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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
________________
FORM 10-Q
________________
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER: 0-26824
TEGAL CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 68-0370244
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER IDENTIFICATION NO.)
INCORPORATION OR ORGANIZATION)
2201 SOUTH MCDOWELL BLVD.
PETALUMA, CALIFORNIA 94954
(Address of Principal Executive Offices)
TELEPHONE NUMBER (707) 763-5600
(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 reports) and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange List. Yes [ ] No [X]
As of July 25, 2003, there were 16,099,949 shares of our common stock
outstanding.
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1
TEGAL CORPORATION AND SUBSIDIARIES
INDEX
<table>
PART I. FINANCIAL INFORMATION
PAGE
ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
Condensed Consolidated Balance Sheets as of June 30, 2003 and March 31, 2003................................... 3
Condensed Consolidated Statements of Operations-- for the three months ended June 30, 2003 and 2002............ 4
Condensed Consolidated Statements of Cash Flows-- for the three months ended June 30, 2003 and 2002............ 5
Notes to Condensed Consolidated Financial Statements........................................................... 6
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.................................................................................................. 11
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK..................................................... 13
ITEM 4. CONTROLS AND PROCEDURES........................................................................................ 13
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS............................................................................................... 15
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS............................................................. 15
ITEM 5. OTHER INFORMATION............................................................................................... 15
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K................................................................................ 23
SIGNATURES................................................................................................................. 24
2
PART I -- FINANCIAL INFORMATION
ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
TEGAL CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
(IN THOUSANDS)
ASSETS
JUNE 30, MARCH 31,
2003 2003
------- --------
Current assets:
Cash and cash equivalents................................................................................ $ 1,162 $ 912
Trade receivables, net................................................................................... 3,975 2,681
Other receivable......................................................................................... 505 --
Inventories.............................................................................................. 6,163 7,032
Prepaid expenses and other current assets................................................................ 880 465
--------- ---------
Total current assets................................................................................. 12,685 11,090
Property and equipment, net................................................................................ 4,628 4,916
Intangible assets, net..................................................................................... 927 959
Other assets............................................................................................... 218 244
---------- ---------
Total assets......................................................................................... $ 18,458 $ 17,209
========== =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Notes payable............................................................................................ $ 472 $ 389
Convertible debentures, net ............................................................................ 215 --
Accounts payable......................................................................................... 2,198 1,923
Product warranty......................................................................................... 751 734
Customer deposits........................................................................................ 700 --
Accrued expenses and other current liabilities........................................................... 2,873 2,679
Deferred revenue......................................................................................... 535 324
--------- ---------
Total current liabilities............................................................................ 7,744 6,049
Long-term portion of capital lease obligation.............................................................. 36 37
--------- ---------
Total liabilities.................................................................................... 7,780 6,086
--------- ---------
Stockholders' equity:
Common stock............................................................................................. 161 161
Additional paid-in capital............................................................................... 69,651 68,806
Accumulated other comprehensive income................................................................... 428 465
Accumulated deficit...................................................................................... (59,562) (58,309)
--------- --------
Total stockholders' equity........................................................................... 10,678 11,123
--------- --------
$ 18,458 $ 17,209
========= ========
See accompanying notes.
3
TEGAL CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
THREE MONTHS ENDED
JUNE 30,
------------------
2003 2002
---- ----
Revenue:
Product................................................................................................ $ 3,542 $ 3,295
Services............................................................................................... 343 427
--------- -------
Total revenue........................................................................................ 3,885 3,722
Cost of sales:
Cost of product........................................................................................ 2,492 2,855
Cost of services....................................................................................... 356 664
--------- --------
Total cost of sales.................................................................................. 2,848 3,519
--------- -------
Gross profit......................................................................................... 1,037 203
--------- -------
Operating expenses:
Research and development................................................................................. 703 1,276
Sales and marketing...................................................................................... 612 659
General and administrative............................................................................... 1,036 1,053
-------- -------
Total operating expenses............................................................................. 2,351 2,988
-------- -------
Operating loss....................................................................................... (1,314) (2,785)
Other income (expense), net................................................................................ 60 (61)
-------- -------
Net loss............................................................................................. $ (1,254) $ (2,846)
======== =======
Net loss per share, basic and diluted...................................................................... $ (0.08) $ (0.20)
======== =======
Shares used in per share computations:
Basic.................................................................................................... 16,092 14,311
Diluted.................................................................................................. 16,092 14,311
See accompanying notes.
4
TEGAL CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN THOUSANDS)
THREE MONTHS ENDED
JUNE 30,
------------------
2003 2002
---- ----
Cash flows from operating activities:
Net loss................................................................................................. $ (1,254) $ (2,846)
Adjustments to reconcile net loss to cash used in operating activities:
Depreciation and amortization.......................................................................... 338 180
Allowance for doubtful accounts and sales return allowances............................................ 60 (19)
Issuance of options for services rendered............................................................ 32 --
Changes in operating assets and liabilities:
Receivables.......................................................................................... (1,411) (11)
Inventories.......................................................................................... 905 1,035
Prepaid expenses and other assets.................................................................... (166) 507
Accounts payable..................................................................................... 275 (2)
Accrued expenses and other liabilities............................................................... 835 (95)
Deferred revenue..................................................................................... 209 (724)
------- -------
Net cash used in operating activities.............................................................. (177) (1,975)
------- -------
Cash flows from investing activities:......................................................................
Purchases of property and equipment................................................................... (17) (18)
------- -------
Net cash used in investing activities.............................................................. (17) (18)
------- -------
Cash flows from financing activities:
Proceeds from the issuance of convertible debentures..................................................... 424 --
Borrowings under lines of credit......................................................................... 178 2,127
Repayment of borrowings under lines of credit............................................................ (92) (2,499)
Payments on capital lease financing...................................................................... (2) (21)
------- -------
Net cash (used in) provided by financing activities................................................ 508 (393)
------- -------
Effect of exchange rates on cash and cash equivalents...................................................... (64) 35
------- -------
Net decrease in cash and cash equivalents.................................................................. 250 (2,351)
Cash and cash equivalents at beginning of period........................................................... 912 8,100
------- -------
Cash and cash equivalents at end of period................................................................. $ 1,162 $ 5,749
======= =======
See accompanying notes.
5
TEGAL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(ALL AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA)
1. BASIS OF PRESENTATION:
In the opinion of management, the unaudited condensed consolidated interim
financial statements have been prepared on the same basis as the March 31, 2003
audited consolidated financial statements and include all adjustments,
consisting only of normal recurring adjustments, necessary to fairly state the
information set forth herein. The statements have been prepared in accordance
with the regulations of the Securities and Exchange Commission (the "SEC"), but
omit certain information and footnote disclosures necessary to present the
statements in accordance with generally accepted accounting principles. These
interim financial statements should be read in conjunction with the consolidated
financial statements and footnotes included in the Annual Report on Form 10-K of
Tegal Corporation (the "Company") for the fiscal year ended March 31, 2003. The
results of operations for the three months ended June 30, 2003 are not
necessarily indicative of results to be expected for the entire year.
The consolidated financial statements contemplate the realization of assets
and the satisfaction of liabilities in the normal course of business. The
Company incurred net losses of $1.3 million and $2.8 million for the periods
ended June 30, 2003 and 2002, respectively, generated negative cash flows from
operations of $0.2 million and $2.0 million in these periods, and has a cash and
cash equivalents balance of $1.2 million at June 30, 2003, which raises
substantial doubt about its ability to continue as a going concern. Management
believes that its responses to the unfolding business climate, including the
recent staff reduction, and the Company's currently available financial
resources, including cash on hand, will be adequate to fund operations through
fiscal year 2004. The Company raised $0.9 million from the first stage of a
private placement of convertible debentures and warrants on June 30, 2003. In
addition, the Company expects to complete the second stage of this convertible
debt financing in September 2003, contingent upon stockholder approval. The
second stage of the financing, involving the private placement of additional
convertible debentures and warrants to the same investors as the first stage, if
completed, will result in gross proceeds to the Company of $6.2 million. (See
Note 9.) However, there is no assurance that the stockholders of Tegal will
approve the second stage of this financing, and there is no assurance, that
additional financing, if required, will be available on reasonable terms or at
all.
CONCENTRATION OF CREDIT RISK
Financial instruments that potentially subject the Company to significant
concentrations of credit risk consist primarily of temporary cash investments
and accounts receivable. Substantially all of the Company's temporary
investments are invested in highly liquid money market funds. The Company's
accounts receivable are derived primarily from sales to customers located in the
U.S., Europe, and Asia. The Company performs ongoing credit evaluations of its
customers and generally requires no collateral. The Company maintains reserves
for potential credit losses. Write-offs during the periods presented have been
insignificant. As of June 30, 2003 and June 30, 2002 one customer accounted for
approximately 49 percent and 15 percent, respectively, of the accounts
receivable balance.
During the quarter ended June 20, 2003 one customer accounted for 49 percent
of total revenues. During the quarter ended June 20, 2002 two customers
accounted for 21 percent and 10 percent of total revenues.
2. INVENTORIES:
Inventories consisted of:
JUNE 30, MARCH 31,
2003 2003
--------- ----------
Raw materials..................................... $ 3,072 $ 3,218
Work in progress.................................. 1,466 1,937
Finished goods and spares......................... 1,625 1,877
-------- --------
$ 6,163 $ 7,032
======== ========
6
3. PRODUCT WARRANTY:
The Company provides warranty on all system sales based on the estimated
cost of product warranties at the time revenue is recognized. The warranty
obligation is affected by product failure rates, material usage rates, and the
efficiency by which the product failure is corrected. Should actual product
failure rates, material usage rates and labor efficiencies differ from
estimates, revisions to the estimated warranty liability may be required.
Warranty activity for the three-month period ended June 30, 2003 and 2002
was:
WARRANTY ACTIVITY WARRANTY ACTIVITY
FOR THE THREE FOR THE THREE
MONTHS ENDED MONTHS ENDED
JUNE 30, 2003 JUNE 30, 2002
------------- -------------
Balance at the beginning of the period........................................... $ 734 $ 1,205
Additional warranty accruals for warranties issued during the period............. 120 167
Accruals related to pre-existing warranties...................................... -- --
Settlements made during the period............................................... (103) (234)
-------- --------
Balance at the end of the period................................................. $ 751 $ 1,138
======== ========
Certain of the Company's sales contracts include provisions under which
customers would be indemnified by the Company in the event of, among other
things, a third-party claim against the customer for intellectual property
rights infringement related to the Company's products. There are no limitations
on the maximum potential future payments under these guarantees. The Company has
accrued no amounts in relation to these provisions as no such claims have been
made and the Company believes it has valid, enforceable rights to the
intellectual property embedded in its products.
4. NET LOSS PER COMMON SHARE:
Basic earnings per share ("EPS") is calculated by dividing net income
(loss) for the period by the weighted average common shares outstanding for that
period. Diluted EPS takes into account the number of additional common shares
that would have been outstanding if the dilutive potential common shares
("common stock equivalents") had been issued.
Common stock equivalents for the three months ended June 30, 2003 and 2002
were 3,235,736 and 31,898, respectively, and have been excluded from shares used
in calculating diluted loss per share because their effect would be
antidilutive. The common stock equivalents for the three months ended June 30,
2003 included 3,186,657 of potential dilutive shares arising from the first step
of the convertible debenture financing, assuming conversion of the debentures
into common shares and exercise of related warrants. (See Note 9.)
7
5. STOCK-BASED COMPENSATION:
The Company accounts for stock-based employee compensation under the
recognition and measurement principles of Accounting Principles Board Opinion
No. 25, Accounting for Stock Issued to Employees, (APB No. 25) and related
interpretations. Under APB No. 25, compensation cost is equal to the difference,
if any, on the date of grant between the fair value of the Company's stock and
the amount an employee must pay to acquire the stock. SFAS No. 123, Accounting
for Stock-based Compensation, established accounting and disclosure requirements
using a fair value based method of accounting for stock-based employee
compensation plans. As allowed by SFAS No. 123, the Company has elected to
continue to apply the intrinsic value based method of accounting described
above, and has adopted the disclosure requirements of SFAS No. 123 and related
SFAS No. 148, Accounting for Stock-Based Compensation - Transition and
Disclosure.
The following table illustrates the effect on net income (loss) and net
income (loss) per share if the Company had applied the fair value recognition
provisions of SFAS No. 123 to stock-based compensation (in thousands, except per
share data):
THREE MONTHS ENDED
JUNE 30,
------------------
2003 2002
---- ----
Net loss as reported.................................................... $ (1,254) $ (2,846)
Add: Stock-based employee compensation expense included in
reported net loss, net of related tax effects....................... -- --
Deduct: Total stock-based employee compensation expense (36) (101)
determined under fair value method for all awards, net of tax.......
Proforma net loss....................................................... $ (1,290) $ (2,947)
============ ===========
Basic net loss per share:...............................................
As reported............................................................. (0.08) (0.20)
============ ===========
Proforma................................................................ (0.08) (0.21)
============ ===========
The Company accounts for stock-based employee compensation arrangements in
accordance with Accounting Principles Board Opinion No. 25, Accounting for Stock
Issued to Employees, (APB No. 25) and related interpretations, and complies with
the disclosure provisions of SFAS No. 123, Accounting for Stock-based
Compensation and SFAS No. 148 Accounting for Stock-Based Compensation -
Transition and Disclosure. The disclosure provisions of SFAS No. 123 and SFAS
No. 148 require judgments by management as to the estimated lives of the
outstanding options. Management has based the estimated life of the options on
historical option exercise patterns. If the estimated life of the options
increases, the valuation of the options will increase as well.
In June 2003, the Company issued stock options to purchase 300,000 shares
of the Company's common stock to the landlord of its Petaluma facility, as part
of a new lease agreement, and options to purchase 60,000 shares of the Company's
common stock to a service provider for services rendered. The options to the
landlord were valued at $0.1 million (included in other assets as of June 30,
2003) using the Black-Scholes model and the value of the option was expensed
immediately. The deferred charge associated with the landlord's options is being
amortized to operating expense over the life of the new lease of seven years.
Expense related to both of these transactions for the quarter ended June 30,
2003 amounted to thirty-two thousand dollars.
6. LINES OF CREDIT:
On June 30, 2003 the Company entered into an Amended Letter Agreement and
Subordination Agreement with Silicon Valley Bank, which subordinated the bank's
interest in Tegal's intellectual property to the investors in the Convertible
Debt Financing (See Note 9). The Company agreed not to request, until such time
as the investors' security interest in the intellectual property was terminated,
any loan, letter of credit, foreign exchange forward contract, cash management
service or credit accommodation under the Company's current line of credit with
Silicon Valley Bank. At June 30, 2003, the Company had no amounts outstanding
under this domestic line of credit, which had been collateralized by
substantially all of the Company's domestic assets and which was further limited
by the amounts of accounts receivable and inventories on the balance sheet. The
facility had a maximum borrowing capacity of $10.0 million, and bore interest at
prime plus 1.0 percent, or 5.25 percent as of June 30, 2003. The Company is
currently negotiating with Silicon Valley Bank to modify this line of credit to
allow renewed borrowing at substantially the same terms and conditions, but
including the receivables of its Japanese subsidiary.
As of June 30, 2003, the Company's Japanese subsidiary had approximately
$0.2 million outstanding under its bank line of credit which is collateralized
by Japanese customer promissory notes held by such subsidiary in advance of
payment on customers' accounts
8
receivable. The Japanese bank line bears interest at Japanese prime (1.375
percent as of June 30, 2003) plus 1.0 percent, has a renewal date of September
30, 2003, and has a total capacity of 150 million yen (approximately $1.3
million at exchange rates prevailing on June 30, 2003).
Notes payable as of June 30, 2003 consisted of two outstanding notes,
including one to the California Trade and Commerce Agency and another to a
retiring officer of Sputtered Films, Inc. for $0.2 million and $0.1 million,
respectively. The unsecured note from the California Trade and Commerce Agency
carries an annual interest rate of 5.75 percent with monthly interest only
payments of approximately forty-two hundred dollars per month. Although the
payment deadlines are being met, the note is currently in technical default due
to the merger of Sputtered Films and Tegal Corporation. The unsecured note from
the retiring officer of Sputtered Films, Inc. carries an annual interest rate of
10.0 percent.
The Company also entered into a Convertible Debenture Financing, which is
described in Note 9 to the financial statements.
7. COMPREHENSIVE INCOME (LOSS):
The components of comprehensive loss for the three-month periods ended June
30, 2003 and 2002 are as follows:
THREE MONTHS
ENDED
JUNE 30,
--------
2003 2002
---- ----
Net loss.................................................................. $ 1,254 $ 2,846
Foreign currency translation adjustment................................... 37 (62)
------- -------
$ 1,291 $ 2,784
======= =======
8. ACQUISITION:
On August 30, 2002, the Company acquired Sputtered Films, Inc., a
California corporation ("Sputtered Films") pursuant to an Agreement and Plan of
Merger Agreement dated August 13, 2002. Sputtered Films is a leader in the
design and manufacture of sputtering equipment for semiconductor, photomask,
advanced packaging (including flip chip) and compound semiconductor
applications. The acquisition of Sputtered Films secured a source for a
complementary deposition technology for The Company's new materials strategy.
The following unaudited proforma financial results of Tegal Corporation and
Sputtered Films for the three months ended June 30, 2002 give effect to the
acquisition of Sputtered Films as if the acquisition had occurred on the first
day of the quarter ended June 30, 2002 and includes adjustments such as
amortization of intangible assets directly attributable to the acquisition, and
expected to have a continuing impact on the combined company.
The unaudited proforma financial results for the quarter ended June 30,
2002 are provided for comparative purposes only and are not necessarily
indicative of what the Company's actual results would have been had the forgoing
transaction been consummated on April 1, 2002, nor does it give effect to the
synergies, cost savings and other charges expected to result from the
acquisition. Accordingly, the proforma financial results do not purport to be
indicative of the Company's results of operations as of the date hereof or for
any period ended on the date hereof or for any other future date or period.
Unaudited actual and proforma financial Information (in thousands, except
share and per share amounts):
THREE MONTHS ENDED
JUNE 30,
------------------
2003 2002
-------- ------
(PROFORMA)
--------
Revenue.................................................... $ 3,885 $ 5,306
Net loss................................................... (1,254) (2,990)
Net loss per share, basic and diluted...................... (0.08) (0.19)
Shares used in per share computations:
Basic & diluted......................................... 16,092 15,811
9
9. CONVERTIBLE DEBENTURE FINANCING:
On June 30, 2003, the Company signed definitive agreements with investors
to raise up to $7.2 million in a private placement of convertible debt financing
to be completed in two steps. The first step, which closed on June 30, 2003,
involved the sale of debentures in the principal amount of $0.9 million. The
Company received $0.4 million in cash on June 30, 2003 and the remaining balance
of $0.5 million on July 1, 2003 which was recorded as other receivable as of
June 30, 2003. The closing of the second step, which will make available the
balance of the financing of approximately $6.2 million, is contingent upon
stockholder approval.
The debentures agreement includes a Material Adverse Change ("MAC") clause,
which allows the debenture holders to demand the immediate payment of all
outstanding balances upon the debenture holders' determination of the occurrence
of deemed material adverse changes to the Company's financial condition,
business or operations as determined by the debenture holders. Potential
material adverse changes that may cause the Company to default on the debentures
include any significant adverse effect on the Company's financial condition
arising from an event not previously disclosed in the Company's filings with the
Securities and Exchange Commission ("SEC") such as a significant litigation
judgment against the Company, bankruptcy, termination of the majority of the
Company's customer relationships or failure to obtain stockholder approval for
the second step of the debenture financing. The MAC clause is effective until
the conversion of all outstanding debentures.
As a result of the MAC clause, the debentures are classified as a
current liability.
The Company is obligated to use reasonable efforts to register the shares
issuable upon the conversion of the debentures and exercise of warrants. The
Company would be subject to liquidated damages equal to a monthly 1.5% of the
aggregate amount of the debentures in case the Company did not use reasonable
efforts to cause a registration statement to be filed with the SEC by July 30,
2003. Such registration statement was filed with the SEC on July 29, 2003.
The Company is required to pay a cash fee of up to 6.65% of the gross
proceeds of the debentures to certain financial advisors upon the closing of the
second step of the debenture financing which is contingent upon stockholder
approval.
The debentures accrue interest at the rate of 2% per annum and are
convertible at the rate of $0.35 per share. The first step financing of $0.9
million is convertible into 2,655,554 shares of the Company's common stock. The
closing price of the Company's common stock on June 30, 2003, the closing date
for the first step, was $0.55. Therefore, a beneficial conversion feature exists
which has been accounted for under the provisions of EITF 00-27, Application of
Issue 98-5 to Certain Convertible Instruments.
In addition, the debenture holders were granted warrants to purchase
531,103 shares of the Company's common stock at an exercise price of $0.50. The
warrants expire after eight years. The warrants were valued using the
Black-Scholes model with the following variables: fair value of common stock of
$0.35, volatility of 37% and risk-free interest rate of 2.5%.
The relative fair value of the warrants of $0.06 million has been
classified as equity because it meets all the equity classification criteria of
EITF 00-19, Accounting for Derivative Financial Instruments Indexed to, and
Potentially Settled in, a Company's Own Stock.
The following table presents the amounts allocated to the beneficial
conversion feature and warrants and remaining balance of debt after accounting
for these two equity instruments (in thousands):
Debentures - principal amount.............................. $ 929
Beneficial conversion feature (included in equity) ........ (653)
Warrants (included in equity).............................. (61)
Net amount of debentures (classified as short term debt: .. $ 215
The issuance costs associated with the debentures amounted to $0.13
million and have been recorded as a short-term asset to be amortized over the
life of the debt.
The value of the beneficial conversion feature, warrants and debt issuance
costs will be amortized as interest expense over the life of the debt using the
effective interest method. Such amortization will accelerate if the Company
repays the debt early, if the material adverse change clause is invoked or if it
is deemed that such invocation is probable given the presence of negative
factors or
10
if the debt is converted into common stock. The Company will assess the
probability of the occurrence of the material adverse change clause on a
quarterly basis.
11
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Information herein contains "forward-looking statements" within the meaning
of the Private Securities Litigation Reform Act of 1995, which can be identified
by the use of forward-looking terminology such as "may," "will," "expect,"
"anticipate," "estimate," or "continue" or the negative thereof or other
variations thereon or comparable terminology or which constitute projected
financial information. The forward-looking statements relate to the near-term
semiconductor capital equipment industry outlook, demand for our products, our
quarterly revenue and earnings prospects for the near-term future and other
matters contained herein. Such statements are based on current expectations and
beliefs and involve a number of uncertainties and risks that could cause the
actual results to differ materially from those projected. Such uncertainties and
risks include, but are not limited to, the cyclicality of the semiconductor
industry, impediments to customer acceptance, fluctuations in quarterly
operating results, competitive pricing pressures, the introduction of competitor
products having technological and/or pricing advantages, product volume and mix
and other risks detailed from time to time in our SEC reports. For further
information, refer to the business description and risk factors sections
included in our Form 10-K for the year ended March 31, 2003 and the risk factors
section included in this Form 10-Q (Part II, Item 5) as filed with the SEC.
RESULTS OF OPERATIONS
Tegal designs, manufactures, markets and services plasma etch and
deposition systems that enable the production of integrated circuits ("ICs"),
memory and related microelectronics devices used in personal computers, wireless
voice and data telecommunications, contact-less transaction devices, radio
frequency identification devices ("RFID's"), smart cards, data storage and
micro-level actuators. Etching and deposition constitute two of the principal IC
and related device production process steps and each must be performed numerous
times in the production of such devices.
The following table sets forth certain financial items as a percentage of
revenue for the three-month period ended June 30, 2003 and 2002:
THREE MONTHS
ENDED
JUNE 30,
--------
2003 2002
---- ----
Revenue:
Product revenue............................................. 91.2% 88.5%
Services revenue............................................ 8.8 11.5
----- -----
Total revenue............................................ 100.0 100.0
Cost of sales:
Cost of product............................................. 64.1 76.7
Cost of services............................................ 9.2 17.8
----- -----
Total cost of sales...................................... 73.3 94.5
----- -----
Gross profit................................................ 26.7 5.5
Operating expenses:
Research and development.................................... 18.1 34.3
Sales and marketing......................................... 15.8 17.7
General and administrative.................................. 26.8 28.3
----- -----
Total operating expenses................................. 60.7 80.3
----- -----
Operating loss........................................ (34.0) (74.8)
Other income (expense), net.................................... 1.5 (1.7)
----- -----
Net loss.............................................. (32.5) (76.5)
===== =====
Product Revenue. Revenue for the three months ended June 30, 2003 was $3.5
million, an increase of $0.2 million or 7.5% over the comparable period in 2002.
The increase for the three months ended June 30, 2003 was principally due to the
sale of three fewer 900 series systems offset by one more 6500 series system
over the same period in the prior year.
Services Revenue. Revenue from service sales was $0.3 million for the three
month period ended June 30, 2003, down slightly from $0.4 million for the three
month period ended June 30, 2002, which we believe is a result of customers'
continued decreased utilization of Tegal's etch systems during the current
industry downturn.
12
International sales as a percentage of our revenue were approximately 82%
and 74% for the three months ended June 30, 2003 and 2002, respectively. We
believe that international sales will continue to represent a significant
portion of our revenue.
Gross profit. Gross profit as a percentage of revenue (gross margin) was 27%
and 6% for the three months ended June 30, 2003 and 2002, respectively. The
increase in gross margin for the three months ended June 30, 2003, compared to
the same period in the prior year, was principally attributable to the decreased
overhead spending as a result of our continued cost cutting initiatives.
Research and development. Research and development expenses consist
primarily of salaries, prototype material and other costs associated with our
ongoing systems and process technology development, applications and field
process support efforts. Research and development expenses were $0.7 million and
$1.3 million for the three months ended June 30, 2003 and 2002, respectively,
representing 18% and 34% of revenue, respectively. The decrease in research and
development spending is due to the completion and implementation of specific
projects and the continued cost reduction efforts.
Sales and marketing. Sales and marketing expenses consist primarily of
salaries, commissions, trade show promotion and travel and living expenses
associated with those functions. Sales and marketing expenses were relatively
flat year over year at $0.6 million and $0.7 million for the three months ended
June 30, 2003 and 2002, respectively, representing 16% and 18% of revenue,
respectively.
General and administrative. General and administrative expenses consist
primarily of compensation for general management, accounting and finance, human
resources, information systems and investor relations functions and for legal,
consulting and accounting fees of the Company. General and administrative
expenses remained relatively flat year-to-year at $1.0 million and $1.1 million
for the three months ended June 30, 2003 and 2002, respectively, representing
27% and 28% of revenue, respectively.
Other income (expense), net. Other income (expense), net consists primarily
of interest expense on the domestic line of credit offset by interest income on
outstanding cash balances, and gains and losses on foreign exchange.
LIQUIDITY AND CAPITAL RESOURCES
For the three-month periods ended June 30, 2003 and 2002, we financed our
operations through the use of outstanding cash balances and borrowings against
our promissory note borrowing facilities in Japan, as well as our domestic line
of credit.
Net cash used in operations was $0.2 million during the three months ended
June 30, 2003, due principally to a net loss of $0.9 million after deduction of
depreciation and amortization, an increase in accounts receivable and prepaid
assets, offset in part by a decrease in inventories, and an increase in accounts
payable, other accrued liabilities and deferred revenue.
Capital expenditures were negligible for the three months ended June 30,
2003 and 2002.
Net cash received from financing activities totaled $0.5 million for the
three months ended June 30, 2003 and was primarily related to the proceeds from
the initial sale of convertible debentures on June 30, 2003. The decrease for
the three months ended June 30, 2002 was due principally to decreased borrowing
against the line of credit.
On June 30, 2003 the Company entered into an Amended Letter Agreement and
Subordination Agreement with Silicon Valley Bank, which subordinated the bank's
interest in Tegal's intellectual property to the investors in the Convertible
Debt Financing (See Note 9). The Company agreed not to request, until such time
as the investors' security interest in the intellectual property was terminated,
any loan, letter of credit, foreign exchange forward contract, cash management
service or credit accommodation under the Company's current line of credit with
Silicon Valley Bank. At June 30, 2003, the Company had no amounts outstanding
under this domestic line of credit, which had been collateralized by
substantially all of the Company's domestic assets and which was further limited
by the amounts of accounts receivable and inventories on the balance sheet. The
facility had a maximum borrowing capacity of $10.0 million, and bore interest at
prime plus 1.0 percent, or 5.25 percent as of June 30, 2003. The Company is
currently negotiating with Silicon Valley Bank to modify this line of credit to
allow renewed borrowing at substantially the same terms and conditions, but
including the receivables of its Japanese subsidiary.
As of June 30, 2003, the Company's Japanese subsidiary had approximately
$0.2 million outstanding under its bank line of credit which is secured by
Japanese customer promissory notes held by such subsidiary in advance of payment
on customers' accounts receivable. The Japanese bank line bears interest at
Japanese prime (1.375 percent as of June 30, 2003) plus 1.0 percent, has a
renewal
13
date of September 30, 2003, and has a total capacity of 150 million yen
(approximately $1.3 million at exchange rates prevailing on June 30, 2003).
Notes payable as of June 30, 2003 consisted of two outstanding notes,
including one to the California Trade and Commerce Agency and another to a
retiring officer of Sputtered Films, Inc. for $0.2 million and $0.1 million,
respectively. The unsecured note from the California Trade and Commerce Agency
carries an annual interest rate of 5.75 percent with monthly interest only
payments of approximately forty-two hundred dollars per month. Although the
payment deadlines are being met, the note is currently in technical default due
to the merger of Sputtered Films and Tegal Corporation. The unsecured note from
the retiring officer of Sputtered Films, Inc. carries an annual interest rate of
10.0 percent.
The Company also entered into a Convertible Debenture Financing, which is
described in Note 9 to the financial statements. The convertible debentures
include a material adverse change clause which allows the debenture holders to
demand the immediate payment of all outstanding balances upon the debenture
holders' determination of the occurrence of deemed material adverse changes to
our financial condition, business or operations as determined by the debenture
holders based on required financial reporting and other criteria. Potential
material adverse changes causing us to default on the Debentures may include any
significant adverse effect on our financial condition arising from an event not
previously disclosed in our SEC filings such as a significant litigation
judgment against Tegal, bankruptcy, termination of the majority of our customer
relationships, or failure to obtain stockholder approval of a second closing of
the sale of an additional $6.2 million principal amount of our 2% Convertible
Secured Debentures Due 2011 and warrants.
The consolidated financial statements contemplate the realization of assets
and the satisfaction of liabilities in the normal course of business. The
Company incurred net losses of $1.3 million and $2.8 million for the periods
ended June 30, 2003 and 2002, respectively, generated negative cash flows from
operations of $0.2 million and $2.0 million in these periods, and has a cash and
cash equivalents balance of $1.2 million at June 30, 2003, which raises
substantial doubt about its ability to continue as a going concern. In addition,
our auditors have included a going concern uncertainty explanatory paragraph in
their latest auditors' report dated June 10, 2003, which is included in our 10-K
for the year ended March 31, 2003. Management believes that its responses to the
unfolding business climate, including the recent staff reduction, and the
Company's currently available financial resources, including cash on hand, will
be adequate to fund operations through fiscal year 2004. The Company raised $0.9
million from the first stage of a private placement of convertible debentures
and warrants on June 30, 2003. In addition, the Company expects to complete the
second stage of this convertible debt financing in August 2003, contingent upon
stockholder approval. The second stage of the financing, involving the private
placement of additional convertible debentures and warrants to the same
investors as the first stage, will result in gross proceeds to the Company of
$6.2 million. (See Note 9.) There is no assurance, however, that the
stockholders of Tegal will approve the second stage of this financing, and there
is no assurance, that additional financing, if required, will be available on
reasonable terms or at all.
For more information on our capital resources, see "Risk Factors" in Part
II, Item 5.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our cash equivalents are principally comprised of money market accounts. As
of June 30, 2003, we had cash and cash equivalents of $1.2 million. These
accounts are subject to interest rate risk and may fall in value if market
interest rates increase. We attempt to limit this exposure by investing
primarily in short-term securities having a maturity of three months or less.
Due to the nature of our cash and cash equivalents, we have concluded that there
is no material market risk exposure.
We have foreign subsidiaries that operate and sell our products in various
global markets. As a result, our cash flow and earnings are exposed to
fluctuations in interest and foreign currency exchange rates. We attempt to
limit these exposures through the use of various hedge instruments, primarily
forward exchange contracts and currency option contracts (with maturities of
less than three months) to manage our exposure associated with firm commitments
and net asset and liability positions denominated in non-functional currencies.
There have been no material changes regarding market risk since the disclosures
made in our Form 10-K for the fiscal year ended March 31, 2003.
ITEM 4. CONTROLS AND PROCEDURES
We maintain disclosure controls and procedures that are designed to ensure
that information required to be disclosed in our Exchange Act reports is
recorded, processed, summarized and reported within the time periods specified
in the SEC's rules and forms,
14
and that such information is accumulated and communicated to our management,
including our Chief Executive Officer and Chief Financial Officer, as
appropriate, to allow timely decisions regarding required disclosure. In
designing and evaluating the disclosure controls and procedures, management
recognized that any controls and procedures, no matter how well designed and
operated, can provide only reasonable assurance of achieving the desired control
objectives, and, in reaching reasonable level of assurance management
necessarily was required to apply its judgment in evaluating the cost-benefit
relationship of possible controls and procedures.
As required by SEC Rule 13a-15(b), the Company carried out an evaluation,
under the supervision and with the participation of the Company's management,
including the Company's Chief Executive Officer and the Company's Chief
Financial Officer, of the effectiveness of the design and operation of the
Company's disclosure controls and procedures as of the end of the quarter
covered by this report. Based on the foregoing, the Company's Chief Executive
Officer and Chief Financial Officer concluded that the Company's disclosure
controls and procedures were effective at the reasonable assurance level.
There has been no change in the Company's internal controls over financial
reporting during the Company's most recent fiscal quarter that has materially
affected, or is reasonably likely to materially affect, the Company's internal
controls over financial reporting.
15
PART II -- OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
On March 17, 1998, Tegal filed suit in the United States District Court in
the Eastern District of Virginia against Tokyo Electron America, Inc. and
several of its affiliated companies (the "TEA case") alleging that TEL's 65DI
and 85DI IEM etch equipment infringe certain of Tegal's patents. The TEA case
was tried in the District Court in May 1999, and on August 31, 1999, the Court
found both patents-in-suit valid, and found that TEA had willfully infringed our
`223 dual-frequency triode etcher patent. The District Court enjoined TEA from
further sales or service of its IEM etchers. In addition, the District Court
ordered TEA to pay attorney's fees and court costs to Tegal. On appeal, the
Federal Circuit affirmed the District Court's findings of infringement and the
interpretations of the `223 patent on which those findings were made, but
reversed certain findings relating to TEA's defense of anticipation. As a
result, the Federal Circuit vacated the judgment and the injunction and remanded
the case for further consideration of the anticipation defense. Further
proceedings before the District Court to address TEA's anticipation defense have
yet to be scheduled. In a separate but related action against Tokyo Electron
Limited (the "TEL case") concerning a later generation of etchers known as the
Advanced IEM or AIEM, the United States District Court for the Eastern District
of Virginia granted summary judgment of non-infringement for TEL on August 7,
2000 and entered judgment for TEL on September 11, 2000. On February 1, 2002,
the Federal Circuit affirmed the District Court's decision on summary judgment
that the AIEM does not infringe the `223. The Federal Circuit's decision in the
TEL case is now final. Although many issues have now been fully resolved in the
litigation against the Tokyo Electron entities as reported above, further
proceedings in the TEA case are still pending. Thus, we cannot assure you at
this stage of the ultimate outcome of these litigations or of the effect of any
such outcome on our business.
On September 1, 1999, the Company filed a patent infringement action against
Lam Research Corporation (the "Lam case"), asserting infringement of two of
Tegal's patents directed to dual frequency plasma processing technologies (the
"`618 and the `223 patents"). Tegal sought injunctive relief barring Lam from
manufacturing, selling and supporting products that incorporate its patented
technology. The Company further sought enhanced damages for willful infringement
of its patents. The suit was initially filed in United States District Court for
the Eastern District of Virginia, but was transferred by that court to the
United States District Court of the Northern District of California. Following
an adverse decision from the United States Court of Appeals for the Federal
Circuit in a prior case against Tokyo Electron Limited, Tegal voluntarily
dismissed the '223 patent from the Lam case. A Markman hearing was held on the
'618 patent in July 2002, and in September 2002 the Court issued a claim
interpretation ruling in which it determined that the claim term "low frequency"
means "less than approximately 1Mhz." In October 2002, Lam filed a motion for
summary judgment of non-infringement of the '618 patent. On January 14, 2003,
after modifying its original Markman ruling and further interpreting "low
frequency" to have an upper limit of 1.4 Mhz, the Court granted Lam's motion for
summary judgment of noninfringement of the '618 patent. Thereafter, Lam sought
to pursue a counterclaim alleging that the case ought to be deemed "exceptional"
under 28 U.S.C. ss. 285, thus justifying an award of attorney's fees in its
favor. On June 13, 2003, the Court issued an order finding that the case is not
"exceptional" and declining to award Lam its attorney's fees. Neither party has
appealed any of the rulings made by the District Court and the time to file
appeals has now run. Thus, the outcome of the litigation is now final.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
On June 30, 2003, the Company closed a private placement in which it sold to
accredited investors $0.9 million principal amount of its 2.0% Convertible
Secured Debentures Due 2011 and warrants initially exercisable for 531,111
shares of common stock. The Debentures and accrued interest thereon are
convertible into shares of the Company's common stock at a price of $0.35 per
share. The warrants have an exercise price of $0.50 per share and expire June
30, 2011. The sale and issuance of these securities was exempt from registration
under the Securities Act pursuant to Section 4(2) thereof, on the basis that the
transaction did not involve a public offering. The Company intends to use the
net proceeds from these securities for general corporate purposes. In June 2003,
the Company issued stock options to purchase 300,000 shares of the Company's
common stock to the landlord of its Petaluma facility, as part of a new lease
agreement, and options to purchase 60,000 shares of the Company's common stock
to a service provider for services rendered. The options to the landlord were
valued at $0.1 million included in other assets using the Black-Scholes model.
The issuance of these securities was exempt from registration under the
Securities Act pursuant to Section 4(2) thereof, on the basis that the
transaction did not involve a public offering. The Company intends to use the
net proceeds from these securities for general corporate purposes.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
On April 28, 2003 at a special meeting of our stockholders, our board of
directors was granted the authority to effect a reverse split of our common
stock within a range of two-for-one to fifteen-for-one. Please refer to our
Proxy Statement filed on Schedule 14-A on
16
April 3, 2003 for a description of the matter voted upon at the meeting. There
were present at the meeting, in person or by proxy, the holders of 13,876,204
shares of common Stock of the Company, representing 86% of the total votes
eligible to be cast, constituting a majority and more than a quorum of the
outstanding shares entitled to vote. The votes were tallied as follows:
For............................................................ 12,415,043
Against........................................................ 1,440,791
Abstain........................................................ 20,370
Broker Non Vote................................................ 0
ITEM 5. OTHER INFORMATION
In accordance with Section 10A(i)(2) of the Securities Exchange Act of
1934, as added by Section 202 of the Sarbanes-Oxley Act of 2002 (the "Act"), we
are required to disclose the non-audit services approved by our Audit Committee
to be performed by PricewaterhouseCoopers LLP, our external auditor. Non-audit
services are defined in the Act as services other than those provided in
connection with an audit or a review of the financial statements of a company.
The Audit Committee has approved the engagement of PricewaterhouseCoopers LLP
for the following non-audit services: the preparation of federal and state
income tax returns.
On September 6, 2002, we received notification from Nasdaq that for the 30
days prior to the notice, the price of our common stock had closed below the
minimum $1.00 per share bid price requirement for continued inclusion under
Marketplace Rule 4450(a)(5) (the "Rule"), and were provided 90 calendar days, or
until December 5, 2002, to regain compliance. Our bid price did not close above
the minimum during that period. On December 6, 2002, we received notification
from Nasdaq that our securities would be delisted from The Nasdaq National
Market, the exchange on which our stock was listed prior to May 6, 2003, on
December 16, 2002 unless we either (i) applied to transfer our securities to The
Nasdaq SmallCap Market, in which case we would be afforded additional time to
come into compliance with the minimum $1.00 bid price requirement; or (ii)
appealed the Nasdaq staff's determination to the Nasdaq's Listing Qualifications
Panel (the "Panel"). On December 12, 2002 we requested an oral hearing before
the Panel and such hearing took place on January 16, 2003 in Washington, D.C.
Our appeal was based, among other things, on our intention to seek stockholder
approval for a reverse split of our outstanding common stock. On April 28, 2003
at a special meeting of our stockholders, our board of directors was granted the
authority to effect a reverse split of our common stock within a range of
two-for-one to fifteen-for-one. The timing and ratio of a reverse split, if any,
is at the sole discretion of our board of directors. On May 6, 2003, we
transferred the listing of our common stock to the Nasdaq SmallCap Market. In
connection with this transfer, Nasdaq granted us an extension until September 2,
2003, to regain compliance with the Rule's minimum $1.00 per share bid price
requirement for continued inclusion on the Nasdaq SmallCap Market (which may be
further extended to December 1, 2003 so long as the company continues to meet
other continued listing requirements).
If we are out of compliance in the future with Nasdaq listing
requirements, we may take actions in order to achieve compliance, which actions
may include a reverse split of our common stock. If an initial delisting
decision is made by the Nasdaq's staff, we may appeal the decision as permitted
by Nasdaq rules. If we are delisted and cannot obtain listing on another major
market or exchange, our stock's liquidity would suffer, and we would likely
experience reduced investor interest. Such factors may result in a decrease in
our stock's trading price. Delisting also may restrict us from issuing
additional securities or securing additional financing.
RISK FACTORS
WE HAVE INCURRED OPERATING LOSSES AND MAY NOT BE PROFITABLE IN THE FUTURE; OUR
PLANS TO MAINTAIN AND INCREASE LIQUIDITY MAY NOT BE SUCCESSFUL; OUR AUDITORS'
REPORT INCLUDES A GOING CONCERN UNCERTAINTY EXPLANATORY PARAGRAPH.
We incurred net losses of $12.6 million and $8.7 million for the years
ended March 31, 2003 and 2002, respectively, and generated negative cash flows
from operations of $6.0 million and $3.6 million in these respective years. In
addition, we continue to generate losses and negative cash flows from operations
through June 30, 2003. These factors raise substantial doubt as to our ability
to continue as a going concern, and our auditors have included a going concern
uncertainty explanatory paragraph in their latest auditors' report dated June
10, 2003 which is included in our 10-K for the year ended March 31, 2003. Our
plans to maintain and increase liquidity include the restructuring executed
during fiscal 2002 and 2003, which reduced headcount from 155 employees to 81
employees and has reduced our cost structure entering fiscal 2004. We believe
the cost reduction and a projected increase in sales during fiscal 2004 will
generate sufficient cash flows to fund our operations through March 31, 2004.
However, these projected sales are to a limited number of new and existing
customers and are based, for the most part, on internal and customer provided
estimates of future demand, not firm customer orders. If the projected sales do
not materialize, we will need to reduce expenses further and raise
17
<page>
additional capital through the issuance of debt or equity securities. If
additional funds are raised through the issuance of preferred stock or debt,
these securities could have rights, privileges or preferences senior to those of
our common stock, and debt covenants could impose restrictions on our
operations. The sale of equity or debt could result in additional dilution to
current stockholders, and such financing may not be available to us on
acceptable terms, if at all. The consolidated financial statements do not
include any adjustments relating to the recoverability and classification of
recorded assets or the amount or classification of liabilities or any other
adjustments that might be necessary should we be unable to continue as a going
concern.
OUR DEBENTURES INCLUDE A MATERIAL ADVERSE CHANGE CLAUSE.
As disclosed in our Current Report on Form 8-K filed with the SEC on
June 2, 2003, our 2% Convertible Secured Debentures Due 2011 that we sold on
June 30, 2003 include a material adverse change clause. This material adverse
change clause allows the debenture holders to demand the immediate payment of
all outstanding balances upon the debenture holders' determination of the
occurrence of deemed material adverse changes to our financial condition,
business or operations as determined by the debenture holders based on required
financial reporting and other criteria. Potential material adverse changes
causing us to default on the Debentures may include any significant adverse
effect on our financial condition arising from an event not previously disclosed
in our SEC filings such as a significant litigation judgment against Tegal,
bankruptcy, termination of the majority of our customer relationships, or
failure to obtain stockholder approval of a second closing of the sale of an
additional $6.2 million principal amount of our 2% Convertible Secured
Debentures Due 2011 and warrants. As of July 31, 2003, $0.9 million principal
amount of our 2% Convertible Secured Debentures Due 2011 plus accrued interest
could be demanded for immediate payment by the Debenture holders upon such an
event of default. In the event of such a demand, Tegal would need to pursue
additional funding for repayment of such amount, or risk insolvency.
THE CONVERSION OF OUR CONVERTIBLE SECURITIES, THE EXERCISE OF OUTSTANDING
WARRANTS, OPTIONS AND OTHER RIGHTS TO OBTAIN ADDITIONAL SHARES COULD DILUTE THE
VALUE OF THE SHARES.
As of August 1, 2003, there are Debentures convertible into 2,655,554
shares of our common stock (all of which are based on a conversion price of
$0.35 per share and a cash payment in lieu of any fractional share), warrants
exercisable for approximately 2,229,653 shares of our common stock and options
exercisable for approximately 1,474,725 shares of our common stock. If we obtain
stockholder approval of the sale of an additional $6.2 million principal amount
of our Debentures and warrants, these additional Debentures will be initially
convertible into 17,815,714 shares of common stock, and the additional warrants
will be exercisable for 3,563,143 shares of common stock.
The conversion of these convertible securities and the exercise of
these warrants could result in dilution in the value of the shares of our
outstanding common stock and the voting power represented thereby. In addition,
the conversion price of the Debentures or the exercise price of the warrants may
be lowered under the price adjustment provisions in the event of a "dilutive
issuance," that is, if we issue common stock at any time prior to their maturity
at a per share price below such conversion or exercise price, either directly or
in connection with the issuance of securities that are convertible into, or
exercisable for, shares of our common stock. A reduction in the exercise price
may result in the issuance of a significant number of additional shares upon the
exercise of the warrants.
Neither the Debentures nor the warrants establish a "floor" that would
limit reductions in such conversion price or exercise price. The downward
adjustment of the conversion price of these Debentures and of the exercise price
of these warrants could result in further dilution in the value of the shares of
our outstanding common stock and the voting power represented thereby.
SALES OF SUBSTANTIAL AMOUNTS OF OUR SHARES OF COMMON STOCK COULD CAUSE THE PRICE
OF OUR COMMON STOCK TO GO DOWN.
To the extent the holders of our convertible securities and warrants
convert or exercise such securities and then sell the shares of our common stock
they receive upon conversion or exercise, our stock price may decrease due to
the additional amount of shares available in the market. The subsequent sales of
these shares could encourage short sales by our stockholders and others, which
could place further downward pressure on our stock price. Moreover, holders of
these convertible securities and warrants may hedge their positions in our
common stock by shorting our common stock, which could further adversely affect
our stock price. The effect of these activities on our stock price could
increase the number of shares issuable upon future conversions of our
convertible securities or exercises of our warrants.
18
Should we receive stockholder approval to increase the number of
authorized shares of common stock to 100 million shares and/or effect a reverse
stock split, we may also issue additional capital stock, convertible securities
and/or warrants to raise capital in the future. In addition, we may elect to pay
any accrued interest on the outstanding $0.9 million and proposed $6.2 million
(subject to stockholder approval) principal amount of Debentures with shares of
our common stock. Interest on the Debentures is calculated quarter-annually,
based on 2% per annum on the principal amount outstanding. In addition, to
attract and retain key personnel, we may issue additional securities, including
stock options. All of the above could result in additional dilution of the value
of our common stock and the voting power represented thereby. No prediction can
be made as to the effect, if any, that future sales of shares of our common
stock, or the availability of shares for future sale, will have on the market
price of our common stock prevailing from time to time. Sales of substantial
amounts of shares of our common stock in the public market, or the perception
that such sales could occur, may adversely affect the market price of our common
stock and may make it more difficult for us to sell our equity securities in the
future at a time and price which we deem appropriate. Public or private sales of
substantial amounts of shares of our common stock by persons or entities that
have exercised options and/or warrants could adversely affect the prevailing
market price of the shares of our common stock.
THE SEMICONDUCTOR INDUSTRY IS CYCLICAL AND MAY EXPERIENCE PERIODIC DOWNTURNS
THAT MAY NEGATIVELY AFFECT CUSTOMER DEMAND FOR OUR PRODUCTS AND RESULT IN LOSSES
SUCH AS THOSE EXPERIENCED IN THE PAST.
Our business depends upon the capital expenditures of semiconductor
manufacturers, which in turn depend on the current and anticipated market demand
for integrated circuits. The semiconductor industry is highly cyclical and
historically has experienced periodic downturns, which often have had a
detrimental effect on the semiconductor industry's demand for semiconductor
capital equipment, including etch and deposition systems manufactured by us. In
response to the current prolonged industry slow-down, we have initiated a
substantial cost containment program and a corporate-wide restructuring to
preserve our cash. However, the need for continued investment in research and
development, possible capital equipment requirements and extensive ongoing
customer service and support requirements worldwide will continue to limit our
ability to reduce expenses in response to the current downturn.
OUR COMPETITORS HAVE GREATER FINANCIAL RESOURCES AND GREATER NAME RECOGNITION
THAN WE DO AND THEREFORE MAY COMPETE MORE SUCCESSFULLY IN THE SEMICONDUCTOR
CAPITAL EQUIPMENT INDUSTRY THAN WE CAN.
We believe that to be competitive, we will require significant
financial resources in order to offer a broad range of systems, to maintain
customer service and support centers worldwide and to invest in research and
development. Many of our existing and potential competitors, including, among
others, Applied Materials, Inc., Lam Research Corporation, Novellus and Tokyo
Electron Limited, have substantially greater financial resources, more extensive
engineering, manufacturing, marketing and customer service and support
capabilities, larger installed bases of current generation etch, deposition and
other production equipment and broader process equipment offerings, as well as
greater name recognition than we do. We cannot assure you that we will be able
to compete successfully against these companies in the United States of America
or worldwide.
IF WE FAIL TO MEET THE CONTINUED LISTING REQUIREMENTS OF THE NASDAQ STOCK
MARKET, OUR STOCK COULD BE DELISTED.
Our stock is currently listed on The Nasdaq SmallCap Market. The Nasdaq
Stock Market's Marketplace Rules impose certain minimum financial requirements
on us for the continued listing of our stock. One such requirement is the
minimum bid price on our stock of $1.00 per share. Beginning in 2002, there have
been periods of time during which we have been out of compliance with the $1.00
minimum bid requirements of the Nasdaq SmallCap Market.
On September 6, 2002, we received notification from Nasdaq that for the
30 days prior to the notice, the price of our common stock had closed below the
minimum $1.00 per share bid price requirement for continued inclusion under
Marketplace Rule 4450(a)(5) (the "Rule"), and were provided 90 calendar days, or
until December 5, 2002, to regain compliance. Our bid price did not close above
the minimum during that period. On December 6, 2002, we received notification
from Nasdaq that our securities would be delisted from The Nasdaq National
Market, the exchange on which our stock was listed prior to May 6, 2003, on
December 16, 2002 unless we either (i) applied to transfer our securities to The
Nasdaq SmallCap Market, in which case we would be afforded additional time to
come into compliance with the minimum $1.00 bid price requirement; or (ii)
appealed the Nasdaq staff's determination to the Nasdaq's Listing Qualifications
Panel (the "Panel"). On December 12, 2002 we requested an oral hearing before
the Panel and such hearing took place on January 16, 2003 in Washington, D.C.
Our appeal was based, among other things, on our intention to seek stockholder
approval for a reverse split of our outstanding common stock. On April 28, 2003
at a special meeting of our stockholders, our board of directors was granted the
authority to effect a reverse split of our common stock within a range of
two-for-one to fifteen-
19
for-one. The timing and ratio of a reverse split, if any, is at the sole
discretion of our board of directors. On May 6, 2003, we transferred the listing
of our common stock to the Nasdaq SmallCap Market. In connection with this
transfer, Nasdaq granted us an extension until September 2, 2003, to regain
compliance with the Rule's minimum $1.00 per share bid price requirement for
continued inclusion on the Nasdaq SmallCap Market (which may be further extended
to December 1, 2003 so long as the company continues to meet other continued
listing requirements).
If we are out of compliance in the future with Nasdaq listing
requirements, we may take actions in order to achieve compliance, which actions
may include a reverse split of our common stock. If an initial delisting
decision is made by the Nasdaq's staff, we may appeal the decision as permitted
by Nasdaq rules. If we are delisted and cannot obtain listing on another major
market or exchange, our stock's liquidity would suffer, and we would likely
experience reduced investor interest. Such factors may result in a decrease in
our stock's trading price. Delisting also may restrict us from issuing
additional securities or securing additional financing.
WE DEPEND ON SALES OF OUR ADVANCED PRODUCTS TO CUSTOMERS THAT MAY NOT FULLY
ADOPT OUR PRODUCT FOR PRODUCTION USE.
We have designed our advanced etch and deposition products for customer
applications in emerging new films, polysilicon and metal which we believe to be
the leading edge of critical applications for the production of advanced
semiconductor and other microelectronic devices. Revenues from the sale of our
advanced etch and deposition systems accounted for 25% and 36% of total revenues
in fiscal 2003 and 2002, respectively. Our advanced systems are currently being
used primarily for research and development activities or low volume production.
For our advanced systems to achieve full market adoption, our customers must
utilize these systems for volume production. There can be no assurance that the
market for devices incorporating emerging films, polysilicon or metal will
develop as quickly or to the degree we expect.
If our advanced systems do not achieve significant sales or volume
production due to a lack of full customer adoption, our business, financial
condition, results of operations and cash flows will be materially adversely
affected.
OUR POTENTIAL CUSTOMERS MAY NOT ADOPT OUR PRODUCTS BECAUSE OF THEIR SIGNIFICANT
COST OR BECAUSE OUR POTENTIAL CUSTOMERS ARE ALREADY USING A COMPETITOR'S TOOL.
A substantial investment is required to install and integrate capital
equipment into a semiconductor production line. Additionally, we believe that
once a device manufacturer has selected a particular vendor's capital equipment,
that manufacturer generally relies upon that vendor's equipment for that
specific production line application and, to the extent possible, subsequent
generations of that vendor's systems. Accordingly, it may be extremely difficult
to achieve significant sales to a particular customer once that customer has
selected another vendor's capital equipment unless there are compelling reasons
to do so, such as significant performance or cost advantages. Any failure to
gain access and achieve sales to new customers will adversely affect the
successful commercial adoption of our products and could have a detrimental
effect on us.
OUR QUARTERLY OPERATING RESULTS MAY CONTINUE TO FLUCTUATE.
Our revenue and operating results have fluctuated and are likely to
continue to fluctuate significantly from quarter to quarter, and there can be no
assurance as to future profitability.
Our 900 series etch systems typically sell for prices ranging between
$250,000 and $600,000, while prices of our 6500 series critical etch systems and
our Endeavor deposition system typically range between $1.8 million and $3.0
million. To the extent we are successful in selling our 6500 and Endeavor series
systems, the sale of a small number of these systems will probably account for a
substantial portion of revenue in future quarters, and a transaction for a
single system could have a substantial impact on revenue and gross margin for a
given quarter.
Other factors that could affect our quarterly operating results include:
o our timing of new systems and technology announcements and releases and
ability to transition between product versions;
o product returns upon the introduction of new product versions and pricing
adjustments for our distributors;
o seasonal fluctuations in sales;
o anticipated declines in selling prices of our products to original
equipment manufacturers and potential declines in selling prices to other
parties as a result of competitive pressures;
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o changes in the mix of our revenues represented by our various products and
customers;
o adverse changes in the level of economic activity in the United States or
other major economies in which we do business;
o foreign currency exchange rate fluctuations;
o expenses related to, and the financial impact of, possible acquisitions of
other businesses;
o changes in the timing of product orders due to unexpected delays in the
introduction of our customers' products, due to lifecycles of our
customers' products ending earlier than expected or due to market
acceptance of our customers' products; and
o timely and accurate reporting to us by our original equipment manufacturer
customers of units shipped.
Additionally, potential acquisitions may result in significant
expenses, including amortization of purchased software, which is reflected in
cost of revenues, as well as charges for in-process research and development and
amortization of acquired identifiable intangible assets, which are reflected in
operating expenses.
BECAUSE TECHNOLOGY CHANGES RAPIDLY, WE MAY NOT BE ABLE TO INTRODUCE OUR PRODUCTS
IN A TIMELY ENOUGH FASHION.
The semiconductor manufacturing industry is subject to rapid
technological change and new system introductions and enhancements. We believe
that our future success depends on our ability to continue to enhance our
existing systems and their process capabilities, and to develop and manufacture
in a timely manner new systems with improved process capabilities. We may incur
substantial unanticipated costs to ensure product functionality and reliability
early in our products' life cycles. There can be no assurance that we will be
successful in the introduction and volume manufacture of new systems or that we
will be able to develop and introduce, in a timely manner, new systems or
enhancements to our existing systems and processes which satisfy customer needs
or achieve market adoption.
SOME OF OUR SALES CYCLES ARE LENGTHY, EXPOSING US TO THE RISKS OF INVENTORY
OBSOLESCENCE AND FLUCTUATIONS IN OPERATING RESULTS.
Sales of our systems depend, in significant part, upon the decision of
a prospective customer to add new manufacturing capacity or to expand existing
manufacturing capacity, both of which typically involve a significant capital
commitment. We often experience delays in finalizing system sales following
initial system qualification while the customer evaluates and receives approvals
for the purchase of our systems and completes a new or expanded facility. Due to
these and other factors, our systems typically have a lengthy sales cycle (often
12 to 18 months in the case of critical etch and deposition systems) during
which we may expend substantial funds and management effort. Lengthy sales
cycles subject us to a number of significant risks, including inventory
obsolescence and fluctuations in operating results over which we have little or
no control.
WE MAY NOT BE ABLE TO PROTECT OUR INTELLECTUAL PROPERTY OR OBTAIN LICENSES FOR
THIRD PARTIES' INTELLECTUAL PROPERTY AND THEREFORE WE MAY BE EXPOSED TO
LIABILITY FOR INFRINGEMENT OR THE RISK THAT OUR OPERATIONS MAY BE ADVERSELY
AFFECTED.
Although we attempt to protect our intellectual property rights through
patents, copyrights, trade secrets and other measures, we may not be able to
protect our technology adequately and competitors may be able to develop similar
technology independently. Additionally, patent applications that we may file may
not be issued and foreign intellectual property laws may not protect our
intellectual property rights. There is also a risk that patents licensed by or
issued to us will be challenged, invalidated or circumvented and that the rights
granted thereunder will not provide competitive advantages to us. Furthermore,
others may independently develop similar systems, duplicate our systems or
design around the patents licensed by or issued to us.
Existing litigation and any future litigation could result in
substantial cost and diversion of effort by us, which by itself could have a
detrimental effect on our financial condition, operating results and cash flows.
Further, adverse determinations in such litigation could result in our loss of
proprietary rights, subject us to significant liabilities to third parties,
require us to seek licenses from third parties or prevent us from manufacturing
or selling our systems. In addition, licenses under third parties' intellectual
property rights may not be available on reasonable terms, if at all.
OUR CUSTOMERS ARE CONCENTRATED AND THEREFORE THE LOSS OF A SIGNIFICANT CUSTOMER
MAY HARM OUR BUSINESS.
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Our top five customers accounted for 88.2%, 54.4% and 42.0% of our
systems revenues in fiscal 2003, 2002 and 2001, respectively. Four customers
each accounted for more than 10% of net systems sales in fiscal 2003. Although
the composition of the group comprising our largest customers may vary from year
to year, the loss of a significant customer or any reduction in orders by any
significant customer, including reductions due to market, economic or
competitive conditions in the semiconductor manufacturing industry, may have a
detrimental effect on our business, financial condition, results of operations
and cash flows. Our ability to increase our sales in the future will depend, in
part, upon our ability to obtain orders from new customers, as well as the
financial condition and success of our existing customers and the general
economy, which is largely beyond our ability to control.
WE ARE EXPOSED TO ADDITIONAL RISKS ASSOCIATED WITH INTERNATIONAL SALES AND
OPERATIONS.
International sales accounted for 66%, 67% and 61% of total revenue for
fiscal 2003, 2002 and 2001, respectively. International sales are subject to
certain risks, including the imposition of government controls, fluctuations in
the U.S. dollar (which could increase the sales price in local currencies of our
systems in foreign markets), changes in export license and other regulatory
requirements, tariffs and other market barriers, political and economic
instability, potential hostilities, restrictions on the export or import of
technology, difficulties in accounts receivable collection, difficulties in
managing distributors or representatives, difficulties in staffing and managing
international operations and potentially adverse tax consequences. There can be
no assurance that any of these factors will not have a detrimental effect on our
operations and financial results.
Sales of our systems in certain countries are billed in local currency,
and we have a line of credit denominated in Japanese Yen. We generally attempt
to offset a portion of our U.S. dollar denominated balance sheet exposures
subject to foreign exchange rate remeasurement by purchasing forward currency
contracts for future delivery. There can be no assurance that our future results
of operations and cash flows will not be adversely affected by foreign currency
fluctuations. In addition, the laws of certain countries in which our products
are sold may not provide our products and intellectual property rights with the
same degree of protection as the laws of the United States of America.
WE MUST INTEGRATE OUR ACQUISITION OF SPUTTERED FILMS AND WE MAY NEED TO MAKE
ADDITIONAL FUTURE ACQUISITIONS TO REMAIN COMPETITIVE. THE PROCESS OF
IDENTIFYING, ACQUIRING AND INTEGRATING FUTURE ACQUISITIONS MAY CONSTRAIN
VALUABLE MANAGEMENT RESOURCES, AND OUR FAILURE TO EFFECTIVELY INTEGRATE FUTURE
ACQUISITIONS MAY RESULT IN THE LOSS OF KEY EMPLOYEES AND THE DILUTION OF
STOCKHOLDER VALUE AND HAVE AN ADVERSE EFFECT ON OUR OPERATING RESULTS.
We acquired Sputtered Films, Inc. in August 2002. We may in the future
seek to acquire or invest in additional businesses, products or technologies
that we believe could complement or expand our business, augment our market
coverage, enhance our technical capabilities or that may otherwise offer growth
opportunities. We may encounter problems with the assimilation of Sputtered
Films or businesses, products or technologies acquired in the future including:
o difficulties in assimilation of acquired personnel, operations,
technologies or products;
o unanticipated costs associated with acquisitions;
o diversion of management's attention from other business concerns and
potential disruption of our ongoing business;
o adverse effects on our existing business relationships with our customers;
o potential patent or trademark infringement from acquired technologies;
o adverse effects on our current employees and the inability to retain
employees of acquired companies;
o use of substantial portions of our available cash as all or a portion of
the purchase price; and
o dilution of our current stockholders due to issuances of additional
securities as consideration for acquisitions.
If we are unable to successfully integrate our acquired companies or to
create new or enhanced products and services, we may not achieve the anticipated
benefits from our acquisitions. If we fail to achieve the anticipated benefits
from the acquisitions, we may incur increased expenses and experience a
shortfall in our anticipated revenues and we may not obtain a satisfactory
return on our investment. In addition, if a significant number of employees of
acquired companies fail to remain employed with us, we may experience
difficulties in achieving the expected benefits of the acquisitions.
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Completing any potential future acquisitions could cause significant
diversions of management time and resources. Financing for future acquisitions
may not be available on favorable terms, or at all. If we identify an
appropriate acquisition candidate for any of our businesses, we may not be able
to negotiate the terms of the acquisition successfully, finance the acquisition
or integrate the acquired business, products, technologies or employees into our
existing business and operations. Future acquisitions may not be well-received
by the investment community, which may cause our stock price to fall. We have
not entered into any agreements or understanding regarding any future
acquisitions and cannot ensure that we will be able to identify or complete any
acquisition in the future.
If we acquire businesses, new products or technologies in the future,
we may be required to amortize significant amounts of identifiable intangible
assets and we may record significant amounts of goodwill that will be subject to
annual testing for impairment. If we consummate one or more significant future
acquisitions in which the consideration consists of stock or other securities,
our existing stockholders' ownership could be significantly diluted. If we were
to proceed with one or more significant future acquisitions in which the
consideration included cash, we could be required to use a substantial portion
of our available cash.
OUR WORKFORCE REDUCTIONS AND FINANCIAL PERFORMANCE MAY ADVERSELY AFFECT THE
MORALE AND PERFORMANCE OF OUR PERSONNEL AND OUR ABILITY TO HIRE NEW PERSONNEL.
We have made reductions in our workforce in order to reduce costs and
bring staffing in line with our anticipated requirements. There were costs
associated with the workforce reductions related to severance and other
employee-related costs, and our restructuring may yield unanticipated costs and
consequences, such as attrition beyond our planned reduction in staff. In
addition, our common stock has declined in value below the exercise price of
many options granted to employees pursuant to our stock option plans. Thus, the
intended benefits of the stock options granted to our employees, the creation of
performance and retention incentives, may not be realized. In addition,
workforce reductions and management changes create anxiety and uncertainty and
may adversely affect employee morale. As a result, we may lose employees whom we
would prefer to retain. As a result of these factors, our remaining personnel
may seek employment with larger, more established companies or companies
perceived as having less volatile stock prices.
PROVISIONS IN OUR AGREEMENTS, CHARTER DOCUMENTS, STOCKHOLDER RIGHTS PLAN AND
DELAWARE LAW MAY DETER TAKEOVER ATTEMPTS, WHICH COULD DECREASE THE VALUE OF YOUR
SHARES.
Our certificate of incorporation and bylaws and Delaware law contain
provisions that could make it more difficult for a third party to acquire us
without the consent of our board of directors. Our board of directors has the
right to issue preferred stock without stockholder approval, which could be used
to dilute the stock ownership of a potential hostile acquirer. Delaware law
imposes some restrictions on mergers and other business combinations between us
and any holder of 15% or more of our outstanding common stock. In addition, we
have adopted a stockholder rights plan that makes it more difficult for a third
party to acquire us without the approval of our board of directors. These
provisions apply even if the offer may be considered beneficial by some
stockholders.
OUR STOCK PRICE IS VOLATILE AND COULD RESULT IN A MATERIAL DECLINE IN THE VALUE
OF YOUR INVESTMENT IN TEGAL.
We believe that factors such as announcements of developments related
to our business, fluctuations in our operating results, sales of our common
stock into the marketplace, failure to meet or changes in analysts'
expectations, general conditions in the semiconductor industry or the worldwide
economy, announcements of technological innovations or new products or
enhancements by us or our competitors, developments in patents or other
intellectual property rights, developments in our relationships with our
customers and suppliers, natural disasters and outbreaks of hostilities could
cause the price of our common stock to fluctuate substantially. In addition, in
recent years the stock market in general, and the market for shares of small
capitalization stocks in particular, have experienced extreme price
fluctuations, which have often been unrelated to the operating performance of
affected companies. There can be no assurance that the market price of our
common stock will not experience significant fluctuations in the future,
including fluctuations that are unrelated to our performance.
POTENTIAL DISRUPTION OF OUR SUPPLY OF MATERIALS REQUIRED TO BUILD OUR SYSTEMS
COULD HAVE A NEGATIVE EFFECT ON OUR OPERATIONS AND DAMAGE OUR CUSTOMER
RELATIONSHIPS.
Materials delays have not been significant in recent years.
Nevertheless, we procure certain components and sub-assemblies included in our
systems from a limited group of suppliers, and occasionally from a single source
supplier. For example, we depend on MECS Corporation, a robotic equipment
supplier, as the sole source for the robotic arm used in all of our 6500 series
systems. We currently have no existing supply contract with MECS Corporation,
and we currently purchase all robotic assemblies from MECS
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Corporation on a purchase order basis. Disruption or termination of certain of
these sources, including our robotic sub-assembly source, could have an adverse
effect on our operations and damage our relationship with our customers.
ANY FAILURE BY US TO COMPLY WITH ENVIRONMENTAL REGULATIONS IMPOSED ON US COULD
SUBJECT US TO FUTURE LIABILITIES.
We are subject to a variety of governmental regulations related to the
use, storage, handling, discharge or disposal of toxic, volatile or otherwise
hazardous chemicals used in our manufacturing process. We believe that we are
currently in compliance in all material respects with these regulations and that
we have obtained all necessary environmental permits generally relating to the
discharge of hazardous wastes to conduct our business. Nevertheless, our failure
to comply with present or future regulations could result in additional or
corrective operating costs, suspension of production, alteration of our
manufacturing processes or cessation of our operations.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
<s> <c>
10.1 Subordination Agreement
10.2 SVB Amendment
31 Certifications of the Chief Executive Officer and Chief Financial Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
32 Certifications of the Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
(b) Reports on Form 8-K
Current Report on Form 8-K filed on July 2, 2003, under item 5 and item
7 there of.
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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.
TEGAL CORPORATION
(Registrant)
/s/ THOMAS R. MIKA
Thomas R. Mika
Chief Financial Officer
Dated: August 14, 2003
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