our customary practice is to evaluate such assertions and to
consider whether to seek licenses where appropriate. However, we cannot ensure
that licenses can be obtained or, if obtained, will be on acceptable terms or
that litigation or other administrative proceedings will not occur. The
inability to obtain necessary licenses or other rights on reasonable terms could
seriously harm our operating results and financial condition.
Key Employees
Our employees are vital to our success, and our key management,
engineering and other employees are difficult to replace. We generally do not
have employment contracts with our key employees. Further, we do not maintain
key person life insurance on any of our employees. The expansion of high
technology companies worldwide has increased demand and competition for
qualified personnel. We may not be able to attract, assimilate or retain
additional highly qualified employees in the future. These factors could
seriously harm our business.
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Acquisitions
We seek to develop new technologies from both internal and external
sources. As part of this effort, we may make acquisitions of, or significant
investments in, businesses with complementary products, services and/or
technologies. Acquisitions involve numerous risks, including management issues
and costs in connection with the integration of the operations and personnel,
technologies and products of the acquired companies, the possible write-downs of
impaired assets, and the potential loss of key employees of the acquired
companies. The inability to manage these risks effectively could seriously harm
our business.
Litigation
From time to time we are involved in litigation of various types,
including litigation that alleges infringement of intellectual property rights
and other claims. Litigation tends to be expensive and requires significant
management time and attention. If we lose in a dispute concerning intellectual
property, a court could require us to pay substantial damages and/or royalties
or could issue an injunction prohibiting us from using essential technologies.
For these and other reasons, this type of litigation could have a material
adverse effect on our business, financial condition and results of operations.
Also, although we may seek to obtain a license under a third party's
intellectual property rights in order to bring an end to certain claims or
actions asserted against us, we may not be able to obtain such a license on
reasonable terms or at all.
Euro Conversion
A new European currency was implemented commencing in January 1999 to
replace the separate currencies of eleven western European countries. This
requires changes in our operations as we modify systems and commercial
arrangements to deal with the new currency. Modifications are necessary in
operations such as payroll, benefits and pension systems, contracts with
suppliers and customers, and internal financial reporting systems. During the
three-year transition period in which transactions may also be made in the old
currencies, we must maintain dual currency processes for our operations. We have
identified the issues created by this problem, and the cost of this effort is
not expected to have a material effect on our business or results of operations.
We cannot be certain, however, that all problems will be foreseen and corrected
or that no material disruption of our business will occur as a result of this
currency change.
Terrorist Attacks
The terrorist attacks that occurred on September 11, 2001 increased the
uncertainty in our markets and may delay a recovery. It is too early to
determine the direct or indirect impacts of these events on our business.
EFFECTS OF RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In August 2001, the FASB issued Statement No. 143 ("SFAS 143"),
"Accounting for Asset Retirement Obligations," which is effective for fiscal
years beginning after June 15, 2002. SFAS 143 addresses financial accounting and
reporting for obligations associated with the retirement of tangible long-lived
assets and the associated asset retirement costs. SFAS 143 applies to all
entities. It applies to legal obligations associated with the retirement of
long-lived assets that result from the acquisition, construction, development,
and/or the normal operation of a long-lived asset, except for certain
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obligations of lessees. We do not expect the adoption of SFAS 143 will have a
significant impact on our financial position and results of operations.
In October 2001, the FASB issued Statement No. 144 ("SFAS 144),
"Accounting for the Impairment or Disposal of Long-Lived Assets." SFAS 144
addresses financial accounting and reporting for the impairment of long-lived
assets and for long-lived assets to be disposed. SFAS 144 will be effective for
fiscal years beginning after December 15, 2001. We are currently evaluating the
impact of SFAS 144, but do not expect that our adoption on July 1, 2002 will
have a material effect on our financial statements.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to financial market risks, including changes in interest
rates, foreign currency exchange rates and marketable equity security prices. To
mitigate these risks, we utilize derivative financial instruments. We do not use
derivative financial instruments for speculative or trading purposes. All of the
potential changes noted below are based on sensitivity analyses performed on our
financial position at June 30, 2001 and at September 30, 2001. Actual results
may differ materially.
As of June 30, 2001 and September 30, 2001, we had an investment
portfolio of fixed income securities of $575 million and $722 million,
respectively, excluding those classified as cash and cash equivalents. These
securities, as with all fixed income instruments, are subject to interest rate
risk and will fall in value if market interest rates increase. If market
interest rates were to increase immediately and uniformly by 10% from levels as
of June 30, 2001 and September 30, 2001, the fair value of each portfolio would
decline by $5 million.
As of June 30, 2001 and September 30, 2001, we had net forward contracts
to sell $159 million and $214 million, respectively, in foreign currency in
order to hedge currency. If we had entered into these contracts on June 30, 2001
and September 30, 2001, the U.S. dollar equivalent would be $151 million and
$215 million, respectively. The fair market value we would have received if we
had sold the contracts on June 30, 2001 and September 30, 2001, would have been
$8 million and $1 million, respectively. A 10% adverse move in currency exchange
rates affecting the contracts from their June 30, 2001 and September 30, 2001
levels would decrease the fair value of the contracts by $19 million and $26
million, respectively. However, if this occurred, the fair value of the
underlying exposures hedged by the contracts would increase by a similar amount.
Accordingly, we believe that the hedging of our foreign currency exposure should
have no material impact to income or cash flows.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
A discussion regarding certain pending legal proceedings is included in
Part I, Item 3, "Legal Proceedings," included in our Annual Report on Form 10-K
for the fiscal year ended June 30, 2001. Since the fiscal year ended June 30,
2001, certain material developments have occurred with respect to the legal
proceedings described in our Annual Report and we have been named as a party in
certain additional matters as follows:
ADE Corporation
On October 11, 2000, ADE Corporation ("ADE"), a competitor, filed a
patent infringement lawsuit against KLA-Tencor in the U.S. District Court in
Delaware. ADE claimed damages and sought an injunction under U.S. Patent No.
6,118,525. We filed a counterclaim in the same court alleging that ADE has
infringed four of our patents. We claimed damages and are seeking a permanent
injunction against ADE. In addition, we are seeking a declaration from the
District Court that ADE's patent is invalid and not infringed by KLA-Tencor.
While these matters are in a preliminary stage and we cannot predict the
outcome, we believe that we have valid defenses and further believe that our
counterclaims have merit.
Schlumberger, Inc. and Rigg Systems, Inc.
On August 30, 1999, we were named as a defendant in a lawsuit in which
Schlumberger, Inc. alleges trade secret misappropriation, unfair competition and
trade slander. On July 21, 2000, the court granted our motion for summary
judgment dismissing the case. Schlumberger subsequently filed a motion for
reconsideration of that dismissal and its request for reconsideration was
denied. Schlumberger has now appealed. Although the outcome of these claims
cannot be predicted with certainty, we do not believe that this legal matter
will have a material adverse effect on our financial condition even if plaintiff
prevails. On January 26, 2000, we filed a complaint against Philip Rigg, RIGG
Systems and Schlumberger for misappropriation of trade secrets, breach of
contract, breach of fiduciary duty, interference with contract, and unfair
competition. The defendants filed cross-complaints on June 5, 2000 asserting
various statutory and common law theories. Although the outcome of these claims
cannot be predicted with certainty, we do not believe that these legal matters
will have a material adverse effect on our financial condition or results of
operations even if the plaintiff prevails.
Although we cannot predict the outcome of these claims, management does
not believe that any of these legal matters will have a material adverse effect
on KLA-Tencor. Were an unfavorable ruling to occur in one or more of the pending
claims, there exists the possibility of a material impact on our operating
results for the period in which the ruling occurred.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
None
(b) Form 8-K
None
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SIGNATURES
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.
KLA-TENCOR CORPORATION
(Registrant)
November 14, 2001 /s/ JOHN H. KISPERT
- ------------------- ---------------------------------------
(Date) John H. Kispert
Executive Vice President
and Chief Financial Officer
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