<PAGE> 1
FORM 10-Q
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended
MARCH 31, 2000
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 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 NO X
---------------- --------
As of April 30, 2000, the Company had 23,589,744 shares of Common Stock, par
value $0.001 per share, outstanding.
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CABOT MICROELECTRONICS CORPORATION
INDEX
Part I. Financial Information Page
----
Item 1. Financial Statements
Combined Statements of Income
Three and Six Months Ended March 31, 2000 and 1999 3
Pro Forma Combined Statements of Income
Three and Six Months Ended March 31, 2000 and 1999 4
Combined Balance Sheets
March 31, 2000 and September 30, 1999 5
Combined Statements of Cash Flows
Six Months Ended March 31, 2000 and 1999 6
Notes to Combined Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 11
Item 3. Quantitative and Qualitative Disclosures About Market Risk 24
Part II. Other Information
Item 1. Legal Proceedings 24
Item 2. Changes in Securities and Use of Proceeds 25
Item 6. Exhibits and Reports on Form 8-K 25
<PAGE> 3
PART I. FINANCIAL INFORMATION
ITEM 1.
CABOT MICROELECTRONICS CORPORATION
COMBINED STATEMENTS OF INCOME
(Unaudited and in thousands, except per share amounts)
<TABLE>
<CAPTION>
Three Months Six Months
Ended March 31 Ended March 31
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Revenue $ 38,289 $ 21,263 $ 72,519 $ 41,588
Revenue - related party 1,046 604 1,862 1,154
-------- -------- -------- --------
39,335 21,867 74,381 42,742
-------- -------- -------- --------
Cost of goods sold 18,600 9,573 33,972 19,059
Cost of goods sold - related party 1,107 604 1,923 1,154
-------- -------- -------- --------
19,707 10,177 35,895 20,213
-------- -------- -------- --------
Gross profit 19,628 11,690 38,486 22,529
Operating expenses:
Research and development 4,648 3,067 9,132 6,512
Selling and marketing 1,580 1,083 2,830 2,037
General and administrative 3,610 2,989 7,506 5,559
Amortization of goodwill and other intangibles 180 180 360 360
-------- -------- -------- --------
Total operating expenses 10,018 7,319 19,828 14,468
-------- -------- -------- --------
Operating income 9,610 4,371 18,658 8,061
Other income (expense) 107 - 107 -
-------- -------- -------- --------
Income before income taxes 9,717 4,371 18,765 8,061
Provision for income taxes 3,500 1,559 6,800 2,872
-------- -------- -------- --------
Net income $ 6,217 $ 2,812 $ 11,965 $ 5,189
======== ======== ======== ========
Pro forma basic and diluted net income per share $ 0.33 $ 0.15 $ 0.63 $ 0.27
======== ======== ======== ========
Pro forma basic and diluted
weighted average shares outstanding 18,990 18,990 18,990 18,990
======== ======== ======== ========
</TABLE>
The accompanying notes are an integral part of these
combined financial statements
3
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CABOT MICROELECTRONICS CORPORATION
PRO FORMA COMBINED STATEMENTS OF INCOME
(Unaudited and in thousands, except per share amounts)
<TABLE>
<CAPTION>
Three Months Six Months
Ended March 31 Ended March 31
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Revenue $ 38,289 $ 21,263 $ 72,519 $ 41,588
Revenue - related party (a) 704 405 1,278 772
-------- -------- -------- --------
38,993 21,668 73,797 42,360
-------- -------- -------- --------
Cost of goods sold (b) 20,391 10,836 37,151 21,574
Cost of goods sold - related party (a) 696 332 1,186 633
-------- -------- -------- --------
21,087 11,168 38,337 22,207
-------- -------- -------- --------
Gross profit 17,906 10,500 35,460 20,153
Operating expenses:
Research and development 4,648 3,067 9,132 6,512
Selling and marketing 1,580 1,083 2,830 2,037
General and administrative 3,610 2,989 7,506 5,559
Amortization of goodwill and other intangibles 180 180 360 360
-------- -------- -------- --------
Total operating expenses 10,018 7,319 19,828 14,468
-------- -------- -------- --------
Operating income 7,888 3,181 15,632 5,685
Other income (expense) (c) (206) (303) (522) (606)
-------- -------- -------- --------
Income before income taxes 7,682 2,878 15,110 5,079
Provision for income taxes (d) 2,767 1,026 5,476 1,810
-------- -------- -------- --------
Net income $ 4,915 $ 1,852 $ 9,634 $ 3,269
======== ======== ======== ========
Pro forma basic and diluted net income per share (e) $ 0.21 $ 0.08 $ 0.41 $ 0.14
======== ======== ======== ========
Pro forma basic and diluted
weighted average shares outstanding (e) 23,590 23,590 23,590 23,590
======== ======== ======== ========
</TABLE>
The accompanying notes are an integral part of these
pro forma combined financial statements
(a) Reflects the revenue and cost of goods sold which would have
resulted had our new dispersions services agreement with Cabot
Corporation been in effect.
(b) Reflects the cost of goods sold which would have resulted had our
new fumed metal oxide supply agreement with Cabot Corporation had
been in effect.
(c) Includes interest expense associated with $17,000 in borrowings we
incurred to finance the dividend to Cabot Corporation.
(d) The effective tax rate for the period presented was applied to pro
forma adjustments to determine the income tax provision or benefit
associated with the pro forma adjustments.
(e) Unaudited pro forma net income per share has been calculated using
the 23,589,744 shares outstanding subsequent to the initial public
offering. Prior to the initial public offering, 18,989,744 shares
were owned by Cabot Corporation.
4
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CABOT MICROELECTRONICS CORPORATION
COMBINED BALANCE SHEETS
(in thousands)
<TABLE>
<CAPTION>
March 31, September 30,
2000 1999
----------- ------------
(unaudited)
<S> <C> <C>
Assets:
Current assets:
Cash $ 41 $ 38
Accounts receivable, less allowance for doubtful
accounts of $150 at March 31, 2000 (unaudited)
and $50 at September 30, 1999 21,344 19,888
Inventories 10,779 5,269
Prepaid expenses and other current assets 1,549 285
Deferred income taxes 640 640
----------- ------------
Total current assets 34,353 26,120
Property, plant and equipment, net 53,961 40,031
Goodwill, net 1,468 1,610
Other intangible assets, net 2,220 2,438
Deferred income taxes 37 75
----------- ------------
Total assets $ 92,039 $ 70,274
=========== ============
Liabilities and division equity:
Current liabilities:
Accounts payable $ 2,710 $ 995
Current portion of long-term debt 1,013 -
Accrued expenses and other current liabilities 7,508 6,780
----------- ------------
Total current liabilities 11,231 7,775
Long-term debt 15,987 -
Deferred compensation 634 422
----------- ------------
Total liabilities 27,852 8,197
Division equity 64,187 62,077
----------- ------------
Total liabilities and division equity $ 92,039 $ 70,274
=========== ============
</TABLE>
The accompanying notes are an integral part of these
combined financial statements
5
<PAGE> 6
CABOT MICROELECTRONICS CORPORATION
COMBINED STATEMENTS OF CASH FLOWS
(in thousands)
<TABLE>
<CAPTION>
Six Months Ended
March 31,
-------------------------------
2000 1999
----------- -----------
(unaudited) (unaudited)
<S> <C> <C>
Cash flows from operating activities:
Net Income $ 11,965 $ 5,189
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 1,876 1,175
Noncash compensation expense 550 450
Provision for inventory writedown 100 -
Deferred income tax expense 38 -
Loss on disposal of property, plant
and equipment 13 -
Changes in operating assets and liabilities:
Accounts receivable (1,457) (3,570)
Inventories (5,532) 984
Prepaid expenses and other current assets (1,263) 90
Accounts payable 1,714 413
Accrued expenses and other current liabilities 1,207 (731)
Deferred compensation 212 94
---------- --------
Net cash provided by operating activities 9,423 4,094
Cash flows from investing activities:
Additions to property, plant and equipment (17,960) (9,577)
Proceeds from the sale of property, plant,
and equipment 1,689 -
---------- --------
Net cash used by investing activities (16,271) (9,577)
---------- --------
Cash flows from financing activities:
Proceeds from issuance of long term debt 17,000 -
Dividend paid to Cabot Corporation (17,000) -
Net capital contributed by Cabot Corporation 6,901 5,511
---------- --------
Net cash provided by financing activities 6,901 5,511
---------- --------
Effect of exchange rate changes on cash (50) 5
---------- --------
Increase (decrease) in cash 3 33
Cash at beginning of period 38 5
---------- --------
Cash at end of period $ 41 $ 38
========== ========
</TABLE>
The accompanying notes are an integral part of
these combined financial statements
6
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CABOT MICROELECTRONICS CORPORATION
NOTES TO COMBINED FINANCIAL STATEMENTS
(Unaudited and in thousands, except per share amounts)
1. BASIS OF PRESENTATION
The unaudited combined financial statements have been prepared by Cabot
Microelectronics Corporation ("CMC", "Cabot Microelectronics", "us",
"we", or "our"), pursuant to the rules of the Securities and Exchange
Commission ("SEC"). In the opinion of management, these unaudited
combined financial statements include all adjustments necessary for the
fair presentation of Cabot Microelectronics' results of operations for
the three and six months ended March 31, 2000 and March 31, 1999,
financial position as of March 31, 2000, and cash flows for the six
months ended March 31, 2000 and March 31, 1999. The results of
operations for the three and six months ended March 31, 2000 may not be
indicative of the results to be expected for the fiscal year ended
September 30, 2000. These combined financial statements should be read
in conjunction with the combined financial statements and related notes
thereto included in Cabot Microelectronics' Registration Statement on
Form S-1 (No. 333-95093).
Our combined financial statements reflect the historical results of
operations and cash flows of the Microelectronics Materials Division
(the "Division") of Cabot Corporation ("Cabot") during each respective
period. The combined financial statements include the accounts of each
subsidiary or part of each subsidiary which forms the Division.
Intercompany transactions between entities within the Division have
been eliminated.
The combined balance sheets have been prepared using the historical
basis of accounting and include all of the assets and liabilities
specifically identifiable to the Division. The combined statements of
income include all revenue and costs attributable to the Division,
including a corporate allocation of employee benefits and costs of
shared services (including legal, finance, human resources, information
systems, corporate office, and safety, health and environmental
expenses). These costs are allocated to the Division based on criteria
that management believes to be equitable, such as the Division's
revenue, headcount, or actual utilization in proportion to Cabot's
revenue, headcount, or actual utilization. Management believes this
provides a reasonable estimate of the costs attributable to the
Division. For the six months ended March 31, 1999 and 2000, such
allocated costs amounted to $2,448 and $3,021, respectively. Allocated
costs may not necessarily be indicative of the costs that would have
been incurred by the Division on a stand-alone basis.
The financial information submitted herewith is unaudited and reflects
all adjustments which are, in the opinion of management, necessary to
provide a fair statement of the results for the interim periods ended
March 31, 2000 and March 31, 1999. All such adjustments are of a normal
recurring nature. The results for the interim periods are not
necessarily indicative of the results to be expected for the fiscal
year.
2. SEPARATION FROM CABOT CORPORATION AND INITIAL PUBLIC OFFERING
In July 1999, Cabot Corporation announced its plans to create an
independent publicly-traded company, Cabot Microelectronics
Corporation, comprised of its Microelectronics Materials Division.
Following the completion of Cabot Microelectronics' initial public
offering in April 2000, Cabot owns approximately 80.5% of Cabot
Microelectronics' outstanding common stock. Cabot has announced it
plans to distribute to Cabot shareholders the remaining CMC common
shares outstanding within six to twelve months after the date of a
private letter ruling which was recently received from the Internal
Revenue Service ("IRS") confirming the spin-off is tax-free to Cabot.
However, Cabot is not obligated to complete the spin-off in this time
frame or at all.
Cabot Microelectronics Corporation completed its initial public
offering in April 2000, receiving net proceeds of $82.6 million, after
deducting underwriting commissions and estimated offering expenses,
7
<PAGE> 8
CABOT MICROELECTRONICS CORPORATION
NOTES TO COMBINED FINANCIAL STATEMENTS - (Continued)
(Unaudited and in thousands, except per share amounts)
2. SEPARATION FROM CABOT CORPORATION AND INITIAL PUBLIC OFFERING
(CONTINUED)
from the sale of 4,600,000 shares of common stock. CMC has paid Cabot,
in aggregate, dividends of $81.3 million. $17.0 million was paid from
borrowings under our new term credit facility prior to the initial
public offering while $64.3 million was paid using proceeds from the
initial public offering.
3. NET INCOME PER SHARE
Unaudited, pro forma basic and diluted net income per share are
calculated using the 18,989,744 shares that were owned by Cabot
Corporation prior to the closing of the initial public offering. These
shares take into consideration a 18,989.744 to 1 stock split which
occurred subsequent to March 31, 2000, but prior to the completion of
the initial public offering. In future periods, basic net income per
share will be calculated based on the weighted average shares of common
stock outstanding during the period, and diluted earnings per share
will be calculated based on the weighted average of common stock
outstanding, plus the dilutive effect of stock options, among other
things, calculated using the treasury stock method.
4. COMPREHENSIVE INCOME
The components of comprehensive income are as follows (in thousands):
Three Months Six Months
Ended March 31, Ended March 31,
2000 1999 2000 1999
---- ---- ---- ----
Net Income $6,217 $2,812 $11,965 $5,189
Other comprehensive income:
Foreign currency
translation adjustment (339) (110) (305) (108)
------ -------- ------- --------
Total comprehensive income $5,878 $2,702 $11,660 $5,081
====== ====== ======= ======
5. INVENTORIES
Inventories consisted of the following:
March 31, September 30,
2000 1999
---- ----
(unaudited)
Raw materials $ 6,196 $3,297
Work in process 38 73
Finished goods 4,545 1,899
-------- ------
Total $10,779 $5,269
======== ======
8
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CABOT MICROELECTRONICS CORPORATION
NOTES TO COMBINED FINANCIAL STATEMENTS - (Continued)
(Unaudited and in thousands, except per share amounts)
6. DEBT
We have borrowed $17,000 under our new term credit facility and paid
the proceeds of this borrowing to Cabot as a dividend. Under our
initial public offering and distribution agreement with Cabot, we
agreed not to incur more than $50,000 in indebtedness so long as Cabot
owns at least 50% of our outstanding common stock.
7. LITIGATION
In June 1998, one of our major competitors, Rodel Inc., filed a lawsuit
against Cabot in the United States District Court for the District of
Delaware entitled Rodel, Inc. v. Cabot Corporation (Civil Action No.
98-352). In this lawsuit, Rodel has requested a jury trial and is
seeking a permanent injunction and an award of compensatory, punitive,
and other damages relating to allegations that Cabot is infringing
United States Patent No. 4,959,113 (entitled "Method and Composition
for Polishing Metal Surfaces"), which is owned by an affiliate of
Rodel. We refer to this patent as the Roberts patent and this lawsuit
as the Roberts lawsuit. Cabot filed an answer and counterclaim seeking
dismissal of the Roberts lawsuit with prejudice, a judgment that Cabot
is not infringing the Roberts patent and/or that the Roberts patent is
invalid, and other relief. Cabot subsequently filed a motion for a
summary judgment that the Roberts patent is invalid because all of the
claims contained in the patent were not sufficiently different under
applicable patent law from subject matter contained in previously
granted patents, specifically United States Patents Nos. 4,705,566,
4,956,015 and 4,929,257, each of which is owned by a third party not
affiliated with Rodel or us. This motion was denied on September 30,
1999 based on the court's finding that there were genuine issues of
material fact to be determined at trial. Although the Roberts lawsuit
is presently in the discovery stage and trial is scheduled to begin in
November 2000, the trial date has not yet been scheduled. After the
ruling on the summary judgment motion, Rodel filed a request for
reexamination of the Roberts patent with the United States Patent and
Trademark Office, which was granted on November 12, 1999.
In April 1999, Rodel commenced a second lawsuit against Cabot in the
United States District Court for the District of Delaware entitled
Rodel, Inc. v. Cabot Corporation (Civil Action No. 99-256). In this
lawsuit, Rodel has requested a jury trial and is seeking a permanent
injunction and an award of compensatory, punitive, and other damages
relating to allegations that Cabot is infringing two other patents
owned by an affiliate of Rodel. These two patents are United States
Patent No. 5,391,258 (entitled "Compositions and Methods for
Polishing") and United States Patent No. 5,476,606 (entitled
"Compositions and Methods for Polishing"). We refer to these patents as
the Brancaleoni patents and this lawsuit as the Brancaleoni lawsuit.
Cabot has filed an answer and counterclaim to the complaint seeking
dismissal of the complaint with prejudice, a judgment that Cabot is not
infringing the Brancaleoni patents and/or that the Brancaleoni patents
are invalid, and other relief. The Brancaleoni lawsuit is presently in
the discovery stage which is currently scheduled to be completed by
February 25, 2000. Trial is presently scheduled to commence on December
4, 2000. The parties have jointly requested that the court extend these
dates.
In the Roberts lawsuit, the only product that Rodel to date has alleged
infringes the Roberts patent is our W2000 slurry, which is used to
polish tungsten and which currently accounts for a significant portion
of our total revenue. In the Brancaleoni lawsuit, Rodel has not alleged
that any specific product infringes the Brancaleoni patents; instead,
Rodel alleges that our United States Patent No. 5,858,813 (entitled
"Chemical Mechanical Polishing Slurry for Metal Layers and Films" and
which relates to a CMP polishing slurry for metal surfaces including,
among other things, aluminum and copper) is evidence that Cabot is
infringing the Brancaleoni patents through the manufacture and sales of
unspecified products. At this stage, we cannot predict whether or to
what extent Rodel will make specific infringement claims with respect
to any of our products other than W2000 in these or any future
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CABOT MICROELECTRONICS CORPORATION
NOTES TO COMBINED FINANCIAL STATEMENTS - (Continued)
(Unaudited and in thousands, except per share amounts)
7. LITIGATION (CONTINUED)
proceedings. It is possible that Rodel will claim that many of our
products infringe its patents.
Although Cabot is the only named defendant in these lawsuits, we have
agreed to indemnify Cabot for any and all losses and expenses arising
out of this litigation as well as any other litigation arising out of
our business. While we believe there are meritorious defenses to the
pending actions and intend to defend them vigorously, these defenses
may not be successful. If Rodel prevails in either of these cases, we
may have to pay damages and, in the future, may be prohibited from
producing any products found to infringe or required to pay Rodel
royalty and licensing fees with respect to sales of those products.
8. RECENT ACCOUNTING PRONOUNCEMENTS
In April 1998, the AICPA issued Statement of Position 98-5, "Reporting
on the Costs of Start-Up Activities" ("SOP 98-5"). SOP 98-5 requires
companies to expense start-up and organization costs as incurred. SOP
98-5 broadly defines start-up activities and provides examples to help
entities determine costs that are and are not within the scope of SOP
98-5. SOP 98-5 is effective for Cabot Microelectronics in fiscal 2000.
We do not expect the impact of adopting SOP 98-5 to be material to our
financial condition or results of operations.
In June 1998, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities" ("SFAS 133"). SFAS 133 establishes new standards of
accounting and reporting for derivative instruments and hedging
activities. SFAS 133 requires that all derivatives be recognized at
fair value in the balance sheet, and the corresponding gains and losses
be reported either in the statement of income or as a component of
comprehensive income, depending on the type of hedging relationship
that exists. We do not expect the impact of SFAS 133, which will be
effective for fiscal 2001, to be significant given our limited use of
derivatives.
In December 1999, the SEC released Statement of Accounting Bulletin No.
101 ("SAB 101"), which provides guidance on the recognition,
presentation and disclosure of revenue in financial statements filed
with the SEC. Cabot Microelectronics Corporation is required to be in
conformity with the provisions of SAB 101 no later than October 1, 2000
and we do not expect a material change in our financial condition or
results of operations as a result of SAB 101.
10
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CABOT MICROELECTRONICS CORPORATION
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" 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 prospects, our future results of operations or financial
position and statements preceded by, followed by or that include the words
"intends", "estimates", "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. For more information, refer to our
S-1 Registration Statement (No. 333-95093) and final prospectus filed with the
SEC in connection with our initial public offering.
OVERVIEW
Prior to the initial public offering on April 4, 2000, we operated as a division
of Cabot Corporation, a global chemical manufacturing company based in Boston,
Massachusetts. Cabot Microelectronics is the leading supplier of slurries used
in chemical mechanical planarization, or CMP. CMP is a polishing process used by
integrated circuit, or IC, device manufacturers to planarize many of the
multiple layers of material that are built upon silicon wafers to produce
advanced IC devices. Planarization is a polishing process that levels and
smooths, and removes the excess material from the surfaces of these layers. CMP
slurries are liquids containing abrasives and chemicals that facilitate and
enhance this polishing process. CMP assists IC device manufacturers in producing
smaller, faster and more complex IC devices with fewer defects. We believe CMP
will become increasingly important in the future as manufacturers seek to
further shrink the size of these devices and improve their performance. Most of
our CMP slurries are used to polish insulating layers and the tungsten plugs
that go through the insulating layers and connect the multiple wiring layers of
IC devices. We have developed and have begun limited sales of new CMP slurries
that our customers use for polishing the coating on the hard disks and the
magnetic heads in hard disk drives and continue to develop slurries for
additional new applications. In addition, we have recently begun producing and
selling polishing pads used in the CMP process.
PRO FORMA RESULTS
The following management's discussion of results of operations contains
unaudited pro forma results which reflect adjustments to our historical results
of operations to give effect to various transactions as if those transactions
had been consummated as of the periods presented. We historically sold various
dispersion products to Cabot at our cost of manufacturing. We have entered into
a new dispersion services agreement with Cabot, which became effective upon the
completion of the initial public offering, under which we will provide
dispersion products to Cabot at our cost plus a standard margin. Under the new
agreement, Cabot will supply us with the fumed metal oxide raw materials for
these dispersions at no cost to us, which will reduce both our cost of goods
sold and revenue for these dispersions. In addition, we historically purchased
fumed metal oxides, critical raw materials for our slurries, from Cabot at
Cabot's budgeted standard cost. We have entered into a new fumed metal oxide
supply agreement with Cabot which became effective upon the completion of the
initial public offering under which we will purchase fumed metal oxides at a
contractually agreed upon price. The agreement provides for fixed price
increases each year and other price increases if Cabot's cost of producing fumed
11
<PAGE> 12
metal oxides increases. We believe the assumptions used provide a reasonable
basis for presenting the significant effects directly attributable to the
transactions discussed above. The unaudited pro forma results of income are not
necessarily indicative of the results that would have been reported had such
events actually occurred on the dates specified, nor are they indicative of our
future results.
RESULTS OF OPERATIONS
THREE MONTHS ENDED MARCH 31, 2000 VERSUS THREE MONTHS ENDED MARCH 31, 1999
REVENUE
Total revenue was $39.3 million for the three months ended March 31, 2000, which
represented an 80%, or $17.5 million, increase from the three months ended March
31, 1999. Revenue from external sales was $38.3 million for the three months
ended March 31, 2000, which represented an increase of 80%, or $17.0 million,
from the three months ended March 31, 1999. Of this increase, $12.6 million was
due to a 59% increase in volume and $4.4 million was due to increased weighted
average selling prices. The volume growth was driven by the increased use of CMP
slurries in the manufacture of IC devices.
COST OF GOODS SOLD
Total cost of goods sold was $19.7 million for the three months ended March 31,
2000, which represented an increase of 94% or $9.5 million from the three months
ended March 31, 1999. Cost of goods sold related to external sales was $18.6
million for the three months ended March 31, 2000, which represented an increase
of 94%, or $9.0 million, from the three months ended March 31, 1999. Of this
increase, $5.7 million was due to higher sales volume and $3.3 million was due
to higher weighted average costs per gallon. These higher costs resulted from
improved quality requirements and higher manufacturing and distribution costs
associated with our increased activities in the Asia Pacific region.
Because we sell products to Cabot at cost, our related party cost of goods sold
approximates our related party revenue. On a pro forma basis, total cost of
goods sold would have been $21.1 million, which reflects the new fumed metal
oxide supply and dispersion services agreements with Cabot.
GROSS PROFIT
Our gross profit as a percentage of net revenue was 50% for the three months
ended March 31, 2000 as compared to 53% for the three months ended March 31,
1999. The decline in gross profit resulted primarily from higher material costs
and quality improvement initiatives. Pro forma gross profit as a percentage of
net revenue was 46 % for the three months ended March 31, 2000 as compared to
48% for the three months ended March 31, 1999.
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<PAGE> 13
RESEARCH AND DEVELOPMENT
Research and development expenses were $4.7 million in the three months ended
March 31, 2000, which represented an increase of 52%, or $1.6 million, from the
three months ended March 31, 1999. Of this increase, $0.9 million was due to
staffing and $0.5 million related to higher laboratory supply costs and other
operating expenses associated with the clean room. Also, $0.4 million was
incurred relating to outsourced development expenses. These increases were
partially offset by $0.2 million in decreased R&D allocations from Cabot
Corporation. Key activities during the three months ended March 31, 2000
involved the continued development of advanced particle technology, new and
enhanced slurry products and new CMP polishing pad technology.
SELLING AND MARKETING
Selling and marketing expenses were $1.6 million in the three months ended March
31, 2000, which represented an increase of 46%, or $0.5 million, for the three
months ended March 31, 1999. The increase was primarily due to the hiring of
additional customer support personnel in our North America, Japan and Taiwan
offices.
GENERAL AND ADMINISTRATIVE
General and administrative expenses were $3.6 million in the three months ended
March 31, 2000, which represented an increase of 21%, or $0.6 million, from the
three months ended March 31, 1999. The increase is primarily due to a $0.6
million increase in compensation and fringe benefit expenses needed to support
the general growth of the business and $0.4 million in operating costs
associated with the new corporate office building. These increases were
partially offset by $0.5 million in decreased outside legal costs due to reduced
activity associated with patent disputes.
AMORTIZATION OF GOODWILL AND OTHER INTANGIBLES
Amortization of goodwill and other intangibles was $0.2 million in the three
months ended March 31, 2000 and the three months ended March 31, 1999 and
related to goodwill and other intangible assets associated with the acquisition
of selected distributor assets from a third party in 1995.
PROVISION FOR INCOME TAXES
The effective tax rate on income from operations was 36% in the three months
ended March 31, 2000 and the three months ended March 31, 1999.
NET INCOME
Net income was $6.2 million in the three months ended March 31, 2000, which
represented an increase of 121%, or $3.4 million, from the three months ended
March 31, 1999 as a result of the factors discussed above. Pro forma net income
was $4.9 million in the three months ended March 31, 2000, which represented an
increase of 165%, or $3.1 million, from the pro forma net income for the three
months ended March 31, 1999.
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SIX MONTHS ENDED MARCH 31, 2000 VERSUS SIX MONTHS ENDED MARCH 31, 1999
REVENUE
Total revenue was $74.4 million for the six months ended March 31, 2000, which
represented a 74%, or $31.6 million, increase from the six months ended March
31, 1999. Revenue from external sales was $72.5 million for the six months ended
March 31, 2000, which represented an increase of 74%, or $30.9 million, from the
six months ended March 31, 1999. Of this increase, $22.4 million was due to a
54% increase in volume and $8.6 million was due to increased weighted average
selling prices.
COST OF GOODS SOLD
Total cost of goods sold was $35.9 million for the six months ended March 31,
2000, which represented an increase of 78% or $15.7 million from the six months
ended March 31, 1999. Cost of goods sold related to external sales was $34.0
million for the six months ended March 31, 2000, which represented an increase
of 78%, or $14.9 million, from the six months ended March 31, 1999. Of this
increase, $10.2 million was due to higher sales volume and $4.7 million was due
to higher weighted average costs per gallon. These higher costs resulted from
higher distribution costs resulting from the shift of some sales previously sold
through distributors to sales directly to customers in Japan and for raw
materials shipped to our manufacturing plant in Japan. Higher manufacturing
costs were also resulted from improved quality requirements and higher
manufacturing and distribution costs associated with our increased activities in
the Asia Pacific region.
Because we sell products to Cabot at cost, our related party cost of goods sold
approximates our related party revenue. On a pro forma basis, total cost of
goods sold would have been $38.3 million, which reflects the new fumed metal
oxide supply and dispersion services agreements with Cabot.
GROSS PROFIT
Our gross profit as a percentage of net revenue was 52% for the six months ended
March 31, 2000 as compared to 53% for the six months ended March 31, 1999. The
decline in gross profit resulted primarily from higher material costs and
quality improvement initiatives. Pro forma gross profit as a percentage of net
revenue was 48% for both periods.
RESEARCH AND DEVELOPMENT
Research and development expenses were $9.1 million in the six months ended
March 31, 2000, which represented an increase of 40%, or $2.6 million, from the
six months ended March 31, 1999. Of this increase, $1.3 million represents
additional personnel and related relocation expenses, $1.1 million resulted from
higher laboratory supply costs and other operating expenses associated with the
clean room. Also, $0.4 million was incurred relating to outsourced development
expenses. These increases were partially offset by $0.2 million in decreased R&D
allocations from Cabot Corporation. Key activities during the six months ended
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March 31, 2000 involved the continued development of advanced particle
technology, new and enhanced slurry products and new CMP polishing pad
technology.
SELLING AND MARKETING
Selling and marketing expenses were $2.8 million in the six months ended March
31, 2000, which represented an increase of 39%, or $0.8 million, for the six
months ended March 31, 1999. The increase was primarily due to the hiring of
additional customer support personnel in our North America, Japan and Taiwan
offices.
GENERAL AND ADMINISTRATIVE
General and administrative expenses were $7.5 million in the six months ended
March 31, 2000, which represented an increase of 35%, or $2.0 million, from the
six months ended March 31, 1999. The increase was primarily due to $1.3 million
of additional compensation and fringe benefit expenses needed to support the
general growth of our business and $0.6 in operating costs associated with the
new corporate office building.
AMORTIZATION OF GOODWILL AND OTHER INTANGIBLES
Amortization of goodwill and other intangibles was $0.4 million in the six
months ended March 31, 2000 and the six months ended March 31, 1999 and related
to goodwill and other intangible assets associated with the acquisition of
selected distributor assets from a third party in 1995.
PROVISION FOR INCOME TAXES
The effective tax rate on income from operations was 36% in the six months ended
March 31, 2000 and the six months ended March 31, 1999.
NET INCOME
Net income was $12.0 million in the six months ended March 31, 2000, which
represented an increase of 131%, or $6.8 million, from the six months ended
March 31, 1999 as a result of the factors discussed above. Pro forma net income
was $9.6 million in the six months ended March 31, 2000, which represented an
increase of 195%, or $6.4 million, from the six months ended March 31, 1999.
LIQUIDITY AND CAPITAL RESOURCES
We had cash flows from operating activities of $9.4 million in the six months
ended March 31, 2000 and $4.1 million in the six months ended March 31, 1999.
Our cash provided by operating activities originated from net income from
operations of $12.0 million plus non-cash items of $2.5 million, offset by a net
increase in working capital of $5.1 million. Our principal capital requirements
have been to fund working capital requirements and additions to property, plant
and equipment that support the expansion of our business. In the six months
ended March 31, 2000, cash flows used in investing activities were $16.3
million, primarily due to the construction of our Aurora, Illinois manufacturing
facility, the purchase of land in Korea for a new distribution facility and the
purchase of research and development equipment. In the six months ended March
31, 1999, cash flows used in investing activities were $9.6 million due to
manufacturing capacity increases, the acquisition of research and development
equipment and land and construction of our new headquarters building in Aurora,
Illinois. Cash flows from financing activities of $6.9 million for the six
months ended March 31, 2000 resulted from capital contributions from Cabot
Corporation. In addition, we borrowed $17.0 million under our new term credit
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facility and paid the proceeds of this borrowing to Cabot as a dividend. Cash
flows from financing activities for the six months ended December 31, 1999 were
$5.5 and resulted from capital contributions from Cabot.
We believe we have the financial resources needed to meet business requirements
for the next twelve months, including capital expenditures for the expansion of
worldwide manufacturing capacity and working capital requirements.
FACTORS AFFECTING FUTURE OPERATING RESULTS
RISKS RELATING TO OUR BUSINESS
WE HAVE RECENTLY BEGUN OPERATING AS A STAND-ALONE ENTITY AND OUR BUSINESS COULD
SUFFER IF WE FAIL TO DEVELOP THE SYSTEMS AND INFRASTRUCTURE NECESSARY TO SUPPORT
OUR BUSINESS AS A STAND-ALONE ENTITY
Since our initial public offering we have been operating for the first time as a
stand-alone entity. Accordingly, we are developing and implementing the systems
and infrastructure necessary to support our current and future business. If we
fail to develop these systems and infrastructure, our business will suffer. We
had been a part of Cabot since we began developing CMP slurries in 1985. We were
organized as a separate division of Cabot in July 1995. Cabot has historically
provided us with operational, financial and other support. Although Cabot is
providing us with the various interim and ongoing services, these arrangements
will terminate upon the spin-off. After the expiration of these various
arrangements, we may not be able to replace the interim and ongoing services on
terms and conditions, including costs, as favorable as those we had as a
division of Cabot or pursuant to these arrangements. We also may not be able to
develop the necessary systems and infrastructure to operate as a stand-alone
entity. Any failure to do so could seriously harm our business, results of
operations and financial condition.
HISTORICAL FINANCIAL INFORMATION MAY NOT BE REPRESENTATIVE OF OUR RESULTS AS A
SEPARATE COMPANY.
The historical financial information we have presented may not reflect what our
results of operations, financial position and cash flows would have been had we
been a separate, stand-alone entity during the periods presented and may not be
indicative of what our results of operations, financial position and cash flows
will be in the future. As a result, information to evaluate our business is
limited. This is because:
- - as a division of Cabot, Cabot provided us with various services and
allocated expenses for these services to us in amounts that may not have
been the same as the expenses we would have incurred had we performed or
acquired these services ourselves;
- - we have changed our fumed metal oxide supply and dispersion services
arrangements with Cabot and the prices we are paying under our new
agreements are higher than the prices we paid in the past; and
- - the information does not reflect other events and changes that will occur
as a result of our separation from Cabot, including the establishment of
our capital structure, the incurrence of debt and changes in our expenses
as a result of new employee, tax and other structures and matters.
WE HAVE A NARROW PRODUCT RANGE AND OUR PRODUCTS MAY BECOME OBSOLETE, OR
TECHNOLOGICAL CHANGES MAY REDUCE OR LIMIT INCREASES IN CMP CONSUMPTION
Our business is substantially dependent on a single class of products, CMP
slurries, which historically has accounted for almost all of our revenue. Our
business would suffer if these products became obsolete or if consumption of
these products decreased. Our success depends on our ability to keep pace with
technological changes and advances in the semiconductor industry and to adapt
and improve our products in response to evolving customer needs and industry
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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, including:
- - increased competition from new or existing producers of CMP slurries,
including the introduction of new or substitute products;
- - a shift toward recycling slurries;
- - the adoption of a new process to create the wiring in IC devices, known as
dual damascene, which may reduce the number of CMP steps required to
produce an IC device and which we expect will become predominant in IC
device manufacturing in the next five to ten years; and
- - advances in CMP technology that make it possible to perform CMP without a
slurry.
There may also be physical and other limits on the ability of IC device
manufacturers to continue to shrink the size and increase the density of IC
devices, which are trends currently driving the growth in CMP. Any of the
foregoing developments could cause a decline in the CMP slurry market in general
or seriously harm our business, financial condition and results of operations in
particular.
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.
For 1999, our five largest customers accounted for approximately 58% of our
revenue, with Intel accounting for approximately 22% of our revenue, Marketech
accounting for approximately 15% of our revenue, and Takasago accounting for
approximately 10% of our revenue. Marketech and Takasago are distributors. For
the six months ended March 31, 2000, our five largest customers accounted for
approximately 55% of our revenue, with Intel accounting for approximately 12% of
our revenue, Marketech accounting for approximately 14% of our revenue, and
Takasago accounting for approximately 11% of our revenue. The decline in the
percentage of our total revenue attributable to sales to Intel resulted from,
among other things, Intel's decision to significantly reduce purchases of one
type of CMP slurry from us.
IF WE LOSE PENDING OR FUTURE INTELLECTUAL PROPERTY LAWSUITS RELATING TO OUR
BUSINESS, WE COULD BE LIABLE FOR SIGNIFICANT DAMAGES AND LEGAL EXPENSES AND
COULD BE ENJOINED FROM MANUFACTURING OUR SLURRY PRODUCTS
Cabot is currently the subject of two lawsuits against it involving infringement
claims relating to our business. If Cabot or we were to lose these or future
lawsuits, we could be liable for significant damages and legal expenses and
could be enjoined from manufacturing our slurry products. Although Cabot is the
only named defendant in these lawsuits, we have agreed to indemnify Cabot for
any and all losses and expenses arising out of this litigation as well as any
other litigation arising out of our business.
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In June 1998, Rodel, Inc. commenced a lawsuit against Cabot in the United States
District Court for the District of Delaware seeking injunctive relief and
damages relating to allegations that Cabot is infringing a United States patent
owned by an affiliate of Rodel that relates to polishing metal surfaces. In
April 1999, Rodel commenced a second lawsuit against Cabot in the same court
seeking injunctive relief and damages relating to allegations that Cabot is
infringing two other United States patents owned by an affiliate of Rodel. Rodel
may claim many of our products infringe its patents. The defense of these claims
may not be successful. If Rodel wins either of these cases, we may have to pay
damages and, in the future, may be prohibited from producing any products found
to infringe those patents or required to pay Rodel royalty and licensing fees
with respect to sales of those products.
In addition, we may be subject to future infringement claims by Rodel or others
with respect to our products and processes. These claims, even if they are
without merit, could be expensive and time consuming to defend and if we were to
lose any future infringement claims we could be subject to injunctions, damages
and/or royalty or licensing agreements. Royalty or licensing agreements, if
required as a result of any pending or future claims, may not be available to us
on acceptable terms or at all. Moreover, we have agreed to indemnify one of our
major customers for any losses this customer may incur as a result of
intellectual property claims brought against it arising out of its purchase or
use of our products.
ANY PROBLEM OR INTERRUPTION IN OUR SUPPLY FROM CABOT OF FUMED METAL OXIDES, OUR
MOST IMPORTANT RAW MATERIALS, COULD DELAY OUR SLURRY PRODUCTION AND ADVERSELY
AFFECT OUR SALES
Fumed metal oxides 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. Cabot is currently our exclusive supplier of fumed
metal oxides. We have entered into a fumed metal oxide supply agreement with
Cabot, which became effective upon completion of the initial public offering and
under which Cabot will continue to be our exclusive supplier of fumed metal
oxides for our current slurry products. We also expect Cabot will be our primary
supplier of fumed metal oxides for products we develop in the future.
Our continued supply of fumed metal oxides from Cabot is subject to a number of
risks, including:
- - the destruction of one of Cabot's fumed metal oxides manufacturing
facilities, particularly its Tuscola facility, or its distribution
infrastructure;
- - a work stoppage or strike by Cabot employees who manufacture fumed metal
oxides;
- - the failure of Cabot to provide fumed metal oxides of the requisite quality
for production of our various CMP slurries;
- - the failure of essential fumed metal oxides manufacturing equipment at a
Cabot plant;
- - the failure or shortage of supply of raw materials to Cabot; and
- - contractual amendments and disputes with Cabot, including those relating to
the fumed metal oxide supply agreement.
Any of these factors could interfere with our ability to produce our CMP
slurries in the quantities and of the quality required by our customers and in
accordance with their delivery schedules. It may also be difficult to secure
alternative sources of fumed metal oxides in the event Cabot encounters supply
problems.
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 Cabot
manufacturing facility, our customers might be forced to requalify our CMP
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slurries for their manufacturing processes and products. The requalification
process would likely take a significant amount of time to complete, during which
our sales of CMP slurries to these customers could be interrupted or reduced.
We have also specifically engineered our slurry chemistries with the fumed metal
oxides currently used in the production of our CMP products. A change in the
fumed metal oxides we use to make our slurry products could require us to modify
our chemistries. This modification may involve a significant amount of time and
cost to complete and therefore 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 OR OFFER BETTER PRICING TERMS OR SERVICE, 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.
We are aware of only four other manufacturers of CMP slurries currently selling
significant volumes to IC device manufacturers. 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.
OUR INABILITY TO ATTRACT AND RETAIN KEY MANAGEMENT PERSONNEL OR TECHNICAL
EMPLOYEES COULD CAUSE OUR BUSINESS TO SUFFER
If we fail to recruit and retain the necessary management personnel, our
business and our ability to maintain existing and obtain new customers, develop
new products and provide acceptable levels of customer service could suffer. The
success of our business is also heavily dependent on the leadership of our key
management personnel, all of whom are employees-at-will. We have no key man
insurance on any of our personnel. The loss of any number of our key management
personnel could harm our business and results of operations.
Our success also depends on our ability to recruit, retain and motivate
technical personnel for our research and development activities. Competition for
qualified personnel, particularly those with significant experience in the CMP
and IC device industries, is intense, and we may not be able to successfully
recruit, train or retain these employees. The loss of services of any key
technical employee could harm our business generally as well as our ability to
research and develop new and existing products and to provide technical support
and service to our customers.
BECAUSE WE HAVE LIMITED EXPERIENCE IN MANUFACTURING AND SELLING CMP POLISHING
PADS AND SLURRIES FOR CMP POLISHING OF THE MAGNETIC HEADS AND THE COATING ON
HARD DISKS IN HARD DISK DRIVES, EXPANSION OF OUR BUSINESS INTO THESE AREAS AND
APPLICATIONS 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 and slurries for CMP
polishing of the magnetic heads and the coating on hard disks in hard disk
drives. We have had limited experience in developing and marketing these
products, particularly polishing pads, which involve technologies and production
processes that are new to us. For these reasons, the expansion of our business
into these new product areas or applications may not be successful.
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BECAUSE WE RELY HEAVILY ON OUR INTELLECTUAL PROPERTY, OUR FAILURE TO ADEQUATELY
PROTECT IT COULD SERIOUSLY HARM OUR BUSINESS
Protection of intellectual property is particularly important in our industry
because CMP slurry manufacturers develop complex and technical formulas for CMP
slurries 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 1999, approximately 46% of our revenue was generated by sales to
customers outside the United States. For the six months ended March 31, 2000,
approximately 51% of our revenue was generated by sales to customers outside the
United States. We encounter potential risks in doing business in foreign
countries, including:
- - the difficulty of enforcing agreements and collecting receivables through
some foreign legal systems;
- - foreign customers may have longer payment cycles than customers in the
United States;
- - tax rates in some foreign countries may exceed those of the United States
and foreign earnings may be subject to withholding requirements or the
imposition of tariffs, exchange controls or other restrictions;
- - general economic and political conditions in the countries where we operate
may have an adverse effect on our operations in those countries;
- - the difficulties associated with managing a large organization spread
throughout various countries; and
- - the potential difficulty in enforcing intellectual property rights in some
foreign countries.
As we continue to expand our business globally, our success will depend, in
part, on our ability to anticipate and effectively manage these and other risks.
EXCHANGE RATE FLUCTUATIONS COULD ADVERSELY AFFECT OUR FINANCIAL RESULTS
As a result of our international operations, we expect to generate an increasing
portion of our revenue and incur a significant portion of our expenses in
currencies other than U.S. dollars. To the extent we are unable to match revenue
received in foreign currencies with costs paid in the same currency, exchange
rate fluctuations in any foreign currency could have a negative impact on our
financial condition or results of operations.
The financial condition and results of operations of some of our operating
entities are reported in various foreign currencies and then translated into
U.S. dollars at the applicable exchange rate for inclusion in our combined
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financial statements. As a result, appreciation of the U.S. dollar against these
foreign currencies will have a negative impact on our reported revenue and
operating profits.
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. 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.
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. Because we have agreed with Cabot that we will not issue
any securities if doing so would reduce Cabot's ownership of us to less than
80.5% prior to the spin-off, our ability to raise capital through further sales
of equity securities is limited until the spin-off occurs. 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
WE WILL BE CONTROLLED BY CABOT AS LONG AS IT OWNS A MAJORITY OF OUR COMMON STOCK
AND OUR OTHER STOCKHOLDERS WILL BE UNABLE TO AFFECT THE OUTCOME OF STOCKHOLDER
VOTING DURING THAT TIME
Cabot owns approximately 80.5% of our outstanding shares of common stock. Under
the initial public offering and distribution agreement that we have entered into
with Cabot, Cabot has the right to maintain an 80.5% ownership of our common
stock until the spin-off. As long as Cabot owns a majority of our outstanding
common stock, Cabot will continue to be able to elect our entire board of
directors and generally to determine the outcome of all corporate actions
requiring stockholder approval. As a result, Cabot is in a position to continue
to control all matters affecting our company. Cabot has indicated it intends to
divest its remaining equity interest in us within six to twelve months after the
date of the recently received private letter ruling from the IRS confirming the
spin-off is tax-free to Cabot. However, Cabot may not complete a divestiture of
its remaining equity interest in us in this time frame or at all.
A NUMBER OF OUR DIRECTORS MAY HAVE CONFLICTS OF INTEREST BECAUSE THEY ARE ALSO
DIRECTORS OR EXECUTIVE OFFICERS OF CABOT OR OWN CABOT STOCK
Three members of our board of directors are directors or executive officers of
Cabot. Our directors who are also directors or executive officers of Cabot have
obligations to both companies and may have conflicts of interest with respect to
matters involving or affecting us, such as acquisitions and other corporate
opportunities that may be suitable for both us and Cabot. In addition, a number
of our directors and executive officers own Cabot stock and options on Cabot
stock they acquired as employees of Cabot. 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. While there are provisions in our certificate of
incorporation designed to resolve these conflicts in a manner that is fair to
both us and Cabot, these conflicts may not ultimately be resolved in a fair
manner to both parties.
WE MAY HAVE CONFLICTS WITH CABOT WITH RESPECT TO OUR PAST AND ONGOING
RELATIONSHIPS
We may have conflicts with Cabot 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 an unaffiliated party. Cabot continues to be our exclusive
supplier of fumed metal oxides for our existing slurries under a fumed metal
oxide supply agreement between Cabot and our company. While we are not required
to do so under the terms of that agreement, we expect we also will purchase from
Cabot most of the fumed metal oxides we require for any new slurries we develop.
Furthermore, we currently have and will continue to have, contractual
arrangements with Cabot requiring Cabot and its affiliates to provide us with
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various interim, ongoing and other services. As a result, conflicts of interest
may arise between Cabot and us in a number of areas relating to our past and
ongoing relationships, including:
- - the terms of our fumed metal oxide supply agreement and other interim and
ongoing agreements with Cabot;
- - Cabot's ability to control our management and affairs;
- - the nature, quality and pricing of transitional services Cabot has agreed
to provide us;
- - business opportunities that may be attractive to both Cabot and us;
- - litigation, labor, tax, employee benefit and other matters arising from our
separation from Cabot;
- - the incurrence of debt and major business combinations by us; and
- - sales or distributions by Cabot of all or any portion of its ownership
interest in us.
In addition, the contractual agreements we have with Cabot may be amended from
time to time upon agreement between the parties and, as long as Cabot is our
controlling stockholder, it will have the ability to require us to agree to any
such amendments. These agreements were made in the context of an affiliated
relationship and were negotiated in the overall context of our separation from
Cabot. 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 leases. It is
particularly difficult to assess whether the price for fumed metal oxides
provided for under our fumed metal oxide supply agreement with Cabot is the same
as or different than 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.
WE FACE RISKS ASSOCIATED WITH BEING A MEMBER OF CABOT'S CONSOLIDATED GROUP FOR
FEDERAL INCOME TAX PURPOSES
For so long as Cabot continues to own 50% or greater of the vote and value of
our capital stock, we will be included in Cabot's consolidated group for federal
income tax purposes. Under a tax sharing agreement with Cabot, we will pay Cabot
the amount of federal, state and local income taxes we would be required to pay
to the relevant taxing authorities if we were a separate taxpayer not included
in Cabot's consolidated or combined returns. In addition, by virtue of its
controlling ownership and the tax sharing agreement, Cabot will effectively
control substantially all of our tax decisions. Under the tax sharing agreement,
Cabot will have sole authority to respond to and conduct all tax proceedings
including tax audits relating to Cabot consolidated or combined income tax
returns in which we are included. Moreover, notwithstanding the tax sharing
agreement, federal law provides that each member of a consolidated group is
liable for the group's entire tax obligation. Thus, to the extent Cabot or other
members of the group fail to make any federal income tax payments required of
them by law, we could be liable for the shortfall. Similar principles may apply
for state income tax purposes in many states.
IF THE ANTICIPATED SPIN-OFF IS NOT TAX-FREE, WE COULD BE LIABLE TO CABOT FOR THE
RESULTING TAXES
We continue to be controlled by Cabot and Cabot intends to divest itself of its
remaining equity interest in us by means of a tax-free spin-off. We have agreed
to indemnify Cabot in the event the spin-off is not tax-free to Cabot as a
result of various actions taken by or with respect to us or our failure to take
various actions, all as to be set forth in our tax sharing agreement with Cabot.
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 for any resulting
tax liability.
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RISKS RELATING TO OUR RECENTLY COMPLETED INITIAL PUBLIC OFFERING
THE MARKET PRICE MAY FLUCTUATE WIDELY AND RAPIDLY
The market price of our common stock could fluctuate significantly as a result
of:
- - 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,
participants in the semiconductor industry;
- - changes in business or regulatory conditions affecting 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
the 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.
THE ACTUAL OR POSSIBLE SALE OF OUR SHARES BY CABOT, WHICH OWNS MORE THAN 80% OF
OUR OUTSTANDING SHARES, COULD DEPRESS OR REDUCE THE MARKET PRICE OF OUR COMMON
STOCK OR CAUSE OUR SHARES TO TRADE BELOW THE PRICES AT WHICH THEY WOULD
OTHERWISE TRADE
The market price of our common stock could drop as a result of sales of a large
number of shares of our common stock in the market or the perception that these
sales could occur. These factors also could make it more difficult for us to
raise funds through future offerings of our common stock.
There are 23,589,744 shares of our common stock outstanding and Cabot
beneficially owns 80.5% of our outstanding common stock. The shares of our
common stock sold in our initial public offering are freely tradable without
restriction, except for any shares acquired by an affiliate of our company
(which can be sold under Rule 144 under the Securities Act, subject to various
volume and other limitations). Cabot is not obligated to retain these shares,
except that subject to limited exceptions, it has agreed not to sell or
otherwise dispose of any shares of common stock for 180 days after the
completion of the public offering without the consent of our underwriters. After
the expiration of this 180 day period, Cabot could dispose of its shares of our
common stock through a public offering, spin-off or other transaction and has
indicated its intention to do so through a spin-off.
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ANTI-TAKEOVER PROVISIONS UNDER OUR CERTIFICATE OF INCORPORATION AND BYLAWS, OUR
RIGHTS PLAN AND DELAWARE GENERAL CORPORATION LAW MAY ADVERSELY AFFECT THE PRICE
OF OUR COMMON STOCK, DISCOURAGE THIRD PARTIES FROM MAKING A BID FOR OUR COMPANY
OR REDUCE ANY PREMIUMS PAID TO OUR STOCKHOLDERS FOR THEIR COMMON STOCK
Our certificate of incorporation, our bylaws, our rights plan and various
provisions of the Delaware General Corporation Law may make it more difficult to
effect a change in control of our company. Our certificate of incorporation, our
by-laws, our rights plan and the various provisions of Delaware General
Corporation Law may adversely affect the price of our common stock, discourage
third parties from making a bid for our company or reduce any premiums paid to
our stockholders for their common stock. For example, we have amended our
certificate of incorporation to authorize our board of directors to issue up to
20 million shares of blank check preferred stock and to attach special rights
and preferences to this preferred stock. The issuance of this preferred stock
may make it more difficult for a third party to acquire control of us. We also
amended our certificate of incorporation to provide for the division of our
board of directors into three classes as nearly equal in size as possible with
staggered three-year terms. This classification of our board of directors could
have the effect of making it more difficult for a third party to acquire our
company, or of discouraging a third party from acquiring control of our company.
In addition, the rights issued to our stockholders under our rights plan may
make it more difficult or expensive for another person or entity to acquire
control of us without the consent of our board of directors.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
EFFECT OF CURRENCY EXCHANGE RATES AND EXCHANGE RATE RISK MANAGEMENT
We conduct business operations outside of the United States through our foreign
operations. Our foreign operations maintain their accounting records in their
local currencies. Consequently, period to period comparability of results of
operations is affected by fluctuations in exchange rates. The primary currencies
to which we have exposure are the Japanese Yen and the British Pound. Our
exposure to foreign currency exchange risks has not been significant because a
significant portion of our foreign sales are denominated in U.S. dollars. As
foreign markets become a more significant portion of our business, we have begun
to enter into forward contracts in an effort to manage foreign currency exchange
exposure. Less than 10% of our revenue is transacted in currencies other than
the U.S. dollar. We do not 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, 2000, the analysis
demonstrated that such market movements would not have a material adverse effect
on our financial position, results of operations or cash flows. 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, 2000 was not material.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Legal proceedings are discussed in "Footnote 7. - Litigation", under PART I,
Item 1 - Notes to Combined Financial Statements and such discussion is
incorporated herein by reference.
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<PAGE> 25
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
The effective date of CMC's Form S-1 Registration Statement (No. 333-95093)
relating to the initial public offering of its common stock was April 4, 2000. A
total of 4,600,000 shares of CMC's common stock were sold at a price of $20.00
per share to an underwriting syndicate led by Goldman, Sachs & Co., Merrill
Lynch & Co. and Robertson Stephens. The offering commenced on April 4, 2000.
Proceeds of the offering to CMC, net of $6.4 million of underwriting discounts,
were $85.6 million. Estimated expenses related to the offering totaled
approximately $3.0 million, resulting in net proceeds to CMC of approximately
$82.6 million. Except with respect to the payment to Cabot Corporation described
below, we did not pay any of the net proceeds of the offering, directly or
indirectly, to any director, officer or affiliate of CMC, or to any persons
owning ten percent or more of our common stock. Of the net proceeds, $64.3
million was paid as a dividend to Cabot Corporation in April 2000. The remaining
proceeds are invested in highly liquid money market funds and will be used for
working capital purposes and additions to property, plant and equipment in the
future.
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
27 Financial Data Schedule for the period
ended March 31, 2000, filed herewith.
(b) Reports on Form 8-K
No report on Form 8-K was filed by the Company during the
three months ended March 31, 2000.
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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 17, 2000 /s/ William C. McCarthy
-----------------------
William C. McCarthy
Vice President and Chief Financial Officer
[Authorized Officer; Principal Financial
and Accounting Officer]
26
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