KOMAG INC /DE/, 10-Q, 1996-08-14

KOMAG INC /DE/
10-Q, 1996-08-14
MAGNETIC & OPTICAL RECORDING MEDIA

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<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549

FORM 10-Q

QUARTERLY REPORT UNDER SECTION 13 OR 15 (d)
OF
THE SECURITIES EXCHANGE ACT OF 1934

For the Quarter Ended June 30, 1996
Commission File Number 0-16852

KOMAG, INCORPORATED
(Registrant)

Incorporated in the State of Delaware
I.R.S. Employer Identification Number 94-2914864
275 South Hillview Drive, Milpitas, California 95035
Telephone: (408) 946-2300

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 X No .
----- -----

On June 30, 1996, 51,373,428 shares of the Registrant's common stock, $0.01 par
value, were issued and outstanding.
<PAGE> 2
INDEX

KOMAG, INCORPORATED

<TABLE>
<CAPTION>
Page No.

<S> <C> <C>
PART I. FINANCIAL INFORMATION

Item 1. Consolidated Financial Statements (Unaudited)

Consolidated income statements -- Three- and
six-months ended June 30, 1996 and July 2, 1995 . . . . . . . . 3

Consolidated balance sheets -- June 30, 1996,
and December 31, 1995 . . . . . . . . . . . . . . . . . . . . . 4

Consolidated statements of cash flows -- Six months
ended June 30, 1996, and July 2, 1995 . . . . . . . . . . . . . 5

Notes to consolidated financial statements --
June 30, 1996 . . . . . . . . . . . . . . . . . . . . . . . . . 6-7

Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations . . . . . . . . . 8-14

PART II. OTHER INFORMATION

Item 1. Legal Proceedings . . . . . . . . . . . . . . . . . . . . . . . 14

Item 2. Changes in Securities . . . . . . . . . . . . . . . . . . . . . 14

Item 3. Defaults Upon Senior Securities . . . . . . . . . . . . . . . . 14

Item 4. Submission of Matters to a Vote of Security Holders . . . . . . 14-15

Item 5. Other Information . . . . . . . . . . . . . . . . . . . . . . . 16

Item 6. Exhibits and Reports on Form 8-K . . . . . . . . . . . . . . . . 16

SIGNATURES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
</TABLE>

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<PAGE> 3
PART I. FINANCIAL INFORMATION

KOMAG, INCORPORATED
CONSOLIDATED INCOME STATEMENTS
(In Thousands, except per share data)
(Unaudited)

<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
------------------------- -------------------------
JUNE 30 July 2 JUNE 30 July 2
1996 1995 1996 1995
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Net sales $ 152,208 $ 120,807 $ 305,047 $ 225,870
Cost of sales 89,252 74,787 177,602 147,083
--------- --------- --------- ---------
GROSS PROFIT 62,956 46,020 127,445 78,787

Operating expenses:
Research, development and engineering 7,011 5,947 13,659 12,012
Selling, general and administrative 11,256 10,496 22,074 18,038
--------- --------- --------- ---------
18,267 16,443 35,733 30,050
--------- --------- --------- ---------
OPERATING INCOME 44,689 29,577 91,712 48,737

Other income (expense):
Interest income 1,856 1,130 4,138 2,164
Interest expense (109) (584) (215) (1,198)
Other, net (141) 828 (83) 444
--------- --------- --------- ---------
1,606 1,374 3,840 1,410
Income before income taxes, minority interest,
--------- --------- --------- ---------
and equity in joint venture income 46,295 30,951 95,552 50,147
Provision for income taxes 8,274 7,737 19,113 12,537
--------- --------- --------- ---------
Income before minority interest and equity in
joint venture income 38,021 23,214 76,439 37,610
Minority interest in net income of consolidated subsidiary 122 456 302 871
Equity in net income of unconsolidated joint venture 4,661 603 8,927 1,502
--------- --------- --------- ---------
NET INCOME $ 42,560 $ 23,361 $ 85,064 $ 38,241
========= ========= ========= =========

Net income per share $ 0.80 $ 0.48 $ 1.60 $ 0.80
========= ========= ========= =========

Number of shares used in per share computation 53,364 48,468 53,233 47,971
========= ========= ========= =========
</TABLE>

See notes to consolidated financial statements.

-3-
<PAGE> 4
KOMAG, INCORPORATED
CONSOLIDATED BALANCE SHEETS
(In Thousands)

<TABLE>
<CAPTION>
JUNE 30 December 31
1996 1995
----------- -----------
(UNAUDITED) (note)
<S> <C> <C>
ASSETS
Current Assets
Cash and cash equivalents $ 27,884 $ 14,879
Short-term investments 126,336 198,799
Accounts receivable less allowances of
$4,420 in 1996 and $4,279 in 1995 66,594 61,660
Accounts receivable from related parties 1,308 5,034
Inventories:
Raw materials 22,888 20,213
Work-in-process 12,991 7,431
Finished goods 12,805 1,377
--------- ---------
Total inventories 48,684 29,021
Prepaid expenses and deposits 3,947 5,196
Deferred income taxes 8,569 8,569
--------- ---------
Total current assets 283,322 323,158
Investment in Unconsolidated Joint Venture 38,097 30,143
Property, Plant and Equipment
Land 9,052 5,268
Building 71,071 38,357
Equipment 531,890 443,011
Furniture 6,547 6,118
Leasehold Improvements 87,913 51,088
--------- ---------
706,473 543,842
Less allowances for depreciation and amortization (249,127) (214,668)
--------- ---------
Net property, plant and equipment 457,346 329,174
Deposits and Other Assets 4,070 3,840
--------- ---------
$ 782,835 $ 686,315
========= =========

LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities
Trade accounts payable $ 41,268 $ 28,717
Accounts payable to related parties 5,701 7,761
Accrued compensation and benefits 24,320 31,966
Other liabilities 1,908 2,096
Income taxes payable 3,951 400
--------- ---------
Total current liabilities 77,148 70,940
Deferred Income Taxes 37,643 37,643
Other Long-term Liabilities 472 474
Minority Interest in Consolidated Subsidiary 2,754 2,694
Stockholders' Equity
Preferred stock -- --
Common stock 514 507
Additional paid-in capital 380,564 374,399
Retained earnings 278,669 193,605
Accumulated foreign currency translation adjustments 5,071 6,053
--------- ---------
Total stockholders' equity 664,818 574,564
--------- ---------
$ 782,835 $ 686,315
========= =========
</TABLE>

Note: The balance sheet at December 31, 1995 has been derived from the
audited financial statements at that date.

See notes to consolidated financial statements.

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<PAGE> 5
KOMAG, INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In Thousands)
(Unaudited)

<TABLE>
<CAPTION>
Six Months Ended
-------------------------
JUNE 30 July 2
1996 1995
--------- ---------
<S> <C> <C>
OPERATING ACTIVITIES
Net income $ 85,064 $ 38,241
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 38,168 28,822
Provision for losses on accounts receivable 252 (73)
Equity in net income of unconsolidated joint venture (8,927) (1,502)
Loss on disposal of equipment 241 480
Deferred rent (2) (37)
Minority interest in net income of consolidated subsidiary 302 871
Changes in operating assets and liabilities:
Accounts receivable (5,186) (10,270)
Accounts receivable from related parties 3,726 (1,138)
Inventories (19,663) (1,164)
Prepaid expenses and deposits (5) (456)
Trade accounts payable 12,551 5,318
Accounts payable to related parties (2,060) 437
Accrued compensation and benefits (7,646) 3,379
Other liabilities (188) (214)
Income taxes payable 4,798 5,131
--------- ---------
Net cash provided by operating activities 101,425 67,825

INVESTING ACTIVITIES
Acquisition of property, plant and equipment (167,386) (65,970)
Purchases of short-term investments (163) (45,388)
Proceeds from short-term investments at maturity 72,626 36,144
Proceeds from disposal of equipment 1,160 113
Deposits and other assets (550) 159
--------- ---------
Net cash used in investing activities (94,313) (74,942)

FINANCING ACTIVITIES
Payments of long-term obligations -- (6,458)
Sale of Common Stock, net of issuance costs 6,172 6,836
Distribution to minority interest holder (279) (280)
--------- ---------
Net cash provided by financing activities 5,893 98

Increase in cash and cash equivalents 13,005 (7,019)

Cash and cash equivalents at beginning of year 14,879 23,183
--------- ---------

Cash and cash equivalents at end of period $ 27,884 $ 16,164
========= =========
</TABLE>

See notes to consolidated financial statements.

-5-
<PAGE> 6
KOMAG, INCORPORATED

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
JUNE 30, 1996

NOTE 1 - BASIS OF PRESENTATION

The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of Management, all adjustments (consisting
of normal recurring accruals) considered necessary for a fair presentation have
been included. Operating results for the three- and six-month periods ended June
30, 1996 are not necessarily indicative of the results that may be expected for
the year ending December 29, 1996.

For further information, refer to the consolidated financial statements and
footnotes thereto included in the Company's Annual Report on Form 10-K for the
year ended December 31, 1995.

The Company uses a 52-53 week fiscal year ending on the Sunday closest to
December 31. The three- and six-month reporting periods for the comparable years
included in this report are each comprised of thirteen weeks and twenty-six
weeks, respectively.

NOTE 2 - INVESTMENT IN DEBT SECURITIES

The Company invests its excess cash in high-quality, short-term debt and
equity instruments. Short-term investments consist primarily of AAA-rated,
municipal auction-rate preferred stock. None of the Company's investments have
maturities greater than one year.

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<PAGE> 7
The following is a summary of the Company's investments by major security
type at amortized cost which approximates fair value:

<TABLE>
<CAPTION>
JUN 30 Dec 31
(in thousands) 1996 1995
-------- --------
<S> <C> <C>
Municipal auction rate preferred stock $126,336 $198,636
Corporate debt securities 10,271 3,062
Mortgage-backed securities 31,074 19,462
-------- --------
$167,681 $221,160
======== ========

Amounts included in cash and cash equivalents $41,345 $22,361
Amounts included in short term investments 126,336 198,799
-------- --------
$167,681 $221,160
======== ========
</TABLE>

The Company utilizes zero-balance accounts and other cash management tools
to invest all available funds including bank balances in excess of book
balances.

NOTE 3 - INCOME TAXES

The estimated annual effective income tax rate for 1996 of 20% is lower
than the 1996 combined federal and state statutory rate of 41% and the effective
income tax rate for 1995 of 25%. The Company reduced the 1996 estimated annual
effective income tax rate to 20% from 22% in the second quarter of 1996. The
effect of the reduction in the 1996 rate was to increase net income by $1.9
million ($0.04 per share) in the second quarter of 1996. The difference between
the effective tax rate and the combined statutory rate is primarily due to a
five-year tax holiday (commencing in July 1993) for the Company's wholly-owned
thin-film media operation, Komag USA (Malaysia) Sdn. Assuming the Company
fulfills certain commitments under its license to operate within Malaysia, this
tax holiday may be extended for additional five-year period by the Malaysian
government. The effective income tax rate for 1996 is lower than the rate in
effect for 1995 primarily due to anticipated growth in the percentage of
consolidated income to be derived from the Company's Malaysian operations in
1996.

-7-
<PAGE> 8
KOMAG, INCORPORATED

MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS

RESULTS OF OPERATIONS:

The following discussion contains predictions, estimates and other
forward-looking statements that involve a number of risks and uncertainties.
While this outlook represents the Company's current judgment on the future
direction of the business, such risks and uncertainties could cause actual
results to differ materially from any future performance suggested herein.
Factors that could cause actual results to differ include the following: product
transitions to next-generation products; effective utilization of existing
manufacturing facilities; continuation of improved manufacturing efficiencies;
industry supply-demand relationship and related pricing for high-end disk
products; execution of planned capacity additions; vertical integration and
company consolidation within a limited customer base, including the ability of
Komag and/or AKCL to obtain future additional business from Matsushita-Kotobuki
Electronics Industries Ltd. (MKE); and the risk factors listed in the Company's
Annual Report on Form 10-K filed in March 1996. The Company undertakes no
obligation to publicly release the result of any revisions to these
forward-looking statements which may be made to reflect events or circumstances
after the date hereof or to reflect the occurrence of unanticipated events.

Revenue

Net sales of thin-film media increased 26% in the second quarter of 1996
relative to the second quarter of 1995. Net sales in the current year period
included $5.4 million of substrate disk sales; no such substrate sales occurred
in 1995. The Company may periodically sell substrate products but does not
currently anticipate that such sales will become a significant portion of its
revenue. Excluding the substrate disk sales, net sales increased 22% in the
second quarter of 1996 compared to the second quarter of 1995. The increase
resulted from the net effect of a 32% increase in unit sales volume and an 8%
decrease in the overall average unit selling price. Price reductions are typical
for individual product offerings in the thin-film media industry. The overall
average selling price typically strengthens only as the result of product mix
shifts to higher-priced, more technologically advanced product offerings. The
Company experienced a rapid transition to current-generation 1800 Oe products
throughout 1995. Sales of these products increased from 61% of net unit sales in
the second quarter of 1995 to 91% in the fourth quarter of 1995, and exceeded
90% of net unit sales in both the first and second quarters of 1996. As a result
of the continuing high percentage of 1800 Oe product sales, price declines on
individual product offerings were not offset by product mix shifts to
higher-priced, next-generation 2000 Oe products.

-8-
<PAGE> 9
In addition to sales of internally produced disk products, the Company
resells products manufactured by its Japanese joint venture, Asahi Komag Co.,
Ltd. (AKCL). Distribution sales of thin-film media manufactured by AKCL were
$1.8 million in the second quarter of 1996 compared to $0.3 million in the
second quarter of 1995. The Company expects that distribution sales of AKCL
product will be remain at this relatively low level throughout the remainder of
1996 as demand within the Japanese thin-film media market is expected to absorb
most of AKCL's production output.

Net sales increased 35% in the first half of 1996 relative to the first
half of 1995. Excluding substrate sales, net sales increased 33% between the
comparable six-month periods. The increase was due to the net effect of a 38%
increase in unit sales volume and a 4% decrease in the overall average selling
price. The decrease in the overall average selling price was primarily due to
price reductions for current-generation 1800 Oe products as discussed above.
Distribution sales of AKCL manufactured thin-film media were $2.2 million in the
first half of 1996 compared to $0.4 million in the first half of 1995.

During the second quarter of 1996 three customers individually accounted
for at least ten percent of consolidated net sales: Seagate Technology, Inc.
(55%), Quantum Corporation (16%), and Western Digital Corporation (12%). Seagate
completed its merger with Conner Peripherals, Inc. in the first quarter of 1996.
The percentage of consolidated net sales included sales to Seagate and Conner on
a combined basis. The Company expects that it will continue to derive a
substantial portion of its sales from relatively few customers. The distribution
of sales among customers may vary from quarter to quarter based on the match of
the Company's product capabilities with specific disk drive programs of the
customers.

Unit production volume increased approximately 44% in the second quarter of
1996 relative to the second quarter of 1995. The increase in unit production
volume provided the units required to support the increase in unit sales volume
and allowed the Company to increase its finished goods inventories of 1800 Oe
media. The Company expects that the additional inventory will increase product
delivery flexibility and plant scheduling as the Company begins a production
ramp for next-generation, 2000 Oe products during the second half of 1996.
Increased production volume typically occurs due to increased physical capacity
(additional sputtering lines) and/or improvements in manufacturing efficiencies
(improved production throughput from higher yields, better equipment
utilization, and shorter process cycle times). The increase in unit production
volume for the second quarter of 1996 relative to the second quarter of 1995 was
achieved primarily through the addition of production lines, improvements in
cycle times and improvements in equipment utilization. Manufacturing yields
increased slightly between the comparable quarters. The production volume
increase provided by

-9-
<PAGE> 10
improved cycle times and equipment utilization was approximately equal to the
increased production volume provided by the addition of sputtering machines.
Three new sputtering lines were added in September 1995, January 1996 and May
1996. The Company has a total of seventeen production sputtering lines, ten of
which are in the U.S. and seven in Malaysia. A program begun in 1994 to upgrade
sputtering machines to enhance product capabilities and shorten process cycle
times will continue through the third quarter of 1996. One machine has been out
of production on a rotating basis throughout this program.

Over one-half of the increase in unit production volume required to support
the unit sales and finished goods inventory growth in the first half of 1996
compared to the first half of 1995 was achieved through improvements in
manufacturing efficiencies. Shorter process cycle times, combined with slightly
higher manufacturing yield and equipment utilization rates, accounted for the
improved manufacturing efficiencies. Physical capacity additions provided the
remaining unit volume increase.

Net sales for the second quarter of 1996 were flat compared to the first
quarter of 1996. The Company expects third quarter sales to be flat or modestly
up in comparison to second quarter sales due to product transition issues. A
continuing delay in the rate of integration of magnetoresistive (MR) technology
into customers' next-generation drive programs will most likely slow the growth
rate of 2000 Oe MR production output until the fourth quarter of 1996. In light
of this delay, the Company expects it will continue to supply large quantities
of current-generation, enterprise-class 1800 Oe media to customers during the
third quarter. Growth in the shipment volume of near-contact inductive media for
the high-end desktop market will also be constrained in the early part of the
third quarter due to equipment delivery and installation schedules. Sequential
revenue growth is expected to resume in the fourth quarter pending resolution of
these product delays and equipment constraints. The Company's production volume
in the third quarter of 1996 will most likely fall below the unit output of the
second quarter of 1996 due mainly to anticipated lower manufacturing yields on
2000 Oe near-contact inductive disks during the volume production ramp of these
products in the third quarter of 1996. Initial production of 2000 Oe MR disks at
yields below current-generation 1800 Oe products will also contribute to the
third quarter's reduced output level.

Gross Margin

The gross margin percentage for the second quarter of 1996 was 41.4%, up
from the 38.1% gross margin percentage achieved for the second quarter of 1995.
The gross margin percentage for the first half of 1996 increased to 41.8% from
34.9% for the first half of 1995. Reductions in the overall average unit
production cost for each period outpaced the reductions in the overall average
selling price and resulted in the improved gross margin percentages for the
three- and six-month periods of 1996 relative to the comparable periods of 1995.
The reductions in the overall average unit production cost were primarily due to
improved manufacturing efficiencies as discussed above.

-10-
<PAGE> 11
The Company's gross margin for the third and fourth quarters of 1996 is
expected to decline from the peak levels of the first and second quarters of the
year and will most likely move into the Company's targeted long-term business
model range of 33-38% as the transition to 2000 Oe products unfolds. Third
quarter of 1996 earnings will likely decline sequentially compared to the second
quarter of 1996, but favorable comparisons between the Company's 1995 and 1996
quarterly results remain likely. While the quarterly earnings trend remains
difficult to predict during the 2000 Oe product transition period, the Company
anticipates that fiscal 1996 financial results will exceed those for fiscal
1995. Any material delay in the product transition to 2000 Oe, however, could
adversely affect the Company's capacity utilization and financial performance in
the second half of 1996.

Operating Expenses

Research and development ("R&D") expenses increased 18% ($1.1 million) and
13.7% ($1.6 million) in the three- and six-month periods of 1996, respectively,
compared to the comparable periods of 1995. The increase between these periods
was mainly due to development costs for next-generation 2000 Oe and
higher-density thin-film media products.

Selling, general and administrative ("SG&A") expenses increased 7% ($0.8
million) in the second quarter of 1996 relative to the second quarter of 1995.
The increase included a $0.6 million increase in the provision for bad debts and
an $0.8 million decrease in the provision for the Company's bonus and profit
sharing programs. Excluding provisions for bad debts and bonus and profit
sharing, SG&A expenses increased approximately $1.0 million between the
three-month periods. Higher administrative costs required to support the growth
in the business, including spending at the Company's recently completed front
end manufacturing facility in Sarawak, Malaysia and higher worldwide recruiting
and hiring costs accounted for the majority of the increase. SG&A expenses
increased 22% ($4.0 million) in the first half of 1996 relative to the first
half of 1995. The increase was primarily due to higher administrative costs
required to support the growth in the business and higher provisions for the
Company's bonus and profit sharing programs. The provision for bad debts
increased $0.4 million and the provision for the Company's bonus and profit
sharing programs increased $1.5 million between the six-month periods. Excluding
provisions for bad debt and bonus and profit sharing, SG&A expenses increased
approximately $2.1 million between the six-month periods, primarily due to the
factors discussed in the quarterly comparison.

Interest and Other Income/Expense

Interest income increased $0.7 million in the second quarter of 1996
relative to the second quarter of 1995 and $2.0 million in the first half of
1996 relative to the first half of 1995. The increases were due to higher
average cash and short-term investment balances resulting from the $122 million
proceeds provided by a follow-on public stock offering completed in

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<PAGE> 12
September 1995. Interest expense decreased $0.5 million in the second quarter of
1996 relative to the second quarter of 1995 and $1.0 million in the first half
of 1996 relative to the first half of 1995. The Company used a portion of the
proceeds from the public offering to repay all the existing bank debt in
September 1995. Interest expense for the three- and six-month periods of 1996
primarily represented non-utilization fees for the Company's $140 million credit
facilities. Other income decreased $1.0 million in the second quarter of 1996
compared to the second quarter of 1995 and $0.5 million for the first half of
1996 relative to the first half of 1995. Other income in the second quarter of
1995 included a $1.0 million insurance recovery related to an electrical power
disruption at the Company's Malaysian manufacturing facility.

Income Taxes

Minority Interest in KMT/Equity in Net Income of AKCL

The minority interest in the net income of consolidated subsidiary
represented Kobe Steel USA Holdings Inc.'s (Kobe USA's) share of Komag Material
Technology, Inc.'s (KMT's) net income. KMT was owned 55% by the Company and 45%
by Kobe USA from November 1988 to December 1995. On December 28, 1995 the
Company increased its ownership of KMT to 80% through the purchase of KMT Common
Stock directly from Kobe USA. Kobe retained a 20% minority interest investment
in KMT. KMT recorded net income of $0.6 million in the second quarter and $1.5
million in the first half of 1996, respectively, compared to $1.0 million and
$1.9 million in the second quarter and first half of 1995, respectively.

The Company records 50% of AKCL's net income as equity in net income of
unconsolidated joint venture. AKCL reported net income of $9.3 million in the
second quarter of 1996, up from $1.2 million in the second quarter of 1995. AKCL
reported net income of

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<PAGE> 13
$17.9 million for the first half of 1996 compared to $3.0 million for the first
half of 1995. AKCL's improved operating performance in 1996 was primarily due to
the combination of an increase in the overall average selling price and a
reduction in the overall unit production cost. Results for the three- and
six-month periods of 1995 were negatively affected by start-up costs associated
with the production ramp of 1800 Oe products. AKCL's results for the second
quarter and first half of 1995 included writedowns of its investment in Headway
Technologies, Inc. (Headway) of $1.2 million and $2.2 million (net of tax),
respectively; no such writedowns occurred in the 1996 periods. Headway's major
customer, Hewlett-Packard Company (HP), announced in July 1996 the closure of
its disk drive manufacturing operations. The effect of HP's decision on the
carrying value of AKCL's investment in Headway is difficult to quantify at this
time. Any significant charge to AKCL's earnings related to its investment in or
commitments to Headway could adversely affect the Company's net income through a
reduced equity contribution from AKCL. The Company, however, currently expects
that any such reduction will not have a material effect on the Company's fiscal
year 1996 earnings.

AKCL's functional currency is the Japanese yen and the Company translates
AKCL's yen-based income statements to U.S. dollars at the average exchange rate
for the period. The yen weakened approximately 26% and 18% between the
comparable three- and six-month periods, respectively. AKCL's net income would
have been approximately $11.8 million and $21.0 million in the second quarter
and first half of 1996, respectively, had the yen-based income statements been
translated at the average rates in effect for the comparable 1995 periods.

LIQUIDITY AND CAPITAL RESOURCES:

Cash and short-term investments of $154.2 million at the end of the second
quarter of 1996 decreased $59.5 million from the end of the prior fiscal year.
Operating activities generated $101.4 million in cash during the first half of
1996 and partially funded the Company's $167.4 million of capital spending
during the six-month period. Sales of Common Stock under the Company's stock
option and stock purchase programs during this period generated $6.2 million.

Total capital expenditures for 1996 are currently planned at approximately
$350 million. Construction and fit up of three new manufacturing facilities are
the major components of the capital plan. The Company has completed construction
of a 275,000 square foot facility for the front end stages of its manufacturing
process in Sarawak, Malaysia and began volume production at this site in April
1996. Two back end factories are currently under construction in San Jose,
California and Penang, Malaysia. The San Jose factory is approximately 225,000
square feet and the Penang factory is approximately 275,000 square feet. The
Company plans

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<PAGE> 14
to begin production at the new San Jose and Penang facilities in late 1996 and
early 1997, respectively. Additionally, the Company is currently constructing a
178,000 square foot research and development facility and is planning to begin
construction of a 90,000 square foot administration building in 1996 for
occupancy in the first half of 1997. Current noncancellable commitments total
approximately $222 million.

The Company believes that, in order to achieve its long-term expansion
objectives and maintain and enhance its competitive position, it will need
additional financing over the next several years for capital expenditures,
working capital, and research and development. During the two-year period of
1996 and 1997, the Company expects to spend approximately $750 million to
construct new facilities and add production equipment at its new and existing
facilities. Assuming a continued strong operating performance, the Company
expects to fund its 1996 capital expenditures through a combination of cash flow
from operations, its cash balances, and funds available from its unutilized $140
million credit facilities. However, new debt or equity financing will likely be
required to fund a portion of the capital expenditures. If the Company is unable
to obtain sufficient capital it could be required to reduce its capital
equipment and research and development expenditures which could have a material
adverse effect on the Company's results of operations.

PART II. OTHER INFORMATION

ITEM 1. Legal Proceedings -- Not Applicable.
ITEM 2. Changes in Securities -- Not Applicable.
ITEM 3. Defaults Upon Senior Securities -- Not Applicable.
ITEM 4. Submission of Matters to a Vote of Security Holders --

(a) The Annual Meeting of Stockholders was held on May 14, 1996.

(b) The meeting included the election of the Board of Directors,
submitted as Item No. 1, whose names are as follows:

Tu Chen
Stephen C. Johnson
Craig R. Barrett
Chris A. Eyre
Irwin Federman
George A. Neil
Max Palevsky
Anthony Sun
Masayoshi Takebayashi

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<PAGE> 15
(c) Other matters voted upon at the stockholders meeting were:

Item No. 2, Approval of Amendments to Restated 1987 Stock Option
Plan; and

Item No. 3, Approval of Management Bonus Plan

Item No. 4, Ratification of the Appointment of Ernst & Young LLP
as the Company's Independent Auditors for the year ended December
29, 1996.

Shares of Common Stock voted were as follows:

Item No. 1
(Election of Board of Directors)

<TABLE>
<CAPTION>
Total Vote For Total Vote Withheld
Each Director From Each Director
-------------- -------------------
<S> <C> <C>
Tu Chen 45,000,578 87,682
Stephen C. Johnson 45,000,572 87,688
Craig R. Barrett 45,002,297 85,963
Chris A. Eyre 44,999,387 88,873
Irwin Federman 44,980,637 107,623
George A. Neil 45,000,697 87,563
Max Palevsky 44,971,461 117,799
Anthony Sun 44,999,637 88,623
Masayoshi Takebayashi 44,822,891 265,369

<CAPTION>
Broker
For Against Abstain Non-Vote
---------- --------- ------- --------
<S> <C> <C> <C> <C>
Item No. 2
(Amendment to Restated
1987 Stock Option
Plan) 27,187,998 9,994,038 414,919 7,491,305

Item No. 3
(Approval of
Management Bonus Plan) 36,470,132 852,100 274,723 7,491,305

Item No. 4
(Selection of
Independent Auditors) 45,028,618 26,561 33,081 --
</TABLE>

(d) Not Applicable.

-15-
<PAGE> 16
ITEM 5. Other Information -- Not Applicable.

ITEM 6. Exhibits and Reports on Form 8-K

(a) Exhibits --

<TABLE>
<CAPTION>
Sequentially
Exhibit Numbered
Number Exhibit Description Page
- --------------------------------------------------------------------------------------------------------
<S> <C> <C>
10.4.1 Restated 1987 Stock Option Plan, effective January 31, 1996.

10.4.2 Komag, Incorporated Management Bonus Plan.

27 Financial Data Schedule
</TABLE>

(b) Not Applicable

-16-
<PAGE> 17
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.

KOMAG, INCORPORATED
(Registrant)

DATE: August 9, 1996 BY: /s/ William L. Potts, Jr.
------------------ -------------------------------

William L. Potts, Jr.
Senior Vice President and
Chief Financial Officer

DATE: August 9, 1996 BY: /s/ Stephen C. Johnson
------------------- ---------------------------

Stephen C. Johnson
President and
Chief Executive Officer

-17-

<PAGE> 1
EXHIBIT 10.4.1

KOMAG, INCORPORATED

RESTATED 1987 STOCK OPTION PLAN

(AMENDED AND RESTATED THROUGH JANUARY 31, 1996)

ARTICLE ONE

GENERAL PROVISIONS

I. PURPOSES OF THE PLAN

This Restated 1987 Stock Option Plan (the "Plan") is intended
to promote the interests of Komag, Incorporated, a Delaware corporation (the
"Corporation"), by providing a method whereby eligible individuals may be
offered incentives and rewards which will encourage them to acquire a
proprietary interest, or otherwise increase their proprietary interest, in the
Corporation and continue to render services to the Corporation (or its parent or
subsidiary corporations).

II. STRUCTURE OF THE PLAN

A. Option Programs. The Plan shall be divided into two
separate components: the Discretionary Option Grant Program described in Article
Two and the Automatic Option Grant Program described in Article Three. Under the
Discretionary Option Grant Program, eligible individuals may, at the discretion
of the Plan Administrator, be granted options to purchase shares of Common Stock
in accordance with the provisions of Article Two. Under the Automatic Option
Grant Program, each eligible member of the Corporation's Board of Directors (the
"Board") will automatically receive an option grant to purchase shares of Common
Stock in accordance with the provisions of Article Three.

B. General Provisions. Unless the context clearly indicates
otherwise, the provisions of Articles One and Four of the Plan shall apply to
the Discretionary Option Grant Program and the Automatic Option Grant Program
and shall accordingly govern the interests of all individuals under the Plan.

III. ADMINISTRATION OF THE PLAN

A. The Discretionary Option Grant Program shall be
administered by one or more committees comprised of Board members. The primary
committee (the "Primary Committee") shall be comprised of two or more
non-employee Board members and shall have sole and exclusive authority to grant
stock options and stock appreciation rights under the Discretionary Option Grant
Program to officers and employee-directors of the Corporation subject to the
short-swing profit restrictions of the Federal securities laws. Stock options
may be granted under the Discretionary Option Grant Program to all other
eligible employees and consultants by either the Primary Committee or a second
committee comprised of two or more employee-Board members (the "Secondary
Committee"). The members of the Primary Committee and the Secondary
<PAGE> 2
Committee shall each serve for such period of time as the Board may determine
and shall be subject to removal by the Board at any time.

B. No Board member shall be eligible to serve on the Primary
Committee if such individual has, within the twelve (12)-month period
immediately preceding the date he or she is to be appointed to such Committee,
received any option grant, stock appreciation right or stock issuance under this
Plan or any other stock plan of the Corporation (or any parent or subsidiary
corporation), other than pursuant to the Automatic Option Grant Program.

C. Subject to the limited authority provided the Secondary
Committee to effect option grants in accordance with the provisions of paragraph
III.A of this Article One, the Primary Committee shall serve as the Plan
Administrator and shall have full power and authority (subject to the express
provisions of the Discretionary Option Grant Program) to establish such rules
and regulations as it may deem appropriate for the proper administration of such
program and to make such determinations under the program and any outstanding
option as it may deem necessary or advisable. Decisions of the Plan
Administrator shall be final and binding on all parties with an interest in the
Plan or any outstanding option under this Discretionary Option Grant Program.

D. Administration of the Automatic Option Grant Program shall
be self-executing in accordance with the express terms and conditions of Article
Three.

IV. ELIGIBILITY FOR OPTION GRANTS

A. The persons eligible to receive options pursuant to the
Discretionary Option Grant Program under Article Two of the Plan shall be

- those key employees (including officers and
directors) of the Corporation (or its parent or subsidiary
corporations) who render services which tend to contribute materially
to the success of the Corporation (or its parent or subsidiary
corporations) or which may reasonably be anticipated to contribute
materially to the future success of the Corporation (or its parent or
subsidiary corporations) and

- those independent contractors and consultants who
provide valuable services to the Corporation (or its parent or
subsidiary corporations).

B. Non-employee Board members shall not be eligible to
participate in the Discretionary Option Grant Program or in any other stock
option, stock purchase, stock bonus or other stock plan of the Corporation (or
its parent or subsidiary corporations). However, non-employee Board members
shall be eligible to receive automatic option grants under the provisions of
Article Three.

C. The Plan Administrator shall have full authority to select
the eligible individuals who are to receive option grants under the Plan, the
number of shares to be covered by each granted option, whether such option is to
be an incentive stock option ("Incentive Option") which satisfies the
requirements of Section 422 of the Internal Revenue Code or a non-statutory
<PAGE> 3
option not intended to meet such requirements, the time or times at which such
option is to become exercisable and the maximum term for which the option is to
be outstanding.

D. For purposes of the Plan, the following provisions shall be
applicable in determining the parent and subsidiary corporations of the
Corporation:

Any corporation (other than the Corporation) in an
unbroken chain of corporations ending with the Corporation shall be
considered to be a PARENT corporation of the Corporation, provided each
such corporation in the unbroken chain (other than the Corporation)
owns, at the time of the determination, stock possessing fifty percent
(50%) or more of the total combined voting power of all classes of
stock in one of the other corporations in such chain.

Each corporation (other than the Corporation) in an
unbroken chain of corporations beginning with the Corporation shall be
considered to be a SUBSIDIARY of the Corporation, provided each such
corporation (other than the last corporation) in the unbroken chain
owns, at the time of the determination, stock possessing fifty percent
(50%) or more of the total combined voting power of all classes of
stock in one of the other corporations in such chain.

V. STOCK SUBJECT TO THE PLAN

A. The stock issuable under the Plan shall be shares of the
Corporation's authorized but unissued or reacquired Common Stock. The aggregate
number of shares which may be issued over the term of the Plan shall not exceed
15,640,000*/ shares (subject to adjustment from time to time in accordance with
paragraph V.D of this Article One).

B. In no event any one individual participating in the Plan be
granted stock options and separately exercisable stock appreciation rights for
more than 3,000,000 shares of Common Stock (as adjusted for the December 1995
split) in the aggregate over the remaining term of the Plan, subject to
adjustment from time to time in accordance with paragraph V.D of this Article
One. For purposes of such limitation, no stock options or stock appreciation
rights granted prior to January 1, 1994 shall be taken into account.

C. Should an option be terminated for any reason prior to
exercise in whole or in part, the shares subject to the portion of the option
not so exercised shall be available for subsequent option grants under this
Plan. Shares subject to any option or portion thereof cancelled in accordance
with paragraph V of Article Two or paragraph III of Article Three and shares
repurchased by the Corporation pursuant to its repurchase rights under the Plan
shall not be available for subsequent option grants under the Plan.

- -------------
*/ Adjusted to reflect (i) the two-for-one split of the Common Stock effected in
December 1995 and (ii) the 3,000,000-share (post-split) increase adopted by the
Board in January 1996, subject to approval by the stockholders at the 1996
Annual Meeting. In no event, however, shall more than 8,282,719 shares of Common
Stock (post-split) be issuable under the Plan after March 17, 1996, subject to
adjustment under paragraph V.D of this Article One in the event of certain
changes in the Corporation's capital structure.
<PAGE> 4
D. In the event any change is made to the Common Stock
issuable under the Plan (whether by reason of (i) merger, consolidation or
reorganization or (ii) recapitalization, stock dividend, stock split,
combination of shares, exchange of shares or other similar change affecting the
outstanding Common Stock as a class without receipt of consideration), then
unless such change results in the termination of all outstanding options
pursuant to the provisions of paragraph III of Articles Two and Three of the
Plan, appropriate adjustments shall be made to (i) the aggregate number and/or
class of shares issuable under the Plan, (ii) the maximum number and/or class of
shares for which stock options and separately exercisable stock appreciation
rights may be granted to any one participant in the aggregate after December 31,
1993, (iii) the number and/or class of shares and price per share in effect
under each outstanding option under the Discretionary Option Grant Program, (iv)
the number and/or class of shares per non-employee Board member for which
automatic option grants are subsequently to be made under the Automatic Option
Grant Program, and (v) the number and/or class of shares and price per share of
the Common Stock in effect under each automatic grant outstanding under the
Automatic Option Grant Program. The purpose of such adjustments to the
outstanding options shall be to preclude the enlargement or dilution of rights
and benefits under such options.

ARTICLE TWO

DISCRETIONARY OPTION GRANT PROGRAM

VI. TERMS AND CONDITIONS OF OPTIONS

Options granted pursuant to this Article Two shall be
authorized by action of the Plan Administrator and may, at the Plan
Administrator's discretion, be either Incentive Options or non-statutory
options. Individuals who are not Employees may only be granted non-statutory
options. The granted options shall be evidenced by instruments in such form as
the Plan Administrator shall from time to time approve; provided, however, that
each such instrument shall comply with and incorporate the terms and conditions
specified below. Each instrument evidencing an Incentive Option shall, in
addition, be subject to the applicable provisions of paragraph II of this
Article Two.

A. Option Price.

1. The option price per share shall be fixed by the
Plan Administrator. In no event, however, shall the option price per share be
less than one hundred percent (100%) of the fair market value per share of
Common Stock on the date of the option grant.

2. The option price shall become immediately due upon
exercise of the option and shall, subject to the provisions of paragraph VI of
this Article Two and the instrument evidencing the grant, be payable as follows:

(i) full payment in cash or check drawn to the
Corporation's order;

(ii) full payment in shares of Common Stock held
by the optionee for the requisite period necessary to avoid a charge to the
Corporation's
<PAGE> 5
earnings for financial reporting purposes and valued at fair market value
on the Exercise Date (as such term is defined below) equal to the option
price; or

(iii) full payment through a combination of
shares of Common Stock held by the optionee for the requisite period
necessary to avoid a charge to the Corporation's earnings for financial
reporting purposes and valued at fair market value on the Exercise Date and
cash or check, equal in the aggregate to the option price.

(iv) to the extent the option is exercised for
vested shares, the option price may also be paid through a broker-dealer
sale and remittance procedure pursuant to which the optionee shall provide
irrevocable instructions to (I) a Corporation-designated brokerage firm to
effect the immediate sale of the purchased shares and remit to the
Corporation, out of the sale proceeds available on the settlement date, an
amount equal to the aggregate option price payable for the purchased shares
plus all applicable Federal and State income and employment taxes required
to be withheld by the Corporation by reason of such purchase and (II) the
Corporation to deliver the certificates for the purchased shares directly
to such brokerage firm.

For purposes of this subparagraph 2, the Exercise
Date shall be the date on which notice of the exercise of the option is
delivered to the Corporation. Except to the extent the sale and remittance
procedure is utilized in connection with the exercise of the option, payment of
the option price for the purchased shares must accompany such notice.

3. The fair market value of a share of Common Stock
on any relevant date under subparagraph 1 or 2 above (and for all other
valuation purposes under the Plan) shall be determined in accordance with the
following provisions:

(i) If the Common Stock is at the time traded on
the Nasdaq National Market, then the fair market value shall be the closing
selling price per share of Common Stock on the date in question, as such
price is reported by the National Association of Securities Dealers on the
Nasdaq National Market or any successor system. If there is no closing
selling price for the Common Stock on the date in question, then the fair
market value shall be the closing selling price on the last preceding date
for which such quotation exists.

(ii) If the Common Stock is at the time listed
on either the New York Stock Exchange or the American Stock Exchange, then
the fair market value shall be the closing selling price per share of
Common Stock on the date in question on such exchange, as such price is
officially quoted in the composite tape of transactions on that exchange.
If there is no closing selling price for the Common Stock on the date in
question, then the fair market value shall be the closing selling price on
the last preceding date for which such quotation exists.
<PAGE> 6
B. Term and Exercise of Options.

Each option granted under this Article Two shall be
exercisable at such time or times, during such period, and for such number of
shares as shall be determined by the Plan Administrator and set forth in the
instrument evidencing such option; provided, however, that no option granted
under this Article Two shall have a maximum term in excess of ten (10) years
from the grant date. During the lifetime of the optionee, the option shall be
exercisable only by the optionee and shall not be assignable or transferable by
the optionee otherwise than by will or by the laws of descent and distribution.

C. Termination of Service.

1. Should an optionee cease to remain in Service for
any reason (including death, permanent disability or retirement at or after age
65) while the holder of one or more outstanding options granted to such optionee
under the Plan, then such option or options shall not (except to the extent
otherwise provided pursuant to paragraph VII below) remain exercisable for more
than a twelve (12)-month period (or such shorter period as is determined by the
Plan Administrator and set forth in the option agreement) following the date of
cessation of Service; provided, however, that under no circumstances shall any
such option be exercisable after the specified expiration date of the option
term. Except to the extent otherwise provided pursuant to subparagraph I.C.4
below, each such option shall, during such twelve (12)-month or shorter period,
be exercisable for any or all vested shares for which that option is exercisable
on the date of such cessation of Service. Upon the expiration of such twelve
(12)-month or shorter period or (if earlier) upon the expiration of the option
term, the option shall terminate and cease to be exercisable for any such vested
shares for which the option has not been exercised. However, the option shall,
immediately upon the optionee's cessation of Service, terminate and cease to be
outstanding with respect to any option shares in which the optionee is not
otherwise at that time vested or for which the option is not otherwise at that
time exercisable.

2. Should the optionee die while in Service, or cease
to remain in Service and thereafter die while the holder of one or more
outstanding options under the Plan, each such option may be exercised by the
personal representative of the optionee's estate or by the person or persons to
whom the option is transferred pursuant to the optionee's will or in accordance
with the laws of descent and distribution but, except to the extent otherwise
provided pursuant to subparagraph I.C.4 below, only to the extent of the number
of vested shares (if any) for which the option is exercisable on the date of the
optionee's death. Such exercise must be effected prior to the earlier of (i) the
first anniversary of the date of the optionee's death or (ii) the specified
expiration date of the option term. Upon the occurrence of the earlier event,
the option shall terminate and cease to be exercisable.

3. If (i) the optionee's Service is terminated for
cause (including, but not limited to, any act of dishonesty, willful misconduct,
fraud or embezzlement or any unauthorized disclosure or use of confidential
information or trade secrets) or (ii) the optionee makes or attempts to make any
unauthorized use or disclosure of confidential information or trade secrets of
the Corporation or its parent or subsidiary corporations, then in any such event
all outstanding options granted the optionee under the Plan shall terminate and
cease to be exercisable
<PAGE> 7
immediately upon such cessation of Service or (if earlier) upon such
unauthorized use or disclosure of confidential or secret information or attempt
thereat.

4. The Plan Administrator shall have complete
discretion, exercisable either at the time the option is granted or at the time
the optionee dies, retires at or after age 65, or ceases to remain in Service,
to establish as a provision applicable to the exercise of one or more options
granted under the Plan that during the limited period of exercisability
following death, retirement at or after age 65, or cessation of Employee status
as provided in subparagraph I.C.1 or I.C.2 above, the option may be exercised
not only with respect to the number of vested shares for which it is exercisable
at the time of the optionee's cessation of Service, but also with respect to one
or more subsequent installments in which the optionee would have otherwise
vested had such cessation of Service not occurred.

5. For purposes of the foregoing provisions of this
paragraph I.C (and all other provisions of the Plan),

- The optionee shall be deemed to remain in the
SERVICE of the Corporation for so long as such individual renders
services on a periodic basis to the Corporation (or any parent or
subsidiary corporation) in the capacity of an Employee, a non-employee
member of the Board or an independent consultant or advisor.

- The optionee shall be considered to be an EMPLOYEE
for so long as such individual remains in the employ of the Corporation
or one or more of its parent or subsidiary corporations, subject to the
control and direction of the employer not only as to the work to be
performed but also as to the manner and method of performance.

D. Stockholder Rights.

An option holder shall have none of the rights of a
stockholder with respect to any shares covered by the option until such
individual shall have exercised the option, paid the option price and been
issued a stock certificate for the purchased shares. No adjustment shall be made
for dividends or distributions (whether paid in cash, securities or other
property) for which the record date is prior to the date the stock certificate
is issued.

E. Repurchase Rights.

The shares of Common Stock acquired upon the exercise
of options granted under this Article Two may be subject to repurchase by the
Corporation in accordance with the following provisions:

The Plan Administrator shall have the discretion to
authorize the issuance of unvested shares of Common Stock under this Article
Two. Should the Optionee cease Service while holding such unvested shares, the
Corporation shall have the right to repurchase any or all of those unvested
shares at the option price paid per share. The terms and conditions upon which
such repurchase right shall be exercisable (including the period and procedure
for exercise and the appropriate vesting schedule for the purchased shares)
shall be established by the Plan Administrator and set forth in the instrument
evidencing such repurchase right.
<PAGE> 8
All of the Corporation's outstanding repurchase
rights shall automatically terminate, and all shares subject to such terminated
rights shall immediately vest in full, upon the occurrence of any Corporate
Transaction under paragraph III of this Article Two, except to the extent: (i)
any such repurchase right is to be assigned to the successor corporation (or
parent thereof) in connection with the Corporate Transaction or (ii) such
termination is precluded by other limitations imposed by the Plan Administrator
at the time the repurchase right is issued.

The Plan Administrator shall have the discretionary
authority, exercisable either before or after the optionee's cessation of
Service, to cancel the Corporation's outstanding repurchase rights with respect
to one or more shares purchased or purchasable by the optionee under this
Article Two and thereby accelerate the vesting of such shares in connection with
the optionee's cessation of Service.

VII. INCENTIVE OPTIONS

The terms and conditions specified below shall be applicable
to all Incentive Options granted under this Article Two. Incentive Options may
only be granted to individuals who are Employees. Options which are specifically
designated as "non-qualified" or "non-statutory" options when issued under the
Plan shall not be subject to such terms and conditions:

A. Option Price. The option price per share of the Common
Stock subject to an Incentive Option shall in no event be less than one hundred
percent (100%) of the fair market value of a share of Common Stock on the date
of grant.

B. Dollar Limitation. The aggregate fair market value
(determined as of the respective date or dates of grant) of the shares of Common
Stock for which one or more options granted to any employee under the Plan (or
any other option plan of the Corporation or any parent or subsidiary
corporation) may for the first time become exercisable as Incentive Options
during any one (1) calendar year shall not exceed the sum of One Hundred
Thousand Dollars ($100,000). To the extent the employee holds two (2) or more
such options which become exercisable for the first time in the same calendar
year, the foregoing limitation on the exercisability of such options as
Incentive Options shall be applied on the basis of the order in which such
options are granted.

C. 10% Stockholder. If any individual to whom an Incentive
Option is granted is the owner of stock (as determined under Section 424(d) of
the Internal Revenue Code) possessing 10% or more of the total combined voting
power of all classes of stock of the Corporation or any one of its parent or
subsidiary corporations, then the option price per share shall not be less than
one hundred and ten percent (110%) of the fair market value per share of Common
Stock on the grant date, and the option term shall not exceed five (5) years,
measured from the grant date.

Except as modified by the preceding provisions of this
paragraph II, the provisions of Articles One, Two and Four of the Plan shall
apply to all Incentive Options granted hereunder.

VIII. CORPORATE TRANSACTIONS
<PAGE> 9
A. In the event of any of the following stockholder-approved
transactions (a "Corporate Transaction"):

(i) a merger or acquisition in which the
Corporation is not the surviving entity, except for a transaction the
principal purpose of which is to change the State of the Corporation's
incorporation,

(ii) the sale, transfer or other disposition of
all or substantially all of the assets of the Corporation, or

(iii) any reverse merger in which the
Corporation is the surviving entity,

then each option outstanding under this Article Two
shall automatically become exercisable, during the five (5) business day period
immediately prior to the specified effective date for the Corporate Transaction,
with respect to the full number of shares of Common Stock purchasable under such
option and may be exercised for all or any portion of such shares as fully
vested shares of Common Stock. An outstanding option under the Plan shall not be
so accelerated, however, if and to the extent (i) such option is, in connection
with the Corporate Transaction, either to be assumed by the successor
corporation or parent thereof or be replaced with a comparable option to
purchase shares of the capital stock of the successor corporation or parent
thereof or (ii) the acceleration of such option is subject to other limitations
imposed by the Plan Administrator at the time of grant.

B. Immediately following the consummation of the Corporate
Transaction, all outstanding options under the Plan shall, to the extent not
previously exercise or assumed by the successor corporation or its parent
company, terminate and cease to be exercisable.

C. Each outstanding option under this Article Two which is
assumed in connection with the Corporate Transaction or is otherwise to continue
in effect shall be appropriately adjusted, immediately after such Corporate
Transaction, to apply and pertain to the number and class of securities which
would have been issuable, in consummation of such Corporate Transaction, to an
actual holder of the same number of shares of Common Stock as are subject to
such option immediately prior to such Corporate Transaction. Appropriate
adjustments shall also be made to the option price payable per share, provided
the aggregate option price payable for such securities shall remain the same. In
addition, the class and number of securities available for issuance under the
Plan following the consummation of the Corporate Transaction shall be
appropriately adjusted.

D. The portion of any Incentive Option accelerated in
connection with a Corporate Transaction shall remain subject to the applicable
limitations of paragraph II.B.

E. Option grants under this Article Two shall in no way affect
the right of the Corporation to adjust, reclassify, reorganize or otherwise
change its capital or business structure or to merge, consolidate, dissolve,
liquidate or sell or transfer all or any part of its business or assets.

IX. STOCK APPRECIATION RIGHTS
<PAGE> 10
A. One or more officers of the Corporation subject to the
short-swing profit restrictions of the Federal securities laws may, in the Plan
Administrator's sole discretion, be granted limited stock appreciation rights in
tandem with their outstanding options. Upon the occurrence of a Hostile
Take-Over effected at any time after the Corporation's outstanding Common Stock
is registered under Section 12(g) of the Exchange Act, each outstanding option
with such a limited stock appreciation right in effect for at least six (6)
months shall automatically be cancelled and the optionee shall in return be
entitled to a cash distribution from the Corporation in an amount equal to the
excess of (i) the Take-Over Price of the shares of Common Stock at the time
subject to the cancelled option (whether or not the option is otherwise at the
time exercisable for such shares) over (ii) the aggregate exercise price payable
for such shares. The cash distribution payable upon such cancellation shall be
made within five (5) days following the consummation of the Hostile Take-Over.
Neither the approval of the Plan Administrator nor the consent of the Board
shall be required in connection with such option cancellation and cash
distribution.

B. For purposes of paragraph IV.A, the following definitions
shall be in effect:

A Hostile Take-Over shall be deemed to occur in the
event (i) any person or related group of persons (other than the
Corporation or a person that directly or indirectly controls, is
controlled by, or is under common control with, the Corporation)
directly or indirectly acquires beneficial ownership (within the
meaning of Rule 13d-3 of the Exchange Act) of securities possessing
more than fifty percent (50%) of the total combined voting power of the
Corporation's outstanding securities pursuant to a tender or exchange
offer which the Board does not recommend the Corporation's stockholders
to accept and (ii) more than fifty percent (50%) of the securities so
acquired in such tender or exchange offer are accepted from holders
other than Corporation officers and directors subject to the
short-swing profit restrictions of the federal securities laws.

The Take-Over Price per share shall be deemed to be
equal to the greater of (a) the fair market value per share on the date
of cancellation, as determined pursuant to the valuation provisions of
subparagraph I.A.3, or (b) the highest reported price per share paid in
effecting such Hostile Take-Over. However, if the cancelled option is
an Incentive Option, the Take-Over Price shall not exceed the clause
(a) price per share.

C. The shares of Common Stock subject to any option cancelled
for an appreciation distribution pursuant to this paragraph V shall NOT be
available for subsequent option grant under the Plan.
<PAGE> 11
X. EXTENSION OF EXERCISE PERIOD

The Plan Administrator shall have full power and authority,
exercisable from time to time in its sole discretion, to extend, either at the
time the option is granted or at any time while such option remains outstanding,
the period of time for which the option is to remain exercisable following the
optionee's cessation of Service or death from the twelve (12)-month or shorter
period set forth in the option agreement to such greater period of time as the
Plan Administrator shall deem appropriate; provided, however, that in no event
shall such option be exercisable after the specified expiration date of the
option term.
<PAGE> 12
ARTICLE THREE
AUTOMATIC OPTION GRANT PROGRAM

XI. ELIGIBILITY

A. Eligible Optionees. The individuals eligible to receive
automatic option grants pursuant to the provisions of this Article Three shall
be limited to the following:

(i) each individual serving as a
non-employee member of the Board on January 24, 1995, the effective date of
this Automatic Option Grant Program (the "Effective Date"); and

(ii) each individual who is first appointed
or elected as a non-employee Board member at any time after the Effective
Date.

B. Limitation. Except for the option grants to be made
pursuant to the provisions of this Article Three, non-employee Board members
shall not be eligible to receive any additional option grants or stock issuances
under this Plan or any other stock plan of the Corporation (or its subsidiary
corporations).

XII. TERMS AND CONDITIONS OF AUTOMATIC OPTION GRANTS

A. Grant Dates. Option grants will be made under this Article
Three on the dates specified below:

(i) Each individual who first becomes a
non-employee Board member at any time after the Effective Date, whether
through election at an Annual Stockholders Meeting or through appointment
by the Board, shall automatically be granted, at the time of such initial
election or appointment, a non-statutory stock option to purchase 30,000
shares of Common Stock upon the terms and conditions of this Article Three.
The size of such grant has been adjusted to reflect the two-for-one split
of the Common Stock which occurred in December 1995, but then reduced by
twenty-five percent (25%) to effect a net adjustment on a 1.5-for-one
basis.

(iii) On the date of each Annual Stockholders
Meeting, beginning with the 1995 Annual Stockholders Meeting, each
individual who is at the time elected or reelected as a non-employee member
of the Board shall receive an additional grant of a non-statutory option
under the Plan to purchase 7,500 shares of the Common Stock, provided such
individual has been a member of the Board for at least six (6) months. The
size of such grant has been adjusted to reflect the two-for-one split of
the Common Stock which occurred in December 1995, but then reduced by
twenty-five percent (25%) to effect a net adjustment on a 1.5-for-one
basis.
<PAGE> 13
The applicable 30,000-share and 7,500-share limitations on the
automatic option grants to be made to non-employee Board members under this
Article Three shall be subject to periodic adjustment pursuant to the applicable
provisions of paragraph V.C of Article One.

B. Exercise Price. The exercise price per share shall be equal
to one hundred percent (100%) of the fair market value per share of Common Stock
on the automatic grant date.

C. Payment.

The exercise price shall be payable in one of the
alternative forms specified below:

(i) full payment in cash or check made payable
to the Corporation's order;

(ii) full payment in shares of Common Stock
held for the requisite period necessary to avoid a charge to the
Corporation's reported earnings and valued at fair market value on the
Exercise Date (as such term is defined below); or

(iii) full payment in a combination of shares
of Common Stock held for the requisite period necessary to avoid a charge
to the Corporation's reported earnings and valued at fair market value on
the Exercise Date and cash or check payable to the Corporation's order.

(iv) the option price may also be paid through
a broker-dealer sale and remittance procedure pursuant to which the
optionee shall provide irrevocable instructions to (I) a
Corporation-designated brokerage firm to effect the immediate sale of the
purchased shares and remit to the Corporation, out of the sale proceeds
available on the settlement date, an amount equal to the aggregate option
price payable for the purchased shares plus all applicable Federal and
State income and employment taxes required to be withheld by the
Corporation by reason of such purchase and (II) the Corporation to deliver
the certificates for the purchased shares directly to such brokerage firm.

For purposes of this subparagraph, the Exercise Date shall be
the date on which notice of the option exercise is delivered to the Corporation,
and the fair market value per share of Common Stock on any relevant date shall
be determined in accordance with the provisions of paragraph I.A.3 of Article
Two. Except to the extent the sale and remittance procedure specified above is
utilized for the exercise of the option, payment of the exercise price for the
purchased shares must accompany such notice.

D. Option Term. Each automatic grant under this Article Three
shall have a maximum term of ten (10) years measured from the automatic grant
date.

E. Exercisability. The initial 20,000-share automatic grant
made to each newly-elected or newly-appointed non-employee Board member shall
become exercisable for the option shares in four (4) installments as follows:
<PAGE> 14
(i) The option shall become exercisable for
twenty-five percent (25%) of the option shares upon the completion of
twelve (12) months of Board service measured from the automatic grant date.

(ii) The option shall become exercisable for an
additional twenty-five percent (25%) of the option shares upon the
completion of twenty-four (24) months of Board service measured from the
automatic grant date.

(iii) The option shall become exercisable for
an additional twenty-five percent (25%) of the option shares upon the
completion of thirty-six (36) months of Board service measured from the
automatic grant date.

(iv) The option shall become exercisable for
the final twenty-five percent (25%) of the option shares upon the
completion of forty-eight (48) months of Board service measured from the
automatic grant date.

The annual 5,000-share option grant made to each
re-elected non-employee Board member shall become exercisable for all the option
shares upon the optionee's completion of twelve (12) months of Board service
measured from the automatic grant date.

As the option becomes exercisable for one or more
installments of the option shares, those installments shall accumulate, and the
option shall remain exercisable for the accumulated installments until the
expiration or sooner termination of the option term. The option, however, shall
not become exercisable for any additional option shares following the optionee's
cessation of Board service, except to the extent the option is otherwise to
become exercisable in accordance with the provisions of paragraph III of this
Article Three.

F. Non-Transferability. During the lifetime of the optionee,
the option shall be exercisable only by the optionee and shall not be assignable
or transferable by the optionee otherwise than by will or by the laws of descent
and distribution following the optionee's death.

G. Effect of Termination of Board Membership.

1. Should the optionee cease to be a Board member for
any reason (other than death) while holding an automatic option grant under this
Article Three, then such optionee shall have a six (6)-month period following
the date of such cessation of Board membership in which to exercise such option
for any or all of the shares of Common Stock for which the option is exercisable
at the time the optionee ceases service as a Board member.

2. Should the optionee die while serving as a Board
member or during the six (6)-month period following his or her cessation of
Board service, then the option may subsequently be exercised, for any or all of
the shares of Common Stock for which the option is exercisable at the time of
the optionee's cessation of Board membership, by the personal representative of
the optionee's estate or by the person or persons to whom the option is
transferred pursuant to the optionee's will or in accordance with the laws of
descent and distribution. Any such exercise must, however, occur within twelve
(12) months after the date of the optionee's death.
<PAGE> 15
3. In no event shall any automatic grant under this
Article Three remain exercisable after the specified expiration date of the ten
(10)-year option term. Upon the expiration of the applicable exercise period in
accordance with subparagraphs 1 and 2 above or (if earlier) upon the expiration
of the ten (10)-year option term, the automatic grant shall terminate and cease
to be exercisable.

J. Stockholder Rights. The holder of an automatic option grant
under this Article Three shall have no stockholder rights with respect to any
shares covered by such option until such individual shall have exercised the
option, paid the exercise price for the purchased shares and been issued a stock
certificate for such shares.

I. Remaining Terms. The remaining terms and conditions of each
automatic option grant shall be as set forth in the prototype Non-statutory
Stock Option Agreement attached as Exhibit A to the Plan.

XIII. CORPORATE TRANSACTION/CHANGE IN CONTROL/HOSTILE TAKE-OVER

A. In connection with any Corporate Transaction (as such term
is defined in paragraph III of Article Two, above), the exercisability of each
automatic option grant outstanding under this Article Three shall automatically
accelerate so that each such option shall, immediately prior to the specified
effective date for the Corporate Transaction, become fully exercisable with
respect to the total number of shares of Common Stock at the time subject to
such option and may be exercised for all or any portion of such shares. Upon the
consummation of the Corporate Transaction, all automatic option grants under
this Article Three shall terminate and cease to be outstanding, except to the
extent assumed by the successor corporation (or parent thereof).

B. In connection with any Change in Control of the
Corporation, the exercisability of each automatic option grant at the time
outstanding under this Article Three shall automatically accelerate so that each
such option shall, immediately prior to the specified effective date for the
Change in Control, become fully exercisable with respect to the total number of
shares of Common Stock at the time subject to such option and may be exercised
for all or any portion of such shares. For purposes of this Article Three, a
Change in Control shall be deemed to occur in the event:

(i) any person or related group of persons
(other than the Corporation or a person that directly or indirectly
controls, is controlled by, or is under common control with, the
Corporation) directly or indirectly acquires beneficial ownership (within
the meaning of Rule 13d-3 of the 1934 Act) of securities possessing more
than fifty percent (50%) of the total combined voting power of the
Corporation's outstanding securities pursuant to a tender or exchange offer
which the Board does not recommend the Corporation's stockholders to
accept; or

(ii) there is a change in the composition of
the Board over a period of twenty-four (24) consecutive months or less such
that a majority of the Board members ceases, by reason of one or more proxy
contests for the election of Board members, to be comprised of individuals
who either (A) have been Board
<PAGE> 16
members continuously since the beginning of such period or (B) have been
elected or nominated for election as Board members during such period by at
least two-thirds of the Board members described in clause (A) who were
still in office at the time such election or nomination was approved by the
Board.

C. Upon the occurrence of a Hostile Take-Over, each automatic
option grant which has been outstanding under this Article Three for a period of
at least six (6) months shall automatically be cancelled in return for a cash
distribution from the Corporation in an amount equal to the excess of (i) the
Take-Over Price of the shares of Common Stock at the time subject to the
cancelled option (whether or not the option is otherwise at the time exercisable
for such shares) over (ii) the aggregate exercise price payable for such shares.
The cash distribution payable upon such cancellation shall be made within five
(5) days following the consummation of the Hostile Take-Over. Neither the
approval of the Plan Administrator nor the consent of the Board shall be
required in connection with such option cancellation and cash distribution.

D. For purposes of this Article Three, Hostile Take-Over shall
have the meaning assigned to such term in paragraph V.B of Article Two. The
Take-Over Price per share shall be deemed to be equal to the greater of (a) the
fair market value per share on the date of cancellation, as determined pursuant
to the valuation provisions of paragraph I.A.3 of Article Two, or (b) the
highest reported price per share paid in effecting such Hostile Take-Over.

E. The shares of Common Stock subject to each option cancelled
in connection with the Hostile Take-Over shall NOT be available for subsequent
issuance under this Plan.

F. The automatic option grants outstanding under this Article
Three shall in no way affect the right of the Corporation to adjust, reclassify,
reorganize or otherwise change its capital or business structure or to merge,
consolidate, dissolve, liquidate or sell or transfer all or any part of its
business or assets.

XIV. AMENDMENT OF THE AUTOMATIC GRANT PROVISIONS

The provisions of this Automatic Option Grant Program,
including any automatic option grants outstanding under this Article Three, may
not be amended at intervals more frequently than once every six (6) months,
other than to the extent necessary to comply with applicable Federal income tax
laws and regulations.
<PAGE> 17
ARTICLE FOUR

MISCELLANEOUS

XV. AMENDMENT OF THE PLAN

The Board shall have complete and exclusive power and
authority to amend or modify the Plan in any or all respects whatsoever.
However, (i) no such amendment or modification shall, without the consent of the
holders, adversely affect rights and obligations with respect to options at the
time outstanding under the Plan and (ii) any amendment made to the Automatic
Option Grant Program (or any options outstanding thereunder) shall be in
compliance with the limitation of paragraph IV of Article Three. In addition,
the Board shall not, without the approval of the Corporation's stockholders, (i)
materially increase the maximum number of shares issuable under the Plan or the
number of shares for which any one individual participating in the Plan may be
granted stock options and separately exercisable stock appreciation rights in
the aggregate after December 31, 1993, except for permissible adjustments under
paragraph V.D of Article One, (ii) materially modify the eligibility
requirements for the grant of options under the Plan or (iii) otherwise
materially increase the benefits accruing to participants under the Plan.

XVI. EFFECTIVE DATE AND TERM OF PLAN

A. The Corporation's 1983 Stock Option Plan was initially
adopted by the Board of Directors in October 1983 and approved by the
Corporation's stockholders in November 1983. In January 1987, the Plan was
renamed the Komag, Incorporated 1987 Stock Option Plan. The Board then amended
the Plan in May 1987 and such amendment was approved by the stockholders at the
Annual Meeting held in May 1987. The Plan was subsequently amended and restated
by the Board in December 1987 and January 1988, respectively, and such
restatement and amendments were approved by the stockholders at the Annual
Meeting held in June of 1988. The Plan was further amended by the Board in
January 1991 and the amendment was approved by the stockholders in May 1991. The
January 23, 1992 restatement of the Plan, together with the 1,000,000 share
increase, was approved by the Board on January 23, 1992 and became effective on
such date. The stockholders approved the January 23, 1992 restatement on May 21,
1992. On January 27, 1994, the Board adopted an amendment which increased the
number of shares of Common Stock issuable under the Plan by an additional
1,000,000 shares. The increase was approved by the stockholders at the 1994
Annual Meeting.

B. On January 24, 1995, the Board approved an amendment to the
Plan to effect the following changes to the Automatic Option Grant Program: (i)
increase the number of shares subject to the initial automatic option grant made
to newly-elected or newly-appointed non-employee Board members from 3,500 shares
to 20,000 shares per individual; (ii) increase the number of shares subject to
the annual automatic option grant made to each re-elected non-employee Board
member from 3,500 shares to 5,000 shares; and (iii) adjust the vesting schedule
in effect for each such annual 5,000-share grant to provide for full vesting
upon completion of one (1) year of Board service rather than annual vesting over
a four (4)-year period. The amendments to the Automatic Option Grant Program
were approved by the stockholders at the 1995 Annual Meeting.

C. In January 1996 the Board approved an amendment to the Plan
to (i) eliminate the discretion of the Plan Administrator to grant options under
the Discretionary Option
<PAGE> 18
Grant Program with an exercise price per share less than 100% of the fair market
value per share of Common Stock on the grant date, (ii) eliminate the loan
provisions of the Plan pursuant to which one or more holders of options under
the Discretionary Option Grant Program would have otherwise had the opportunity
to finance the exercise of those options through the delivery of full-recourse
promissory notes and (iii) increase the number of shares of Common Stock
reserved for issuance over the term of the Plan by an additional 3,000,000
shares. Such share increase is subject to stockholder approval at the 1996
Annual Meeting. The 3,000,000-share increase became effective when adopted by
the Board, but no option granted on the basis of such increase shall become
exercisable in whole or in part, unless and until the increase is approved by
the Corporation's stockholders. If such stockholder approval is not obtained at
the 1996 Annual Meeting, then all options granted on the basis of such increase
shall terminate and cease to be outstanding, and no further options shall be
granted on the basis of that increase.

D. The special sale and remittance procedure for the exercise
of outstanding options under the Plan, which was approved by the Board in
January 1991, shall be in effect for all options outstanding as of January 24,
1991 which already include such procedure as a method of exercise and for all
options granted after January 24, 1991. In addition, such procedure shall be
available for all non-qualified options currently held by officers and directors
which do not otherwise include such procedure and for any disqualifying
dispositions of Incentive Option shares effected after January 24, 1991.

E. The provisions of each restatement and amendment of the
Plan apply only to stock options and stock appreciation rights granted under the
Plan from and after the effective date of such restatement or amendment. All
stock options and stock appreciation rights issued and outstanding under the
Plan immediately prior to such effective date shall continue to be governed by
the terms and conditions of the Plan (and the respective instruments evidencing
each such option or stock appreciation right) as in effect on the date each such
option or stock appreciation right was previously granted, and nothing in any
such restatement or amendment shall be deemed to affect or otherwise modify the
rights or obligations of the holders of such options or stock appreciation
rights with respect to their acquisition of shares of Common Stock under such
options or their exercise of such stock appreciation rights.

F. Unless sooner terminated in accordance with paragraph III
of Articles Two and Three, the Plan shall terminate upon the earlier of (i)
January 22, 2002 or (ii) the date on which all shares available for issuance
under the Plan shall have been issued or cancelled pursuant to the exercise or
surrender of options granted hereunder. If the date of termination is determined
under clause (i) above, then options outstanding on such date shall not be
affected by the termination of the Plan and shall continue to have force and
effect in accordance with the provisions of the instruments evidencing such
options.

G. Options may be granted under this Plan to purchase shares
of Common Stock in excess of the number of shares then available for issuance
under the Plan, provided (i) an amendment to increase the maximum number of
shares issuable under the Plan is adopted by the Board prior to the initial
grant of any such option and is thereafter submitted to the Corporation's
stockholders for approval and (ii) each option so granted is not to become
exercisable, in whole or in part, at any time prior to the obtaining of such
stockholder approval.

XVII. USE OF PROCEEDS
<PAGE> 19
Any cash proceeds received by the Corporation from the sale of
shares pursuant to options granted under the Plan shall be used for general
corporate purposes.

XVIII. TAX WITHHOLDING

The Corporation's obligation to deliver shares or cash upon
the exercise or surrender of any option granted under the Discretionary Option
Grant Program shall be subject to the satisfaction of all applicable federal,
state and local income and employment tax withholding requirements.

XIX. NO EMPLOYMENT/SERVICE RIGHTS

Neither the action of the Corporation in establishing or
restating the Plan, nor any action taken by the Plan Administrator hereunder,
nor any provision of the restated Plan shall be construed so as to grant any
individual the right to remain in the employ or service of the Corporation (or
any parent or subsidiary corporation) for any period of specific duration, and
the Corporation (or any parent or subsidiary corporation retaining the services
of such individual) may terminate such individual's employment or service at any
time and for any reason, with or without cause.

XX. REGULATORY APPROVALS

The implementation of the Plan, the granting of any option
hereunder, and the issuance of stock upon the exercise or surrender of any such
option shall be subject to the Corporation's procurement of all approvals and
permits required by regulatory authorities having jurisdiction over the Plan,
the options granted under it and the stock issued pursuant to it.

<PAGE> 1
EXHIBIT 10.4.2

KOMAG, INCORPORATED
MANAGEMENT BONUS PLAN

I. PURPOSES OF THE PLAN

1.01 The Komag, Incorporated ("Company") Management Bonus Plan
("Plan") is established to promote the interests of the Company by creating an
incentive program to (i) attract and retain employees who will strive for
excellence, and (ii) motivate those individuals to set and achieve above-average
objectives by providing them with rewards for contributions to the operating
profits and earning power of the Company.

II. ADMINISTRATION OF THE PLAN

2.01 The Plan is hereby adopted by the Company's Board of
Directors (the "Board"), subject to the approval of the Company's stockholders
at the 1996 Annual Stockholders Meeting, and shall be administered by the
Compensation Committee ("Committee") of the Board. The members of the Committee
shall at all times satisfy the requirements established for outside directors
under Internal Revenue Code Section 162(m) and the applicable Treasury
Regulations.

2.02 The interpretation and construction of the Plan and the
adoption of rules and regulations for administering the Plan shall be made by
the Committee. Decisions of the Committee shall be final and binding on all
parties who have an interest in the Plan.

2.03 Within 90 days after the start of each of the Company's
fiscal years, the Committee will determine which of the Company's subsidiaries,
if any, will participate in the Plan for such fiscal year.

III. DETERMINATION OF PARTICIPANTS

3.01 An individual shall be eligible to participate in the
Plan if employed by the Company or any of its participating subsidiaries for a
period of not less than six (6) consecutive months at the time the bonus is
earned under Article IV, is in job grade E06 or above, and remains eligible for
a bonus award under the terms of Section 4.01 or 4.03. An individual who is on a
leave of absence or whose employment terminates and is then re-hired in the same
fiscal year shall remain eligible, but his or her bonus award shall be adjusted,
as provided in Article IV below.

3.02 For purposes of the Plan:

A. Except as set forth in Section 3.01, an individual
shall be considered an employee for so long as such individual remains employed
by the Company or one or more subsidiary corporations.

B. Each corporation (other than the Company) in an
unbroken chain of corporations beginning with the Company shall be considered to
be a subsidiary of the Company, provided each such corporation (other than the
last corporation in the unbroken chain)
<PAGE> 2
owns, at the time of determination, stock possessing more than fifty percent of
the total combined voting power of all classes of stock in one of the other
corporations in such chain.

IV. BONUS AWARDS

4.01 No eligible employee shall earn any portion of a bonus
award made hereunder for any fiscal year until the last day of that fiscal year,
and then only if there has been an allocation of a portion of the bonus pool for
such fiscal year to that employee in accordance with the procedures set forth in
Section 4.03. If an eligible employee receives no allocation under Section 4.03,
then that employee shall not earn, and shall not otherwise be entitled to, any
bonus under the Plan for that fiscal year. In no event shall any employee
receive an allocation under Section 4.03 for a fiscal year if that employee
ceases to be employed by either the Company or one or more of its participating
subsidiary corporations for any reason, other than retirement after the age of
65, permanent disability or death, on or before the date the allocation of the
bonus pool for that fiscal year is made under section 4.03. Notwithstanding the
foregoing, if an employee is employed during part of the fiscal year by the
Company or any other participating subsidiary in the Plan and for all or part of
the remainder of that fiscal year by a subsidiary that is not covered under the
Plan, then any bonus to which that employee would otherwise be entitled for such
fiscal year had he/she continued in the employ of the Company or participating
subsidiary shall be reduced by the proportion of such fiscal year during which
the employee was employed by the non-participating subsidiary.

4.02 The Committee shall calculate the aggregate bonus pool to
be paid under the Plan for each fiscal year. The specific percentage in effect
for the fiscal year shall be determined in accordance with the Company's success
in achieving the budgeted operating income specified for that fiscal year in the
annual Financial Plan ("Budgeted Operating Income") which is approved by the
Board and ratified for purposes of the Plan by the Committee not later than 90
days after the start of the fiscal year, as follows:

X = The percentage of the Operating Income of the
Company and its subsidiaries covered by the Plan that comprises the bonus pool.

Y = Actual Operating Income for the fiscal year
divided by Budgeted Operating Income.

X = 9(Y)-4

No amount shall be paid if Y [is less than].6667: Max
X=7% but in no case more than 8% of the Company's Consolidated Operating Income.

For purposes of this Section 4.02 bonus formula, the
following definitions shall be in effect:

"Operating Income" means the Company's operating
income for the fiscal year attributable to the Company and the participating
subsidiaries for that year.

"Consolidated Operating Income" means the Company's
consolidated operating income for the fiscal year attributable to the Company
and all

2.
<PAGE> 3
its subsidiaries.

In each case, the calculations of Operating Income
and Consolidated Operating Income shall be in accordance with generally accepted
accounting principles, adjusted to exclude the following: (i) any amounts
accrued by the Company or its subsidiaries pursuant to Management Bonus Plans or
Cash Profit Sharing Plans and related employer payroll taxes for such fiscal
year, (ii) any Discretionary or Matching Contributions made to the Savings and
Deferred Profit-Sharing Plan or to the Non-Qualified Deferred Compensation Plan
for such fiscal year, (iii) all items of gain, loss or expense for such fiscal
year determined to be extraordinary or unusual in nature or infrequent in
occurrence, or related to the disposal of a segment of a business, all as
determined in accordance with the standards established by Opinion No. 30 of the
Accounting Principles Board (APB No. 30), (iv) any adjustments to earnings,
gain, loss or expense attributable to a change in accounting principles or
standards, (v) all items of gain, loss or expense for such fiscal year related
to restructuring charges of subsidiaries whose operations are not included in
Operating Income for such fiscal year, (vi) all items of gain, loss or expense
for such fiscal year related to discontinued operations which do not qualify as
a segment of a business as defined under APB No. 30 and (vii) any profit or loss
attributable to the business operations of any entity acquired by the Company
during such fiscal year. Operating Income shall not be adjusted for a minority
interest holder's share of a consolidated subsidiary's operating income or loss.

4.03 The aggregate bonus pool calculated in the manner
provided in Section 4.02 shall be allocated among the eligible employees in
accordance with this Section 4.03.

A. Each of the Company's executive officers (salary
grades E11 and above) will be assigned an index which is the product of his or
her base salary, measured as of the close of the fiscal year for which the bonus
allocation is made, times a multiplier. The multiplier for the President and
Chief Executive Officer and the Chairman of the Board will be two (2). For each
Senior Vice President (E12), the multiplier will be one-point-five (1.5), and
for every other Vice President (E11) the multiplier will be one (1).

B. Bonuses will be awarded to each executive officer
by multiplying the aggregate bonus pool for the fiscal year by a fraction the
numerator of which will be the individual officer's index and the denominator of
which will be the sum of the indices for all executive officers.

C. The Committee may, in its sole judgment and
discretion, reduce the bonus allocation to any or all of the executive officers.

D. The sum of all amounts not paid to executive
officers pursuant to Section 4.03C shall serve as a separate bonus pool for the
fiscal year which may be allocated in whole or in part to other officers and
exempt employees grade E06 and above. One or more executive officers of the
Company may make recommendations to the Chairman and the President with respect
to the non-executive-officer employees who should share in such bonus pool and
the portion of such pool to be allocated to each such individual. The Chairman
and the President shall review such recommendations and shall, in their
discretion, submit one or more of such recommendations (with such adjustments as
they deem appropriate) to the Committee for consideration. On the basis of such
recommendations, the Committee shall select one or more

3.
<PAGE> 4
such non-executive-officer employees to share in such bonus pool and determine
the amount of such pool to be allocated to each selected individual. The
determinations of the Committee shall be final.

E. The bonus award made under this Plan to any
participant for any fiscal year shall not exceed $5 million.

4.04 Following completion of the bonus calculation and
allocation referenced above, the Committee shall issue a written report
containing the final calculation and allocation.

V. PAYMENT OF BONUS AWARDS

5.01 The individual bonus award allocated to each employee
pursuant to Section 4.03 shall be paid to such employee within thirty (30) days
after completion of the annual audit of the Company's financial statements by
its independent auditors.

VI. GENERAL PROVISIONS

6.01 The Plan shall become effective when adopted by the Board
and the Company's stockholders. The Board may at any time amend, suspend or
terminate the Plan, provided such action is effected by written resolution and
does not adversely affect rights and interests of Plan participants to
individual bonuses allocated to them prior to such amendment, suspension or
termination. All material amendments to the Plan shall require stockholder
approval.

6.02 No amounts awarded or accrued under this Plan shall
actually be funded, set aside or otherwise segregated prior to payment. The
obligation to pay the bonuses awarded hereunder shall at all times be an
un-funded and unsecured obligation of the Company. Plan participants shall have
the status of general creditors and shall look solely to the general assets of
the Company for the payment of their bonus awards.

6.03 No Plan participant shall have the right to alienate,
pledge or encumber his/her interest in this Plan, and such interest shall not
(to the extent permitted by law) be subject in any way to the claims of the
employee's creditors or to attachment, execution or other process of law.

6.04 Neither the action of the Company in establishing the
Plan, nor any action taken under the Plan by the Committee, nor any provision of
the Plan, nor shareholder approval of the Plan itself shall be construed so as
to grant any person the right to remain in the employ of the Company or its
subsidiaries for any period of specific duration. Rather, each employee will be
employed "at-will," which means that either such employee or the Company may
terminate the employment relationship at any time for any reason, with or
without cause.

6.05 This is the full and complete agreement between the
eligible employees and the Company on the terms described herein.

<ARTICLE> 5
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<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-29-1996
<PERIOD-START> APR-01-1996
<PERIOD-END> JUN-30-1996
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<CASH> 27,884
<SECURITIES> 126,336
<RECEIVABLES> 72,322
<ALLOWANCES> 4,420
<INVENTORY> 48,684
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0
0
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<SALES> 152,208
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<CHANGES> 0
<NET-INCOME> 42,560
<EPS-PRIMARY> 0.80
<EPS-DILUTED> 0.80

</TABLE>