EXHIBIT 99.1
Certain Business Risks and Uncertainties
Described below are various risks and uncertainties that may affect our
business. The risks and uncertainties described below are not the only ones we
face. Additional risks and uncertainties not presently known to us, that we
currently deem immaterial or that are similar to those faced by other companies
in our industry or business in general may also impair our business operations.
If any of the following risks actually occurs, our business, financial condition
or results of future operations could be materially and adversely affected.
Our operating results may fluctuate significantly and we may not be able to
maintain our existing growth rate.
Although we have had significant revenue and earnings growth in recent quarters,
we may not be able to sustain these growth rates and we may experience
significant fluctuations in our revenue and earnings in the future. Our
operating results will depend on many factors, including the following:
o our ability to develop, manufacture and deliver products in a timely and
cost-effective manner;
o our ability to produce enough usable product during each manufacturing
step (our "yield");
o our ability to expand our production of silicon carbide, or SiC, wafers
and devices;
o demand for our products;
o demand for our customers' products;
o competition; and
o general industry and global economic conditions.
Our future operating results could be adversely affected by these or other
factors. Additionally, if our future operating results are below the
expectations of equity analysts or our investors, our stock price may decline.
If we experience poor production yields, our operating results may suffer.
Our SiC products are manufactured using technologies that are highly complex.
Our customers incorporate our products into high volume applications such as
automotive dashboards, wireless handsets and other consumer products, and they
insist that our products meet exact specifications for quality, performance and
reliability.
The number of usable crystals, wafers and devices that result from our
production processes can fluctuate as a result of many factors, including the
following:
o impurities in the materials used;
o contamination of the manufacturing environment;
o equipment failure, power outages or variations in the manufacturing
process; and
o losses from human error.
Because many of our manufacturing costs are fixed, if our yields decrease our
operating results would be adversely affected.
In the past, we have experienced difficulties in achieving acceptable yields on
both new and older products, and poor yields have adversely affected our
operating results. We may experience similar problems in the future and we
cannot predict when they may occur or their severity. Such problems could
significantly affect our future operating results.
If we are unable to produce adequate quantities of our high brightness leds, our
operating results may suffer.
We have made and continue to make substantial investments in equipment and
facilities to manufacture high brightness blue and green light emitting diodes,
or LEDs. We have accepted orders for these products in quantities that have sold
out our existing and planned increases in production capacity for the next few
quarters. These significant volumes also require improved production yields for
the products to meet customer demand. Successful production of these products is
subject to a number of risks, including the following:
o our ability to consistently manufacture the products in volumes large
enough to cover our fixed costs and satisfy our customers' requirements;
and
o our ability to improve our yields and reduce the costs associated with
the manufacture of the products.
Our inability to produce adequate quantities of our high brightness blue and
green LEDs would have a material adverse effect on our business, results of
operations and financial condition. For example, our current contract with our
largest LED customer provides that the customer may recover liquidated damages,
or in some cases actual damages, if we materially default in meeting delivery
commitments.
The markets in which we operate are highly competitive.
The markets for our products are highly competitive. Our competitors offer blue
and green LEDs made from sapphire wafers that are brighter than the high
brightness LEDs we currently produce. In addition, some of our customers could
compete with us. For example, Osram Opto Semiconductors GMBH and Co. OHG, or
Osram, an indirect subsidiary of Siemens AG, and Shin-Etsu Handotai Co. Ltd., or
Shin-Etsu, license some of our LED technology. Osram currently purchases large
volumes of our standard brightness blue LEDs but also manufactures some of its
volume requirements for these LEDs. Shin-Etsu may also seek to enter our LED
markets. The market for SiC wafers is likewise becoming competitive as other
firms have in recent years begun offering SiC wafer products or announced plans
to do so.
Also, other firms may develop new or enhanced products that are more effective
than any that we have developed or may develop. These firms may develop
technologies that enable the production of commercial products with
characteristics similar to SiC-based products but at a lower cost. Many existing
and potential competitors have far greater financial, marketing and other
resources than we do. We believe that present and future competitors will
aggressively pursue the development and sale of competing products. We also
expect significant competition for products we are currently developing, such as
those for use in microwave communications.
We expect competition to increase. This could mean lower prices or reduced
demand for our products and a corresponding reduction in our ability to recover
development, engineering and manufacturing costs. Any of these developments
could have an adverse effect on our business, results of operations and
financial condition.
Our operating results are substantially dependent on the development of new
products based on our core SiC technology.
Our future success depends on our ability to develop new SiC solutions for
existing and new markets. We must introduce new products in a timely and
cost-effective manner and secure production orders from our customers. The
development of new SiC products is a highly complex process, and we have
historically experienced delays in completing the development and introduction
of new products. Products currently under development include high power radio
frequency, or RF, and microwave devices, power devices, blue laser diodes and
high temperature devices. The successful development and introduction of these
products depends on a number of factors, including the following:
o achievement of technology breakthroughs required to make commercially
viable devices;
o the accuracy of our predictions of market requirements and evolving
standards;
o acceptance of our new product designs;
o our ability to recruit qualified development personnel;
o our timely completion of product designs and development;
o our ability to develop repeatable processes to manufacture new products
in sufficient quantities for commercial sales; and
o acceptance of our customers' products by the market.
If any of these or other factors become problematic, we may not be able to
develop and introduce these new products in a timely or cost-effective manner.
We depend on a few large customers.
Historically, a substantial portion of our revenue has come from large purchases
by a small number of customers. We expect this trend to continue. For example,
for fiscal 1999 our top five customers accounted for 81% of our total revenue.
(These percentages consider sales to a distributor as sales to one customer).
Sales to Osram accounted for 37% of our total revenue in fiscal 1999. In
addition, sales to C3, Inc., or C3, accounted for 19% of our total revenue in
fiscal 1999. Accordingly, our future operating results depend on the success of
our largest customers and on our success in selling large quantities of our
products to them.
The concentration of our revenues with a few large customers makes us
particularly dependent on factors affecting those customers. For example, if
demand for their products decreases, they may stop purchasing our products and
our operating results will suffer. Our customers use our products as components
in their products. If other aspects of our customers' products infringe a third
party's intellectual property rights, and our customers are then prohibited from
selling their products, our business could be adversely affected. If we lose a
large customer and fail to add new customers to replace lost revenue, our
operating results may not recover.
Under an exclusive supply agreement with an initial term extending to 2005, C3
must purchase from us each calendar quarter at least 50% (by dollar volume) of
its requirements for SiC materials for use in production of gemstones during the
quarter. In the fall of 1999, C3 announced lower sales and higher inventory
levels than anticipated, as well as the launch of a new marketing campaign.
Recently, we agreed that C3 could reschedule approximately one-half of its
purchase commitments from the first half of calendar 2000 to the second half of
the year. We anticipate that sales to C3 will decrease in calendar 2000. We may
use excess capacity from C3-dedicated equipment for other applications, but if
we are not able to replace these revenues with sales from other areas of our
business, our financial results may be materially adversely affected.
Our operations could infringe upon the intellectual property rights of others.
Other companies may hold or obtain patents on inventions or may otherwise claim
proprietary rights to technology necessary to our business. We cannot assure you
that third parties will not attempt to assert infringement claims against us
with respect to our current or future products, including our core products. We
cannot predict the extent to which such assertions may require us to seek
licenses or, if required, whether such licenses will be offered or offered on
acceptable terms or that disputes can be resolved without litigation. One of our
distributors in Japan was named in a lawsuit, filed in Japan in December 2000,
alleging infringement of a Japanese patent and seeking an injunction that, if
granted, would preclude the distributor from selling our standard brightness
blue LED product in Japan. We have intervened in the action to participate in
the defense against the claim of infringement. A result adverse to the
distributor would impair our ability to sell this product in Japan. Subject to
contractual limitations, we have an obligation to indemnify our distributor for
certain patent infringement claims. Litigation to determine the validity of
infringement claims alleged by third parties could result in significant expense
to us and divert the efforts of our technical and management personnel, whether
or not the litigation is ultimately determined in our favor. We cannot predict
the occurrence of future intellectual property claims that may prevent us from
selling products, result in litigation or give rise to indemnification
obligations or damage claims.
We face challenges relating to expansion of our production and manufacturing
capacity.
In order to increase production, we must expand our existing facilities or
acquire new facilities, as well as purchase new manufacturing equipment. We are
beginning to construct 125,000 square feet of additional space at our
manufacturing facility and are in the process of purchasing another 120,000
square foot facility under construction on a 17.5-acre site near our existing
facility. Expansion activities such as these are subject to a number of risks,
including the following:
o unforeseen environmental or engineering problems relating to existing
or new facilities;
o unavailability or late delivery of the advanced, and often customized,
equipment used in the production of our products;
o work stoppages and delays; and
o delays in bringing production equipment on-line.
These and other risks may affect the ultimate cost and timing of our current
construction, as well as the acquisition of new facilities, which could
adversely affect our business, results of operations and financial condition.
For example, if we are not successful in meeting milestones associated with this
expansion, we could have difficulty making shipments of previously ordered
products; consequently, we could be in default under contracts with our
customers and/or subject to penalties.
We face significant challenges managing our growth.
We have experienced a period of significant growth that has strained our
management and other resources. We have grown from 188 employees on December 31,
1996 to 478 employees on December 26, 1999 and from revenues of $29.0 million
for the fiscal year ended June 30, 1997 to $60.1 million for the fiscal year
ended June 27, 1999. To manage our growth effectively, we must continue to:
o implement and improve operational systems;
o maintain adequate manufacturing facilities and equipment to meet
customer demand;
o add experienced senior level managers; and
o attract and retain qualified people with experience in engineering,
design, technical marketing and support.
We will spend substantial amounts of money in supporting our growth and may have
additional unexpected costs. Our systems, procedures or controls may not be
adequate to support our operations, and we may not be able to expand quickly
enough to exploit potential market opportunities. Our future operating results
will also depend on expanding sales and marketing, research and development, and
administrative support. If we cannot attract qualified people or manage growth
effectively, our business, operating results and financial condition could be
adversely affected.
Our operating results could be adversely affected if we encounter problems
transitioning led production to a larger wafer size.
Beginning in the second half of calendar 2000, we plan to begin shifting LED
production from two-inch wafers to three-inch wafers. We must first qualify our
production processes on systems designed to accommodate the larger wafer size,
and some of our existing production equipment must be refitted for the larger
wafer size. Delays in this process could have an adverse effect on our business.
In addition, in the past we have experienced lower yields for a period of time
following a transition to a larger wafer size until use of the larger wafer is
fully integrated in production and we begin to achieve production efficiency. We
anticipate that we will experience similar temporary yield reductions during the
transition to the use of three-inch wafers, and we have factored this into our
plan for production capacity. If this transition phase takes longer than we
expect or if we are unable to attain expected yield improvements, our operating
results may be adversely affected.
The ongoing operation of our manufacturing facility is critical to our business.
Our principal manufacturing facility in Durham, North Carolina currently
includes a total of 214,000 square feet. The ongoing operation of this facility
is crucial to our strategy of expanding manufacturing capacity to meet demand
for our SiC products now and in the future. We began commercial production of
products from our present facility in August 1998. We expect that production
from this facility will increase throughout the remainder of fiscal 2000 and
into fiscal 2001. Our inability to use all or a significant portion of our
facilities for prolonged periods of time for any reason could have an adverse
impact on our business. For example, a fire or explosion caused by our use of
combustible chemicals and high temperatures during certain of our manufacturing
processes would render some or all of our facility inoperable for an indefinite
period of time. Our manufacturing process requires highly specialized customized
equipment that is not easily replaced. Consequently, damage to or destruction of
any or all of our facility could impair our ability to manufacture products for
our customers.
We rely on a few key suppliers.
We depend on a limited number of suppliers for certain raw materials, components
and equipment used in manufacturing our SiC products, including key materials,
components and equipment used in critical stages of our manufacturing processes.
We generally purchase these limited source items with purchase orders, and we
have no guaranteed supply arrangements with our suppliers. If we were to lose
such key suppliers, our manufacturing efforts could be hampered significantly.
Although we believe our relationship with our suppliers is good, we cannot
assure you that we will continue to maintain good relationships with such
suppliers or that such suppliers will continue to exist.
Our business may suffer if government agencies or other customers discontinue
their funding for our research and development.
In the past, government agencies and other customers have funded a significant
portion of our research and development activities. If this support is
discontinued or reduced, our ability to develop or enhance products could be
limited and our business, results of operations and financial condition could be
adversely affected.
We depend heavily on key personnel.
Our success depends in part on keeping key technical and management personnel.
For example, some of the equipment used in the production of our products must
be modified before it is put to use and only a limited number of employees
possess the expertise needed to perform these modifications. Furthermore, the
number of individuals with experience in the production of SiC and related
products is limited, and our future success depends in part on retaining those
individuals who are already employees. We must also continue to attract
qualified personnel. The competition for qualified personnel is intense, and the
number of people with the experience that we need is limited. We cannot be sure
that we will be able to continue to attract and retain other skilled personnel
in the future.
There are limitations on the protection of our intellectual property.
Our proprietary technology is critical to our business, and our business could
suffer if we are unable to sufficiently protect our intellectual property
rights. Our intellectual property position is based in part on patents owned by
us and on patents exclusively licensed to us by North Carolina State University,
also known as N.C. State.
We intend to continue to file patent applications in the future, where
appropriate, and to pursue such applications with U.S. and foreign patent
authorities, but we cannot be sure that any other patents will be issued on such
applications or that our patents will not be contested. In the past, one of the
important patents we license from N.C. State relating to SiC crystal growth was
subject to a reissue proceeding in the U.S.; however, the patent was
successfully reissued. Currently, a corresponding European patent is being
challenged, which means that we could lose patent protection in Europe for this
particular method. There is no assurance that other of our patents will not be
contested. Also, because issuance of a valid patent does not prevent other
companies from using alternative, non-infringing technology, we cannot be sure
that any of our patents (or patents issued to N.C. State or other parties and
licensed to us) will provide significant commercial protection. In addition to
patent protection, we also rely on trade secrets, technical know-how and other
unpatented proprietary information relating to our product development and
manufacturing activities. We try to protect this information through the use of
confidentiality agreements with our employees and other parties. We cannot be
sure that these agreements will not be breached, that we would have adequate
remedies for any breach or that our trade secrets and proprietary know-how will
not otherwise become known or independently discovered by others.
We may initiate litigation in the future to enforce our intellectual property
rights. Litigation can be protracted, costly and distracting to key personnel.
We cannot assure you that we will prevail in any litigation we initiate and, if
we are not successful, the scope of our rights to important intellectual
property could be diminished or eliminated.
We are subject to risks associated with international sales.
Sales to customers located outside the U.S. accounted for about 79% of our
revenue in fiscal 1997, about 74% of our revenue in fiscal 1998 and about 62% of
our revenue in fiscal 1999. We expect that revenue from international sales will
continue to be a significant part of our total revenue. International sales are
subject to a variety of risks, including risks arising from currency
fluctuations, trends in use of the Euro, trading restrictions, tariffs, trade
barriers and taxes. Also, export laws restrict sales of some of our products to
customers in certain countries because of national security or other concerns.
Because all of our foreign sales are denominated in U.S. dollars, our products
become less price competitive in countries with currencies that are low or are
declining in value against the U.S. dollar. Also, we cannot be sure that our
international customers will continue to place orders denominated in U.S.
dollars. If they do not, our reported revenue and earnings will be subject to
foreign exchange fluctuations.
We are subject to stringent environmental regulation.
We are subject to a variety of government regulations pertaining to chemical and
waste discharges and other aspects of our manufacturing process. For example, we
are responsible for the management of the hazardous materials we use and
disposal of hazardous waste resulting from our manufacturing process. The proper
handling and disposal of such hazardous material and waste requires us to comply
with certain government regulations. We believe we are in full compliance with
such regulations as of the date of this report, but any failure, whether
intentional or inadvertent, to comply with such regulations could have an
adverse effect on our business. In addition, these regulations may affect our
ability to expand or change our manufacturing facility.
We face risks concerning year 2000 issues.
Even though the date is now past January 1, 2000, and we have not experienced
any immediate adverse impact from the transition to the Year 2000, we cannot
provide assurance that our suppliers and customers have not been affected in a
manner that is not yet apparent. In addition, certain computer programs which
were date sensitive to the Year 2000 may not have been programmed to process the
Year 2000 as a leap year, and any negative consequential effects remain unknown.
As a result, we will continue to monitor our Year 2000 compliance and the Year
2000 compliance of our suppliers and customers.