<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended March 31, 1999
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _______________ to _______________
Commission file number 0-23621
MKS INSTRUMENTS, INC.
(Exact name of registrant as specified in its charter)
Massachusetts 04-2277512
- --------------------------------------------------------------------------------
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
Six Shattuck Road, Andover, Massachusetts 01810
- --------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (978) 975-2350
-----------------------------
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [ ] No [X].
Number of shares outstanding of the issuer's common stock as of May 11, 1999:
24,430,407
<PAGE> 2
MKS INSTRUMENTS, INC.
FORM 10-Q
INDEX
PART I FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Consolidated Balance Sheets -
March 31, 1999 and December 31, 1998
Consolidated Statements of Income -
Three months ended March 31, 1999 and 1998
Consolidated Statements of Cash Flows-Three months
ended March 31, 1999 and 1998
Notes to Consolidated Financial Statements
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
PART II OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
ITEM 5. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
<PAGE> 3
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
MKS INSTRUMENTS, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
<TABLE>
<CAPTION>
March 31, December 31,
1999 1998
-------- -----------
(Unaudited)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents .................................... $ 11,959 $11,188
Marketable equity securities ................................. 660 538
Trade accounts receivable, net ............................... 24,764 20,674
Inventories .................................................. 24,289 24,464
Deferred tax asset ........................................... 718 698
Other current assets ......................................... 965 971
-------- -------
Total current assets ..................................... 63,355 58,533
Property, plant and equipment, net ........................... 31,825 32,725
Other assets ................................................. 5,166 4,974
-------- -------
Total assets ............................................. $100,346 $96,232
======== =======
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Short-term borrowings ........................................ $ 9,382 $ 9,687
Current portion of long-term debt ............................ 2,040 2,058
Current portion of capital lease obligations ................. 1,033 1,074
Accounts payable ............................................. 5,796 3,677
Accrued compensation ......................................... 4,564 3,985
Other accrued expenses ....................................... 5,152 5,280
Income taxes payable ......................................... 1,436 1,279
-------- -------
Total current liabilities ................................ 29,403 27,040
Long-term debt ................................................... 11,365 12,042
Long-term portion of capital lease obligations ................... 1,533 1,744
Deferred tax liability ........................................... 96 117
Other liabilities ................................................ 442 463
Stockholders' equity:
Preferred Stock, $0.01 par value, 2,000,000 shares
authorized, none issued and outstanding .................. -- --
Common Stock, no par value, 50,000,000 shares authorized,
18,055,407 and 18,053,167 issued and outstanding at
March 31, 1999 and December 31, 1998, respectively ....... 113 113
Additional paid-in capital ................................... 48 48
Retained earnings ............................................ 55,608 52,479
Accumulated other comprehensive income ....................... 1,738 2,186
-------- -------
Total stockholders' equity ............................... 57,507 54,826
-------- -------
Total liabilities and stockholders' equity ............... $100,346 $96,232
======== =======
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
<PAGE> 4
MKS INSTRUMENTS, INC.
CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except per share data)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended
March 31,
--------------------
1999 1998
------- -------
<S> <C> <C>
Net sales .......................................................... $37,910 $46,163
Cost of sales ...................................................... 22,557 26,757
------- -------
Gross profit ....................................................... 15,353 19,406
Research and development ........................................... 2,955 3,794
Selling, general and administrative ................................ 8,857 10,112
------- -------
Income from operations ............................................. 3,541 5,500
Interest expense ................................................... 338 400
Interest income .................................................... 96 25
Other income (expense), net ........................................ 168 (281)
------- -------
Income before income taxes ......................................... 3,467 4,844
Provision for income taxes ......................................... 338 565
------- -------
Net income ......................................................... $ 3,129 $ 4,279
======= =======
Historical net income per share:
Basic .......................................................... $ 0.17 $ 0.24
======= =======
Diluted ........................................................ $ 0.16 $ 0.23
======= =======
Historical weighted average common shares outstanding:
Basic .......................................................... 18,054 18,053
======= =======
Diluted ........................................................ 19,402 18,751
======= =======
Pro forma data:
Historical income before income taxes .......................... $ 3,467 $ 4,844
Pro forma provision for income taxes assuming C
corporation tax ............................................ 1,317 1,841
------- -------
Pro forma net income ........................................... $ 2,150 $ 3,003
======= =======
Pro forma net income per share:
Basic .......................................................... $ 0.12 $ 0.17
======= =======
Diluted ........................................................ $ 0.11 $ 0.16
======= =======
Pro forma weighted average common shares outstanding:
Basic .......................................................... 18,054 18,053
======= =======
Diluted ........................................................ 18,890 18,557
======= =======
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
<PAGE> 5
MKS INSTRUMENTS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended
March 31,
--------------------
1999 1998
------- -------
<S> <C> <C>
Cash flows from operating activities:
Net income ................................................................. $ 3,129 $ 4,279
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization .......................................... 1,536 1,503
Loss (gain) on disposal of property, plant and equipment ............... (126) 49
Other .................................................................. (7) 62
Forward exchange contract loss (gain) realized ......................... 9 (440)
Changes in operating assets and liabilities:
(Increase) decrease in trade accounts receivable .................... (4,504) 4,502
(Increase) decrease in inventories .................................. (222) 1,174
(Increase) decrease in other current assets ......................... 121 (285)
Increase (decrease) in accrued expenses and other current
liabilities ..................................................... 860 (2,133)
Increase (decrease) in accounts payable ............................. 2,390 (1,755)
------- -------
Net cash provided by operating activities .................................. 3,186 6,956
------- -------
Cash flows from investing activities:
Purchases of property, plant and equipment ............................. (1,048) (910)
(Increase) decrease in other assets .................................... (86) 154
Cash received (used) to settle forward exchange contracts .............. (9) 440
------- -------
Net cash used in investing activities ...................................... (1,143) (316)
------- -------
Cash flows from financing activities:
Proceeds from short-term borrowings .................................... 993 771
Payments on short-term borrowings ...................................... (978) --
Principal payments on long-term debt ................................... (512) (521)
Deferred initial public offering costs ................................. (282) --
Principal payments under capital lease obligations ..................... (252) (386)
------- -------
Net cash used in financing activities ...................................... (1,031) (136)
------- -------
Effect of exchange rate changes on cash and cash equivalents ............... (241) (228)
------- -------
Increase in cash and cash equivalents ...................................... 771 6,276
Cash and cash equivalents at beginning of period ........................... 11,188 2,511
------- -------
Cash and cash equivalents at end of period ................................. $11,959 $ 8,787
======= =======
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest ............................................................ $ 305 $ 341
======= =======
Income taxes ........................................................ $ 335 $ 741
======= =======
Noncash transactions during the period:
Equipment acquired under capital leases ............................. -- $ 180
======= =======
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
<PAGE> 6
MKS INSTRUMENTS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Tables in thousands, except per share data)
1) BASIS OF PRESENTATION
The interim financial data as of March 31, 1999 and for the three months
ended March 31, 1999 and 1998 is unaudited; however, in the opinion of MKS
Instruments, Inc. (the "Company"), the interim data includes all
adjustments, consisting only of normal recurring adjustments, necessary for
a fair statement of the results for the interim periods. The unaudited
financial statements presented herein have been prepared in accordance with
the instructions to Form 10-Q and do not include all the information and
note disclosures required by generally accepted accounting principles. The
financial statements should be read in conjunction with the December 31,
1998 audited financial statements and notes thereto.
2) NEW ACCOUNTING PRONOUNCEMENTS
In June, 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards (SFAS) No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 133 requires that all
derivative instruments be recorded on the balance sheet at their fair
value. Changes in the fair value of derivatives are recorded each period in
current earnings or other comprehensive income, depending on whether a
derivative is designated as part of a hedge transaction and, if it is, the
type of hedge transaction. The Company adopted the provisions of SFAS No.
133 effective April 1, 1999. The impact of adopting SFAS No. 133 was not
material to the Company's financial position or results of operations.
3) USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the dates of the
financial statements and the reported amounts of revenues and expenses
during the reporting periods. Actual results could differ from those
estimates.
4) HISTORICAL AND PRO FORMA NET INCOME PER SHARE
Historical net income per share is not meaningful because of the Company's
conversion from an S corporation to a C corporation in April, 1999 upon the
closing of its initial public offering. Historical net income has been
adjusted for the pro forma provision for income taxes calculated assuming
the Company was subject to income taxation as a C corporation, at a pro
forma rate of 38%.
The following is a reconciliation of basic to diluted pro forma and
historical net income per share:
<TABLE>
<CAPTION>
Three Months Ended March 31,
-----------------------------------------------
1999 1998
---------------------- ----------------------
Pro Forma Historical Pro Forma Historical
--------- ---------- --------- ----------
<S> <C> <C> <C> <C>
Net income ................................. $ 2,150 $ 3,129 $ 3,003 $ 4,279
Shares used in net income per common
share-basic ............................ 18,054 18,054 18,053 18,053
Effect of dilutive securities:
Employee and director stock options .... 836 1,348 504 698
------- ------- ------- -------
Shares used in net income per common
share-diluted .......................... 18,890 19,402 18,557 18,751
======= ======= ======= =======
Net income per common share-basic .......... $ 0.12 $ 0.17 $ 0.17 $ 0.24
======= ======= ======= =======
Net income per common share-diluted ........ $ 0.11 $ 0.16 $ 0.16 $ 0.23
======= ======= ======= =======
</TABLE>
<PAGE> 7
MKS INSTRUMENTS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tables in thousands, except per share data)
For purposes of computing diluted earnings per share, weighted average
common share equivalents do not include stock options with an exercise
price greater than the average market price of the common shares during the
period. Options to purchase 24,000 and 0 shares of common stock were
outstanding during the three months ended March 31, 1999 and 1998,
respectively, but were not included in the calculation of diluted net
income per common share because the option price was greater than the
average market price of the common shares during the period.
5) INVENTORIES
Inventories are stated at the lower of cost or market. Cost is determined
on the first-in, first-out method. Inventories consist of the following:
<TABLE>
<CAPTION>
March 31, December 31,
1999 1998
-------- -----------
<S> <C> <C>
Raw material...................................... $ 7,057 $ 7,544
Work in process................................... 6,252 5,718
Finished goods.................................... 10,980 11,202
------- -------
$24,289 $24,464
======= =======
</TABLE>
6) STOCKHOLDERS' EQUITY
In February 1999, the Company granted options to purchase 24,000 shares of
common stock at an exercise price of $14.40 per share to the Board of
Directors as the annual grant under the 1997 Director Stock Option Plan. In
March, 1999 the Company granted additional options to purchase 42,000
shares of common stock at an exercise price of $14.00 per share to the
Board of Directors as the initial public offering grant under the 1997
Director Stock Option Plan.
In March 1999, the Company granted options to purchase approximately
360,000 shares of common stock at an exercise price of $14.00 per share to
employees of the Company under the Amended and Restated 1995 Stock
Incentive Plan.
In March 1999, the Company amended its Articles of Organization to: i)
eliminate the authorized shares of Class A Common Stock and Class B Common
Stock; ii) increase the authorized number of shares of Common Stock to
50,000,000 shares; iii) authorize 2,000,000 shares of Preferred Stock,
$0.01 par value per share; and iv) provide that each outstanding share of
Class A Common Stock and Class B Common Stock be converted into one share
of Common Stock.
Total comprehensive income was as follows:
<TABLE>
<CAPTION>
Three Months Ended
March 31,
------------------
1999 1998
------ ------
<S> <C> <C>
Net income................................................ $3,129 $4,279
Other comprehensive income:
Foreign currency translation adjustment............... (567) (176)
Unrealized gain on investments........................ 119 236
------ ------
Other comprehensive income................................ (448) 60
------ ------
Total comprehensive income................................ $2,681 $4,339
====== ======
</TABLE>
<PAGE> 8
MKS INSTRUMENTS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(Tables in thousands, except per share data)
7) SEGMENT INFORMATION AND SIGNIFICANT CUSTOMER
Segment Information for the three months ended March 31, 1999 and 1998:
<TABLE>
<CAPTION>
North America Far East Europe Total
------------- -------- ------ -----
<S> <C> <C> <C> <C>
Net sales to unaffiliated customers 1999 $26,133 $7,089 $4,688 $37,910
1998 33,529 7,083 5,551 46,163
Intersegment net sales 1999 $ 6,841 $ 132 $ 168 $ 7,141
1998 8,814 55 183 9,052
Income from operations 1999 $ 2,857 $ 292 $ 392 $ 3,541
1998 4,687 391 422 5,500
</TABLE>
The Company had one customer comprising 20% and 22% of net sales for the
three months ended March 31, 1999 and 1998, respectively.
8) SUBSEQUENT EVENTS
On April 5, 1999 the Company closed the initial public offering of its
Common Stock. In connection with this offering and the exercise of an
over-allotment option by the underwriters, the Company sold 6,375,000
shares of Common Stock at a price of $14.00 per share. The net proceeds to
the Company were approximately $82,000,000. Offering costs were
approximately $1,000,000.
Upon the closing of the offering, the Company's status as an S corporation
for tax purposes was terminated, and the Company became a C corporation for
tax purposes.
On April 5, 1999 the Company distributed $40,000,000, which is the
estimated amount of the Company's undistributed S Corporation earnings as
of the day prior to the closing of the offering.
<PAGE> 9
ITEM 2.
MKS INSTRUMENTS, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
This Quarterly Report on Form 10-Q contains a number of statements including,
without limitation, statements relating to MKS's beliefs, expectations and plans
which are forward-looking statements, as are statements that certain actions,
conditions or circumstances will continue. Such statements are based upon
management's current expectations and are subject to a number of factors and
uncertainties. Information contained in these forward-looking statements is
inherently uncertain and actual performance and results may differ materially
due to many important factors. See "Factors That May Affect Future Results" for
factors that could cause actual results to differ materially from any
forward-looking statements made by MKS.
MKS's net sales have fluctuated over the past several quarters primarily due to
the decline in the semiconductor capital equipment market and the semiconductor
device market in 1998. MKS's net sales declined in each of the first three
quarters of 1998. In response to the decline, MKS implemented a comprehensive
cost containment program that included manufacturing outsourcing, expense
reductions, and the elimination of some temporary and contract positions.
Worldwide staffing levels were decreased from 1,195 at the end of 1997 to 821 at
the end of 1998. As a result of these actions, MKS maintained quarterly
profitability despite lower net sales.
In the first quarter of 1999, MKS's net sales increased sequentially for the
second consecutive quarter. Net sales increased 23% as compared to the fourth
quarter of 1998. The increase was primarily due to increased sales to companies
in the semiconductor industry.
The results of operations for the three months ending March 31, 1999 as compared
to the three months ending March 31, 1998 were significantly impacted by the
decline in the semiconductor capital equipment market in 1998, and the cost
containment program implemented by MKS as a result of the decline. The following
table sets forth for the periods indicated the percentage of total net sales of
certain line items included in MKS's consolidated statement of income data.
<TABLE>
<CAPTION>
Three Months Ended
March 31,
------------------
1999 1998
----- -----
<S> <C> <C>
Net sales ................................................ 100.0% 100.0%
Cost of sales ............................................ 59.5 58.0
----- -----
Gross profit ............................................. 40.5 42.0
Research and development ................................. 7.8 8.2
Selling, general and administrative ...................... 23.4 21.9
----- -----
Income from operations ................................... 9.3 11.9
Interest expense, net .................................... 0.6 0.8
Other income (expense), net .............................. 0.4 (0.6)
----- -----
Income before income taxes ............................... 9.1 10.5
Provision for income taxes ............................... 0.8 1.2
----- -----
Net income ............................................... 8.3% 9.3%
===== =====
Pro form data:
Historical income before income taxes ................ 9.1% 10.5%
Pro forma provision for income taxes ................. 3.4 4.0
----- -----
Pro forma net income ................................. 5.7% 6.5%
===== =====
</TABLE>
Three Months Ended March 31, 1999 Compared to Three Months Ended March 31, 1998
Net Sales. Net sales decreased 17.9% to $37.9 million for the three months
ended March 31, 1999 from $46.2 million for the three months ended March 31,
1998. International net sales were approximately $11.8 million for the three
months ended March 31, 1999 or 31.1% of net sales and $12.6 million for the
three months ended March 31, 1998 or 27.4% of net sales. The decrease in net
sales was primarily due to decreased sales volume of MKS's existing products in
the United States caused by the downturn the semiconductor capital equipment
market experienced in 1998.
Gross Profit. Gross profit as a percentage of net sales decreased to 40.5%
for the three months ended March 31, 1999 from 42.0% for the three months ended
March 31, 1998. The change was primarily due to manufacturing overhead costs
being a higher percentage of net sales due to lower sales volume for the three
months ended March 31, 1999.
Research and Development. Research and development expenses decreased 22.1%
to $3.0 million or 7.8% of net sales for the three months ended March 31, 1999
from $3.8 million or 8.2% of net sales for the three months ended March 31,
1998. The decrease was due to reduced compensation expense resulting from the
reduction in personnel during 1998.
Selling, General and Administrative. Selling, general and administrative
expenses decreased 12.4% to $8.9 million or 23.4% of net sales for the three
months ended March 31, 1999 from $10.1 million or 21.9% of net sales for the
three months ended March 31, 1998. The decrease was due to a decrease in
compensation expense resulting from the reduction in personnel during 1998 and
reduced incentive compensation.
Interest Expense, Net. Net interest expense decreased to $0.2 million for
the three months ended March 31, 1999 from $0.4 million for the three months
ended March 31, 1998 primarily due to lower debt outstanding during the first
quarter of 1999, and higher cash balances in the first quarter of 1999.
Other Income (Expense), Net. Other income of $0.2 million for the three
months ended March 31, 1999 primarily represents gains from foreign exchange
contracts which did not qualify for hedge accounting. Other expense of $0.3
million for the three months ended March 31, 1998 represents $0.7 million of
costs associated with MKS's planned initial public offering in early 1998 which
was postponed, offset by foreign exchange translation gains on intercompany
payables.
Effective April 1, 1999 MKS adopted Statement of Financial Accounting Standards
(SFAS) No. 133, "Accounting for Derivative Instruments and Hedging Activities."
SFAS No. 133 requires that all derivative instruments be recorded on the balance
sheet at their fair value. Changes in the fair value of derivatives are recorded
each period in current earnings or other comprehensive income, depending on
whether a derivative is designated as part of a hedge transaction and, if it is,
the type of hedge transaction. The adoption of SFAS No. 133 did not have a
material impact on MKS's financial position or results of operations. The
derivative instruments currently held by MKS, which include forward exchange
contracts, local currency purchased options, and an interest rate swap, qualify
for hedge accounting under SFAS No. 133, and changes in their fair value will be
recorded as a component of other comprehensive income until the hedged
transaction occurs.
Pro Forma Provision for Income Taxes. Prior to the closing of its initial
public offering in April, 1999 MKS was treated as an S Corporation for tax
purposes. As an S Corporation, MKS was not subject to federal, and certain
state, income taxes. Upon the closing of its initial public offering on April 5,
1999, MKS's status as an S Corporation was terminated and it became subject to
taxes as a C Corporation. The pro forma provision for income taxes reflects the
estimated tax expense MKS would have incurred had it been subject to federal and
state income taxes as a C Corporation. The pro forma provision reflects a pro
forma tax rate of 38%, which differs from the federal statutory rate due
primarily to the effects of state and foreign taxes and certain tax credits.
<PAGE> 10
LIQUIDITY AND CAPITAL RESOURCES
MKS has financed its operations and capital requirements through a combination
of cash provided by operations, long-term real estate financing, capital lease
financing and short-term lines of credit.
Operations provided cash of $3.2 million for the three months ended March 31,
1999 primarily impacted by net income, depreciation and changes in the levels of
accounts payable and accounts receivable. Investing activities utilized cash of
$1.1 million for the three months ended March 31, 1999 primarily for the
purchase of property and equipment. Financing activities utilized cash of $1.0
million primarily for the repayment of debt.
Working capital was $34.0 million as of March 31, 1999. MKS has a combined $30.0
million line of credit with two banks, expiring December 31, 1999, all of which
is available.
On April 5, 1999 the Company closed the initial public offering of its Common
Stock. In connection with this offering and the exercise of an over-allotment
option by the underwriters, the Company sold 6,375,000 shares of Common Stock at
a price of $14.00 per share. The net proceeds to the Company were approximately
$82,000,000 and were received in the second quarter of 1999. Offering costs were
approximately $1,000,000.
On April 5, 1999 MKS distributed $40,000,000, which is the estimated amount of
its undistributed S Corporation earnings as of the day prior to the closing of
the offering.
MKS believes that the net proceeds from its initial public offering, together
with the cash anticipated to be generated from operations and funds available
from existing credit facilities, will be sufficient to satisfy its estimated
working capital and planned capital expenditure requirements through at least
the next 24 months.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
See Note 2 of Notes to Consolidated Financial Statements for a discussion of the
impact of recently issued accounting pronouncements.
YEAR 2000 COMPLIANCE
The Year 2000 problem stems from the fact that many currently installed computer
systems include software and hardware products that are unable to distinguish
21st century dates from those in the 20th century. As a result, computer
software and/or hardware used by many companies and governmental agencies may
need to be upgraded to comply with Year 2000 requirements or risk system failure
or miscalculations causing disruptions to normal business activities.
State of Readiness
MKS designed and began implementation of a multi-phase Year 2000 project
which consists of:
* assessment of the corporate systems and operations including both
information technology and non-information technology that could be
affected by the Year 2000 problem
* remediation of non-compliant systems and components
* testing of systems and components following remediation
<PAGE> 11
MKS, under the guidance of its Information Technology Steering Committee,
has focused its Year 2000 review on four areas:
* internal computer software and hardware
* product compliance
* facilities and manufacturing equipment
* third-party compliance
Internal Computer Software and Hardware. MKS uses information technology
for its internal infrastructure, which consists of its main enterprise systems
which include the systems used, in part, for purchase orders, invoicing,
shipping and accounting, and individual workstations, including personal
computers, and its network systems.
Because MKS's business and manufacturing systems, such as its main
enterprise systems, are essential to its business, financial condition and
results of operations, MKS began its assessment of these systems prior to its
other non-critical information technology systems. MKS began its assessment in
the fall of 1997, and in November 1997, MKS developed a remediation plan for all
identified noncompliant business and manufacturing systems. This remediation
plan was implemented in January 1998. By July 1998, MKS had installed new
systems or upgraded existing systems. Based upon post-implementation testing and
review, management believes that all business and manufacturing systems within
its manufacturing operations are Year 2000 compliant.
One of MKS's international subsidiaries is currently undergoing conversion
of its business systems in order to become Year 2000 compliant. Management
believes that these systems will be operational during the third quarter of
1999. This phase of the Year 2000 project is currently on schedule.
MKS's personal computer based systems were assessed in early 1998. MKS
believes that all non-compliant hardware and software was identified by March
1998, at which time it made a list prioritizing databases to be remedied.
Critical databases were identified and were scheduled for remediation prior to
other databases. Remediation plans to convert the databases were initiated in
November 1998. MKS anticipates that it will complete its critical and
non-critical conversions by June 1999. This phase of the Year 2000 project is
currently on schedule.
Product Compliance. Throughout 1998, MKS assessed and addressed the Year
2000 compliance of its products. This assessment resulted in the identification
of MKS's products that were compliant and non-compliant. The substantial
majority of MKS's products were deemed to be compliant.
The date related functions of all non-compliant products, other than
certain residual gas analysis products, are believed by MKS to be non-critical
in that such noncompliance would not affect the independent performance of the
product; would not cause the MKS product to cease operating on any particular
date; and independently would not pose a safety risk. MKS believes that Year
2000 problems associated with non-compliant residual gas analysis products will
also be non-critical. However, these products contain components of other
manufacturers and cannot be tested and therefore it is possible that such
products could cause unanticipated performance problems. The non-compliant
features of our other products primarily relate to non-essential functions such
as date displays. MKS made available to its customers a list which describes
Year 2000 readiness of its products. This phase of the Year 2000 project is
currently on schedule.
<PAGE> 12
Facilities and Manufacturing Equipment. Some aspects of MKS's facilities
and manufacturing equipment may include embedded technology, such as
microcontrollers. The Year 2000 problem could cause a system failure or
miscalculation in such facilities or manufacturing equipment which could disrupt
MKS's operations. Affected areas include security systems, elevator controls,
voice mail and phone systems, clean room environmental controls, numerically
controlled production machinery and computer based production equipment. MKS
organized a team of experienced managers in November 1998 to assess the
potential problems in these areas. An assessment of all facilities and
manufacturing equipment was conducted through December 1998, and a remediation
plan was developed in January 1999. MKS anticipates completion of all corrective
actions by June 1999 with testing and review of corrected items to occur in the
summer of 1999. This phase of the Year 2000 project is currently on schedule.
Third-Party Compliance. MKS has relationships with third-parties including
customers and vendors and suppliers of goods, services and computer interfaces.
The failure of such persons to implement and execute Year 2000 compliance
measures in a timely manner, if at all, could, among other things:
* adversely affect MKS's ability to obtain components in a timely manner
* cause a reduction in the quality of components obtained by MKS
* cause a reduction, delay or cancellation of customer orders received
by MKS or a delay in payments by its customers for products shipped
* result in the loss of services that would be necessary for MKS to
operate in the normal course of business
MKS assessed which of these third-party goods, services and interfaces were
critical to its operations and developed and mailed a standard survey to each
third-party deemed critical in January 1998. By March 1998, MKS had reviewed
most responses received. To date, the responses received indicate that the
third-parties are either in the process of developing remediation plans, or are
compliant. MKS continued its assessment through March 1999 and began conducting
reviews at that time. A remediation plan is expected to be in place by June 1999
with all critical third-parties achieving satisfactory compliance by August
1999. This phase of the Year 2000 project is currently on schedule.
Costs
MKS's costs to date associated with assessment, remediation and testing
activities concerning the Year 2000 problem have been approximately $1.7
million. MKS estimates that an additional $1.3 million, the major portion of
which will be capitalized and expensed over the life of the assets, will be
required to complete the replacement or modification of its facilities,
manufacturing equipment, computer software and products and to address the
noncompliance of key third-parties. MKS has funded and will continue to fund
these activities principally through cash provided by operations and existing
leasing lines of credit. It is not possible for MKS to completely estimate the
costs incurred in its remediation effort as many of its employees have focused
and will continue to focus significant efforts in evaluating MKS's Year 2000
state of readiness and in remediating problems that have arisen, and will
continue to arise, from such evaluation.
<PAGE> 13
Contingency Plan
To date, MKS has not formulated contingency plans related to the failure of
its or a third-party's Year 2000 remediation efforts. Contingency plans for the
failure to implement compliance procedures have not been completed because it is
the intent of MKS to complete all required modifications and to test
modifications thoroughly prior to December 31, 1999. However, as discussed
above, MKS is engaged in ongoing assessment, remediation and testing activities
and the internal results as well as the responses received from third-parties
will be taken into account in determining the nature and extent of any
contingency plans if necessary.
FACTORS THAT MAY AFFECT FUTURE RESULTS
Cyclicality of the Semiconductor Industry
MKS estimates that approximately 60% of its sales during 1997 and 1998 were
to semiconductor capital equipment manufacturers and semiconductor device
manufacturers, and MKS expects that sales to such customers will continue to
account for a substantial majority of its sales. MKS's business depends
substantially upon the capital expenditures of semiconductor device
manufacturers, which in turn depend upon the demand for semiconductors and other
products utilizing semiconductors. Periodic reductions in demand for the
products manufactured by semiconductor capital equipment manufacturers and
semiconductor device manufacturers may adversely affect MKS's business,
financial condition and results of operations. Historically, the semiconductor
market has been highly cyclical and has experienced periods of overcapacity,
resulting in significantly reduced demand for capital equipment. For example, in
1996 and 1998 the semiconductor industry experienced a significant decline,
which caused a number of MKS's customers to reduce their orders. MKS cannot be
certain that the current semiconductor downturn that began in 1998 will not
continue. A further decline in the level of orders as a result of any future
downturn or slowdown in the semiconductor industry could have a material adverse
effect on MKS's business, financial condition and results of operations.
Asian Economies
The financial markets in Asia, one of MKS's principal international
markets, have experienced significant turbulence. Turbulence in the Asian
markets can adversely affect MKS's net sales and results of operations. MKS's
direct net sales to customers in Asian markets have been approximately 17% to
18% of total net sales for the past three years. MKS's sales include both direct
sales to the semiconductor industry in Asia, as well as to semiconductor capital
equipment manufacturers that derive a significant portion of their revenue from
sales to the Asian semiconductor industry. Turbulence in the Asian markets began
to adversely affect the semiconductor device manufacturers and semiconductor
capital equipment manufacturers in the fourth quarter of 1997 and continues to
adversely affect them.
Fluctuations in Operating Results
A substantial portion of MKS's shipments occur shortly after an order is
received and therefore MKS operates with a low level of backlog. As a
consequence of the just-in-time nature of shipments and the low level of
backlog, a decrease in demand for MKS's products from one or more customers
could occur with limited advance notice and could have a material adverse effect
on MKS's results of operations in any particular period.
A significant percentage of MKS's expenses are relatively fixed and based
in part on expectations of future net sales. The inability to adjust spending
quickly enough to compensate for any shortfall would magnify the adverse impact
of a shortfall in net sales on MKS's results of operations. Factors that could
cause fluctuations in MKS's net sales include:
* The timing of the receipt of orders from major customers
<PAGE> 14
* Shipment delays
* Disruption in sources of supply
* Seasonal variations of capital spending by customers
* Production capacity constraints
* Specific features requested by customers
For example, MKS was in the process of increasing production capacity when
the semiconductor capital equipment market began to experience a significant
downturn in 1996. This downturn had a material adverse effect on MKS's operating
results in the second half of 1996 and the first half of 1997. After an increase
in business in the latter half of 1997, the market experienced another downturn
in 1998, which had a material adverse effect on MKS's 1998 and first quarter
1999 operating results. As a result of the factors discussed above, it is likely
that MKS will in the future experience quarterly or annual fluctuations and
that, in one or more future quarters, MKS's operating results will fall below
the expectations of public market analysts or investors. In any such event, the
price of MKS's common stock could decline significantly.
Customer Concentration
MKS's five largest customers in 1996, 1997 and 1998 accounted for
approximately 26%, 32% and 24%, respectively, of its net sales. The loss of a
major customer or any reduction in orders by such customers, including
reductions due to market or competitive conditions, would likely have a material
adverse effect on MKS's business, financial condition and results of operations.
During 1998, one customer, Applied Materials, Inc., accounted for approximately
16% of MKS's net sales. While the Company has entered into a purchase contract
with Applied Materials, Inc. that expires in 2000 unless it is extended by
mutual agreement, none of MKS's significant customers, including Applied
Materials, Inc., has entered into an agreement requiring it to purchase any
minimum quantity of MKS's products. The demand for MKS's products from its
semiconductor capital equipment customers depends in part on orders received by
them from their semiconductor device manufacturer customers.
Attempts to lessen the adverse effect of any loss or reduction through the
rapid addition of new customers could be difficult because prospective customers
typically require lengthy qualification periods prior to placing volume orders
with a new supplier. The Company's future success will continue to depend upon:
* MKS's ability to maintain relationships with existing key customers
* MKS's ability to attract new customers
* the success of MKS's customers in creating demand for their capital
equipment products which incorporate MKS's products
Competition
The markets for MKS's products are highly competitive. The Company's
competitive success often depends upon factors outside of its control. For
example, in some cases, particularly with respect to mass flow controllers,
semiconductor device manufacturers may direct semiconductor capital equipment
manufacturers to use a specified supplier's product in their equipment.
Accordingly, for such products, the Company's success will depend in part on its
ability to have semiconductor device manufacturers specify that the Company's
<PAGE> 15
products be used at their semiconductor fabrication facilities. In addition, MKS
may encounter difficulties in changing established relationships of competitors
that already have a large installed base of products within such semiconductor
fabrication facilities.
Technological Changes
New products designed by semiconductor capital equipment manufacturers
typically have a lifespan of five to ten years. MKS's success depends on its
products being designed into new generations of equipment for the semiconductor
industry. The Company must develop products that are technologically current so
that they are positioned to be chosen for use in each successive new generation
of semiconductor equipment. If its products are not chosen by its customers, the
Company's net sales may be reduced during the lifespan of its customers'
products.
Risks Related to Year 2000 Compliance
MKS has implemented a multi-phase Year 2000 project consisting of
assessment and remediation, and testing following remediation. MKS cannot,
however, be certain that it has identified all of the potential risks. Failure
by the Company to identify and remediate all material Year 2000 risks could
adversely affect its business, financial condition and results of operations.
MKS has identified the following risks:
* MKS cannot be certain that the entities on whom it relies for certain
goods and services that are important for its business will be
successful in addressing all of their software and systems problems in
order to operate without disruption in the year 2000 and beyond
* MKS's customers or potential customers may be affected by Year 2000
issues that may, in part:
- cause a delay in payments for products shipped
- cause customers to expend significant resources on Year 2000
compliance matters, rather than investing in MKS's products
* MKS has not developed a contingency plan related to the failure of its
or a third-party's Year 2000 remediation efforts and may not be
prepared for such an event
Further, while MKS has made efforts to notify its customers who have
purchased potential non-compliant products, the Company cannot be sure that
customers who purchased such products will not assert claims against MKS
alleging that such products should have been Year 2000 compliant at the time of
purchase, which could result in costly litigation and divert management's
attention.
Expansion into New Markets
MKS plans to build upon its experience in manufacturing and selling gas
measurement, control and analysis products used by the semiconductor industry by
designing and selling such products for applications in other industries which
use production processes similar to those used in the semiconductor industry.
For example, MKS plans to expand its business to the manufacture of, among other
things, hard coatings to minimize wear on cutting tools. Any failure by the
Company to penetrate additional markets would limit its ability to reduce its
vulnerability to downturns in the semiconductor industry and could have a
material adverse effect on MKS's business, financial condition and results of
operations.
<PAGE> 16
MKS has limited experience selling its products in certain markets outside
the semiconductor industry. The Company cannot be certain that it will be
successful in the expansion of its business outside the semiconductor industry.
MKS's future success will depend in part on its ability to:
* identify new applications for MKS's products
* adapt MKS's products for such applications
* market and sell such products to customers
Expansion of Manufacturing Capacity
During 1999, MKS plans to add manufacturing capacity to its Austin, Texas
operations and further equip its cleanroom facilities in Andover and Methuen,
Massachusetts. MKS's ability to increase sales of certain products depends in
part upon its ability to expand manufacturing capacity for such products in a
timely manner. If the Company is unable to expand manufacturing capacity on a
timely basis or to manage such expansion effectively, its customers could seek
such products from others and its market share could be reduced. Because the
semiconductor industry is subject to rapid demand shifts which are difficult to
foresee, MKS may not be able to increase capacity quickly enough to respond to a
rapid increase in demand in the semiconductor industry. Additionally, capacity
expansion could increase the Company's fixed operating expenses and if sales
levels do not increase to offset the additional expense levels associated with
any such expansion, the Company's business, financial condition and results of
operations could be materially adversely affected.
International Operations and Sales
International sales, which include sales by MKS's foreign subsidiaries, but
exclude direct export sales which were less than 10% of total net sales,
accounted for approximately 30% of net sales in 1996, 27% of net sales in 1997
and 32% of net sales in 1998. MKS anticipates that international sales will
continue to account for a significant portion of net sales. In addition, certain
of MKS's key domestic customers derive a significant portion of their revenues
from sales in international markets. Therefore, MKS's sales and results of
operations could be adversely affected by economic slowdowns and other risks
associated with international sales.
Exchange rate fluctuations could have an adverse effect on MKS's net sales
and results of operations and the Company could experience losses with respect
to its hedging activities. Unfavorable currency fluctuations could require MKS
to increase prices to foreign customers which could result in lower net sales to
such customers. Alternatively, if MKS does not adjust the prices for its
products in response to unfavorable currency fluctuations, its results of
operations could be adversely affected. In addition, sales made by MKS's foreign
subsidiaries are denominated in the currency of the country in which these
products are sold and the currency MKS receives in payment for such sales could
be less valuable at the time of receipt as a result of exchange rate
fluctuations. While MKS enters into forward exchange contracts and local
currency purchased options to reduce currency exposure arising from these sales
and associated intercompany purchases of inventory, MKS cannot be certain that
its efforts will be adequate to protect the Company against significant currency
fluctuations or that such efforts will not expose MKS to additional exchange
rate risks.
Need to Retain and Attract Key Employees
MKS's success depends to a large extent upon the efforts and abilities of a
number of key employees and officers, particularly those with expertise in the
semiconductor manufacturing and similar industrial manufacturing industries. The
loss of key employees or officers could have a material and adverse effect on
MKS's business, financial condition and results of operations. MKS believes that
its future success will depend in part on its ability to attract and retain
<PAGE> 17
highly skilled technical, financial, managerial and marketing personnel.
Competition for such personnel is intense, and MKS cannot be certain that it
will be successful in attracting and retaining such personnel. MKS is the
beneficiary of key-man life insurance policies on John R. Bertucci, Chairman,
Chief Executive Officer and President, in the amount of $7.2 million.
Intellectual Property Matters
Although MKS seeks to protect its intellectual property rights through
patents, copyrights, trade secrets and other measures, MKS cannot be certain
that:
* it will be able to protect its technology adequately
* competitors will not be able to develop similar technology
independently
* any of its pending patent applications will be issued
* intellectual property laws will protect its intellectual property
rights
* third parties will not assert that MKS's products infringe patent,
copyright or trade secrets of such parties
Litigation may be necessary in order to enforce MKS's patents, copyrights
or other intellectual property rights, to protect its trade secrets, to
determine the validity and scope of the proprietary rights of others or to
defend against claims of infringement. Such litigation could result in
substantial costs and diversion of resources and could have a material adverse
effect on the Company's business, financial condition and results of operations.
<PAGE> 18
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Information concerning market risk is contained in the annual Management's
Discussion and Analysis of Financial Condition and Results of Operations in
MKS's recent filings with the Securities and Exchange Commission. There were no
material changes in MKS's exposure to market risk from December 31, 1998.
PART II OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
MKS is not aware of any material legal proceedings to which it or any of its
subsidiaries is a party.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
(d) Use of Proceeds from Sales of Registered Securities. On April 5, 1999 MKS
closed the initial public offering of its Common Stock. The shares of
Common Stock sold in the offering were registered under the Securities Act
of 1933, as amended, on a Registration Statement on Form S-1 (the
"Registration Statement") (Reg. No. 333-71363) that was declared effective
by the Securities and Exchange Commission on March 29, 1999. The 6,000,000
shares offered by MKS under the Registration Statement were sold at a price
of $14.00 per share. NationsBanc Montgomery Securities LLC, Donaldson,
Lufkin, & Jenrette Securities Corporation, and Lehman Brothers Inc., the
managing underwriters of the offering, also exercised an overallotment
option of 375,000 shares on April 28, 1999. The overallotment shares were
sold at a price of $14.00 per share. The aggregate proceeds from the
offering were $89,250,000. In connection with the offering, MKS paid an
aggregate of $6,247,500 in underwriting discounts and commissions to the
underwriters. In addition, the expenses incurred in connection with the
offering were approximately $1,000,000 including $295,000 printing costs,
$205,000 legal costs, $180,000 registration, filing, and related costs,
$150,000 accounting costs, and other costs of $170,000.
After deducting the underwriting discounts and commissions and the offering
expenses described above, the Company received net proceeds from the
offering of approximately $82,002,500.
On April 5, 1999 the Company distributed $40,000,000, which is the
estimated amount of the Company's undistributed S Corporation earnings as
of the day prior to the closing of the offering. The remainder of the net
proceeds will be used for general corporate purposes, including working
capital, product development and capital expenditures. A portion of the net
proceeds may also be used for the acquisition of businesses, products and
technologies that are complementary to those of MKS.
<PAGE> 19
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The 1999 Annual Meeting of the Stockholders of MKS Instruments, Inc. was held on
February 17, 1999. The following resolutions were considered for approval by the
Stockholders:
1) The election of John R. Bertucci, Richard S. Chute, Owen W. Robbins,
Robert J. Therrien, and Louis P. Valente as Directors of the
Corporation;
2) To amend the Restated Articles of Organization, as amended, to
increase the authorized Class A Common Stock, no par value per share,
of the Corporation from 6,000,000 shares to 11,250,000 shares and to
increase the authorized Class B Common Stock, no par value per share,
of the Corporation from 10,000,000 shares to 18,750,000 shares, so
that after the effective date of such amendment the total authorized
capital stock of the Corporation shall consist of 11,250,000 shares of
Class A Common Stock and 18,750,000 shares of Class B Common Stock, no
par value per share;
3) That the amendment and restatement of the Corporation's Restated
Articles of Organization (the "Restated Articles"), to become
effective immediately prior to the closing of the Public Offering, to
(i) convert each outstanding share of Class A Common Stock and each
outstanding share of Class B Common Stock into one share of Common
Stock, no par value per share ("Common Stock"); (ii) delete all
provisions relating to Class A Common Stock and Class B Common Stock;
(iii) authorize for issuance 2,000,000 shares of Preferred Stock, $.01
par value per share, and to authorize the Board of Directors to issue
one or more series of Preferred Stock with such preferences and
privileges as may be determined from time to time by the Board of
Directors; (iv) increase the number of authorized shares of Common
Stock from 30,000,000 shares to 50,000,000 shares; (v) amend the
provisions relating to the limitation of Director liability; (vi) add
a provision authorizing the Board of Directors, subject to certain
limitations, to amend the Corporation's By-Laws; (vii) add a provision
authorizing certain transactions to be approved by the holders of a
majority of the outstanding shares of stock (rather than 2/3 of the
outstanding shares of stock) when such transactions have been approved
by a majority of the Board of Directors; and (viii) elect to not have
Chapter 110F of the Massachusetts General Laws apply to the
Corporation, and as described in the Proxy Statement, be and hereby is
approved and adopted;
4) That the amendment and restatement of the Corporation's By-Laws, to
become effective immediately upon the closing of the Public Offering,
as described in the Proxy Statement, be and hereby is approved and
adopted; and
5) That the 1999 Purchase Plan, as described in the Proxy Statement, be
and hereby is ratified, approved, and adopted, to become effective on
June 1, 1999 if at such time the Corporation's Common Stock is listed
for trading on the Nasdaq National Market or a national securities
exchange.
Resolutions 1, 4, and 5 were unanimously approved with no shares abstaining.
Resolutions 2 and 3 were approved with 18,053,165 votes cast for approval, 2
votes cast against approval, and no shares abstaining.
<PAGE> 20
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Ex. No. Description
27 Financial Data Schedule
(b) Reports on Form 8-K
No reports on Form 8-K were filed during the quarter for which this report
on Form 10-Q is filed.
<PAGE> 21
SIGNATURE
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.
MKS INSTRUMENTS, INC.
May 14, 1999 By: /s/ Ronald C. Weigner
------------------------------------------
Ronald C. Weigner
Vice President and Chief Financial Officer
(Principal Accounting Officer)
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