UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED
MARCH 31, 2002
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 April 30, 2002 the Company had 24,189,177 shares of Common Stock, par
value $0.001 per share, outstanding.
CABOT MICROELECTRONICS CORPORATION
INDEX
PART I. FINANCIAL INFORMATION PAGE
----
Item 1. Financial Statements
Consolidated Statements of Income
Three and Six Months Ended March 31, 2002 and 2001...................... 3
Consolidated Balance Sheets
March 31, 2002 and September 30, 2001................................... 4
Consolidated Statements of Cash Flows
Six Months Ended March 31, 2002 and 2001................................ 5
Notes to Financial Statements............................................... 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations..................................... 10
Item 3. Quantitative and Qualitative Disclosures About Market Risk.................. 21
PART II. OTHER INFORMATION
Item 1. Legal Proceedings........................................................... 21
Item 4. Submission of Matters to a Vote of Security Holders......................... 22
Item 6. Exhibits and Reports on Form 8-K............................................ 22
PART I. FINANCIAL INFORMATION
ITEM 1.
CABOT MICROELECTRONICS CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED AND IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
THREE MONTHS SIX MONTHS
ENDED MARCH 31, ENDED MARCH 31,
2002 2001 2002 2001
---- ---- ---- ----
Revenue ......................................... $ 50,520 $ 55,695 $ 101,524 $ 124,311
Cost of goods sold .............................. 25,262 25,923 49,008 58,486
--------- --------- --------- ---------
Gross profit ........................... 25,258 29,772 52,516 65,825
Operating expenses:
Research and development ..................... 6,429 6,805 13,376 13,343
Selling and marketing ........................ 2,370 2,249 4,728 4,518
General and administrative ................... 5,397 6,485 9,281 11,632
Litigation settlement ........................ 1,000 - 1,000 -
Amortization of goodwill and other intangibles 91 180 181 359
--------- --------- --------- ---------
Total operating expenses .................. 15,287 15,719 28,566 29,852
--------- --------- --------- ---------
Operating income ................................ 9,971 14,053 23,950 35,973
Other income (expense), net ..................... (151) 238 (468) 675
--------- --------- --------- ---------
Income before income taxes ...................... 9,820 14,291 23,482 36,648
Provision for income taxes ...................... 2,869 4,907 7,514 12,825
--------- --------- --------- ---------
Net income ................................ $ 6,951 $ 9,384 $ 15,968 $ 23,823
========= ========= ========= =========
Basic earnings per share ........................ $ 0.29 $ 0.39 $ 0.66 $ 1.00
========= ========= ========= =========
Weighted average basic shares outstanding ....... 24,140 23,800 24,119 23,705
========= ========= ========= =========
Diluted earnings per share ...................... $ 0.28 $ 0.39 $ 0.65 $ 0.98
========= ========= ========= =========
Weighted average diluted shares outstanding ..... 24,583 24,328 24,558 24,223
========= ========= ========= =========
The accompanying notes are an integral part of these financial statements.
3
CABOT MICROELECTRONICS CORPORATION
CONSOLIDATED BALANCE SHEETS
(UNAUDITED AND IN THOUSANDS, EXCEPT SHARE AMOUNTS)
MARCH 31, SEPTEMBER 30,
2002 2001
---- ----
ASSETS
Current assets:
Cash and cash equivalents .......................................... $ 51,424 $ 47,677
Accounts receivable, less allowance for doubtful
accounts of $735 at March 31, 2002
and $1,014 at September 30, 2001 ................................ 21,532 26,735
Inventories ........................................................ 18,282 16,806
Prepaid expenses and other current assets .......................... 2,537 1,742
Income taxes refundable ............................................ 1,679 -
Deferred income taxes .............................................. 2,152 3,494
--------- ---------
Total current assets ......................................... 97,606 96,454
Property, plant and equipment, net .................................... 126,348 97,426
Goodwill .............................................................. 1,373 1,045
Other intangible assets, net .......................................... 1,100 1,562
Deferred income taxes and other assets ................................ 620 194
--------- ---------
Total assets ................................................. $ 227,047 $ 196,681
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable ................................................... $ 18,656 $ 13,557
Capital lease obligation ........................................... 1,358 -
Accrued expenses, income taxes payable and other current
liabilities...................................................... 10,347 12,809
--------- ---------
Total current liabilities .................................... 30,361 26,366
Long-term debt ........................................................ 3,500 3,500
Capital lease obligation .............................................. 9,579 -
Deferred income taxes ................................................. 203 268
Deferred compensation and other long term liabilities ................. 429 260
--------- ---------
Total liabilities ............................................ 44,072 30,394
Commitments and contingencies
Stockholders' equity:
Common stock:
Authorized: 200,000,000 shares, $0.001 par value
Issued and outstanding: 24,162,512 shares at March 31, 2002 and
24,079,997 at September 30, 2001 ................................ $ 24 $ 24
Capital in excess of par value of common stock ..................... 111,126 107,335
Retained earnings .................................................. 76,408 60,440
Accumulated other comprehensive loss ............................... (4,384) (1,191)
Unearned compensation .............................................. (199) (321)
--------- ---------
Total stockholders' equity ................................... 182,975 166,287
--------- ---------
Total liabilities and stockholders' equity ................... $ 227,047 $ 196,681
========= =========
The accompanying notes are an integral part of these financial statements.
4
CABOT MICROELECTRONICS CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED AND IN THOUSANDS)
SIX MONTHS ENDED
MARCH 31,
---------
2002 2001
---- ----
Cash flows from operating activities:
Net Income .................................................................... $ 15,968 $ 23,823
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization .............................................. 4,876 3,815
Noncash compensation expense and non-employee stock options ................ 335 1,504
Provision for inventory writedown .......................................... 28 716
Provision for doubtful accounts ............................................ (279) 223
Stock option income tax benefits ........................................... 1,283 4,469
Deferred income tax (benefit) expense ...................................... 1,277 (190)
Loss on disposal of property, plant and equipment .......................... 9 -
Other noncash expenses, net ................................................ 271 -
Changes in operating assets and liabilities:
Accounts receivable ........................................................ 4,398 (1,266)
Inventories ................................................................ (1,585) (5,499)
Prepaid expenses and other assets .......................................... (1,347) (33)
Accounts payable, accrued liabilities and other current liabilities ........ 3,281 156
Income taxes payable, deferred compensation and other noncurrent liabilities (1,692) (3,975)
-------- --------
Net cash provided by operating activities ........................................ 26,823 23,743
Cash flows from investing activities:
Additions to property, plant and equipment .................................... (24,808) (14,805)
Proceeds from the sale of property, plant and equipment ....................... - 2
-------- --------
Net cash used in investing activities ............................................ (24,808) (14,803)
-------- --------
Cash flows from financing activities:
Net proceeds from issuance of stock ........................................... 2,260 7,021
Principal payments under capital lease obligations ............................ (507) -
-------- --------
Net cash provided by financing activities ........................................ 1,753 7,021
-------- --------
Effect of exchange rate changes on cash .......................................... (21) 61
-------- --------
Increase in cash ................................................................. 3,747 16,022
Cash and cash equivalents at beginning of period ................................. 47,677 9,971
-------- --------
Cash and cash equivalents at end of period ....................................... $ 51,424 $ 25,993
======== ========
The accompanying notes are an integral part of these financial statements.
5
CABOT MICROELECTRONICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED AND IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
1. BACKGROUND AND BASIS OF PRESENTATION
We believe 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"). 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.
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. 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.
During the second fiscal quarter of 2002, we established the following
wholly owned subsidiaries: Cabot Microelectronics Global Corporation, Nihon
Cabot Microelectronics KK and Cabot Microelectronics Japan KK. The consolidated
financial statements include the accounts of Cabot Microelectronics and these
subsidiaries and all intercompany transactions and balances between the
companies have been eliminated.
The unaudited consolidated 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 consolidated financial
statements include all adjustments necessary for the fair presentation of Cabot
Microelectronics' financial position as of March 31, 2002, cash flows for the
six months ended March 31, 2002 and March 31, 2001 and results of operations for
the three and six months ended March 31, 2002 and March 31, 2001. The results of
operations for the three and six months ended March 31, 2002 may not be
indicative of the results to be expected for the fiscal year ending September
30, 2002. These unaudited consolidated 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.
6
CABOT MICROELECTRONICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
(UNAUDITED AND IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
2. EARNINGS 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 computations. Basic and diluted
earnings per share were calculated as follows:
THREE MONTHS SIX MONTHS
ENDED MARCH 31, ENDED MARCH 31,
2002 2001 2002 2001
---- ---- ---- ----
Numerator:
Earnings available to common shares ........... $ 6,951 $ 9,384 $ 15,968 $ 23,823
=========== =========== =========== ===========
Denominator:
Weighted average common shares ................ 24,140,345 23,800,442 24,119,171 23,704,593
(Denominator for basic calculation)
Weighted average effect of dilutive securities:
Stock based compensation ................. 442,867 527,059 438,576 518,052
----------- ----------- ----------- -----------
Diluted weighted average common shares ........ 24,583,212 24,327,501 24,557,747 24,222,645
=========== =========== =========== ===========
(Denominator for diluted calculation)
Earnings per share:
Basic ......................................... $ 0.29 $ 0.39 $ 0.66 $ 1.00
=========== =========== =========== ===========
Diluted ....................................... $ 0.28 $ 0.39 $ 0.65 $ 0.98
=========== =========== =========== ===========
3. COMPREHENSIVE INCOME
The components of comprehensive income are as follows:
THREE MONTHS SIX MONTHS
ENDED MARCH 31, ENDED MARCH 31,
2002 2001 2002 2001
---- ---- ---- ----
Net Income ............................................. $ 6,951 $ 9,384 $ 15,968 $ 23,823
Other comprehensive income:
Net unrealized gain (loss) on derivative
instruments ................................ 8 (646) 14 (806)
Foreign currency translation adjustment (335) (2,810) (3,208) (3,976)
----------- ----------- ----------- -----------
Total comprehensive income ............................. $ 6,624 $ 5,928 $ 12,774 $ 19,041
=========== =========== =========== ===========
7
CABOT MICROELECTRONICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
(UNAUDITED AND IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
4. INVENTORIES
Inventories consisted of the following:
MARCH 31, SEPTEMBER 30,
2002 2001
---- ----
Raw materials........................... $ 11,084 $ 11,981
Work in process......................... 690 42
Finished goods.......................... 6,508 4,783
----------- -----------
Total................................... $ 18,282 $ 16,806
=========== ===========
5. CAPITALIZED SOFTWARE
We have implemented a new global business system to replace Cabot
Corporation's duplicated systems, and 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 six months ended March 31, 2002, we capitalized internal
costs of $317. The associated project was placed in service in the second
quarter of fiscal 2002 at a total cost of $4,935, and depreciation expense of
$165 was recognized.
6. ACCRUED EXPENSES, INCOME TAXES PAYABLE AND OTHER CURRENT LIABILITIES
Accrued expenses, income taxes payable and other current liabilities
consisted of the following:
MARCH 31, SEPTEMBER 30,
2002 2001
---- ----
Accrued compensation.................... $ 6,285 $ 8,220
Warranty accrual........................ 1,003 1,255
Taxes payable........................... - 697
Other................................... 3,059 2,637
----------- -----------
Total................................... $ 10,347 $ 12,809
=========== ===========
7. LONG-TERM DEBT
At March 31, 2002 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 4.68%.
On July 10, 2001 we entered into a $75,000 unsecured revolving credit and
term loan facility with a group of commercial banks. On February 5, 2002, this
agreement was amended with no material changes in terms. 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 CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
(UNAUDITED AND IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
8. 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.
On January 11, 2002 we entered into a CMP tool and polishing consumables
transfer agreement with a customer under which we agreed to transfer polishing
consumables to them in return for a CMP polishing tool. The aggregate fair
market value of the polishing consumables has been treated as a capital lease
for accounting purposes and the present value of the polishing consumables
resulted in a $1,994 lease obligation and related leased asset. The agreement
has approximately a three-year term, which expires in November 2004.
9. LITIGATION SETTLEMENT
On February 28, 2002, we settled all pending patent infringement litigation
involving us and one of our major competitors, Rodel Inc., for a one-time
payment to Rodel of $1,000, which we have recorded as expense, and we have no
further financial obligation with respect to this matter. The litigation,
entitled Rodel, Inc. v. Cabot Corporation (Civil Action No. 98-352) and Rodel,
Inc. and Rodel Holdings, Inc. v. Cabot Corporation (Civil Action No. 99-256),
had related to certain aspects of our slurry business and had been controlled by
us, but had been between Rodel and our former parent, Cabot Corporation. Under
the settlement, the suits have been fully and permanently dismissed, and neither
party admits liability. In addition, Cabot Microelectronics received from Rodel
a fully paid-up, royalty free, worldwide license in all patents that were the
subject of the two suits and their foreign equivalents.
In general, we have agreed to indemnify Cabot Corporation for any and all
losses and expenses arising out of any litigation arising out of our business
with Rodel or other parties. Although the litigation with Rodel is now fully
settled, and there are no infringement claims by Rodel or others of which we are
aware, it is possible that at some point in the future Rodel or other parties
could claim that our technology infringes their intellectual property.
10. 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 for the three months and six months ended March 31,
2002 reduced amortization expense by $89 and $178, respectively. The adoption
had no impact on diluted earnings per share, for the three months and six months
ended March 31, 2002.
9
CABOT MICROELECTRONICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
(UNAUDITED AND IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
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 consolidated financial position,
results of operations or cash flows.
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 consolidated financial position, results of operations or cash
flows.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements
No. 4, 44 and 64, Amendment of FASB Statement No. 13 and Technical Corrections"
("SFAS 145") which is effective for fiscal years beginning after May 15, 2002.
SFAS 145 updates, clarifies and simplifies existing accounting pronouncements.
We do not expect the standard to have a significant impact on our consolidated
financial position, results of operations or cash flows.
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 statements 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,
10
including those related to product returns, bad debts, inventory valuation,
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.
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 different from 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 MARCH 31, 2002 VERSUS THREE MONTHS ENDED MARCH 31, 2001
REVENUE
Total revenue was $50.5 million for the three months ended March 31, 2002,
which represented a 9.3%, or $5.2 million, decrease from the three months ended
March 31, 2001. Of this decrease, $3.9 million was due to a reduction in sales
volume and $1.3 million was due to a decrease in weighted average selling prices
resulting from a change in product sales mix, weakening of the Japanese Yen and
revised pricing arrangements with two non-U.S. customers. Revenue would have
been $1.0 million higher had the Japanese Yen average exchange rate for the
quarter held constant with the prior year's second fiscal quarter average. Sales
volume decreased primarily due to the downturn in the semiconductor industry and
weak global economic conditions.
COST OF GOODS SOLD
Total cost of goods sold was $25.3 million for the three months ended March
31, 2002, which represented a decrease of 2.5% or $0.7 million from the three
months ended March 31, 2001. This decrease was primarily due to lower volumes
offset partially by higher average costs due to product mix and the absence of
$0.6 million of favorable inventory adjustments experienced in the prior year
quarter.
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
11
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, were 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 alumina
purchased in the second 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 50.0% for the three
months ended March 31, 2002 as compared to 53.5% for the three months ended
March 31, 2001. The decrease in gross profit resulted primarily from the revised
pricing agreements with two non-U.S. customers, an unfavorable change in product
sales mix, and higher average costs partially due to the absence of $0.6 million
of favorable inventory adjustments experienced in the prior year quarter.
RESEARCH AND DEVELOPMENT
Research and development expenses were $6.4 million in the three months
ended March 31, 2002, which represented a decrease of 5.5%, or $0.4 million,
from the three months ended March 31, 2001. The majority of this decrease was
due to lower consumable supplies related to the suspension of polishing during
the relocation to the new R&D facility. Key activities during the three months
ended March 31, 2002 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
our new research and development facility in Aurora, Illinois. This facility was
substantially completed in April 2002, and features a state-of-the-art Class 1
clean room and advanced equipment for slurry and pad product development. The
total cost of this facility and equipment is approximately $36 million of which
approximately $28 million is expected to be spent in fiscal year 2002. We
believe this investment will provide us with leading edge polishing and
metrology capabilities to support the most advanced and challenging customer
technology requirements.
SELLING AND MARKETING
Selling and marketing expenses were $2.4 million in the three months ended
March 31, 2002, which represented an increase of 5.4%, or $0.1 million, from the
three months ended March 31, 2001. The increase was primarily due to increased
staffing which was partially offset by a reduction in discretionary spending.
GENERAL AND ADMINISTRATIVE
General and administrative expenses were $5.4 million in the three months
ended March 31, 2002, which represented a decrease of 16.8%, or $1.1 million,
from the three months ended March 31, 2001. The decrease resulted primarily due
to a net decrease in non-cash charges related to modifications of stock option
agreements of $0.7 million and reduced relocation and recruiting costs of $0.3
million.
LITIGATION SETTLEMENT
During the second fiscal quarter of 2002, we settled all pending patent
infringement litigation with Rodel, which resulted in a one-time payment of $1.0
million. Under the settlement agreement, we received a fully paid-up, worldwide
royalty-free license to
12
all technology that was the subject of the litigation and their foreign
equivalents, and we have no further financial obligation with respect to this
matter.
AMORTIZATION OF GOODWILL AND OTHER INTANGIBLES
Amortization of goodwill and other intangibles was $0.1 million in the
three months ended March 31, 2002 compared to $0.2 million for the three months
ended March 31, 2001. 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.
OTHER INCOME (EXPENSE)
Other expense was $0.2 million for the three months ended March 31, 2002,
compared to other income of $0.2 million, from the three months ended March 31,
2001. Other expense increased primarily due to interest expense of $0.2 million
from capital leases entered into during the current fiscal year and lower
interest income than was received in the prior year.
PROVISION FOR INCOME TAXES
The effective income tax rate was 29.2% for the three months ended March
31, 2002 and 34.3% for the three months ended March 31, 2001. The decrease in
the effective tax rate was mainly driven by the increased impact of research and
experimentation credits in relation to a lower taxable income base.
NET INCOME
Net income was $7.0 million for the three months ended March 31, 2002,
which represented a decrease of 25.9%, or $2.4 million, from the three months
ended March 31, 2001 as a result of the factors discussed above.
SIX MONTHS ENDED MARCH 31, 2002 VERSUS SIX MONTHS ENDED MARCH 31, 2001
REVENUE
Total revenue was $101.5 million for the six months ended March 31, 2002,
which represented an 18.3%, or $22.8 million, decrease from the six months ended
March 31, 2001. The revenue decrease was primarily due to an 18% decrease in
volume. Revenue would have been $1.9 million higher had the Japanese Yen average
exchange rate for the six month period held constant with the prior year's six
month average. Compared to the prior year period, which includes record-breaking
revenue experienced in the first quarter of fiscal 2001, revenue decreased
primarily due to the downturn in the semiconductor industry and weak global
economic conditions.
COST OF GOODS SOLD
Total cost of goods sold was $49.0 million for the six months ended March
31, 2002, which represented a decrease of 16.2% or $9.5 million from the six
months ended March 31, 2001. This decrease was primarily due to lower sales
volume, which was partially offset by $0.9 million of higher costs. Had the
fumed alumina supply agreement with Cabot Corporation, which was entered into in
December 2001, been in effect during the six months ended March 31, 2001, cost
of goods sold for that period would have increased by approximately $0.6
million.
13
GROSS PROFIT
Our gross profit as a percentage of net revenue was 51.7% for the six
months ended March 31, 2002 as compared to 53.0% for the six months ended March
31, 2001. The decrease in gross profit resulted primarily due to revised pricing
agreements with two non-U.S. customers, lower volume sold and an unfavorable
change in product sales mix.
RESEARCH AND DEVELOPMENT
Research and development expenses of $13.4 million in the six months ended
March 31, 2002 were essentially flat with the six months ended March 31, 2001.
Increases in staffing of $1.1 million were offset by reductions in discretionary
spending and a net decrease in operating equipment and consumable supplies
related to the suspension of polishing during the relocation to the new R&D
facility. Key activities during the six months ended March 31, 2002 involved the
continued development of new and enhanced slurry products, new CMP polishing pad
technology and advanced particle technology.
SELLING AND MARKETING
Selling and marketing expenses were $4.7 million in the six months ended
March 31, 2002, which represented an increase of 4.6%, or $0.2 million, from the
six months ended March 31, 2001. The increase was primarily due to increased
staffing which was partially offset by a reduction in discretionary spending.
GENERAL AND ADMINISTRATIVE
General and administrative expenses were $9.3 million in the six months
ended March 31, 2002, which represented a decrease of 20.2%, or $2.4 million,
from the six months ended March 31, 2001. The decrease resulted primarily due to
the absence of costs associated with an executive leaving the business of $0.7,
a net decrease in non-cash charges related to modifications of stock option
agreements of $0.7 million, reduced relocation and recruiting costs of $0.5
million and a net decrease in the allowance for doubtful accounts of $0.5
million.
LITIGATION SETTLEMENT
During the second fiscal quarter of 2002, we settled all pending patent
infringement litigation with Rodel, which resulted in a one-time payment of $1.0
million. Under the settlement agreement, we received a fully paid-up, worldwide
royalty-free license to all technology that was the subject of the litigation
and their foreign equivalents, and we have no further financial obligation with
respect to this matter.
AMORTIZATION OF GOODWILL AND OTHER INTANGIBLES
Amortization of goodwill and other intangibles was $0.2 million in the six
months ended March 31, 2002 compared to $0.4 million for the six months ended
March 31, 2001. The reduction of approximately $0.2 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.
OTHER INCOME (EXPENSE)
Other expense was $0.5 million for the six months ended March 31, 2002,
compared to other income of $0.7 million, for the six months ended March 31,
2001. Other expense increased primarily due to $0.4 million of interest expense
from capital leases entered into during the current fiscal year and a payment of
$0.3 million to Cabot Corporation to reimburse them for certain capital
improvements made to equipment used to supply us with material. These capital
improvements are no longer in service. Also, other expense increased by the
absence of foreign exchange gains experienced in the prior year of $0.3 million
and lower interest income than was received in the prior year.
14
PROVISION FOR INCOME TAXES
The effective income tax rate was 32.0% in the six months ended March 31,
2002 and 35.0% for the six months ended March 31, 2001. The decrease in the
effective tax rate was mainly driven by the increased impact of research and
experimentation credits in relation to a lower taxable income base.
NET INCOME
Net income was $16.0 million in the six months ended March 31, 2002, which
represented an decrease of 33.0%, or $7.9 million, from the six months ended
March 31, 2001 as a result of the factors discussed above.
LIQUIDITY AND CAPITAL RESOURCES
We had cash flows from operating activities of $26.8 million in the six
months ended March 31, 2002 and $23.7 million in the six months ended March 31,
2001. Our cash provided by operating activities for the six months ended March
31, 2002 originated from net income from operations of $16.0 million, non-cash
items of $7.8 million and a net decrease in working capital of $3.0 million
primarily from a decrease in customer receivables and an increase in accounts
payables. Receivables decreased as a result of lower revenue and accounts
payable increased primarily from the timing of payments related to our new
research and development facility. 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 six months ended March 31, 2002, capital spending was $24.8 million,
primarily due to the construction of our new research and development facility
in Aurora, Illinois, which was substantially completed this quarter and
equipping the facility with additional polishing tools. 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 $42.0 million. In the six months ended March 31, 2001, capital
spending was $14.8 million, primarily due to the expansion of our Geino, Japan
manufacturing facility and the purchase of research and development equipment in
Aurora, Illinois.
Cash flows from financing activities were $1.8 million in the six months
ended March 31, 2002 and $7.0 million in the six months ended March 31, 2001.
Cash provided from financing activities for the six months ended March 31, 2002
resulted from the issuance of common stock for the exercise of stock options and
the Employee Stock Purchase Plan. These were partially offset by $0.5 million in
principal payments under capital lease obligations. Cash provided in the year
ago period resulted from the issuance of common stock for the exercise of stock
options and the Employee Stock Purchase Plan.
At March 31, 2002 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 4.68% 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. On February 5, 2002, this agreement was amended with no material changes
in terms. 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
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 commenced in the second quarter of fiscal 2002.
15
On January 11, 2002 we entered into a CMP tool and polishing consumables
transfer agreement with a customer under which we agreed to transfer polishing
consumables to them in return for a CMP polishing tool. The aggregate fair
market value of the polishing consumables has been treated as a capital lease
and the present value of the polishing consumables resulted in a $2.0 million
lease obligation and related leased asset. The agreement has approximately a
three-year term, which expires in November 2004.
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 March 31, 2002 and 2001, 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 March 31, 2002, 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 March 31, 2002, 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 $19.9
million, of which $2.6 million is due within one year. Total cash obligations
due between one and three years, four and five years, and beyond five years are
$11.2 million, $2.1 million and $4.0 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
16
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 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 59% and 57%
of our revenue for the six months ended March 31, 2002 and 2001, 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 and the first fiscal quarter of
2002, the ongoing 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 FUTURE INTELLECTUAL PROPERTY LAWSUITS RELATING TO OUR BUSINESS ARE BROUGHT
AGAINST US, AND WE LOSE THEM, WE COULD BE LIABLE FOR SIGNIFICANT DAMAGES AND
LEGAL EXPENSES AND COULD BE ENJOINED FROM MANUFACTURING OUR SLURRY PRODUCTS
Although we now have no existing intellectual property litigation against
us, we may be subject to future infringement claims 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, both fumed silica and 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 a 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 date of the new
fumed alumina supply agreement with respect to certain amounts of 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
17
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 products. 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 relatively 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.
18
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 six months ended March 31, 2002,
approximately 65% 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
CERTAIN OF OUR DIRECTORS OR EXECUTIVE OFFICERS MAY HAVE CONFLICTS OF INTEREST
BECAUSE THEY ALSO OWN CABOT CORPORATION STOCK
Three former members of our board of directors were directors and/or
executive officers of Cabot Corporation during their term of service on our
board. One former director resigned from our board in July 2001, one did not
stand for reelection and his term of service expired at our annual meeting held
in March, 2002, and one resigned in April, 2002. During their term on our board,
these former directors had obligations to both companies and may have had
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. In addition, some of our executive
officers own Cabot Corporation stock that they acquired as employees of Cabot
Corporation, and some directors own Cabot Corporation stock that they acquired
independently. 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.
19
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.
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.
20
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, our amended certificate of
incorporation authorizes 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. Also our amended
certificate of incorporation provides 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 which we have exposure to are the Japanese Yen and, to a lesser
extent, the British Pound. From time to time we enter into forward contracts in
an effort to manage foreign currency exchange exposure. Approximately 15% 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 March 31, 2002, the analysis
demonstrated that such market movements would not have a material adverse effect
on our consolidated 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 March 31, 2002 was not material.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Legal proceedings are discussed in "Footnote 9. - Litigation Settlement",
under PART I, Item 1 - Notes to Financial Statements and such discussion is
incorporated herein by reference.
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ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
At the annual meeting of stockholders of Cabot Microelectronics held on
March 12, 2002, the following proposals were adopted:
Proposal I - Election of Directors
Number of Votes For Election Number of Votes Withheld
---------------------------- ------------------------
Ronald L. Skates 21,340,242 138,970
Steven V. Wilkinson 21,333,719 145,493
Proposal II - Ratification of the selection of PricewaterhouseCoopers LLP as the
company's independent auditors for fiscal 2002
A proposal to ratify the selection of PricewaterhouseCoopers LLP as the
company's independent auditors for fiscal 2002 was approved with 20,869,354
shares cast for, 592,798 shares cast against, and 17,060 shares abstaining.
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
------ -----------
10.15 Amendment to Cabot Microelectronics Corporation
Employee Stock Purchase Plan*
10.22 Amendment to Cabot Microelectronics Corporation
401(k) Plan*
10.29 First Amendment to Credit Agreement among Cabot
Microelectronics Corporation, Various Financial
Institutions and LaSalle Bank National
Association, as Administrative Agent, and
National City Bank of Michigan/Illinois, as
Syndication Agent.
10.33 Adoption Agreement, as amended, of Cabot
Microelectronics Corporation Supplemental
Employee Retirement Plan*
* Management contract, or compensatory plan or
arrangement.
(b) Reports on Form 8-K
In a report dated February 28, 2002, Cabot Microelectronics
reported under Item 5. "Other Events" and Item 7. "Financial Statements
and Exhibits" that on February 28, 2002 Cabot Microelectronics
announced the settlement of all pending patent infringement litigation
involving Cabot Microelectronics and Rodel, Inc. The litigation related
to certain aspects of Cabot Microelectronics' business and had been
controlled by Cabot Microelectronics, but had been between Rodel and
Cabot Microelectronics' former parent, Cabot Corporation.
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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: May 13, 2002 /s/ MARTIN M. ELLEN
--------------------------------------------
Martin M. Ellen
Vice President and Chief Financial Officer
[Principal Financial Officer]
Date: May 13, 2002 /s/ DANIEL S. WOBBY
--------------------------------------------
Daniel S. Wobby
Corporate Controller
[Principal Accounting Officer]
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