SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED
DECEMBER 31, 2001
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ________ TO ________
COMMISSION FILE NUMBER 000-30205
CABOT MICROELECTRONICS CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 36-4324765
(State of Incorporation) (I.R.S. Employer Identification No.)
870 NORTH COMMONS DRIVE 60504
AURORA, ILLINOIS (Zip Code)
(Address of principal executive offices)
Registrant's telephone number, including area code: (630) 375-6631
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, and (2) has been subject to such filing requirements
for the past 90 days.
YES x NO
------ ------
As of January 31, 2002 the Company had 24,156,067 shares of Common Stock, par
value $0.001 per share, outstanding.
CABOT MICROELECTRONICS CORPORATION
INDEX
PART I. FINANCIAL INFORMATION PAGE
----
Item 1. Financial Statements
Statements of Income
Three Months Ended December 31, 2001 and 2000...... 3
Balance Sheets
December 31, 2001 and September 30, 2001........... 4
Statements of Cash Flows
Three Months Ended December 31, 2001 and 2000...... 5
Notes to 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........................................ 20
PART II. OTHER INFORMATION
Item 1. Legal Proceedings...................................... 21
Item 6. Exhibits and Reports on Form 8-K....................... 21
PART I. FINANCIAL INFORMATION
ITEM 1.
CABOT MICROELECTRONICS CORPORATION
STATEMENTS OF INCOME
(UNAUDITED AND IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
THREE MONTHS
ENDED DECEMBER 31,
2001 2000
---- ----
Revenue ............................................... $ 51,004 $ 68,616
Cost of goods sold .................................... 23,746 32,563
-------- --------
Gross profit ................................. 27,258 36,053
Operating expenses:
Research and development ........................... 6,947 6,538
Selling and marketing .............................. 2,358 2,269
General and administrative ......................... 3,884 5,147
Amortization of goodwill and other intangibles ..... 90 179
-------- --------
Total operating expenses ........................ 13,279 14,133
-------- --------
Operating income ...................................... 13,979 21,920
Other income (expense), net ........................... (317) 437
-------- --------
Income before income taxes ............................ 13,662 22,357
Provision for income taxes ............................ 4,645 7,918
-------- --------
Net income ...................................... $ 9,017 $ 14,439
======== ========
Basic net income per share ............................ $ 0.37 $ 0.61
======== ========
Weighted average basic shares outstanding ............. 24,096 23,608
======== ========
Diluted net income per share .......................... $ 0.37 $ 0.59
======== ========
Weighted average diluted shares outstanding ........... 24,532 24,290
======== ========
The accompanying notes are an integral part of these financial statements.
3
CABOT MICROELECTRONICS CORPORATION
BALANCE SHEETS
(UNAUDITED AND IN THOUSANDS, EXCEPT SHARE AMOUNTS)
DECEMBER 31, SEPTEMBER 30,
2001 2001
---- ----
ASSETS
Current assets:
Cash and cash equivalents ............................................... $ 58,374 $ 47,677
Accounts receivable, less allowance for doubtful
accounts of $819 at December 31, 2001
and $1,014 at September 30, 2001 ..................................... 19,899 26,735
Inventories ............................................................. 16,944 16,806
Prepaid expenses and other current assets ............................... 1,781 1,742
Deferred income taxes ................................................... 3,915 3,494
--------- ---------
Total current assets .............................................. 100,913 96,454
Property, plant and equipment, net ......................................... 111,189 97,426
Goodwill ................................................................... 1,326 1,045
Other intangible assets, net ............................................... 1,191 1,562
Deferred income taxes and other assets ..................................... 97 194
--------- ---------
Total assets ...................................................... $ 214,716 $ 196,681
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable ........................................................ $ 13,714 $ 13,557
Capital lease obligation ................................................ 1,221 -
Accrued expenses, income taxes payable and other current liabilities .... 13,341 12,809
--------- ---------
Total current liabilities ......................................... 28,276 26,366
Long-term debt .......................................................... 3,500 3,500
Capital lease obligation ................................................ 8,555 -
Deferred income taxes ................................................... 174 268
Deferred compensation and other long term liabilities ................... 391 260
--------- ---------
Total liabilities ................................................. 40,896 30,394
Commitments and contingencies (Note 10)
Stockholders' equity:
Common stock:
Authorized: 200,000,000 shares, $0.001 par value
Issued and outstanding: 24,111,941 shares at December 31, 2001 and
24,079,997 at September 30, 2001 ..................................... $ 24 $ 24
Capital in excess of par value of common stock .......................... 108,662 107,335
Retained earnings ....................................................... 69,457 60,440
Accumulated other comprehensive loss .................................... (4,058) (1,191)
Unearned compensation ................................................... (265) (321)
--------- ---------
Total stockholders' equity ........................................ 173,820 166,287
--------- ---------
Total liabilities and stockholders' equity ........................ $ 214,716 $ 196,681
========= =========
The accompanying notes are an integral part of these financial statements.
4
CABOT MICROELECTRONICS CORPORATION
STATEMENTS OF CASH FLOWS
(UNAUDITED AND IN THOUSANDS)
THREE MONTHS ENDED
DECEMBER 31,
------------
2001 2000
---- ----
Cash flows from operating activities:
Net Income ........................................................................ $ 9,017 $ 14,439
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization .................................................. 2,464 1,815
Noncash compensation expense and non-employee stock options .................... 85 568
Provision for inventory writedown .............................................. 473 350
Provision for doubtful accounts ................................................ (195) -
Stock option income tax benefits ............................................... 562 555
Deferred income tax benefits ................................................... (515) (629)
Changes in operating assets and liabilities:
Accounts receivable ............................................................ 6,192 (13,671)
Inventories .................................................................... (220) (641)
Prepaid expenses and other assets .............................................. (2) 115
Accounts payable, accrued liabilities and other current liabilities ............ (1,304) 474
Income taxes payable, deferred compensation and other noncurrent liabilities ... 2,452 7,785
-------- --------
Net cash provided by operating activities ............................................ 19,009 11,160
Cash flows from investing activities:
Additions to property, plant and equipment ........................................ (8,993) (6,906)
Proceeds from the sale of property, plant and equipment ........................... - 2
-------- --------
Net cash used in investing activities ................................................ (8,993) (6,904)
-------- --------
Cash flows from financing activities:
Net proceeds from issuance of stock ............................................... 722 776
-------- --------
Net cash provided by financing activities ............................................ 722 776
-------- --------
Effect of exchange rate changes on cash .............................................. (41) 224
-------- --------
Increase in cash ..................................................................... 10,697 5,256
Cash and cash equivalents at beginning of period ..................................... 47,677 9,971
-------- --------
Cash and cash equivalents at end of period ........................................... $ 58,374 $ 15,227
======== ========
The accompanying notes are an integral part of these financial statements.
5
CABOT MICROELECTRONICS CORPORATION
NOTES TO FINANCIAL STATEMENTS
(UNAUDITED AND IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
1. BACKGROUND AND BASIS OF PRESENTATION
We are the leading supplier of high performance polishing slurries used in
the manufacture of the most advanced integrated circuit ("IC") devices, within a
process called chemical mechanical planarization ("CMP"). We believe that we
supply approximately 80% of the slurries sold to IC device manufacturers
worldwide. CMP is a polishing process used by IC device manufacturers to
planarize many of the multiple layers of material that are built upon silicon
wafers to produce advanced devices.
The unaudited financial statements have been prepared by Cabot
Microelectronics Corporation ("Cabot Microelectronics", "the Company", "us",
"we", or "our"), pursuant to the rules of the Securities and Exchange Commission
("SEC") and accounting principles generally accepted in the United States of
America. In the opinion of management, these unaudited financial statements
include all adjustments necessary for the fair presentation of Cabot
Microelectronics' financial position as of December 31, 2001, cash flows for the
three months ended December 31, 2001 and December 31, 2000 and results of
operations for the three months ended December 31, 2001 and December 31, 2000.
The results of operations for the three months ended December 31, 2001 may not
be indicative of the results to be expected for the fiscal year ending September
30, 2002. These financial statements should be read in conjunction with the
financial statements and related notes thereto included in Cabot
Microelectronics' Annual Report on Form 10-K for the fiscal year ended September
30, 2001. We operate predominantly in one industry segment - the development,
manufacture, and sale of CMP slurries.
2. SEPARATION FROM CABOT CORPORATION
In July 1999, Cabot Corporation ("Cabot Corporation") announced its plans
to create an independent publicly-traded company, Cabot Microelectronics,
comprised of its Microelectronics Materials Division. Cabot Microelectronics,
which was incorporated in October 1999, completed its initial public offering in
April 2000 ("initial public offering"), receiving net proceeds of $82,765, after
deducting underwriting commissions and offering expenses, from the sale of
4,600,000 shares of common stock. Following the completion of the initial public
offering, Cabot Corporation owned approximately 80.5% of Cabot Microelectronics'
outstanding common stock. Cabot Microelectronics paid Cabot Corporation
aggregate dividends of $81,300 of which $17,000 was paid from borrowings under a
term credit facility prior to the initial public offering and $64,300 was paid
with proceeds from the initial public offering.
On September 29, 2000, Cabot Corporation effected the spin-off
("spin-off"), of Cabot Microelectronics by distributing 0.280473721 shares of
Cabot Microelectronics common stock as a dividend on each share of Cabot
Corporation common stock outstanding on September 13, 2000, or an aggregate of
18,989,744 shares of Cabot Microelectronics common stock.
6
CABOT MICROELECTRONICS CORPORATION
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
(UNAUDITED AND IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
3. NET INCOME PER SHARE
Statement of Financial Accounting Standards No. 128 "Earnings per Share",
requires companies to provide a reconciliation of the numerator and denominator
of the basic and diluted earnings per share ("net income per share")
computations. Basic and diluted net income per share were calculated as follows:
THREE MONTHS
ENDED DECEMBER 31,
2001 2000
---- ----
Numerator:
Income available to common shares ............. $ 9,017 $ 14,439
=========== ===========
Denominator:
Weighted average common shares ................ 24,095,558 23,607,845
(Denominator for basic calculation)
Weighted average effect of dilutive securities:
Stock based compensation .................... 436,820 682,094
----------- -----------
Diluted weighted average common shares ........ 24,532,378 24,289,939
(Denominator for diluted calculation) =========== ===========
Net income per share:
Basic ......................................... $ 0.37 $ 0.61
=========== ===========
Diluted ....................................... $ 0.37 $ 0.59
=========== ===========
4. COMPREHENSIVE INCOME
The components of comprehensive income are as follows:
THREE MONTHS
ENDED DECEMBER 31,
2001 2000
---- ----
Net Income ....................................... $ 9,017 $ 14,439
Other comprehensive income:
Net unrealized gain (loss) on derivative
instruments ............................... 6 (160)
Foreign currency translation adjustment ..... (2,873) (1,166)
-------- --------
Total comprehensive income ....................... $ 6,150 $ 13,113
======== ========
7
CABOT MICROELECTRONICS CORPORATION
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
(UNAUDITED AND IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
5. INVENTORIES
Inventories consisted of the following:
DECEMBER 31, SEPTEMBER 30,
2001 2001
---- ----
Raw materials........................... $ 11,186 $ 11,981
Work in process......................... 60 42
Finished goods.......................... 5,698 4,783
----------- -----------
Total................................... $ 16,944 $ 16,806
=========== ===========
6. CAPITALIZED SOFTWARE
We are currently developing and commencing implementation of a new global
business system to replace Cabot Corporation's duplicated systems. We have
capitalized costs related to this internal use software project in accordance
with AICPA Statement of Position No. 98-1, "Accounting for the Costs of Computer
Software Developed or Obtained for Internal Use". In the three months ended
December 31, 2001, we capitalized internal costs of $276 and since the
associated project has not been placed in service as of that date, no
depreciation expense was recognized in the first quarter of fiscal 2002.
7. ACCRUED EXPENSES, INCOME TAXES PAYABLE AND OTHER CURRENT LIABILITIES
Accrued expenses, income taxes payable and other current liabilities
consisted of the following:
DECEMBER 31, SEPTEMBER 30,
2001 2001
---- ----
Accrued compensation.................... $ 5,606 $ 8,220
Warranty accrual........................ 1,476 1,255
Taxes payable........................... 3,411 697
Other................................... 2,848 2,637
----------- -----------
Total................................... $ 13,341 $ 12,809
=========== ===========
8. LONG-TERM DEBT
At December 31, 2001 long-term debt was comprised of an unsecured term loan
in the amount of $3,500 funded on the basis of the Illinois State Treasurer's
Economic Program. This loan is due on April 3, 2005 and incurs interest at an
annual rate of 6.37% until April 3, 2002 and 1.75% plus 70% of the three year
treasury rate thereafter.
On July 10, 2001 we entered into a $75,000 unsecured revolving credit and
term loan facility with a group of commercial banks. Under this agreement, which
terminates July 10, 2004, interest accrues on any outstanding balance at either
the institution's base rate or the eurodollar rate plus an applicable margin. A
non-use fee also accrues. Loans under this facility are anticipated to be used
primarily for general corporate purposes, including working capital and capital
expenditures. The credit agreement also contains various covenants. No amounts
are currently outstanding under this credit facility and we are currently in
compliance with the covenants.
8
CABOT MICROELECTRONICS CORPORATION
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
(UNAUDITED AND IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
9. CAPITAL LEASE OBLIGATIONS
On December 12, 2001 we entered into a fumed alumina supply agreement with
Cabot Corporation under which we agreed to pay Cabot Corporation for the
expansion of a fumed alumina manufacturing facility in Tuscola, Illinois. The
payments for the facility have been treated as a capital lease for accounting
purposes and the present value of the minimum quarterly payments resulted in a
$9,776 lease obligation and related leased asset. The agreement has an overall
ten year term, which expires in 2011, but we can choose not to renew the
agreement subject to certain terms and conditions and the payment of certain
costs, after five years.
10. CONTINGENCIES
In June 1998, one of our major competitors, Rodel Inc., filed a lawsuit
against Cabot Corporation in the United States District Court for the District
of Delaware entitled Rodel, Inc. v. Cabot Corporation (Civil Action No. 98-352).
In this lawsuit, Rodel has requested a jury trial and is seeking a permanent
injunction and an award of compensatory, punitive, and other damages relating to
allegations that Cabot Corporation is infringing United States Patent No.
4,959,113 (entitled "Method and Composition for Polishing Metal Surfaces"),
which is owned by an affiliate of Rodel. We refer to this patent as the Roberts
patent and this lawsuit as the Roberts lawsuit. Cabot Corporation filed an
answer and counterclaim seeking dismissal of the Roberts lawsuit with prejudice,
a judgment that Cabot Corporation is not infringing the Roberts patent and/or
that the Roberts patent is invalid, and other relief. Cabot Corporation
subsequently filed a motion for summary judgment that the Roberts patent is
invalid because all of the claims contained in the patent were not sufficiently
different under applicable patent law from subject matter contained in
previously granted patents, specifically United States Patents Nos. 4,705,566,
4,956,015 and 4,929,257, each of which is owned by a third party not affiliated
with Rodel or us. This motion was denied on September 30, 1999 based on the
court's finding that there were genuine issues of material fact to be determined
at trial. After the ruling on the summary judgment motion, Rodel filed a request
for reexamination of the Roberts patent with the United States Patent and
Trademark Office (PTO), which was granted on November 12, 1999. On March 28,
2000, the court issued an order staying the Roberts action, which presently is
in the discovery stage, pending completion of the reexamination of the Roberts
patent by the PTO. In light of the reexamination, on September 29, 2000, the
court denied the parties' respective motions to amend and dismiss, with leave to
refile subsequent to completion of the reexamination. The reexamination
certificate was issued by the PTO on March 13, 2001. On May 11, 2001, Cabot
Corporation filed a motion for summary judgment dismissing the case on the
grounds that no case or controversy remains given the reexamined patent. As of
January 31, 2002, the case remains stayed.
In April 1999, Rodel commenced a second lawsuit against Cabot Corporation
in the United States District Court for the District of Delaware entitled Rodel,
Inc. v. Cabot Corporation (Civil Action No. 99-256). In this lawsuit, Rodel has
requested a jury trial and is seeking a permanent injunction and an award of
compensatory, punitive, and other damages relating to allegations that Cabot
Corporation is infringing two other patents owned by an affiliate of Rodel.
These two patents are United States Patent No. 5,391,258 (entitled "Compositions
and Methods for Polishing") and United States Patent No. 5,476,606 (entitled
"Compositions and Methods for Polishing"). We refer to these patents as the
Brancaleoni patents and this lawsuit as the Brancaleoni lawsuit. Cabot
Corporation filed an answer and counterclaim to the complaint seeking dismissal
of the complaint with prejudice, a judgment that Cabot Corporation is not
infringing the Brancaleoni patents and/or that the Brancaleoni patents are
invalid, and other relief. On September 29, 2000, the court denied Cabot
Corporation's motion to dismiss, and granted Rodel's leave to amend the
Brancaleoni lawsuit to add Rodel's affiliate that owns the Brancaleoni patents,
Rodel Holdings, Inc. ("Rodel Holdings"), as a plaintiff. On October 24, 2000,
Rodel and Rodel Holdings filed an amended complaint that added Rodel Holdings as
a plaintiff to the Brancaleoni lawsuit. On November 6, 2000, Cabot Corporation
filed its answer and counterclaim seeking a judgement that Cabot Corporation is
not infringing the Brancaleoni patents and/or that the Brancaleoni patents are
invalid, and other relief. On January 18, 2001, the court amended its scheduling
order and set June 15, 2001 for completion of discovery, October 25, 2001 for a
final pretrial conference, and February, 2002 for the commencement of trial. On
June 15, 2001, discovery closed as scheduled and on October 23, 2001, the court
denied Rodel's motion to extend and expand discovery. On November 2, 2001, the
9
CABOT MICROELECTRONICS CORPORATION
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
(UNAUDITED AND IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
court denied Rodel's motion to add Cabot Microelectronics as a party to the
case. On September 28, 2001, Cabot Corporation filed three motions for summary
judgement that the Brancaleoni patents are, respectively, invalid, unenforceable
due to Rodel's inequitable conduct (denied as moot without ruling on the merits
on October 26, 2001) and that no infringement exists. On the same day, Rodel
filed a partial summary judgement motion on infringement. Given these motions
and other matters before the court, the court has postponed the pre-trial
conference without having set a new schedule for it or for trial as of January
31, 2002. In the Roberts lawsuit, the only product that Rodel to date has
alleged infringes the Roberts patent is our W2000 slurry, which is used to
polish tungsten and which currently accounts for a significant portion of our
total revenue. In the Brancaleoni lawsuit, Rodel and Rodel Holdings have not
alleged that any specific product infringes the Brancaleoni patents; instead,
Rodel and Rodel Holdings allege that our United States Patent No. 5,858,813
(entitled "Chemical Mechanical Polishing Slurry for Metal Layers and Films" and
which relates to a CMP polishing slurry for metal surfaces including, among
other things, aluminum and copper) is evidence that Cabot Corporation is
infringing the Brancaleoni patents through the manufacture and sales of
unspecified products. At this stage, while the court has limited the scope of
the Brancaleoni lawsuit, we cannot predict whether or to what extent Rodel
and/or Rodel Holdings will make specific infringement claims with respect to any
of our products other than W2000 in these or any future proceedings. It is
possible that Rodel and/or Rodel Holdings will claim that many of our products
infringe its patents.
Although Cabot Corporation is the only named defendant in these lawsuits at
present, the defense of which we have assumed and now are controlling, we have
agreed to indemnify Cabot Corporation for any and all losses and expenses
arising out of this litigation as well as any other litigation arising out of
our business. Also, while the court has ruled that we cannot be added as a party
to the Brancaleoni lawsuit, we at some point could be added as a named defendant
in these or other lawsuits. While we believe there are meritorious defenses to
the pending actions and intend to continue to defend them vigorously, these
defenses may not be successful. If Rodel (and/or Rodel Holdings) prevails in
either of these cases, we may have to pay damages and, in the future, may be
prohibited from producing any products found to infringe or required to pay
Rodel (and/or Rodel Holdings) royalty and licensing fees with respect to sales
of those products. We do not believe a loss is probable, nor can we estimate the
amount of loss, if any, that might result from this matter. Accordingly, no loss
provision has been made in our financial statements for any of these matters.
11. EFFECTS OF RECENT ACCOUNTING PRONOUNCEMENTS
In July 2001, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 141, "Business Combinations" ("SFAS 141") and SFAS No. 142, "Goodwill and
Other Intangible Assets" ("SFAS 142"). SFAS 141 requires business combinations
initiated after June 30, 2001 to be accounted for using the purchase method of
accounting. It also defines the criteria for identifying intangible assets for
recognition apart from goodwill. SFAS 142 addresses the recognition and
measurement of goodwill and other intangible assets subsequent to their
acquisition. This statement requires that intangible assets with finite useful
lives be amortized and intangible assets with indefinite lives and goodwill no
longer be amortized, but instead tested for impairment at least annually.
Effective October 1, 2001, we adopted SFAS 141 and SFAS 142 which resulted in
the reclassification of a portion of intangible assets regarding workforce in
place to goodwill. We determined that the resulting unamortized goodwill balance
of $1,326 was not impaired. In accordance with the statement, we ceased
amortizing goodwill and will perform impairment tests at least annually. The
adoption of these statements reduced amortization expense by $89, and had no
impact on diluted earnings per share, for the three months ended December 31,
2001.
In August 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations" ("SFAS 143") which is effective for fiscal years
beginning after June 15, 2002. SFAS 143 addresses financial accounting and
reporting for obligations associated with the retirement of tangible long-lived
assets and the associated asset retirement costs. We do not expect the adoption
of SFAS 143 to have a significant impact on our financial position or results of
operations.
10
CABOT MICROELECTRONICS CORPORATION
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
(UNAUDITED AND IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
In October 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets" ("SFAS 144") which is effective for
fiscal years beginning after December 15, 2001. SFAS 144 addresses financial
accounting and reporting for the impairment or disposal of long-lived assets and
supercedes SFAS 121 "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed Of" while retaining many of the provisions of
that statement. SFAS 144 also supercedes the accounting and reporting provisions
of Accounting Principles Board Opinion No. 30, "Reporting for the Impairment or
Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently
Occurring Events and Transactions ("APB No. 30") for segments of a business to
be disposed of. We do not expect the adoption of SFAS 144 to have a significant
impact on our financial position or results of operations.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following "Management's Discussion and Analysis of Financial Condition
and Results of Operations", as well as disclosures included elsewhere in this
Form 10-Q, includes "forward-looking statements" within the meaning of the
Private Securities Litigation Reform Act of 1995. This Act provides a "safe
harbor" for forward-looking statements to encourage companies to provide
prospective information about themselves so long as they identify these
statements as forward-looking and provide meaningful cautionary statements
identifying important factors that could cause actual results to differ from the
projected results. All statements other than statements of historical fact we
make in this Form 10-Q are forward-looking. In particular, the statements herein
regarding industry or general economic prospects or trends, our future results
of operations or financial position and statements preceded by, followed by or
that include the words "intends", "estimates", "plans", "believes", "expects",
"anticipates", "should", "could", or similar expressions, are forward-looking
statements. Forward-looking statements reflect our current expectations and are
inherently uncertain. Our actual results may differ significantly from our
expectations. We assume no obligation to update this forward-looking
information. The section entitled "Factors Affecting Future Operating Results"
describes some, but not all, of the factors that could cause these differences.
This section, "Management's Discussion and Analysis of Financial Condition and
Results of Operations", should be read in conjunction with the financial
statements and related notes thereto included in Cabot Microelectronics' Annual
Report on Form 10-K for the fiscal year ended September 30, 2001.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The following "Management's Discussion and Analysis of Financial Condition
and Results of Operations", as well as disclosures included elsewhere in this
Form 10-Q, are based upon our unaudited consolidated financial statements, which
have been prepared in accordance with accounting principles generally accepted
in the United States. The preparation of these financial statements requires us
to make estimates and judgments that affect the reported amounts of assets,
liabilities, revenues and expenses, and related disclosure of contingencies. On
an on-going basis, we evaluate the estimates used, including those related to
product returns, bad debts, inventories, impairments of tangible and intangible
assets, income taxes, warranty obligations, contingencies and litigation. We
base our estimates on historical experience, current conditions and on various
other assumptions that are believed to be reasonable under the circumstances,
the results of which form the basis for making judgments about the carrying
values of assets and liabilities that are not readily apparent from other
sources as well as identifying and assessing our accounting treatment with
respect to commitments and contingencies. Actual results may differ from these
estimates under different assumptions or conditions. We believe the following
critical accounting policies involve more significant judgments and estimates
used in the preparation of the consolidated financial statements.
11
We maintain an allowance for doubtful accounts for estimated losses
resulting from the potential inability of our customers to make required
payments. If the financial condition of our customers were to deteriorate,
resulting in an impairment of their ability to make payments, additional
allowances may be required.
We provide for the estimated cost of product returns based upon historical
experience and any known conditions or circumstances. Our warranty obligation is
affected primarily by product that does not meet specification and any related
costs of addressing such matters. Should actual incidences of product not
meeting specification differ from our estimates, revisions to the estimated
warranty liability may be required.
We value inventory at the lower of cost or market and write down the value
of inventory for estimated obsolescence or unmarketable inventory. An inventory
reserve is maintained based upon a historical percentage of actual inventory
written off and for known conditions and circumstances. Should actual product
marketability be affected by conditions that are less favorable than those
projected by management, revisions to the estimated inventory reserve may be
required. Also, the purchase cost of one of our key raw materials changes
significantly based on the total quantity of in-specification product purchased
in a given year. We determine the amount charged to cost of goods sold for this
raw material based on the expected average cost over the entire fiscal year
using our current full year forecast of purchases.
RESULTS OF OPERATIONS
THREE MONTHS ENDED DECEMBER 31, 2001 VERSUS THREE MONTHS ENDED DECEMBER 31, 2000
REVENUE
Total revenue was $51.0 million for the three months ended December 31,
2001, which represented a 25.7%, or $17.6 million, decrease from the three
months ended December 31, 2000. Of this decrease, $18.2 million was due to a
reduction in sales volume which was partially offset by a $0.6 million increase
in weighted average selling prices resulting from a change in product sales mix.
Additionally, revenue would have been $0.9 million higher had the Japanese Yen
average exchange rate for the quarter held constant with the prior year's first
fiscal quarter average. Compared to the record-breaking revenue level
experienced in the first quarter of fiscal 2001, revenue decreased primarily due
to the downturn in the semiconductor industry and weak global economic
conditions. Although revenue in each of our past three quarters has remained
relatively flat, given the continued weakness in the industry and overall
economic conditions, it is difficult to predict our future revenue trends.
COST OF GOODS SOLD
Total cost of goods sold was $23.7 million for the three months ended
December 31, 2001, which represented a decrease of 27.1% or $8.8 million from
the three months ended December 31, 2000. This decrease was primarily due to
lower volumes as compared to the prior year.
With respect to the key raw materials used to make our products, we expect
that the cost of fumed silica used in the manufacture of CMP slurries will
continue to increase according to the terms of our existing fumed metal oxide
agreement with Cabot Corporation, which provides for a fixed annual increase in
the price of silica of 2.0% of the initial price and additional increases if
Cabot Corporation's raw material costs increase. Also, in order to meet our
needs for fumed alumina given the anticipated growth in sales of fumed alumina
based slurries, in December 2001, we entered into a fumed alumina supply
agreement with Cabot Corporation and an amendment to the fumed metal oxide
agreement with respect to its fumed alumina terms. Under this fumed alumina
supply agreement, Cabot Corporation has expanded its capacity for the
manufacture of fumed alumina and we have the first right to all this capacity.
The agreement provides that the price Cabot Corporation charges us for fumed
alumina is based on all of its fixed and variable costs for producing the fumed
alumina, plus its capital costs for expanding its capacity, plus an agreed upon
rate of return on investment, plus incentive payments if they produce more than
a certain amount that meets our specifications per year. The terms of this
agreement, along with those contained in the amendment to the fumed metal oxide
agreement, are retroactive to October 2001 and our average cost per pound for
alumina is higher than paid previously under the original fumed metal oxide
agreement. Had we paid this higher average cost per pound for all fumed
12
alumina purchased in the first quarter of fiscal 2001, cost of goods sold in
that quarter would have increased by approximately $0.3 million. Our need for
additional quantities of fumed metal oxides in the future will require that we
enter into new supply arrangements that could result in costs which are higher
than those in existing agreements.
GROSS PROFIT
Our gross profit as a percentage of net revenue was 53.4% for the three
months ended December 31, 2001 as compared to 52.5% for the three months ended
December 31, 2000. The increase in gross profit resulted primarily from
production efficiencies and improved product sales mix.
RESEARCH AND DEVELOPMENT
Research and development expenses were $6.9 million in the three months
ended December 31, 2001, which represented an increase of 6.3%, or $0.4 million,
from the three months ended December 31, 2000. The majority of this increase was
due to higher consumable supplies and higher staffing levels to support our
continued investments in research and development. Key activities during the
three months ended December 31, 2001 involved the continued development of new
and enhanced slurry products including products for copper applications, new CMP
polishing pad technology and advanced particle technology.
We continue to invest in our research and development capabilities and
expect costs to rise as we add additional personnel and complete construction of
a new research and development facility in Aurora, Illinois. This facility,
which is expected to be completed by April 2002, will feature a state-of-the-art
Class 1 clean room and advanced equipment for slurry and pad product
development. The cost of this facility and equipment is approximately $31
million of which approximately $22 million will be spent in fiscal year 2002. We
believe this investment will provide us with leading edge polishing and
metrology capabilities to support the technology advancements being made by our
customers.
SELLING AND MARKETING
Selling and marketing expenses of $2.4 million in the three months ended
December 31, 2001 were essentially flat with the three months ended December 31,
2000.
GENERAL AND ADMINISTRATIVE
General and administrative expenses were $3.9 million in the three months
ended December 31, 2001, which represented a decrease of 24.5%, or $1.3 million,
from the three months ended December 31, 2000. The December 31, 2000 quarter
included higher amounts of up-front costs related to the large staffing ramp
which occurred last year and $0.7 million of costs related to an executive
leaving the business.
AMORTIZATION OF GOODWILL AND OTHER INTANGIBLES
Amortization of goodwill and other intangibles was $0.1 million in the
three months ended December 31, 2001 compared to $0.2 million for the three
months ended December 31, 2000. The reduction of approximately $0.1 million
occurred as we adopted SFAS No. 141, "Business Combinations" and SFAS No. 142,
"Goodwill and Other Intangible Assets", effective October 1, 2001, which
required the amortization of goodwill to be discontinued and that goodwill be
instead tested for impairment at least annually. Amortization expense in fiscal
2002 is expected to decrease by approximately $0.4 million due to the
discontinuation of goodwill amortization.
13
OTHER INCOME (EXPENSE)
Other expense was $0.3 million for the three months ended December 31,
2001, compared to other income of $0.4 million, from the three months ended
December 31, 2000. This is primarily due to a payment of $0.3 million to Cabot
Corporation to reimburse them for certain capital improvements made to a
facility used to supply us with material. These capital improvements are no
longer in service. Interest expense also increased by approximately $0.2 million
due to the capital lease treatment of the fumed alumina facility payments.
PROVISION FOR INCOME TAXES
The effective income tax rate was 34.0% for the three months ended December
31, 2001 and 35.4% for the three months ended December 31, 2000. The decrease in
the effective tax rate was mainly driven by an increase in tax credits from
expanded research and experimentation activities and increased impact of these
credits in relation to a lower taxable income base.
NET INCOME
Net income was $9.0 million for the three months ended December 31, 2001,
which represented a decrease of 37.6%, or $5.4 million, from the three months
ended December 31, 2000 as a result of the factors discussed above.
LIQUIDITY AND CAPITAL RESOURCES
We had cash flows from operating activities of $19.0 million in the three
months ended December 31, 2001 and $11.2 million in the three months ended
December 31, 2000. Our cash provided by operating activities for the three
months ended December 31, 2001 originated from net income from operations of
$9.0 million, non-cash items of $2.9 million and a net decrease in working
capital of $7.1 million primarily from a decrease in customer receivables.
Receivables decreased as a result of lower revenue and the early receipt of a
payment from a major customer. Our principal funding requirements have been for
additions to property, plant and equipment that support the expansion of our
business and technological capability.
In the three months ended December 31, 2001, capital spending was $9.0
million, primarily due to the construction of our new research and development
facility in Aurora, Illinois. We also purchased additional production-related
equipment to be used in Aurora, Illinois and invested in the development and
implementation of our stand alone business information systems. Full fiscal year
2002 capital spending is anticipated to be approximately $45.0 million. In the
three months ended December 31, 2000, capital spending was $6.9 million,
primarily due to the expansion of our Geino, Japan manufacturing facility and
the purchase of research and development equipment.
Cash flows from financing activities of $0.7 million and $0.8 million for
the three months ended December 31, 2001 and 2000, respectively resulted from
the issuance of common stock upon the exercise of stock options.
At December 31, 2001 debt was comprised of an unsecured term loan in the
amount of $3.5 million funded on the basis of the Illinois State Treasurer's
Economic Program. The interest rate is 6.37% and the loan is due April 3, 2005.
On July 10, 2001, we entered into a $75.0 million unsecured revolving credit and
term loan facility with a group of commercial banks which terminates on July 10,
2004. Under this agreement, interest accrues on any outstanding balance at
either the institution's base rate or the eurodollar rate plus an applicable
margin. A non-use fee also accrues. Loans under this facility are anticipated to
be used primarily for general corporate purposes, including working capital and
capital expenditures. The credit agreement contains various covenants. No
amounts are currently outstanding under the credit facility and we are currently
in compliance with the covenants.
On December 12, 2001 we entered into a fumed alumina supply agreement with
Cabot Corporation. Under this agreement, Cabot Corporation expanded its capacity
in Tuscola, Illinois for the manufacture of fumed alumina. Payments by us for
capital costs for the facility have been treated as a capital lease for
accounting purposes and the present value of the minimum quarterly payments of
14
approximately $0.3 million resulted in a $9.8 million lease obligation and
related leased asset. The agreement has an overall ten year term, which expires
in 2011, but we can choose not to renew the agreement subject to certain terms
and conditions and the payment of certain costs, after five years. Capital lease
payments to Cabot Corporation will commence in the second quarter of fiscal
2002.
We believe that cash generated by our operations and available borrowings
under our term loan and revolving credit facility will be sufficient to fund our
operations and expected capital expenditures for the foreseeable future.
However, we plan to expand our business and continue to improve our technology
and, to do so, we may be required to raise additional funds in the future
through public or private equity or debt financing, strategic relationships or
other arrangements.
DISCLOSURES ABOUT CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS
At December 31, 2001 and 2000, we did not have any unconsolidated entities
or financial partnerships, such as entities often referred to as structured
finance or special purpose entities, which might have been established for the
purpose of facilitating off-balance sheet arrangements.
In addition to our long-term debt and capital lease obligations previously
discussed, we lease certain vehicles, warehouse facilities, office space,
machinery and equipment under cancelable and noncancelable operating leases,
most of which expire within ten years and may be renewed by us. We also have a
long-term agreement with a supplier to purchase materials for a product line
under development. As of December 31, 2001, we are obligated to purchase,
subject to the supplier's ability to deliver, $3.9 million of materials over the
remaining term of the agreement, which expires in June, 2005, and to reimburse
the supplier for all approved research and development costs related to the
materials. The supplier will repay these research and development reimbursements
when our material purchases from them reach certain agreed-upon levels.
Additionally, we have an agreement with Davies Imperial Coatings, Inc.
("Davies") pursuant to which Davies will perform certain agreed-upon dispersion
services. We have agreed to purchase minimum amounts of services per year and to
invest approximately $0.2 million per year in capital improvements or other
expenditures to maintain capacity at the Davies dispersion facility. The initial
term of the agreement expires in October 2004, with automatic one-year renewals,
and contains a 90-day cancellation clause executable by either party.
At December 31, 2001, we have total contractual cash obligations (which
include long-term debt, capital and operating lease obligations, and the
aforementioned unconditional purchase and other long-term obligations) of $18.6
million, of which $2.4 million is due within one year. Total cash obligations
due between one and three years, four and five years, and beyond five years are
$9.9 million, $2.1 million and $4.2 million, respectively.
We also operate under a fumed metal oxide agreement with Cabot Corporation
for the purchase of two key raw materials, one of which we are obligated to
purchase at least 90% of our six-month volume forecast and must pay the
difference if we purchase less than that amount. We have not included purchase
commitments under this agreement in total contractual cash obligations as we
currently anticipate meeting minimum forecasted purchase volume requirements.
FACTORS AFFECTING FUTURE OPERATING RESULTS
RISKS RELATING TO OUR BUSINESS
WE HAVE A NARROW PRODUCT RANGE AND OUR PRODUCTS MAY BECOME OBSOLETE, OR
TECHNOLOGICAL CHANGES MAY REDUCE OR LIMIT INCREASES IN CMP CONSUMPTION
Our business is substantially dependent on a single class of products, CMP
slurries, which historically has accounted for almost all of our revenue. Our
business would suffer if these products became obsolete or if consumption of
these products decreased. Our success depends on our ability to keep pace with
technological changes and advances in the semiconductor industry and to adapt
and improve our products in response to evolving customer needs and industry
trends. Since its inception, the semiconductor industry has experienced rapid
technological changes and advances in the design, manufacture, performance
15
and application of IC devices and these changes and advances are expected to
continue in the future. One or more developments in the semiconductor industry
may render our products obsolete or less important to the IC device
manufacturing process.
A SIGNIFICANT AMOUNT OF OUR BUSINESS COMES FROM A LIMITED NUMBER OF LARGE
CUSTOMERS AND OUR REVENUE AND PROFITS COULD DECREASE SIGNIFICANTLY IF WE LOST
ONE OR MORE OF THEM AS CUSTOMERS
Our customer base is concentrated among a limited number of large
customers. One or more of these principal customers may stop buying CMP slurries
from us or may substantially reduce the quantity of CMP slurries they purchase
from us. Any cancellation, deferral or significant reduction in CMP slurries
sold to these principal customers or a significant number of smaller customers
could seriously harm our business, financial condition and results of
operations. Our five largest customers accounted for approximately 57% and 56%
of our revenue for the three months ended December 31, 2001 and 2000,
respectively.
DEMAND FOR OUR PRODUCTS AND OUR BUSINESS MAY BE ADVERSELY AFFECTED BY A FURTHER
DECLINE IN WORLDWIDE ECONOMIC AND INDUSTRY CONDITIONS
Our business is affected by current economic and industry trends and it is
extremely difficult to predict sales of our products given uncertainties in
these factors. As occurred during fiscal 2001, the global economic slowdown and
weakening in demand for electronic systems, coupled with higher than normal chip
inventories, affected our quarterly revenue trends. Further declines in current
economic and industry conditions could adversely affect our business.
IF WE LOSE PENDING OR FUTURE INTELLECTUAL PROPERTY LAWSUITS RELATING TO OUR
BUSINESS, WE COULD BE LIABLE FOR SIGNIFICANT DAMAGES AND LEGAL EXPENSES AND
COULD BE ENJOINED FROM MANUFACTURING OUR SLURRY PRODUCTS
Cabot Corporation is currently the defendant in two lawsuits against it by
Rodel involving infringement claims relating to our business. If Cabot
Corporation or we were to lose these or future lawsuits, we could be liable for
significant damages and legal expenses and could be enjoined from manufacturing
our slurry products. Although Cabot Corporation is the only named defendant in
these lawsuits at present, the defense of which we have assumed and are now
controlling, we have agreed to indemnify Cabot Corporation for any and all
losses and expenses arising out of this litigation as well as any other
litigation arising out of our business.
In addition, we may be subject to future infringement claims by Rodel or
others with respect to our products and processes. These claims, even if they
are without merit, could be expensive and time consuming to defend and if we
were to lose any future infringement claims we could be subject to injunctions,
damages and/or royalty or licensing agreements. Royalty or licensing agreements,
if required as a result of any pending or future claims, may not be available to
us on acceptable terms or at all. Moreover, from time to time we agree to
indemnify certain of our customers for losses the customers may incur as a
result of intellectual property claims brought against them arising out of their
purchase or use of our products.
ANY PROBLEM OR INTERRUPTION IN OUR SUPPLY FROM CABOT CORPORATION OF FUMED METAL
OXIDES, OUR MOST IMPORTANT RAW MATERIALS, COULD DELAY OUR SLURRY PRODUCTION AND
ADVERSELY AFFECT OUR SALES
Fumed metal oxides, primarily fumed silica but also fumed alumina, are the
primary raw materials we use in many of our CMP slurries. Our business would
suffer from any problem or interruption in our supply of fumed metal oxides. We
entered into a fumed metal oxide agreement with Cabot Corporation, which became
effective upon completion of our initial public offering in April, 2000, and
under which, according to certain terms and conditions, including those in our
new fumed alumina supply agreement with Cabot Corporation that we entered into
in December 2001, Cabot Corporation continues to be our exclusive supplier of
certain fumed metal oxides for our slurry products produced as of the date of
the initial public offering with respect to fumed silica and as of the effective
16
date of the new fumed alumina supply agreement with respect to fumed alumina.
We have been purchasing fumed alumina from Cabot Corporation under the fumed
metal oxide agreement. In order to meet our anticipated needs for fumed alumina,
in December, 2001 we entered into a fumed alumina supply agreement with Cabot
Corporation and an amendment to the fumed metal oxide agreement with respect to
fumed alumina. Under the fumed alumina supply agreement, Cabot Corporation has
expanded its capacity for the manufacture of fumed alumina to which we have
first right to all capacity from the expansion and under the amended fumed metal
oxide agreement we now have first right, subject to certain terms and
conditions, to the capacity from that facility. We face the risk of significant
increases in the price of fumed metal oxides as Cabot Corporation's cost of
production increases. It may be difficult to secure alternative sources of fumed
metal oxides in the event Cabot Corporation is unable to supply us with
sufficient quantities of fumed metal oxides which meet the quality required by
our customers' supply needs and technical specifications, or encounters supply
problems, including but not limited to any related to quality, functionality of
equipment, natural disasters, work stoppages or raw material availability. In
addition, contractual amendments to the existing agreements with, or
non-performance by, Cabot Corporation, may adversely affect us as well.
In addition, if we change the supplier or type of fumed metal oxides we use
to make our CMP slurries or are required to purchase them from a different
manufacturer or manufacturing facility, whether Cabot Corporation or another
party, our customers might be forced to requalify our CMP slurries for their
manufacturing processes and products. The requalification process would likely
take a significant amount of time to complete, during which our sales of CMP
slurries to these customers could be interrupted or reduced.
We have also specifically engineered our slurry chemistries with the fumed
metal oxides currently used in the production of our CMP products. A change in
the fumed metal oxides we use to make our slurry products could require us to
modify our chemistries. This modification may involve a significant amount of
time and cost to complete and therefore could have an adverse effect on our
business and sales.
OUR BUSINESS COULD BE SERIOUSLY HARMED IF OUR EXISTING OR FUTURE COMPETITORS
DEVELOP SUPERIOR SLURRY PRODUCTS, OFFER BETTER PRICING TERMS OR SERVICE, OBTAIN
CERTAIN INTELLECTUAL PROPERTY RIGHTS OR IF ANY OF OUR MAJOR CUSTOMERS DEVELOP
IN-HOUSE SLURRY MANUFACTURING CAPABILITY
Increased competition from current CMP slurry manufacturers, new entrants
to the CMP slurry market or a decision by any of our major customers to produce
slurry products in-house could seriously harm our business and results of
operations. Opportunities exist for companies with sufficient financial or
technological resources to emerge as potential competitors by developing their
own CMP slurry products. Some of our major customers, and some potential
customers, currently manufacture slurries in-house and others have the financial
and technological capability to do so. The existence or threat of increased
competition and in-house production could limit or reduce the prices we are able
to charge for our slurry products. In addition, our competitors may have or
obtain intellectual property rights which may restrict our ability to market our
existing products and/or to innovate and develop new products.
BECAUSE WE HAVE LIMITED EXPERIENCE IN MANUFACTURING AND SELLING CMP POLISHING
PADS, EXPANSION OF OUR BUSINESS INTO THIS AREA MAY NOT BE SUCCESSFUL
An element of our strategy is to leverage our current customer
relationships and technological expertise to expand our business into new
product areas and applications, including manufacturing CMP polishing pads. We
have had limited experience in developing and marketing these products which
involve technologies and production processes that are new to us. We or the
suppliers of the raw materials that we use to make our polishing pads may not be
able to solve any technological or production problems that we or they may
encounter. In addition, if we or these suppliers are unable to keep pace with
technological or other developments in the design and production of polishing
pads, we will probably not be competitive in the polishing pad market. In
addition, our competitors may have or obtain intellectual property rights which
may restrict our ability to market our existing products and/or to innovate and
develop new products. For these reasons, the expansion of our business into CMP
polishing pads may not be successful.
17
BECAUSE WE RELY HEAVILY ON OUR INTELLECTUAL PROPERTY, OUR FAILURE TO ADEQUATELY
PROTECT OR OBTAIN IT COULD SERIOUSLY HARM OUR BUSINESS
Protection of intellectual property is particularly important in our
industry because CMP slurry and pad manufacturers develop complex and technical
formulas for CMP products which are proprietary in nature and differentiate
their products from those of competitors. Our intellectual property is important
to our success and ability to compete. We attempt to protect our intellectual
property rights through a combination of patent, trademark, copyright and trade
secret laws, as well as employee and third-party nondisclosure and assignment
agreements. Our failure to obtain or maintain adequate protection of our
intellectual property rights for any reason could seriously harm our business.
Policing the unauthorized use of our intellectual property is difficult,
and the steps we have taken may not detect or prevent the misappropriation or
unauthorized use of our technologies. In addition, other parties may
independently develop or otherwise acquire the same or substantially equivalent
technologies to ours.
WE ARE SUBJECT TO SOME RISKS ASSOCIATED WITH OUR FOREIGN OPERATIONS
We currently have operations and a large customer base outside the United
States. For fiscal 2001, approximately 62% of our revenue was generated by sales
to customers outside the United States. For the three months ended December 31,
2001, approximately 66% of our revenue was generated by sales to customers
outside the United States. We encounter risks in doing business in foreign
countries. These risks include, but are not limited to, adverse changes in
economic and political conditions, as well as the difficulty in enforceability
of business and customer contracts and agreements, including protection of
intellectual property rights.
OUR ABILITY TO RAISE CAPITAL IN THE FUTURE MAY BE LIMITED AND THIS MAY LIMIT OUR
ABILITY TO EXPAND OUR BUSINESS AND IMPROVE OUR TECHNOLOGY
We plan to expand our business and continue to improve our technology. This
may require funds in excess of those generated from operating activities and
from those available under existing credit facilities. Therefore, we may be
required to raise additional funds in the future through public or private
equity or debt financing, strategic relationships or other arrangements.
Financing may not be available on acceptable terms, or at all, and our failure
to raise capital when needed could negatively impact our financial condition or
results of operations. Additional equity financing may be dilutive to the
holders of our common stock and debt financing, if available, may involve
restrictive covenants.
RISKS RELATING TO OUR SEPARATION FROM CABOT CORPORATION
WE CURRENTLY USE CABOT CORPORATION'S INFORMATION TECHNOLOGY SERVICES AND SYSTEMS
AND OUR ABILITY TO SATISFY OUR CUSTOMERS AND OPERATE OUR BUSINESS MAY SUFFER IF
WE DO NOT IMPLEMENT A NEW INFRASTRUCTURE TO SUPPORT OUR EXPANDING BUSINESS NEEDS
We currently use duplicated versions of Cabot Corporation's systems to
support our operations, including systems covering order processing, inventory
management, shipping and accounting. Many of these systems were not optimized
for our business processes. We have undertaken a project to develop and
implement new systems to replace the duplicated versions of Cabot Corporation's
systems. We may not be successful in implementing these systems and
transitioning data from the duplicated versions of Cabot Corporation's systems
to our new systems. We continue to rely upon the network infrastructure provided
and maintained by Cabot Corporation.
18
CERTAIN OF OUR DIRECTORS MAY HAVE CONFLICTS OF INTEREST BECAUSE THEY ARE ALSO
DIRECTORS OR EXECUTIVE OFFICERS OF CABOT CORPORATION OR OWN CABOT CORPORATION
STOCK
Two members of our board of directors are directors and/or executive
officers of Cabot Corporation (prior to May, 2001, three members were and one
member resigned from our board in July, 2001). The two remaining directors who
are also directors and/or executive officers of Cabot Corporation have
obligations to both companies and may have conflicts of interest with respect to
matters involving or affecting us, such as acquisitions and other corporate
opportunities that may be suitable for both us and Cabot Corporation, as well as
related party transactions and agreements between us and Cabot Corporation such
as our fumed metal oxide, fumed alumina supply, and dispersion services
agreements. One of these two directors' term of service on our board expires at
our annual meeting to be held in March 2002, and he is not standing for
reelection. The other director has announced his intention to resign from our
board sometime in the second calendar quarter of 2002. In addition, a number of
our directors and executive officers own Cabot Corporation stock and options on
Cabot Corporation stock they acquired as employees of Cabot Corporation. This
ownership could create, or appear to create, potential conflicts of interest
when these directors and officers are faced with decisions that could have
different implications for our company and Cabot Corporation.
WE MAY HAVE CONFLICTS WITH CABOT CORPORATION WITH RESPECT TO OUR PAST AND
ONGOING RELATIONSHIPS
Conflicts of interest may arise between Cabot Corporation and us in a
number of areas relating to our past and ongoing relationships. We may have
conflicts with Cabot Corporation that we cannot resolve and, even if we are able
to do so, the resolution of these conflicts may not be as favorable as if we
were dealing with a party with whom we had never been affiliated. For example,
Cabot Corporation continues to be our exclusive supplier, subject to certain
terms and conditions, of certain fumed metal oxides in certain amounts for our
slurry products produced as of the date of our initial public offering under a
fumed metal oxide agreement between Cabot Corporation and our company and as of
December, 2001 under a fumed alumina supply agreement. These and other
agreements were made or structured in the context of an affiliated relationship
and generally were negotiated in the overall context of our separation from
Cabot Corporation. The prices and other terms under these agreements may be less
favorable to us than what we could have obtained in arm's-length negotiations
with unaffiliated third parties for similar services or under similar
agreements. It is particularly difficult to assess whether the price for fumed
metal oxides provided under our fumed metal oxide supply agreement, and its
December, 2001 amendment with respect to fumed alumina, or for fumed alumina
under our fumed alumina supply agreement or other arrangements with Cabot
Corporation is the same as or different from the price we could have obtained in
arm's-length negotiations with an unaffiliated third party in light of the
long-term nature of the contract, the volumes provided for under the agreement
and our particular quality requirements.
IF THE SPIN-OFF IS NOT TAX-FREE, WE COULD BE LIABLE TO CABOT CORPORATION FOR THE
RESULTING TAXES
On September 29, 2000, Cabot Corporation effected the spin-off of Cabot
Microelectronics by distributing 0.280473721 shares of our common stock as a
dividend on each share of Cabot Corporation common stock outstanding on
September 13, 2000, or an aggregate of 18,989,744 shares of our common stock. We
have agreed to indemnify Cabot Corporation in the event the spin-off is not
tax-free to Cabot Corporation as a result of various actions taken by or with
respect to us or our failure to take various actions, all as set forth in our
tax sharing agreement with Cabot Corporation. We may not be able to control some
of the events that could trigger this liability. In particular, any acquisition
of us by a third party within two years of the spin-off could result in the
spin-off becoming a taxable transaction and give rise to our obligation to
indemnify Cabot Corporation for any resulting tax liability.
19
RISKS RELATING TO THE MARKET FOR OUR COMMON STOCK
THE MARKET PRICE MAY FLUCTUATE SIGNIFICANTLY AND RAPIDLY
The market price of our common stock could fluctuate significantly as a
result of factors such as: economic and stock market conditions generally and
specifically as they may impact participants in the semiconductor industry;
changes in financial estimates and recommendations by securities analysts
following our stock; earnings and other announcements by, and changes in market
evaluations of, us or participants in the semiconductor industry; changes in
business or regulatory conditions affecting us or participants in the
semiconductor industry; announcements or implementation by us or our competitors
of technological innovations or new products; and trading volume of our common
stock.
The securities of many companies have experienced extreme price and volume
fluctuations in recent years, often unrelated to the companies' operating
performance. Specifically, market prices for securities of technology related
companies have frequently reached elevated levels, often following their initial
public offerings. These levels may not be sustainable and may not bear any
relationship to these companies' operating performances. In the past, following
periods of volatility in the market price of a company's securities,
stockholders have often instituted securities class action litigation against a
company. If we were involved in a class action suit, it could divert the
attention of senior management, and, if adversely determined, have a negative
impact on our business, results of operations and financial condition.
ANTI-TAKEOVER PROVISIONS UNDER OUR CERTIFICATE OF INCORPORATION AND BYLAWS, OUR
RIGHTS PLAN AND DELAWARE GENERAL CORPORATION LAW MAY ADVERSELY AFFECT THE PRICE
OF OUR COMMON STOCK, DISCOURAGE THIRD PARTIES FROM MAKING A BID FOR OUR COMPANY
OR REDUCE ANY PREMIUMS PAID TO OUR STOCKHOLDERS FOR THEIR COMMON STOCK
Our certificate of incorporation, our bylaws, our rights plan and various
provisions of the Delaware General Corporation Law may make it more difficult to
effect a change in control of our company. Our certificate of incorporation, our
by-laws, our rights plan and the various provisions of Delaware General
Corporation Law may adversely affect the price of our common stock, discourage
third parties from making a bid for our company or reduce any premiums paid to
our stockholders for their common stock. For example, we amended our certificate
of incorporation to authorize our board of directors to issue up to 20 million
shares of blank check preferred stock and to attach special rights and
preferences to this preferred stock. The issuance of this preferred stock may
make it more difficult for a third party to acquire control of us. We also
amended our certificate of incorporation to provide for the division of our
board of directors into three classes as nearly equal in size as possible with
staggered three-year terms. This classification of our board of directors could
have the effect of making it more difficult for a third party to acquire our
company, or of discouraging a third party from acquiring control of our company.
In addition, the rights issued to our stockholders under our rights plan may
make it more difficult or expensive for another person or entity to acquire
control of us without the consent of our board of directors.
We have adopted change-in-control arrangements covering our executive
officers and other key employees. These arrangements provide for a cash
severance payment, continued medical benefits and other ancillary payments and
benefits upon termination of a covered employee's employment following a change
in control.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
EFFECT OF CURRENCY EXCHANGE RATES AND EXCHANGE RATE RISK MANAGEMENT
We conduct business operations outside of the United States through our
foreign operations. Our foreign operations maintain their accounting records in
their local currencies. Consequently, period to period comparability of results
of operations is affected by fluctuations in exchange rates. The primary
currencies to which we have exposure are the Japanese Yen and the British Pound.
Our exposure to foreign currency exchange risks has not been significant because
a significant portion of our foreign sales are denominated in U.S. dollars. From
time to time we enter into forward contracts in an effort to manage foreign
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currency exchange exposure. Approximately 16% of our revenue is transacted in
currencies other than the U.S. dollar. We do not currently enter into forward
exchange contracts for speculative or trading purposes.
MARKET RISK AND SENSITIVITY ANALYSIS FOREIGN EXCHANGE RATE RISK
We have performed a sensitivity analysis assuming a hypothetical 10%
adverse movement in foreign exchange rates. As of December 31, 2001, the
analysis demonstrated that such market movements would not have a material
adverse effect on our financial position, results of operations or cash flows
over a one year period. Actual gains and losses in the future may differ
materially from this analysis based on changes in the timing and amount of
foreign currency rate movements and our actual exposures. We believe that our
exposure to foreign currency exchange rate risk at December 31, 2001 was not
material.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Legal proceedings are discussed in "Footnote 10. - Contingencies", under
PART I, Item 1 - Notes to Financial Statements and such discussion is
incorporated herein by reference.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
The exhibit numbers in the following list correspond to the
number assigned to such exhibits in the Exhibit Table of Item 601
of Regulation S-K:
EXHIBIT
NUMBER DESCRIPTION
10.30 2001 Deposit Share Agreement*
10.31 Amendment No.1 to Fumed Metal Oxide Supply
Agreement (confidential treatment applied for)**
10.32 Fumed Alumina Supply Agreement (confidential
treatment applied for)**
* Management contract, or compensatory plan or
arrangement.
** This Exhibit has been filed separately with the
Commission pursuant to an application for
confidential treatment. The confidential portions
of this Exhibit have been omitted and are marked
by brackets.
(b) Reports on Form 8-K
No report on Form 8-K was filed by the Company during the three
months ended December 31, 2001.
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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.
CABOT MICROELECTRONICS CORPORATION
Date: February 12, 2002 /s/ MARTIN M. ELLEN
------------------------------------------
Martin M. Ellen
Vice President and Chief Financial Officer
[Principal Financial Officer]
Date: February 12, 2002 /s/ DANIEL S. WOBBY
------------------------------------------
Daniel S. Wobby
Corporate Controller
[Principal Accounting Officer]
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