UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended January 2, 2000
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from to
Commission file number 0-16852
KOMAG, INCORPORATED
(Exact name of registrant as specified in its charter)
Delaware 94-2914864
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1710 Automation Parkway, San Jose, California 95131
(Address of Principal Executive Offices, including Zip Code)
Registrant's telephone number, including area code: (408) 576-2000
Securities registered pursuant to Section 12(b) of the Act:
Name of each exchange
Title of each class on which registered
- ------------------- -------------------
None None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $0.01 par value
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 [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this form 10-K or any
amendment of this Form 10-K. [X]
[Cover page 1 of 2 pages]
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The aggregate market value of voting stock held by non-affiliates of the
Registrant as of March 13, 2000 was approximately $186,274,104 based upon the
closing sale price for shares of the Registrant's Common Stock as reported by
the Nasdaq National Market for the last trading date prior to that date). Shares
of Common Stock held by each officer, director and holder of 5% or more of the
outstanding Common Stock have been excluded in that such persons may be deemed
to be affiliates. This determination of affiliate status is not necessarily a
conclusive determination for other purposes.
On March 13, 2000, approximately 65,874,918 shares of the Registrant's
Common Stock, $0.01 par value, were outstanding.
Documents Incorporated by Reference
Designated portions of the following document are incorporated by reference
into this Report on Form 10-K where indicated:
Komag, Incorporated Proxy Statement for the Annual Meeting of Stockholders
to be held on May 10, 2000, Part III.
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KOMAG, INCORPORATED
TABLE OF CONTENTS TO ANNUAL REPORT ON FORM 10-K
Page
Item 1. Business ...................................................... 4-19
Item 2. Properties .................................................... 20
Item 3. Legal Proceedings ............................................. 20
Item 4. Submission of Matters to Vote of Security Holders ............. 21
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters ......................................... 23
Item 6. Selected Consolidated Financial Data .......................... 24
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations ......................... 25-35
Item 7A. Financial Market Risks ........................................ 36
Item 8. Consolidated Financial Statements ............................. 37-66
Item 9. Changes In and Disagreements with Accountants and
Financial Disclosure ........................................ 67
Item 10. Directors and Executive Officers .............................. 67
Item 11. Executive Compensation ........................................ 67
Item 12. Security Ownership of Certain Beneficial Owners
and Management .............................................. 67
Item 13. Certain Relationships and Related Transactions ................ 67
Item 14. Exhibits, Financial Statement Schedules and Reports
on Form 8-K ................................................. 69-73
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PART I
ITEM 1. BUSINESS
Komag, Incorporated ("we", or "us") designs, manufactures and markets
thin-film media ("disks"), the primary storage medium for digital data used in
computer hard disk drives. We believe we are the world's largest independent
manufacturer of thin-film media and are well positioned as a broad-based
strategic supplier of choice for the industry's leading disk drive
manufacturers. Our business strategy relies on the combination of advanced
technology, high-volume manufacturing and low cost. Our products are made for
the high-end desktop and high-capacity/high-performance enterprise segments of
the disk drive market and are used in products such as personal computers, disk
arrays, network attached storage, network file servers and engineering
workstations. We manufacture leading-edge disk products primarily for 3 1/2-inch
form factor hard disk drives. We were organized in 1983 and are incorporated in
the State of Delaware.
Our business is subject to risks and uncertainties, a number of which are
discussed under "Risk Factors."
Increasing demand for digital storage and low-cost, high-performance hard
disk drives has resulted in strong unit demand for these products. International
Data Corporation ("IDC") forecasts that worldwide disk drive unit shipments in
2000 through 2003 will grow at a 12.6% compound annual growth rate. Greater
processing power, more sophisticated operating systems and application software,
high-resolution graphics, larger databases and the emergence of the Internet are
among the developments that have required ever higher performance from disk
drives. For example, the first 5 1/4-inch hard disk drive, introduced in 1980,
offered a capacity of five megabytes (one million bytes is a megabyte or "MB")
with an areal density of less than two megabits (one million bits is a megabit;
eight bits is one byte) per square inch. Current-generation 3 1/2-inch drives
typically have capacities of 4.3 to 73 gigabytes (one billion bytes is a
gigabyte or "GB") with areal densities of approximately 3.1 to 7.8 gigabits (one
billion bits is a gigabit) per square inch. Today's areal densities allow for
approximately 10 GB of storage per 3 1/2-inch disk platter. By the end of 2000,
we expect that increases in areal densities will allow for approximately 20 GB
of storage per 3 1/2-inch disk. Advances in component technology have been
critical to improving the performance and storage capacity of disk drives and
lowering the cost per bit stored.
We have capitalized on our technological strength in thin-film processes
and our manufacturing capabilities to achieve and maintain our position as the
leading independent supplier to the thin-film media market. Our technological
strength stems from the depth of our understanding of materials science and the
interplay between disks, heads and other drive components. Our manufacturing
expertise in thin-film media is evidenced by our history of delivering reliable
products in high volume.
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We currently manufacture thin-film media in Malaysia and through Asahi Komag
Co., Ltd. ("AKCL"), a joint venture with Asahi Glass Co., Ltd. ("Asahi Glass")
and Vacuum Metallurgical Company, which manufactures thin-film media in Japan
and Thailand. We manufacture aluminum disk substrate products primarily for
internal use through our subsidiary, Komag Material Technology, Inc. ("KMT")
located in Santa Rosa, California. A 20% minority interest in KMT is held by
Kobe Steel USA Holdings Inc. ("Kobe USA"), together with Kobe Steel, Ltd.
("Kobe") and other affiliated companies.
Technology
We manufacture and sell thin-film magnetic media on rigid disk platters for
use in hard disk drives. These drives are used to record, store and retrieve
digital information. Inside a disk drive, the media or disk rotates at speeds of
up to 10,000 rpm. The head scans across the disk as it spins, magnetically
recording or reading information. The domains where each bit of magnetic code is
stored are extremely small and precisely placed. The tolerances of the disks and
recording heads are extremely demanding and the interaction between these
components is one of the most critical design aspects in an advanced disk drive.
The primary factors governing the density of storage achievable on a disk's
surface are (1) the minimum distance at which read/write heads can reliably pass
over the surface of the disk to detect a change in magnetic polarity when
reading from the disk, defined as glide height (measured in microinches or
millionths of an inch); (2) the strength of the magnetic field required to
change the polarity of a bit of data on the magnetic layer of a disk when
writing, defined as coercivity (measured in oersteds--"Oe"), and (3) the ability
of the head to discriminate a signal from background media noise
(signal-to-noise ratio). As glide height is reduced, smaller bits can be read.
The higher the coercivity of the media, the smaller the width of the bit that
can be stored. The signal-to-noise ratio is determined by the choice of magnetic
materials and the method for depositing those materials on the disk's surface.
Our plating, polishing and texturing processes produce a uniform disk surface
with relatively few defects, which permits the read/write heads to fly over the
disk surface at glide heights of 0.6 to 0.9 microinches. The magnetic alloys
deposited on the surfaces of our disks have high coercivity, low noise and other
desirable magnetic characteristics. The combination of these factors results in
more data stored in a given area on the disk surface.
Significant increases in areal densities continued in 1999. We believe that
the number of gigabits per square inch on a typical disk increased by over 100%
in 1999. In 1999, approximately 98% of our unit sales were based upon
magnetoresitive ("MR") technology, including more advanced giant
magnetoresistive ("GMR") and 2% inductive technology. An MR disk is optimized
for use with MR heads that use separate read and write elements. The write
element is made from conventional inductive materials but the read element is
made of a material whose electrical resistance changes when subjected to changes
in a magnetic field. MR heads are more sensitive to magnetic fields than prior
inductive technology. This increased sensitivity enables MR heads to read more
densely packed, smaller sized bits. Advanced giant magnetoresitive (GMR) disks
accounted for 42% of 1999 unit sales. We believe that MR and GMR disks will
continue to be the predominate media for disk drives in 2000.
Products, Customers and Marketing
We sell primarily MR and GMR media for 3 1/2-inch disk drives. We have also
historically sold disks for 5 1/4-inch drives and other disk drive form factors.
Our products offer a range of coercivities, glide height capabilities and other
parameters to meet specific customer requirements. Unit sales of 3 1/2-inch
disks capable of storing at least 6.8 GB per platter accounted for approximately
88% of our unit
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sales in the fourth quarter of 1999. We anticipate that the majority of our unit
sales in the first quarter of 2000 will be 3 1/2-inch disks capable of storing
at least 10 GB per platter at 7200 rpm and we are close to obtaining customer
qualification of 3 1/2-inch products capable of storing up to 15 GB per platter.
Prior to 1997, market demand for advanced thin-film media typically
exceeded supply. In mid-1997, the rate of growth in demand for media slowed
abruptly due in large measure to the rapid advancement in increased storage
capacity per disk achieved through the use of MR technology. As a result, drive
designs incorporated fewer disks and recording heads to achieve the disk drive
capacities demanded by the market. In addition, based upon historical supply
shortages and forecasts for continued strong demand growth rates, we and our
competitors (both independent and captive suppliers) began adding significant
media manufacturing capacity in 1996, which for the most part became operational
in 1997. The increased supply of media generated by the expanded factory
capacity, coupled with the tremendous improvement in disk storage capacity,
allowed the overall supply of thin-film media to catch up to, and then exceed,
market demand. Captive media suppliers (owned by vertically integrated disk
drive customers) utilized their capacity at the expense of independent
suppliers, such as us, during this period. As a result, in each of the last
three years, the market for disks produced by independent suppliers decreased
sharply and pricing pressures intensified. In 1997, 1998 and 1999, we idled
certain equipment and facilities to more closely align our production capacity
to demand for our products. These restructuring activities resulted in
significant restructuring and impairment charges.
We believe that there remains excess media capacity within the industry.
Certain media manufacturers have idled capacity and restructured their
operations. StorMedia, Inc., an independent media supplier, declared bankruptcy
in late 1998. We believe that the longer-term success of the thin-film media
industry is dependent upon growth in demand for disks and further consolidation
within the media industry. Improvements in enabling technologies, such as
increased bandwidth capability that will speed data transfers over the Internet
that will promote use of other storage-intensive applications such as
multimedia, are expected to increase demand for storage capacity.
We primarily sell our media products to independent OEM disk drive
manufacturers for incorporation into hard disk drives that are marketed under
the manufacturers' own labels. We have also historically sold our disks to
computer system manufacturers who make disk drives for their own use or for sale
in the open market. We work closely with customers as they design new
high-performance disk drives and generally customizes our products according to
customer specifications.
Two customers accounted for approximately 87% of our net sales in 1999. Net
sales to major customers were as follows: Western Digital Corporation ("Western
Digital")--71% and Maxtor Corporation ("Maxtor")--16%. Sales are generally
concentrated in a small number of customers due to the high volume requirements
of the dominant disk drive manufacturers and their tendency to rely on a few
suppliers because of the close interrelationship between media and other disk
drive components. Given the relatively small number of high-performance disk
drive manufacturers, we expect that we will continue our dependence on a limited
number of customers. In April 1999, we acquired the assets of Western Digital's
media operation and also entered into a volume purchase agreement with Western
Digital (see "Item 7. Management's Discussion and Analysis of Financial
Condition and Result of Operations" below). As a result of the acquisition, and
related volume purchase agreement, our sales are expected to remain highly
concentrated with Western Digital.
Sales were made in 1999 directly to disk drive manufacturers worldwide
(except media sales into Japan) from our U.S. and Malaysian operations. Sales of
media for assembly into disk drives within Japan are made solely through AKCL.
On a selective basis, we have used AKCL to distribute our products to Japanese
drive manufacturers for assembly outside of Japan. In 1999, we did not use AKCL
to distribute our
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products. In 1998, we sold product to Matsushita-Kotobuki Electronics
Industries, Ltd. ("MKE") in Japan and to MKE's Singapore manufacturing facility
through AKCL. Media sales to the Far East from our U.S. and Malaysian operations
represented 95%, 83% and 96% of our net sales in 1999, 1998 and 1997,
respectively. Our customers assemble a substantial portion of their disk drives
in the Far East and subsequently sell these products throughout the world.
Therefore, our high concentration of Far East sales does not accurately reflect
the eventual point of consumption of the assembled disk drives. All foreign
sales are subject to certain risks common to all export activities, such as
government regulation and the risk of imposition of tariffs or other trade
barriers. Foreign sales must also be licensed by the Office of Export
Administration of the U.S. Department of Commerce.
Our sales are generally made pursuant to purchase orders rather than
long-term contracts. At January 2, 2000, our backlog of purchase orders
scheduled for delivery within 90 days totaled approximately $61.7 million
compared to $69.6 million at January 3, 1999. These purchase orders may be
changed or canceled by customers on short notice without significant penalty.
Accordingly, the backlog should not be relied upon as indicative of sales for
any future period.
Manufacturing
Our manufacturing expertise in thin-film media is evidenced by our history
of delivering reliable products in high volume. Through the utilization of
proprietary processes and techniques, we have the capability to produce advanced
disk products that generally exhibit uniform performance characteristics. Such
uniform performance characteristics enhance the reliability of the drive
products manufactured by our customers. In addition, these characteristics can
raise production yields on the customers' manufacturing lines, which is an
important cost consideration especially in high-performance disk drives with
large component counts. Manufacturing costs are highly dependent upon our
ability to effectively utilize our installed physical capacity to produce large
volumes of products at acceptable yields. To improve yields and capacity
utilization, we have adopted formal continuous improvement programs at all of
our worldwide manufacturing operations. The process technologies employed by us
historically required substantial capital investment. In addition, long lead
times to install new increments of physical capacity complicate capacity
planning.
The manufacture of our thin-film sputtered disks is a complex, multi-step
process that converts aluminum substrates into finished data storage media ready
for use in a hard disk drive. The process requires the deposition of extremely
thin, uniform layers of metallic film onto a disk substrate. To achieve this, we
use a vacuum deposition, or sputtering, method similar to that used to coat
semiconductor wafers. The basic process consists of many interrelated steps that
can be grouped into five major categories:
1. Sizing and Grinding of the Substrate: A raw aluminum blank substrate is
sized by precisely cutting the inner and outer diameter of the blank. A
mechanical grinding process is then utilized to provide a relatively flat
surface on the substrate prior to nickel alloy plating.
2. Nickel Alloy Plating and Polishing of the Substrate: Through a series of
chemical baths aluminum substrates are plated with a uniform nickel phosphorus
layer in order to provide support for the magnetic layer. Next, this layer is
polished to achieve the required flatness.
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3. Fine Polishing, Texturing and Cleaning: During these process steps,
disks are smoothed and cleaned to remove surface defects to allow the read/write
heads of the disk drives to fly at low and constant levels over the disks.
4. Sputtering and Lube: By a technically demanding vacuum deposition
process, magnetic layers are successively deposited on the disk and a hard
protective overcoat is applied. After sputtering, a microscopic layer of
lubrication is applied to the disk's surfaces to improve durability and reduce
surface friction.
5. Glide Test and Certification: In robotically controlled test cells,
disks are first tested for surface defects optically, then for a specified glide
height and finally certified for magnetic properties. Based on these test
results, disks are graded against customers' specific performance requirements.
Most of the critical process steps are conducted in Class 100 or better
environments. Throughout the process, disks are generally handled by
custom-designed and, in many cases, self-built automated equipment to reduce
contamination and enhance process precision. Minute impurities in materials,
particulate contamination or other production problems can reduce production
yields and, in extreme cases, result in the prolonged suspension of production.
Although no contamination problems have required prolonged suspension of our
production to date, no assurance can be given that we will not experience
manufacturing problems from contamination or other causes in the future.
As areal density increases, recording heads are required to read and write
smaller data bits packed more tightly together on the surface of the disk. To
accomplish this, the read/write head must fly closer to the disks' surfaces in
order to discriminate smaller, weaker magnetic signals. During 1999, we
optimized processes introduced in 1998 to allow customers to achieve higher
density. At the same time, we were able to increase our production yield
substantially while lowering the cost of materials and supplies used.
Facilities and Production Capacity
Based on analysis of our production capacity and our expectations of media
market demand, we implemented restructuring plans during 1997, 1998 and 1999.
Under the 1997 restructuring plan, we consolidated our U.S. manufacturing
operations onto our new campus in San Jose, California by closing two older
factories in Milpitas, California. The first of the two Milpitas facilities was
closed at the end of the third quarter of 1997 and the second facility was
closed in January 1998. Under the 1998 restructuring plan, we ceased sputter
through test operations at our oldest San Jose, California facility in the
fourth quarter of 1998. At the end of the second quarter of 1999, we closed the
former Western Digital media operation, nearly fifteen months ahead of our
original transition plan. Further, during the third quarter of 1999, we
implemented a plan to cease volume production of finished media in the U.S. and
consolidate administrative and research and development functions into one
facility in San Jose. By the end of the fourth quarter of 1999, we had closed
the two remaining manufacturing facilities in San Jose, California. In addition,
we exited the San Jose administrative building during the first quarter of 2000.
At January 2, 2000, our joint venture, AKCL, and we had facilities in the U.S.,
Malaysia, Japan and Thailand.
As of January 2, 2000, we occupied one factory in the U.S. comprising
approximately 44,000 square feet of floor space, an R&D facility of
approximately 188,000 square feet and an administrative facility with
approximately 82,000 square feet. In the first quarter of 2000, we consolidated
our administrative and research and development functions into the 188,000
square foot building. The 82,000 square foot
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building was subleased in the first quarter of 2000. In addition, we had
terminated the lease on our 225,000 square foot production facility and are in
the process of exiting the facility in the first quarter of 2000. Further, we
acquired several leased facilities in 1999 totaling approximately 137,000 square
feet as part of the acquisition of Western Digital's media operation during the
year. These facilities are unoccupied and we are actively engaged in locating
new tenants for the buildings. The remaining U.S. production facility is
occupied by a majority-owned subsidiary (KMT), located in Santa Rosa,
California, which manufactures aluminum substrates and is engaged in the
research, development and pilot production of plated and polished substrates.
We own three production facilities in Malaysia, two in Penang totaling
approximately 615,000 square feet and one in Sarawak of approximately 275,000
square feet. One of the Penang factories performs all of our process steps
except aluminum substrate preparation and the other is equipped to perform the
fine polish through test steps. The Sarawak factory is primarily dedicated to
substrate, plating and polishing operations. We have strategically located the
majority of our manufacturing capacity in Malaysia. These facilities are closer
to the customers' disk drive assembly plants in Southeast Asia and enjoy
significant cost and tax advantages.
AKCL occupies approximately 544,000 square feet of building space. AKCL's
Japanese facilities, which are approximately 309,000 square feet, are primarily
dedicated to fine polish through test and its Thailand facility, which is
approximately 235,000 square feet, is designed for plating and polishing.
Research, Development and Engineering
Since our founding, we have focused on the development of advanced
thin-film disk designs as well as the process technologies necessary to produce
these designs. Our spending and capital investment for R&D are aimed at the
investigation, design, development and testing of new products and processes as
well as the development of more efficient and cost effective processes that can
be integrated into manufacturing in a commercially viable manner. We utilize
both in-line and static sputtering systems in our U.S. research and development
facility for development and prototype production.
Our R&D efforts in 1999 have included the development of alternatives to
aluminum-based substrates, such as glass-based substrates. We expect that disk
drive manufacturers will adopt glass based disks as the cost of glass-based
media technologies decreases and/or demands for increasingly high-density
products require the technological advantages offered by glass. We have filed
several patents relating to the glass substrate manufacturing process. We
believe that the new process offers the ability to manufacture glass substrates
at a lower cost than current glass substrates. Furthermore, the cost of glass
substrates manufactured with these new processes is expected to be less
expensive than equivalent aluminum-based substrates. However, as discussed in
our "Risk Factors" section, we cannot assure you that we will be able to
successfully commercialize the new glass substrate processes.
Our expenditures (and percentage of sales) on research, development and
engineering activities, were $44.3 million (13.3%) in fiscal 1999, $61.6 million
(18.7%) in fiscal 1998 and $51.4 million (8.1%) in fiscal 1997.
Strategic Alliances
We have established joint ventures with Asahi Glass and Kobe. We believe
these alliances have enhanced our competitive position by providing research,
development, engineering and manufacturing expertise that reduce costs and
technical risks and shorten product development cycles.
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Asahi Komag Co., Ltd. ("AKCL")
In 1987, we formed a partnership (Komag Technology Partners) with the U.S.
subsidiaries of two Japanese companies, Asahi Glass and Vacuum Metallurgical
Company. The partners simultaneously formed a wholly owned subsidiary, AKCL, to
manufacture and distribute thin-film disks in Yonezawa, Japan. Under the joint
venture agreement, we contributed technology developed prior to January 1987 and
licensed technology developed after January 1987, to the extent such technology
relates to sputtered thin-film hard disk media, for a 50% interest in the
partnership. The Japanese partners contributed equity capital aggregating 1.5
billion yen (equivalent to approximately $11 million at that time). AKCL began
commercial production in 1988.
The terms of the joint venture agreement provide that AKCL may only sell
disks for incorporation into disk drives that are assembled in Japan, with no
limitation on the territory in which AKCL's customers can sell such assembled
disk drive products. During the term of the joint venture agreement and for five
years thereafter, the Japanese partners and their affiliates have agreed not to
develop, manufacture or sell sputtered media anywhere in the world other than
through the joint venture, and we and our affiliates have agreed not to develop,
manufacture or sell such media in Japan except through the joint venture. We
have, however, periodically granted AKCL a limited right to sell its disks
outside of Japan and have received royalties on such sales. Upon the occurrence
of certain terminating events and the subsequent acquisition of AKCL by one or
more of the joint venture partners, the restrictions related to activities of
the acquiring joint venture partner(s) within Japan may lapse.
We made no disk sales to AKCL in 1999 compared to 3% in 1998 and less than
14% in 1997. We purchased less than 1% of AKCL's unit output during 1999
compared to approximately 1% and 11% in 1998 and 1997, respectively. Future
distribution sales of AKCL-produced disks to U.S. customers will depend on
market dynamics.
AKCL's 1999 net loss was significantly lower than in 1998, due to
substantially higher unit sales volumes, and improving yields, somewhat offset
by lower average selling prices. However, AKCL's current financing arrangements
may not be sufficient if losses continue at AKCL. There can be no assurance that
additional financing will be available to AKCL. Failure to secure additional
financing could have a material adverse affect on AKCL's business and financial
results. We have no obligation to provide or guarantee financing to AKCL.
Further, due to the AKCL losses, our investment in AKCL was written down to zero
in 1999. We did not record $2.6 million in losses as such action would have
reduced the net book value of the investment in AKCL below zero. We will record
our share of AKCL's net income only to the extent that such income exceeds
losses incurred subsequent to the date on which the investment balance became
zero.
Komag Material Technology, Inc. ("KMT")
In 1988, we formed a wholly owned subsidiary, KMT, to secure a stable
supply of aluminum substrates of satisfactory quality for our products. In 1989,
Kobe, a leading worldwide supplier of blank aluminum substrates, purchased a 45%
interest in KMT for $1.4 million. In December 1995, we reacquired 25% of the
outstanding Common Stock of KMT by purchasing shares from Kobe for $6.75
million. Our purchase raised our total ownership percentage of KMT to 80%. Kobe
holds one seat on KMT's Board of Directors.
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Under agreements between Kobe and us, Kobe will supply substrate blanks to
KMT while we will purchase the majority of KMT's entire output of finished
substrates. In combination, KMT, Kobe, and our Sarawak facility supply
substantially all of our substrate requirements.
Equity Positions Held by Asahi Glass and Kobe in Komag
Asahi Glass and Kobe each purchased two million shares of newly issued
Common Stock from us for $20 million in January 1989 and March 1990,
respectively. In 1992, Asahi Glass transferred ownership of its shares to a U.S.
subsidiary of Asahi Glass. Under their respective stock purchase agreements,
Asahi Glass and Kobe each have the right to purchase additional shares of our
Common Stock on the open market to increase their respective equity interests in
us to 20%, to maintain their percentage interest in us by purchasing their pro
rata shares of any new equity issuance by us and to require us to register their
shares for resale, either on a demand basis or concurrent with an offering by
us. Each stock purchase agreement further provides that we shall use our best
efforts to elect a representative of each investor to our Board of Directors and
to include such representatives on the Nominating Committee of the Board. There
were no purchases or sales of our stock by Asahi Glass or Kobe in 1999 and
according to our stock records March 13, 2000, Asahi America and Kobe held
2,000,000 and 2,000,002 shares of Common Stock, respectively. Sales of
significant amounts of the security holdings of Asahi Glass and/or Kobe in the
future could adversely affect the market price of our Common Stock. Any sales by
either party, however, would relieve us of our obligation to nominate that
party's representative for election to the Board of Directors.
Western Digital Corporation
In April of 1999, we purchased Western Digital's media operation for 10.8
million shares of common stock and an unsecured note for $30.1 million. In
addition, we assumed certain leases for equipment and facilities. As part of the
purchase, we entered into a volume purchase agreement with Western Digital
whereby Western Digital is obligated, over the three years following the
acquisition date, to purchase a significant majority of its media requirements
from us. As a result, Western Digital was our largest customer in 1999. We
expect them to remain our largest customer in the foreseeable future. (see Item
7--"Management's Discussion and Analysis of Financial Condition and Results of
Operations")
Competition
Current thin-film disk competitors fall into three groups: U.S. independent
manufacturers, U.S. captive manufacturers, and Japanese/Asian manufacturers.
Based upon research conducted by an independent market research firm, we believe
we are the leading independent supplier of thin-film disks. The only U.S.
independent thin-film disk competitor in 1999 was HMT Technology Corporation.
Japan-based thin-film disk competitors include Fuji Electric Company, Ltd.;
Mitsubishi Chemical Corp.; Showa Denko K.K.; and HOYA Corporation. The U.S.
captive manufacturers include IBM and OEM disk drive manufacturers, such as
Seagate Technology, Inc. ("Seagate") and Western Digital (prior to April 1999),
which manufacture disks as a part of their vertical integration programs.
Western Digital sold its media operation to us during the second quarter of
1999. In addition, Maxtor received a portion of its disk requirements from
MaxMedia, a subsidiary of Hyundai Electronics America. Hyundai Electronics
America is a major shareholder of Maxtor. To date, IBM and other OEM disk drive
manufacturers have sold nominal quantities of disks in the open market.
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Prior to 1997, the U.S. independent manufacturers, U.S. captive
manufacturers, and Japanese/Asian manufacturers each supplied approximately
one-third of the worldwide thin-film disk unit output. We believe that the
captive manufacturers increased their market share to approximately 40%, 50% and
55% in 1997, 1998 and 1999, respectively. The increased market share for the
captive suppliers heightened price competition among the independent media
suppliers for the remaining available market. This significant pricing pressure
adversely affected the financial results of independent suppliers, including
ours. See "Risk Factors--Competition."
Environmental Regulation
We are subject to a variety of environmental and other regulations in
connection with our operations and believe that we have obtained all necessary
permits for our operations. We use various industrial hazardous materials,
including metal plating solutions, in our manufacturing processes. Wastes from
our manufacturing processes are either stored in areas with secondary
containment before removal to a disposal site or processed on site and
discharged to the industrial sewer system.
We have continuously upgraded our waste-water treatment facilities to
improve the performance and consistency of our waste-water processing.
Nonetheless, industrial waste-water discharges from our facilities may, in the
future, be subject to more stringent regulations. Failure to comply with present
or future regulations could result in the suspension or cessation of part or all
of our operations. Such regulations could restrict our ability to expand at our
present locations or could require us to acquire costly equipment or incur other
significant expenses.
Patents and Proprietary Information
We hold and have applied for U.S. and foreign patents and have entered into
cross-licenses with certain of our customers. While possession of patents could
present obstacles to the introduction of new products by competitors and
possibly result in royalty-bearing licenses from third parties, we believe that
our success does not generally depend on the ownership of intellectual property
rights but rather on our innovative skills, technical competence, manufacturing
execution and marketing abilities. Accordingly, the patents held and applied for
will not constitute any assurance of our future success.
We regard elements of our equipment designs and processes as proprietary
and confidential and rely upon employee and vendor nondisclosure agreements and
a system of internal safeguards for protection. Despite these steps for
protecting proprietary and confidential information, there is a risk that
competitors may obtain and use such information. Furthermore, the laws of
certain foreign countries in which we do business may provide a lesser degree of
protection to our proprietary and confidential information than provided by the
laws of the U.S. In addition, from time to time we receive proprietary and
confidential information from vendors, customers and partners, the use and
disclosure of which are governed by nondisclosure agreements. Through internal
communication and the monitoring of use and disclosure of such information, we
comply with our obligations regarding use and nondisclosure. However, despite
these efforts, there is a risk that such information may be used or disclosed in
violation of our obligations of nondisclosure.
We have occasionally received, and may receive in the future,
communications from third parties asserting violation of intellectual rights
alleged to cover certain of our products or manufacturing processes or
equipment. In such cases, we evaluate whether it would be necessary to defend
against the claims or to seek licenses to the rights referred to in such
communications. No assurance can be given
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that we will be able to negotiate necessary licenses on terms that would not
have a material adverse effect on our business or that any litigation resulting
from such claims would not have a material adverse effect on our business and
financial results.
Employees
As of January 2, 2000, on a worldwide basis, we had 3,488 employees (3,250
of which are regular employees and 238 of which were employed on a temporary
basis), including 3,252 in manufacturing, 129 in research, development and
engineering and 107 in sales, administrative and management positions. Of the
total, 2,856 are employed at offshore facilities.
We believe that our future success will depend in large part upon our
ability to continue to attract, retain and motivate highly skilled and dedicated
employees. None of our employees are represented by a labor union and we have
never experienced a work stoppage.
Risk Factors
Our business is subject to a number of risks and uncertainties. While this
discussion represents our current judgment on the risks facing us and the future
direction of our business, such risks and uncertainties could cause actual
results to differ materially from any future performance suggested herein. The
discussion contained in Item 1--"Business" and Item 7--"Management's Discussion
and Analysis of Financial Condition and Results of Operations" contains
predictions, estimates and other forward-looking statements that involve a
number of risks and uncertainties. These statements may be identified by the use
of words such as "expects," "anticipates," "intends," "plans," and similar
expressions. While some of the discussion in Item 7--"Management's Discussion
and Analysis of Financial Condition and Results of Operations" represents our
current judgment on the future direction of our business, risks and
uncertainties could cause actual results to differ materially from any future
performance suggested herein. In particular, the actions taken to restructure
our U.S. operations might disrupt our ability to execute against customer
obligations and operational improvement plans. Such failures to execute would
jeopardize the anticipated improvements in our financial performance. We sell a
single product into a market characterized by rapid technological change and
sudden shifts in the balance between supply and demand. Further, we are
dependent on a limited number of customers, some of whom also manufacture some
or most of their own disks internally. Due to the volume purchase agreement with
Western Digital Corporation ("WDC"), our results continue to remain highly
dependent on the relative success of WDC in the data storage market. Competition
in the market, defined by both technology offerings and pricing, can be fierce,
especially during times of excess available capacity. Such conditions were
prevalent in 1997, 1998 and 1999. Other factors that could cause actual results
to differ are the following: changes in the industry supply-demand relationship
and related pricing for enterprise and desktop disk products; timely and
successful qualification of next-generation products; utilization of
manufacturing facilities; changes in manufacturing efficiencies, in particular
product yields and material input costs; extensibility of process equipment to
meet more stringent future product requirements; structural changes within the
disk media industry such as combinations, failures, and joint venture
arrangements; vertical integration and consolidation within our customer base;
our dependence on a limited number of customers for sales; increased
competition; timely and successful deployment of new process technologies into
manufacturing; the availability of certain sole-sourced raw material supplies
and retention of key employees. In addition, our business requires substantial
investments for research and development activities and for physical assets such
as equipment and facilities that are dependent on our access to financial
resources. We are currently in default under certain financial covenants
contained in our bank facilities and we cannot assure you that we will be able
to negotiate
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amendments to these credit facilities on commercially reasonable terms. Our
ability to raise additional funding will be dependent upon improving our
financial performance as well as the status of our credit facilities. These and
other risks are discussed more fully below. We undertake no obligation to
publicly release the result of any revisions to our forward-looking statements
that may be made to reflect events or circumstances after the date hereof or to
reflect the occurrence of unanticipated events.
Customers Have Demanding Product Requirements
Our thin-film disk products primarily serve the 3 1/2-inch hard disk drive
market, where product performance, consistent quality, price, and availability
are of great competitive importance. Short program life-cycles and product
customization increase the risk of inventory obsolescence. To succeed in an
industry characterized by rapid technological developments, we must continuously
advance our thin-film technology at a pace consistent with or faster than our
competitors. If we are unable to keep pace with rapid advances, we may lose
market share and face increased price competition from other manufacturers. Such
competition could materially adversely affect our results of operations.
The Thin-Film Media Industry Is Very Competitive
In 1999, as in 1998, media supply exceeded media demand. The result of
excess media supply has been declines in average selling prices for disk
products as independent suppliers struggle to utilize their capacity. Pricing
pressure on component suppliers is further compounded by high consumer demand
for sub-$1,000 personal computers. Structural change in the disk media industry,
including combinations, failures and joint venture arrangements, may be required
before media supply and demand balances.
In response to high historical and projected growth rates for the disk
drive market at the time, a majority of our competitors (both independent disk
and captive disk manufacturers) and we substantially increased disk
manufacturing capacity in 1997 to satisfy the anticipated demand for disk
products. These significant investments in capable new disk production capacity,
combined with the slowdown in demand, have resulted in excess disk media
capacity in the merchant market as drive manufacturers source a higher portion
of their disk requirements from their captive media operations.
Low-cost manufacturing has become more important as pricing pressures have
increased. During the third quarter of 1999, we announced that all media
production would be consolidated into our Malaysian factories. During the last
month of 1999, all of our media production occurred in our Malaysian factories.
While we believe that our manufacturing operations in Malaysia can provide a
competitive cost advantage relative to most other thin-film disk manufacturers
that operate exclusively or primarily in the U.S. or Japan, our media
manufacturing is now concentrated in one foreign country (see "Risks Associated
with Foreign Operations and Joint Ventures" below).
In general, the life cycles of recent disk drive programs have been
shortening. Additionally, media must be more customized to each disk drive
program. Supply chain management, including just-in-time delivery, is rapidly
becoming a standard industry practice. Timely development of new products and
technologies that assist customers in reducing their time-to-market performance
and operational excellence that supports high-volume manufacturing ramps and
tight inventory management throughout the supply chain will be keys to both the
maintenance of constructive customer relationships and our profitability. We
cannot assure you that we will be able to respond to this rapidly changing
environment in a manner that will maximize utilization of our production
facilities and minimize our inventory
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losses. Furthermore, there are a relatively large number of capable competitors,
some with greater financial resources than us.
Bank Credit Facilities
The size of our second quarter 1998 net loss resulted in a default under
certain financial covenants contained in our bank credit facilities. At the time
of the covenant default we had $260 million of debt outstanding against a total
borrowing capacity of $345 million under our various senior unsecured credit
facilities. As a result of the covenant default, our lenders withdrew the $85
million in unused borrowing capacity. We are not in payment default under these
credit facilities as we have continued to pay all interest charges and fees
associated with these facilities on their scheduled due dates. Of the $260
million of debt outstanding, $85 million matures in the fourth quarter of 2000
and $175 million matures in 2002. To date, our lenders have not accelerated any
principal payments under our credit facilities. We are currently negotiating
with our lenders for amendments to our existing credit facilities. We cannot
assure you that we will be able to obtain such amendments to our credit
facilities on commercially reasonable terms. If we do not successfully amend
these credit facilities, we would remain in technical default of our bank loans
and the lenders would retain their rights and remedies under the existing credit
agreements. In addition, if the maturities of the credit facilities due in the
fourth quarter of 2000 are not extended, we may not have sufficient financial
resources to meet our fourth quarter $85 million payment obligations. For the
long term, we will likely need to restructure our debt obligations and raise
additional funds to operate our business. Inability to raise additional funds
may force us to reduce or suspend operations. Raising additional funds or a
significant debt restructuring may require significant dilution to shareholders.
Customer Concentration
Our sales are concentrated in a small number of customers. This
concentration is due to the high-volume requirements of the dominant disk drive
manufacturers and their tendency to rely on a few suppliers because of the close
interrelationship between media performance and disk drive performance and the
complexity of integrating components from a variety of suppliers. Also
influencing customer concentration are the increases in areal densities that led
to decreases in the platter count per drive. With lower platter counts, captive
disk drive manufacturers have excess internal media capacity and they rely less
on independent sources of media. Our net sales to major customers in 1999 were
as follows:
* Western Digital Corporation ("Western Digital") - 71%
* Maxtor Corporation ("Maxtor") - 16%
During 1999, IBM and Seagate produced more than 80% of their media demand
internally and MMC Technology, Inc. supplied approximately 45% of Maxtor's
requirement for media. Hyundai Electronics America owns MMC Technology, Inc. and
is also one of Maxtor's major shareholders. To date, MMC Technology, Inc. and
the captive media operations of IBM and Seagate have sold minimal quantities of
disks in the merchant market.
Given the relatively small number of disk drive manufacturers, we expect
that we will continue to depend on a limited number of customers. In addition,
our customers are based in the United States. Should U.S. based drive companies
lose market share to foreign competitors, it could have a negative impact on our
sales.
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Our sales are generally made pursuant to purchase orders that are subject
to cancellation, modification or rescheduling without significant penalties. We
cannot assure you that our current customers will continue to place orders with
us, that orders by existing customers will recover to the levels of earlier
periods or that we will be able to obtain orders from new customers.
Our sales are significantly connected to Western Digital's performance. In
April of 1999, we purchased Western Digital's media operation. As part of the
purchase, we entered into a volume purchase agreement with Western Digital
whereby Western Digital is obligated, over the three years following the
acquisition date, to purchase a significant majority of its media requirements
from us. We also acquired building and equipment leases with remaining lease
commitments of $71 million from Western Digital. The leased assets are
substantially unused and thus, to the extent that we cannot terminate our
obligations under the leases, we will suffer a cash drain.
Our Sole Product Is Sold To Hard Disk Drive Manufacturers
Our sole product, thin-film media, is used in hard disk drives. Demand for
our high-performance, thin film disks depends upon the demand for hard disk
drives and our ability to provide high quality, technically superior products at
competitive prices.
The hard disk drive industry is very competitive. With short product life
cycles and rapid technological change, new products must be qualified frequently
and high volume production must be achieved rapidly. Hard disk drive programs
have increasingly become "bimodal" in that a few programs are high-volume and
the remaining programs are small in terms of volume. Supply and demand balance
can change quickly from customer to customer and program to program. Further, we
make substantial investments in qualifying on new programs whether or not the
customer program or our share of the program ultimately results in high volume
production.
Rapid Technological Change
We believe that our future success depends, in large measure, on our
ability to develop and implement new process technologies in a timely manner and
to continually improve these technologies. New process technologies must support
cost-effective, high-volume production of thin-film disks that meet the
ever-advancing customer requirements for enhanced magnetic recording
performance.
In this regard, in 1999 we developed a new disk carbon overcoat and process
that allows a thinner carbon overcoat without compromising disk durability and
reliability. The new carbon overcoat process was scaled up during the fourth
quarter of 1999.
Advances in hard disk drive technology demand continually lower glide
heights and higher areal densities. These advances require substantial on-going
process and technology development. Additionally, the development of
alternatives to aluminum-based substrates, such as glass-based substrates, may
require substantial investments in new process technologies and capital
expenditures. We expect that disk drive manufacturers will adopt glass based
disks as the cost of glass-based media technologies decreases and/or demands for
increasingly high-density products require the technological advantages offered
by glass. We have filed several patents relating to the glass substrate
manufacturing process. We believe that the new process offers the ability to
manufacture glass substrates at a lower cost than current glass substrates.
Furthermore, the cost of glass substrates manufactured with these new processes
is expected to be less expensive than equivalent aluminum-based substrates.
However, we
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cannot assure you that we will be able to successfully commercialize the new
glass substrate processes. Our ability to commercialize the glass substrate
processes depends, in part, on our partnering relationships with glass
suppliers.
Although we have a significant, ongoing research and development effort to
advance our process technologies and the resulting products, we cannot assure
you that we will be able to develop and implement such technologies in a timely
manner in order to compete effectively against competitors' products and/or
entirely new data storage technologies. Technology knowledge must be transferred
overseas from our U.S. research and development center to our Malaysian
manufacturing operations. Our results of operations would be materially
adversely affected if our efforts to advance our process technologies or
implement those advanced technologies in our Malaysian operations are not
successful or if the technologies that we have chosen not to develop proved to
be viable competitive alternatives.
Operating Results Are Subject To Quarterly Fluctuations
We believe that our future operating results will continue to be subject to
quarterly variations based upon a wide variety of factors, including:
* availability of media versus demand;
* the cyclical nature of the hard disk drive industry;
* our ability to develop and implement new manufacturing process
technologies;
* increases in our production and engineering costs associated with initial
design and production of new product programs;
* the extensibility of our process equipment to meet more stringent future
product requirements;
* our ability to introduce new products that achieve cost-effective,
high-volume production in a timely manner;
* changes in our product mix and average selling prices;
* the availability and the extent of utilization of our production capacity;
* changes in our manufacturing efficiencies, in particular product yields and
input costs for direct materials, operating supplies and other running
costs;
* prolonged disruptions of operations at any of our facilities for any
reason;
* changes in the cost of or limitations on availability of labor; and
* structural changes within the disk media industry, including combinations,
failures, and joint venture arrangements.
Because thin-film disk manufacturing requires a high level of fixed costs,
our gross margins are also extremely sensitive to changes in volume. At constant
average selling prices, reductions in our manufacturing efficiency cause
declines in our gross margins. Additionally, decreasing market demand for our
products generally results in reduced average selling prices and/or low capacity
utilization that, in turn, adversely affect gross margins and operating results.
We Have Consolidated Our Media Manufacturing Operations To Our Malaysian
Factories
During the third quarter of 1999, we announced that all media production
would be consolidated into our Malaysian factories. During the last month of
1999, 100% of our media production occurred in Malaysia. We believe that our
manufacturing operations in Malaysia can provide a competitive cost advantage
relative to most other thin-film disk manufacturers that operate exclusively or
primarily in the
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U.S. or Japan. However, with the closure of the U.S. media manufacturing
operations, we are now fully dependent on our Malaysian media operations.
Technology developed at our U.S. research and development center must now be
first implemented at our Malaysian facilities without the benefit of initial
implementation at a U.S. factory. We continue to manufacture aluminum substrates
at our factory in Santa Rosa, California.
Risks Associated With Foreign Operations And Joint Ventures
In 1999, our sales to customers in the Far East, including the foreign
subsidiaries of domestic disk drive companies, accounted for approximately 95%
of our net sales from our U.S. and Malaysian facilities. Our customers assemble
a substantial portion of their disk drives in the Far East and subsequently sell
these products throughout the world. Therefore, our high concentration of Far
East sales does not accurately reflect the eventual point of consumption of the
assembled disk drives. We anticipate that international sales will continue to
represent the majority of our net sales. All of our sales are currently priced
in U.S. dollars worldwide. Certain costs at our foreign manufacturing and
marketing operations are incurred in the local currency. We also purchase
certain operating supplies and production equipment from Japanese suppliers in
yen-denominated transactions. Accordingly, our operating results are subject to
the risks inherent with international operations, including, but not limited to:
* compliance with or changes in the law and regulatory requirements of
foreign jurisdictions;
* fluctuations in exchange rates, tariffs or other barriers;
* difficulties in staffing and managing foreign operations;
* exposure to taxes in multiple jurisdictions; and
* transportation delays and interruptions.
Our Malaysian operations accounted for a significant portion of our 1999
consolidated net sales. In 2000, substantially all of our net sales will
originate from our Malaysian operations. Prolonged disruption of operations in
Malaysia for any reason would cause delays in shipments of our products, thus
materially adversely affecting our results of operations. Changes in relative
currency values can be swift and unpredictable. The ability to transfer funds
from our Malaysian operations to the United States is subject to local rules and
regulations. In 1999, the Malaysian government repealed a regulation that
restricted the amount of dividends that a Malaysian company may pay to its
shareholders. This regulation would have potentially limited our ability to
transfer funds to the United States from our Malaysian operations. While the
political and economic issues in Southeast Asia have not had a material adverse
affect on our Malaysian operations, we cannot assure you that future events
would not cause a disruption in our operations.
We May Not Be Able To Attract And Retain Key Personnel
Our future success depends on the continued service of our executive
officers, our highly skilled research, development and engineering team,
manufacturing team and other key administrative, sales and marketing and support
personnel. Competition for skilled personnel is intense, and we may not be able
to attract, assimilate or retain highly qualified personnel in the future. In
this regard, we have several new executive officers, including our President,
Chief Executive Officer, Vice President -- Chief Financial Officer, Vice
President -- Corporate Controller and Vice President -- Worldwide Front-End
Operations.
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We Rely On A Limited Number of Suppliers For Materials And Equipment Used In Our
Manufacturing Processes
We rely on a limited number of suppliers, and in some cases a sole
supplier, for some of the materials and equipment used in our manufacturing
processes including aluminum substrates, nickel plating solutions, polishing and
texturing supplies, and sputtering target materials. As a result, our production
capacity would be limited if one or more of these materials were to become
unavailable or available in reduced quantities. If such materials were
unavailable for a significant period of time, our results of operations would be
adversely affected. The supplier base has been weakened by the poor financial
condition of the industry and some suppliers have either exited the business or
failed.
Earthquakes Or Other Natural Or Man-made Disasters Could Disrupt Our Operations
Our California R&D facility, KMT, AKCL, Kobe, other Japanese suppliers of
key manufacturing supplies and our Japanese supplier of sputtering machines are
each located in areas with seismic activity. Our Malaysian operations have been
subject to temporary production interruptions due to localized flooding,
disruptions in the delivery of electrical power, and, on one occasion in 1997,
by smoke generated by large, widespread fires in Indonesia. We cannot assure you
that natural or man-made disasters will not result in a prolonged disruption of
production in the future. If any natural or man-made disasters do occur, they
could have a material adverse effect on our results of operations.
Year 2000 Issues Present Technological Risks And Could Cause Disruption To Our
Business
Although we have not experienced any Year 2000 problems, it is possible
that, even after January 1, 2000, Year 2000-related issues may cause problems or
disruptions. While we believe that all of our systems are Year 2000 compliant,
we cannot assure you that we will not discover a software bug during and after
2000 that requires us to upgrade, modify or replace our software. We also cannot
provide any assurance that governmental services, utility companies, customers,
suppliers and others outside our control will not experience future Year 2000
problems.
Our Business Depends Upon Our Ability To Protect Our Patents And Information
Rights
Protection of technology through patents and other forms of intellectual
property rights in technically sophisticated fields is commonplace. In the disk
drive industry, it is not uncommon for companies and individuals to initiate
actions against others in the industry to enforce intellectual property rights.
We cannot assure you that others have not or will not perfect intellectual
property rights and enforce those rights to prevent us from using certain
technologies or demand royalty payments from us in return for using those
technologies. Either of these actions may have a material adverse affect on our
results of operations. As a measure of protection, we have entered into
cross-license agreements with certain customers.
We have occasionally received, and may receive in the future,
communications from third parties asserting violation of intellectual rights
alleged to cover certain of our products or manufacturing processes or
equipment. In such cases, we evaluate whether it would be necessary to defend
against the claims or to seek licenses to the rights referred to in such
communications. No assurance can be given that we will be able to negotiate
necessary licenses on terms that would not have a material adverse effect on us
or that any litigation resulting from such claims would not have a material
adverse effect on our business and financial results.
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We cannot assure you that we will anticipate claims that we infringe the
technology of others or successfully defend ourselves against such claims.
Similarly, we cannot assure you that we will discover significant infringements
of our technology or successfully enforce our rights to our technology if we
discover infringing uses.
The Market Price Of Our Stock Has Been Depressed
The market price of our common stock has been depressed in response to
actual and anticipated quarterly variations in:
* our operating results;
* perceptions of the disk drive industry's relative strength or weakness;
* developments in our relationships with our customers and/or suppliers;
* announcements of alliances, mergers or other relationships by or between
our competitors and/or customers;
* announcements of technological innovations or new products by us or our
competitors;
* the success or failure of new product qualifications;
* developments related to patents or other intellectual property rights;
* status of our bank loans; and
* other events or factors.
We expect this volatility to continue in the future. In addition, any
shortfall or changes in our revenue, gross margins, earnings or other financial
results from analysts' expectations could cause the price of our Common Stock to
fluctuate significantly. In recent years, the stock market in general has
experienced extreme price and volume fluctuations which have particularly
affected the market price of many technology companies and which have often been
unrelated to the operating performance of those companies. These broad market
fluctuations may adversely affect the market price of our Common Stock.
Volatility in the price of stocks of companies in the hard disk drive industry
has been particularly high, especially during 1997, 1998 and 1999. During this
period, the price of our stock fell to a low of $1 5/8 during the fourth quarter
of 1999 from a high of $35 1/8 during the second quarter of 1997. See "Price
Range of Common Stock."
Recovery of the stock price is contingent upon a correction in the industry
supply and demand imbalance as well as on internal execution on
industry-mandated technology, cost and yields targets. The timing of the supply
and demand correction may be influenced by structural changes including mergers,
acquisitions and failures.
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ITEM 2. PROPERTIES
Worldwide (excluding AKCL), we currently occupy facilities totaling
approximately 1.2 million square feet. In addition, we have unoccupied leased
facilities totaling approximately 0.1 million square feet for which we are
actively engaged in locating new tenants. We own three manufacturing facilities
in Malaysia, two in Penang and one in Sarawak. The square footage of each of
these facilities and acreage of the related land parcels are 340,000 square feet
and 13 acres, 275,000 square feet and 18 acres, and 275,000 square feet and 89
acres. We lease one manufacturing facility in Santa Rosa, California. These
facilities are leased for the following terms:
Facility Size Current Lease
(square feet) Term Expires Extension Options
------------- ------------ -----------------
188,000 January 2007 20 years
58,875 (4) June 2013 2 options at 5 years
97,000 (1) February 2001 2 options at 5 years
82,000 (2) March 2007 20 years
44,000 April 2004 5 years
30,000 (4) April 2003 36 months
25,000 (4) April 2003 36 months
23,000 (3) April 2003 5 years
(1) This facility was vacated in the third quarter of 1997 as part of our
restructuring plan and subleased in December 1997.
(2) This facility was partially vacated in January 2000 and fully vacated in
February 2000 and subleased in January 2000.
(3) This facility was vacated in June 1999, partially subleased in October 1999
and completely subleased in March 2000.
(4) These facilities are unoccupied.
ITEM 3. LEGAL PROCEEDINGS
There are no material legal proceedings to which either our subsidiaries or
we are a party or to which any of our property is subject.
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ITEM 4. SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS
No matters were submitted to our stockholders during our fourth quarter of
1999.
EXECUTIVE OFFICERS OF THE REGISTRANT
As of February 29, 2000, our executive officers are as follows:
Name Age Position
- ---- --- --------
Thian Hoo Tan 51 President, Chief Executive Officer and Director
Christopher H. Bajorek 56 Executive Vice President--Chief Technical Officer
Ray Martin 56 Senior Vice President--Customer Sales and Service
Edward H. Siegler 49 Vice President--Chief Financial Officer and
Secretary
Kathleen A. Bayless 43 Vice President--Corporate Controller
Timothy H. Starkey 47 Vice President--Worldwide Front-End Operations
Thiam Seng Tan 43 Vice President--Penang Operations
Eric Tu 46 Vice President--Media Manufacturing
Tsutomu T. Yamashita 45 Vice President--Process Development
Mr. Thian Hoo Tan was appointed President and Chief Executive Officer in
August 1999. Mr. Tan started our first San Jose, California manufacturing
facility in 1989, Penang operations in 1993, and Sarawak operations in 1996. Mr.
Tan returned to the U.S. and assumed the position of Senior Vice
President--Worldwide Operations from 1996 through his appointment by the Board
to his present position. Before joining the Company in 1989, Mr. Tan was Vice
President of Operations at HMT Technology. Mr. Tan holds a M.S. degree in
Physics from the University of Malaya in Kuala Lumpur.
Dr. Bajorek joined the Company and was elected to the newly created
position of Senior Vice President-Chief Technical Officer in June 1996. He was
promoted to Executive Vice President-Chief Technical Officer in January of 2000.
Prior to joining the Company, Dr. Bajorek was Vice President, Technology
Development and Manufacturing, for the Storage Systems Division of IBM in San
Jose, California. During his 25-year career with IBM, Dr. Bajorek held various
positions in research and management related to magnetic recording, magnetic
bubble and optical storage applications. He holds a Ph.D. degree in Electrical
Engineering and Business Economics from the California Institute of Technology.
Dr. Bajorek is a director of the International Disk Drive Equipment and
Materials Association (IDEMA), an industry trade association. He is also one of
fifteen scientists awarded the Millennium award by IEEE.
Mr. Martin joined the Company in October 1997 and served as Vice
President--Product Assurance and Product Test until his promotion to Senior Vice
President--Customer Sales and Service in June 1998. From 1990 to 1997, he headed
product engineering and head/media development as Director of Process and
Technology at Quantum Corporation. Prior to working at Quantum, Mr. Martin held
a number of management and engineering positions at several leading disk drive
manufacturers, including Western Digital, Seagate, and IBM. Mr. Martin holds a
B.S. degree in Mechanical Engineering from Kansas State University.
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Mr. Siegler joined the Company in 1987 and has served in a variety of
financial management roles. He was promoted to Vice President--Chief Financial
Officer in February 2000. He also serves as Secretary. Prior to joining the
Company, Mr. Siegler held management positions at several high-technology
concerns. Mr. Siegler holds a B.A. degree from Stanford University and an M.B.A.
from Santa Clara University.
Ms. Bayless joined the Company in August 1994 as Corporate Controller and
was promoted to Vice President in February 2000. Prior to joining the Company,
she held various management positions with the public accounting firm of Ernst &
Young, LLP. Ms. Bayless holds a B.S. degree in Accounting from California State
University Fresno and is a certified public accountant.
Mr. Thiam Seng Tan joined the Company in December 1993 as Director of
Quality Assurance. He was appointed Vice President--Penang Operations in October
1998. Prior to joining the Company, Mr. Tan held positions in manufacturing,
engineering, customer service and materials management at Hewlett Packard Sdn.
Bhd. from 1979 to 1993. Mr. Tan holds a B.Sc. degree in Mechanical Engineering
from the University of London.
Mr. Starkey joined the Company in 1989 as President of Komag Material
Technology, Inc. (KMT), a Komag subsidiary located in Santa Rosa, California.
During that time he has also served on the Board of Directors for KMT and is
currently the Chairman. He was promoted to Vice President--Substrate
Manufacturing of Komag, Incorporated in February 2000. Mr. Starkey has over 20
years experience in the recording media industry. Prior to joining the Company,
he was a General Manager at Domain Technology and held Engineering Management
positions at Verbatim, Corporation. Mr. Starkey holds a Bachelor's degree in
Electrical Engineering from Bradley University.
Mr. Tu rejoined the Company as Vice President--U.S. Media Operations in
July 1998. After the closure of the U.S. manufacturing operation and recent
worldwide reorganization, Mr. Tu was appointed Vice President--Media
Manufacturing and is heading process development for certain process areas and
pilot line operation in the U.S. He also carries the responsibility of media
operation at our Penang facility. He previously worked for us from 1988 to 1993.
Prior to rejoining us, Mr. Tu held senior manufacturing positions with Kobe
Precision, Inc., a manufacturer of aluminum substrates and Fuji Electric
(Malaysia) Sdn. Bhd., a computer hard disk maker in Malaysia. Mr. Tu holds a MS
degree in Mechanical Engineering from University of Missouri.
Mr. Yamashita joined the Company in 1984 and was Senior Director of
Research prior to his promotion to Vice President--Research and Development in
January 1995. Mr. Yamashita currently serves as Vice President of Process
Development. Prior to joining the Company, Mr. Yamashita was a graduate research
assistant in the Department of Material Science and Engineering at Stanford
University. Mr. Yamashita holds a B.S. degree in Chemistry and a M.S. degree in
Materials Science from Stanford University.
23
<PAGE>
PART II
ITEMS 5, 6, 7 and 8.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our Common Stock is traded on the Nasdaq National Market under the symbol
KMAG. The following table sets forth the range of high and low closing sales
prices, as reported on the Nasdaq National Market. At March 13, 2000 we had
approximately 422 holders of record of our Common Stock and 65,874,918 shares
outstanding.
Price Range of
Common Stock
---------------
High Low
---- ---
1998
First Quarter 15.63 12.06
Second Quarter 15.50 5.63
Third Quarter 6.13 2.63
Fourth Quarter 11.00 2.13
1999
First Quarter 15.25 4.31
Second Quarter 4.63 3.06
Third Quarter 4.25 3.00
Fourth Quarter 3.94 1.63
2000
First Quarter (through March 24, 2000) 4.81 2.22
DIVIDEND POLICY
We have never paid cash dividends on our Common Stock. We presently intend
to retain all cash for use in the operation and expansion of our business and do
not anticipate paying any cash dividends in the near future. Our debt agreements
prohibit the payment of dividends without the lenders' consent.
24
<PAGE>
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The following table sets forth selected consolidated financial data and
other operating information of Komag, Incorporated. The financial data and
operating information is derived from the consolidated financial statements of
Komag, Incorporated and should be read in conjunction with the consolidated
financial statements, related notes and other financial information included
herein.
<TABLE>
<CAPTION>
Fiscal Year Ended (4)
---------------------------------------------------------------
1999 (1) 1998 (2) 1997 (3) 1996 1995
--------- --------- ---------- -------- --------
(in thousands, except per share amounts and number of employees)
<S> <C> <C> <C> <C> <C>
Consolidated Statements of
Operations Data:
Net Sales $ 331,946 $ 328,883 $ 631,082 $577,791 $512,248
Gross Profit (Loss) (22,709) (62,752) 93,546 175,567 197,486
Restructuring/Impairment Charges 187,965 187,768 52,157 -- --
Income (Loss) Before
Minority Interest and Equity
in Joint Venture Income (Loss) (281,859) (338,789) (16,838) 100,553 101,410
Minority Interest in Net Income (Loss)
of Consolidated Subsidiary (212) 544 400 695 1,957
Equity in Net Income (Loss) of
Unconsolidated Joint Venture (1,402) (27,003) (4,865) 10,116 7,362
Net Income (Loss) $(283,049) $(366,336) $ (22,103) $109,974 $106,815
Basic Net Income (Loss) Per Share $ (4.54) $ (6.89) $ (0.42) $ 2.15 $ 2.24
Diluted Net Income (Loss) Per Share $ (4.54) $ (6.89) $ (0.42) $ 2.07 $ 2.14
Consolidated Balance Sheet Data:
Working Capital $(201,881) $ (92,844) $ 296,099 $142,142 $252,218
Net Property, Plant & Equipment 313,455 470,017 678,596 643,706 329,174
Current portion of long-term debt 260,000 260,000 -- -- --
Long-term Debt (less current portion) -- -- 245,000 70,000 --
Stockholders' Equity 78,713 323,807 686,184 697,940 574,564
Total Assets $ 475,871 $ 694,095 $1,084,664 $938,357 $686,315
Number of Employees at Year-end 3,488 4,086 4,738 4,101 2,915
</TABLE>
(1) Results of operations for 1999 included $143.7 million in restructuring
charges and a $44.3 million impairment charge. The restructuring charges
primarily related to the closing of the Company's U.S. manufacturing
operations based on an evaluation of the size and location of its existing
production capacity relative to the short-term and long-term market demand
outlook. The impairment charge related to the write-down of goodwill was
based on reduced cash flow
25
<PAGE>
expectations influenced by continuing difficult market conditions. The
goodwill had originated from the acquisition of Western Digital
Corporation's media operation.
(2) Results of operations for 1998 included a $187.8 million restructuring
charge that primarily related to an asset impairment charge of $175
million. The asset impairment charge effectively reduced asset valuations
to reflect the economic effect of industry price erosion for disk media and
projected under utilization of the Company's production equipment and
facilities. Based on analysis of the Company's production capacity and its
expectations of the media market over the remaining life of the Company's
fixed assets, the Company concluded that it would not be able to recover
the book value of those assets.
(3) Results of operations for 1997 included a $52.2 million restructuring
charge related to the consolidation of the Company's U.S. manufacturing
operations.
(4) The Company paid no cash dividends during the five-year period.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Results of Operations
Overview
The Company's business is both capital intensive and volume sensitive,
making capacity planning and efficient capacity use imperative. Physical
capacity, utilization of this physical capacity, yields, input material costs
and average unit sales price constitute the key determinants of the Company's
profitability. Of these key determinants, price and utilization are the most
sensitive to changes in product demand. If capacity and product price are fixed
at a given level and demand is sufficient to support a higher level of output,
then increased output attained through improved utilization rates and higher
manufacturing yields will translate directly into increased sales and improved
gross margins. Alternatively, if demand for the Company's products decreases,
falling average selling prices and lower capacity utilization will adversely
affect the results of the Company's operations.
1999 vs. 1998
Adverse market conditions, which began in mid-1997, continued to impact the
thin-film media market throughout 1998 and 1999. Demand for disk drives grew
rapidly during the mid-1990s and industry forecasts were for continued strong
growth. The Company and a majority of its competitors (both independent disk
manufacturers and captive disk manufacturers owned by vertically integrated disk
drive customers) committed to expansion programs in 1996 and substantially
increased their media manufacturing capacity in 1997. In 1997, the rate of
growth in demand for disk drives fell. Disk drive manufacturers abruptly reduced
orders for media from independent suppliers and relied more heavily on internal
capacity to supply a larger proportion of their media requirements. The media
industry's capacity expansion, coupled with the decrease in the rate of demand
growth, has resulted in excess media production capacity. This excess media
production capacity caused sharp declines in average selling prices for disk
products as independent suppliers struggled to utilize their capacity.
In addition to adversities caused by the excess supply of media, 1998 was a
year of tremendous transition for the Company and the disk drive industry. Disk
drive programs utilizing newer, more advanced, magnetoresistive ("MR") media and
recording heads replaced older generation programs utilizing inductive media and
heads. By the end of 1998 most disk drives were manufactured with MR components.
The transition to MR disk drives has led to significant, unprecedented increases
in areal density and, therefore, the amount of data that can be stored on a
single disk platter. Increased disk storage capacity per disk allows drive
manufacturers to offer lower-priced disk drives at given capacity
26
<PAGE>
points, especially in the price-sensitive desktop segment, through the
incorporation of fewer components into their disk drives. The rapid advancement
in storage capacity per disk platter has further slowed disk demand throughout
the industry. According to industry market analysts, this resulting reduction in
the average number of disks per drive will likely result in flat to declining
disk demand in 2000. The significant amount of captive capacity employed by
certain disk drive manufacturers also continues to reduce the market
opportunities for independent disk suppliers such as the Company.
In April 1999, the Company purchased the assets of Western Digital
Corporation's ("WDC's") media operation. Additionally, the Company and WDC
signed a volume purchase agreement under which the Company agreed to supply a
substantial portion of WDC's media needs over the next three years. Under the
volume purchase agreement WDC began to purchase most of its media requirements
from the Company after the closing date. Due to assimilation of the WDC media
operation, the Company initially expected that second quarter 1999 unit sales
from the combined operations would grow sequentially in the range of 20-35%
compared to the Company's first quarter of 1999 results. However, in response to
competitive market conditions the Company's customers reduced the number of
disks per drive to support the delivery of lower priced disk drives to the
rapidly expanding, low-cost segment of the PC market. As a result, actual unit
shipments for the second quarter fell considerably short of these expectations
as customer order reductions (including those from WDC) and lower-than-expected
volumes on certain new product programs restricted sequential unit sales growth
to approximately 10%. These customer actions, the continuing imbalance between
the supply and demand for disk products, and the lack of new data-intensive
applications continue to depress the Company's financial performance. Due to
this weak unit demand the Company closed the former WDC media operation at the
end of June 1999, nearly fifteen months ahead of the Company's original
transition plan.
Disk industry conditions remain very difficult. Increased storage capacity
per disk continues to limit overall unit demand in the disk industry while
excess production capacity within the industry continues to push average selling
prices for disk products lower. Vertically integrated disk drive customers such
as Seagate and IBM are also supplying a larger percentage of their disk
requirements internally as a direct result of the lower disk consumption per
drive facilitated by the increased storage capacity per platter. As a result of
these negative industry trends, the Company has experienced continuing
deterioration in its revenue forecasts during the course of 1999.
Following the closure of the former WDC media operation at the end of June
1999, the Company announced in July 1999 that it would reduce the size of its
U.S. operations further in response to the poor industry conditions. Later in
August 1999, the Company indicated that it would cease volume production of
finished disks in the U.S., close two manufacturing facilities in San Jose,
California, and institute staged work force reductions that would affect 980
people by the end of 1999. These reductions, combined with the June 1999 work
force reduction of 400 people, lowered the employment base at the Company's U.S.
operations from 1,950 people in April 1999 (subsequent to the acquisition of
WDC's media operation) to 630 people by year end. As a result of these actions
the Company expects to realize cash savings of approximately $20 million per
quarter in U.S. payroll costs, a 67% reduction from the second quarter of 1999.
The Company employed approximately 630 people in its U.S. operations and 2850
people in its Malaysian manufacturing operations at the end of fiscal 1999. The
Company recorded a restructuring charge of $139.3 million in the third quarter
for the write-off of equipment and leasehold improvements in the U.S. production
facilities scheduled for closure and for severance pay related to the
reorganization of its U.S. operations.
27
<PAGE>
After completion of the phase out of volume production, the Company's San
Jose site is solely focused on activities related to research, process
development, and product prototyping. Selling, general and administrative
functions also remain in San Jose. The Company's highly automated substrate
manufacturing in Santa Rosa, California will continue to produce low-cost
aluminum substrates and perform advanced development work for both aluminum and
glass substrates. The Company believes that the shift of high volume production
to its cost-advantaged Malaysian manufacturing plants will improve the Company's
overall cost structure, result in lower unit production costs, and improve the
Company's ability to respond to the continuing price pressures in the disk
industry.
Net Sales
Net sales for 1999 increased slightly to $331.9 million, up 1% from $328.9
million in 1998. The increase was due to a combination of a 19% increase in unit
sales volume and a 15% decrease in the overall average selling price. Price
reductions have been common on individual product offerings in the thin-film
media industry in response to significant pricing pressures generated by the
imbalance in supply and demand for thin-film media. Distribution sales of
product manufactured by AKCL decreased to less than $0.1 million in 1999 from
$2.5 million in 1998.
During 1999 sales to Western Digital Corporation and Maxtor Corporation
accounted for approximately 71% and 16%, respectively, of consolidated net
sales. During 1998 sales to Western Digital Corporation, Maxtor Corporation and
International Business Machines accounted for approximately 43%, 25% and 18%,
respectively of consolidated net sales. Net sales to each of the Company's other
customers were less than 10% during 1999 and 1998. The Company expects that it
will continue to derive a substantial portion of its sales from WDC and from a
few other 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 customers. However, as a result of the April
1999 acquisition of WDC's media operation and related volume purchase agreement,
the Company's sales are expected to remain highly dependent upon WDC's
performance in the disk drive industry.
Gross Margin
The Company incurred a negative gross margin percentage of 6.8% in 1999
compared to a negative gross margin percentage of 19.1% in 1998. Unit production
increased 15.7% in 1999 relative to 1998, however, the Company continued to
operate below capacity in 1999. The 1999 gross margin benefited from a full year
of the effects of the 1998 restructuring/impairment charges as well as a partial
year from the 1999 restructuring. Improvements in manufacturing yields (9.2%
gross margin impact), material and operating supply costs (8.6% gross margin
impact) and lower depreciation expense (4.1% gross margin impact) had the most
significant positive impact on the 1999 gross margin compared to 1998. The
effect of these manufacturing cost reductions more than offset the effect of the
decline in the overall average selling price on the Company's gross margin
(17.6%).
Operating Expenses
Research and development ("R&D") expenses decreased 28.2% ($17.4 million)
in 1999 relative to 1998. Decreased R&D staffing and lower facility and
equipment costs (primarily due to the 1998 asset impairment charges and the 1999
restructuring charges) accounted for most of the decrease in R&D expenses.
Selling, general and administrative ("SG&A") expenses decreased $0.9 million in
28
<PAGE>
1999 compared to 1998. The decrease in SG&A expenses was mainly due to lower
payroll and fixed costs of $3.0 million primarily as a result of the third
quarter 1999 restructuring charges, somewhat offset by an increase in bonus
expense of $1.4 million and higher provisions for bad debt of $0.7 million.
In 1999, the Company recorded $17.3 million of amortization of intangibles
primarily related to the goodwill associated with the Company's acquisition of
WDC's media operation. This acquisition was recorded in the second quarter of
1999 as a business combination using the purchase method of accounting. Under
this method the Company recorded the following (in millions):
Purchase Price Paid:
Common Stock $ 34.6
Note Payable 21.2
------
Total Costs $ 55.8
======
Assets Acquired:
Goodwill $ 79.2
Volume Purchase Agreement 4.7
Equipment 5.3
Inventory 2.1
Liabilities Assumed:
Remaining Lease Obligations
for Equipment Removed from Service (26.5)
Facility Closure Costs (5.6)
Purchase Order Cancellation
Liabilities (2.6)
Other Liabilities (0.8)
------
Net Assets Acquired $ 55.8
======
29
<PAGE>
The Company recognized goodwill and other intangibles in connection with
the acquisition of the WDC media operation in the amount of $83.9 million.
Goodwill reflects the difference between the fair value of the net assets
acquired and consideration paid. Under purchase accounting rules the Company
also recorded liabilities that increased the amount of goodwill recognized.
These liabilities included estimated costs for the closure of the former WDC
media operation as well as costs related to the remaining lease obligations for
equipment taken out of service due to the closure.
During 1999, the Company paid a total of approximately $13.3 million
against liabilities arising from this transaction including equipment lease
obligations ($7.6 million), rent ($1.3 million), property taxes ($1.2 million)
and other liabilities ($3.2 million). Equipment lease obligations are expected
to be paid monthly through mid-2002. At January 2, 2000, the current portion of
the equipment lease obligations was approximately $10.2 million. The majority of
the facility closure costs, purchase order cancellation costs and other
liabilities associated with the WDC transaction are expected to be paid by
mid-2000.
Based on reduced cash flow expectations influenced by continuing difficult
market conditions through the end of the third quarter of 1999, the company
recorded an impairment charge of approximately $44.3 million to write down the
goodwill balance. This charge was recorded on the Statement of Operations on the
line captioned "Restructuring/impairment charges." The fair value of the
goodwill as of the end of the third quarter of 1999 was determined based on the
discounted cash flows resulting from expected sales volumes to WDC through the
remaining period of the volume purchase agreement. This charge, combined with
the goodwill amortization for the second, third and fourth quarters, reduced the
goodwill balance to approximately $23.0 million at January 2, 2000. The goodwill
is being amortized over the three year term of the Company's volume purchase
agreement with Western Digital. Future impairment assessments will be performed
by the Company if events or changes in circumstances indicate that the carrying
amount of the goodwill may not be fully recoverable. If such assessments
indicate the carrying value of the goodwill will not be recoverable, as measured
based on the discounted cash flow method, the carrying amount will be adjusted
to fair value. The discounted cash flow estimates that will be used will contain
management's best estimates, using appropriate and customary assumptions and
projections at the time.
The Company recorded restructuring/impairment charges of $188.0 million,
$187.8 million and $52.2 million in 1999, 1998 and 1997, respectively.
During the third quarter of 1997, the Company implemented a restructuring
plan involving the consolidation of its U.S. manufacturing operations. The
Company recorded a $52.2 million restructuring charge which included $3.9
million for severance costs associated with approximately 330 terminated
30
<PAGE>
employees (all in the U.S. and predominately all from the manufacturing area),
$33.0 million for the write-down of the net book value of excess equipment and
disposed of leasehold improvements, $10.1 million related to equipment order
cancellations and other equipment-related costs, and $5.2 million for facility
closure costs. Non-cash items included in the restructuring charge totaled
approximately $33.0 million.
In the second quarter of 1998, the Company implemented a restructuring plan
which included a reduction in the Company's U.S. and Malaysian workforce and the
cessation of operations at its oldest San Jose, California plant. The Company
recorded a restructuring charge of $187.8 million, which included $4.1 million
for severance costs (approximately 170 employees, predominately in the U.S. and
approximately 63%, 33%, and 4% from the manufacturing area, engineering area and
sales, general and administrative area, respectively.), $5.8 million related to
equipment order cancellations and other equipment related costs, and $2.9
million for facility closure costs. The asset impairment component of the charge
was $175.0 million and effectively reduced asset valuations to reflect the
economic effect of industry price erosion for disk media and the projected
under-utilization of the Company's production equipment and facilities. The fair
value of these assets was determined based upon the estimated future cash flows
to be generated by the assets, discounted at a market rate of interest (15.8%)
The cash component of the total charge was $12.8 million. Non-cash items in the
restructuring/impairment charge totaled $175.0 million.
The Company incurred lower facility closure costs than anticipated in the
restructuring charges. The oldest Milpitas plant was sublet sooner than
anticipated and the Company reached a lease termination agreement with its
landlord on the second Milpitas plant in the third quarter of 1998. The Company
thereby avoided expected future rent payments and the cost of renovating the
facility to its original lease condition. Additionally, the Company determined
that it would not close its oldest San Jose, California facility at the
expiration of its lease. As a result, the Company did not incur costs to restore
the facility to its original lease condition as contemplated in the
restructuring charge. Higher than expected costs for equipment order
cancellations offset the lower facility closure costs.
31
<PAGE>
The following tables summarize these restructuring activities.
1997 Restructuring Reserve
<TABLE>
<CAPTION>
Writedown Net Book Equipment Order
Value of Equipment Cancellations And Facility
and Leasehold Other Closure Severance
(in millions) Improvements Related Costs Costs Costs Total
------------ ------------- ----- ----- -----
<S> <C> <C> <C> <C> <C>
Expensed in 1997 $ 33.0 $10.1 $ 5.2 $ 3.9 $ 52.2
Charged to Reserve (33.0) (4.2) (0.3) (3.4) (40.9)
------ ----- ----- ----- ------
Balance at December 28, 1997 -- 5.9 4.9 0.5 11.3
Charged to Reserve -- (7.9) (1.9) (0.4) (10.2)
Adjustment to Reserve -- 5.5 (3.0) (0.1) 2.4
------ ----- ----- ----- ------
Balance at January 3, 1999 -- 3.5 -- -- 3.5
Charged to Reserve -- (1.7) -- -- (1.7)
----- ----- ----- ------
Balance at January 2, 2000 $ -- $ 1.8 $ -- $ -- $ 1.8
====== ===== ===== ===== ======
1998 Restructuring Reserve
Equipment Order
Asset Cancellations And Facility
Impairment Other Closure Severance
(in millions) Charge Related Costs Costs Costs Total
------------ ------------- ----- ----- -----
Expensed in 1998 $175.0 $ 5.9 $ 2.8 $ 4.1 $ 187.8
Charged to Reserve (175.0) (5.1) -- (4.5) (184.6)
Adjustment to Reserve -- -- (2.8) 0.2 (2.6)
------ ----- ----- ----- -------
Balance at January 3, 1999 -- 0.8 -- (0.2) 0.6
Reaoolocated Reserve -- (0.2) -- 0.2 --
----- ----- ----- -------
Balance at January 2, 2000 $ -- $ 0.6 $ -- $ -- $ 0.6
====== ===== ===== ===== =======
</TABLE>
At January 2, 2000, $2.4 million related to these restructuring
activities remained in current liabilities. The Company has made cash payments
totaling approximately $29.4 million primarily for severance, equipment order
cancellations and facility closure costs. The majority of the remaining
liability, primarily for equipment order cancellations, is expected to be
settled through the use of cash by the end of the first quarter of 2000.
The Company recorded restructuring charges of $4.3 million in the second
quarter of 1999. This restructuring charge primarily related to severance pay
associated with 400 terminated employees (all in the U.S. and predominately all
from the manufacturing area). The entire $4.3 million was paid out to the
employees during the second and third quarters of 1999.
32
<PAGE>
During the third quarter of 1999, the Company implemented a
restructuring plan based on an evaluation of the size and location of its
existing production capacity relative to the short-term and long-term market
demand outlook. Under the 1999 restructuring plan, the Company decided to close
its U.S. manufacturing operations in San Jose, California. The restructuring
actions resulted in a charge of $139.3 million and included $98.5 million for
leasehold improvements and equipment write-offs, $17.7 million for future
liabilities under non-cancelable equipment leases associated with equipment no
longer being used, $15.6 million for severance pay associated with approximately
980 terminated employees (all in the U.S. and predominately all from the
manufacturing area), and $7.5 million in plant closure costs. Non-cash items
included in the restructuring charge totaled approximately $98.5 million. The
following table summarizes these 1999 restructuring activities:
1999 Restructuring Reserves
<TABLE>
<CAPTION>
Writedown Net Book Liabilities Under
Value of Equipment Non-Cancelable Facility
and Leasehold Equipment Closure Severance
(in millions) Improvements Leases Costs Costs Total
------------ ------ ----- ----- -----
<S> <C> <C> <C> <C> <C>
Expensed in 1999 $ 98.5 $ 17.7 $ 7.5 $ 19.9 $ 143.6
Charged to Reserve (98.5) (3.9) (3.0) (15.1) (120.5)
------ ------ ----- ------ -------
Balance at January 2, 2000 $ -- $ 13.8 $ 4.5 $ 4.8 $ 23.1
====== ====== ===== ====== =======
</TABLE>
At January 2, 2000, $23.1 million related to the 1999 restructuring
activities remained in current liabilities. During the third and fourth quarters
of 1999, the Company made cash payments totaling $22.0 million. Cash outflows of
approximately $9.3 million associated with severance pay and closure costs will
occur primarily during the first quarter of 2000. Cash payments of approximately
$13.8 million under the equipment leases will be made monthly through mid-2002.
Interest Income/Expense and Other Income
Interest income decreased $3.6 million (41.1%) in 1999 relative to 1998
primarily due to a lower average investment balance in 1999. Interest expense
increased $4.1 million (21.4%) in 1999 compared to 1998. The higher interest
expense was due to higher outstanding debt balance and higher interest rates in
1999 compared to 1998. Other income decreased $3.3 million in 1999 relative to
1998. The decline was primarily due to a $2.4 million decrease in foreign
exchange gains.
Income Taxes
In February 2000, the Company obtained favorable resolution of various
federal tax return audits which had been in process as of the fiscal year ended
January 2, 2000. These audits were resolved with no taxes owed by the Company.
As a result, the related income tax liability as of January 2, 2000 was reduced
by $27.0 million and the provision for income taxes for the fourth quarter and
year ended 1999 reflect this adjustment. The Company's income tax benefit of
approximately $25.8 million for 1999 primarily represents the above mentioned
adjustment, net of foreign withholding taxes.
33
<PAGE>
Komag USA (Malaysia) Sdn. ("KMS"), the Company's wholly owned thin-film
media operation in Malaysia, was granted an extension of its initial tax holiday
by the Malaysian government for a period of five years commencing in July 1998.
KMS has also been granted an additional ten-year tax holiday for its second and
third plant sites in Malaysia. The government determined in the third quarter of
1999 that earnings from the second and third plant sites will be tax free
through 2001. The remaining period of the ten-year holiday will be reassessed in
2001 based on achieving certain investment criteria. The tax holidays had no
impact on either the Company's 1999 or 1998 net loss.
Minority Interest in Consolidated Subsidiary/Equity in Unconsolidated Joint
Venture
The minority interest in the net income (loss) of consolidated subsidiary
during 1999 represented Kobe Steel USA Holdings Inc.'s ("Kobe USA") share of
Komag Material Technology, Inc.'s ("KMT") net income (loss). KMT recorded a net
loss of $1.1 million and net income of $2.7 million in 1999 and 1998,
respectively.
The Company owns a 50% interest in AKCL and records its share of AKCL's net
income (loss) as equity in net income (loss) of unconsolidated joint venture.
The Company recorded a loss of $1.4 million as its equity in AKCL's net loss for
1999 compared to a net loss of $27.0 million recorded for 1998. Substantially
higher unit sales volumes and higher yields, somewhat offset by lower average
selling prices, resulted in improved operating results at AKCL in 1999. However,
due to continuing losses at AKCL, the Company's investment in AKCL has been
written down to zero. During 1999, the Company did not record $2.6 million in
losses as it would have reduced the net book value of the investment in AKCL
below zero. Assuming AKCL reports net income in future periods, the Company will
record its share of such income only to the extent by which the income exceeds
the losses incurred subsequent to the date on which the investment balance
became zero.
1998 vs. 1997
Operating results for 1998 were significantly lower than 1997. Adverse
market conditions, which began late in the second quarter of 1997, intensified
during 1998. The decrease in demand for enterprise-class media late in the
second quarter of 1997, combined with a major expansion of media production
capacity by both independent media suppliers and captive media operations of
disk drive manufacturers, resulted in an excess supply of enterprise-class
media. Net sales decreased sharply to $129.7 million in the third quarter of
1997, down sequentially from $175.1 million in the second quarter of 1997. The
Company's gross margin percentage fell to 0.2% in the third quarter of 1997,
down from 20.4% in the second quarter of 1997. Net sales and the gross margin
percentage improved to $159.0 million and 11.6%, respectively, for the fourth
quarter of 1997.
In December 1997, however, weakened demand for desktop media products,
combined with the continuing slow recovery of the enterprise-class market
segment, lowered overall media demand. The excess supply of media in the
merchant market heightened price competition among independent media suppliers,
including the Company. The Company's net sales in the first quarter and second
quarter of 1998 dropped significantly to $76.1 million and $78.8 million,
respectively. The combination of the lower overall average selling prices and
low production volumes resulted in negative gross margin percentages of 41.5%
and 45.2%, respectively, for the first quarter and second quarter of 1998. Due
to the Company's expectation that the media industry's supply/demand imbalance
would extend into 1999, the Company adjusted its expectations for the
utilization of its installed production capacity and recorded a restructuring
charge of $187.8 million which included a $175.0 million asset impairment
34
<PAGE>
charge in the second quarter of 1998. Net sales for the third quarter and fourth
quarter of 1998 increased sequentially to $81.3 million and $92.7 million,
respectively. The gross margin percentages improved sequentially to a negative
3.4% and a positive 7.9%, respectively, in the third and fourth quarter of 1998
The asset impairment charge resulted in a reduction in depreciation and
amortization of approximately $10.2 million in the third quarter of 1998
compared to the second quarter of 1998. Higher unit volume, higher manufacturing
yields, and reduced depreciation, payroll and material input costs resulted in
substantial improvements in gross margin for the third quarter and fourth
quarter of 1998.
Net Sales
Net sales for 1998 decreased to $328.9 million, down 47.9% from $631.1
million in 1997. The decrease was due to a combination of a 36% decrease in unit
sales volume and a 19% decrease in the overall average selling price. The
Company has traditionally prevented significant reductions in its overall
average selling price through transitions to higher-priced, more technologically
advanced product offerings. The effect of price reductions in response to
significant pricing pressures generated by the imbalance in supply and demand
for thin-film media during 1998 more than offset the effect of transitions to
more advanced product offerings. Distribution sales of product manufactured by
AKCL decreased to $2.5 million in 1998 from $10.5 million in 1997.
Gross Margin
The Company incurred a negative gross margin percentage of 19.1% in 1998
compared to a positive gross margin percentage of 14.8% in 1997. Unit production
decreased 37% in 1998 relative to 1997. The Company operated well below capacity
in 1998 in order to match unit production to the sharply lower demand for its
products. The combination of the lower overall average selling price, higher
unit production costs related to underutilized capacity, and lower manufacturing
yields resulted in the negative gross margin percentage in 1998.
Operating Expenses
Research and development ("R&D") expenses increased 19.9% ($10.2 million)
in 1998 relative to 1997. The additional R&D effort was directed toward the
introduction of new product generations, process changes to manufacture such
products, process improvements to increase yields and reduce material input
costs of products in volume production, and increased development efforts to
qualify new products with customers. Selling, general and administrative
("SG&A") expenses decreased $7.8 million in 1998 compared to 1997. Lower
provisions for bonus and profit sharing programs (decrease of $3.8 million) and
lower provisions for bad debt (decrease of $2.4 million) resulted in the
majority of the overall decrease in SG&A between the years. Excluding provisions
for bonus and profit sharing programs and provisions for bad debt in 1998, SG&A
expenses decreased $1.6 million. The lower spending was primarily due to lower
payroll and other employee-related costs as a direct result of restructuring
activities completed in the fourth quarter of 1997 and second quarter of 1998.
35
<PAGE>
Interest Income/Expense and Other Income
Interest income increased $4.1 million (85.2%) in 1998 relative to 1997
primarily due to a higher average investment balance in 1998. Interest expense
increased $10.1 million (110.8%) in 1998 compared to 1997. The higher interest
expense was due to a higher outstanding debt balance in 1998 compared to 1997.
Income Taxes
The Company's income tax provision of approximately $1.3 million for 1998
primarily represents foreign withholding taxes. The Company's wholly-owned
thin-film media operation, Komag USA (Malaysia) Sdn. ("KMS"), received an
extension of its initial five-year tax holiday for an additional five years
commencing in July 1998. KMS has also been granted a ten-year tax holiday for
its second and third plant sites in Malaysia. The government determined in the
third quarter of 1999 that earnings from the second and third plant sites will
be tax free through 2001. The remaining period of the ten-year holiday will be
reassessed in 2001 based on achieving certain investment criteria. The tax
holidays had no impact on the Company's 1998 net loss. The tax provision benefit
of 55% for 1997 primarily represents tax loss carrybacks associated with the
Company's U.S. operations. As a result of profitable operations at KMS in 1997,
the tax holiday reduced the Company's 1997 consolidated net loss by
approximately $16.6 million ($0.32 per share under both the basic and diluted
methods).
Minority Interest in Consolidated Subsidiary/Equity in Unconsolidated Joint
Venture
The minority interest in the net income of consolidated subsidiary during
1998 represented Kobe Steel USA Holdings Inc.'s ("Kobe USA") share of Komag
Material Technology, Inc.'s ("KMT") net income. KMT recorded net income of $2.7
million and $2.0 million in 1998 and 1997, respectively.
The Company owns a 50% interest in AKCL and records its share of AKCL's net
income (loss) as equity in net income (loss) of unconsolidated joint venture.
The Company recorded a loss of $27.0 million as its equity in AKCL's net loss
for 1998 compared to a net loss of $4.9 million recorded for 1997. The
combination of a significant decrease in the overall average selling price for
AKCL's disk products, lower manufacturing yields, reduced equipment utilization,
customer qualification issues and substantial equipment write-downs adversely
affected AKCL's financial results for 1998.
Liquidity and Capital Resources
Cash and cash equivalents and short-term investments of $69.5 million at
the end of 1999 decreased from $127.8 million at the end of 1998. Consolidated
operating activities consumed $32.0 million in cash during 1999. The $283.0
million net loss for 1999, net of non-cash charges for restructuring and the
impairment of goodwill of $142.9 million, non-cash depreciation of $92.6
million, the non-cash amortization charges of $17.3 million, net of other
miscellaneous items, consumed $59.4 million. The restructuring charges were
recorded in 1999 based on an evaluation of the size and location of its existing
production capacity relative to the short-term and long-term market demand
outlook. The impairment of goodwill was recorded in the third quarter of 1999
based on reduced cash flow expectations influenced by continuing difficult
market conditions through the end of the third quarter of 1999. Changes in
operating assets and liabilities provided $27.4 million, primarily as a result
of the increase in the restructuring liability due to the 1999 restructuring
charges recorded, the reduction in inventory due to the closure of U.S. media
manufacturing and a Company wide effort to manage and reduce inventory balances,
as well as the reduction in accounts receivable due to a reduction in sales and
the timing of the sales in 1999 compared to 1998. The Company spent $32.0
million on capital
36
<PAGE>
requirements during 1999 primarily for equipment and building improvements to
support the production facilities. Sales of Common Stock under the Company's
employee stock purchase program generated $3.4 million.
Working capital decreased by $109.0 million in 1999 primarily due to a
decline in cash and cash equivalents and short-term investments of $58.3 million
and an increase in the restructuring liability of $21.4 million resulting from
the 1999 restructuring charges. Additionally, other current liabilities
increased $5.2 million which reduced working capital in 1999. Inventory,
accounts receivable and other current assets decreased $10.6 million, $6.9
million and $6.6 million, respectively in 1999, further reducing working
capital.
Current noncancellable capital commitments total approximately $2.0
million. Total capital expenditures for 2000 are currently planned at
approximately $20 million. The 2000 capital spending plan primarily includes
costs for projects designed to improve yield and productivity as well as costs
for the installation of certain production equipment transferred from the closed
U.S. manufacturing plant to Malaysia.
The Company is in default under certain financial covenants contained in
the Company's bank credit facilities which include the following ratios/tests:
profitability, quick ratio, leverage ratio, tangible net worth, debt coverage,
and debt to capitalization. The Company is not in payment default under these
credit facilities as all interest charges and fees associated with these
facilities have been paid on their scheduled due dates. At the time of the
covenant default the Company had $260 million of debt outstanding against a
total borrowing capacity of $345.0 million under the various senior unsecured
credit facilities. As a result of the covenant default, the Company's lenders
withdrew the $85 million in unused borrowing capacity. To date, the lenders have
not accelerated any principal payments under the credit facilities. As a result
of the technical default and reclassification of the bank debt to current
liabilities, the Company's auditors have included an explanatory paragraph in
their audit opinion to highlight the Company's need to amend or restructure its
debt obligations.
The Company is currently negotiating with its lenders for amendments to the
existing credit facilities. There can be no assurance that the Company will be
able to obtain such amendments to its credit facilities on commercially
reasonable terms. If the Company does not successfully amend these credit
facilities, it would remain in technical default of its bank loans and the
lenders would retain their rights and remedies under the existing credit
agreements. As long as the lenders choose not to accelerate any principal
payments, the Company would continue to operate in default for the near term.
However, the Company will likely need to raise additional funds to restructure
its debt obligations and to operate its business for the long term.
In March 2000, the Company entered into an agreement with an institutional
investor to sell up to $20 million of common stock. The shares of common stock
will be sold pursuant to a private equity line of credit, under which the
Company may exercise "put options" to sell shares for a price equal to 90%, 92%
or 94% of market. The shares may be sold periodically in maximum increments of
$1.5 million to $3.5 million over a period of up to thirty months. Upon signing
the agreement, the Company issued warrants to the investor to acquire 80,000
shares of common stock at a price of 125% of market. The warrants are
exercisable over a three-year period beginning in August 2000.
Over the next several years the Company will need financial resources for
capital expenditures, working capital and research and development. During 1998
and 1999, the Company spent
37
<PAGE>
approximately $89 million and $32 million, respectively, on property, plant and
equipment. In 2000, the Company plans to spend approximately $20 million on
property, plant and equipment. The Company believes that in order to achieve its
long-term growth objectives and maintain and enhance its competitive position,
such additional financial resources will be required. There can be no assurance
that the Company will be able to secure such financial resources on commercially
reasonable terms. If the Company is unable to obtain adequate financing, it
could be required to significantly reduce or possibly suspend its operations,
and/or to sell additional securities on terms that would be highly dilutive to
current stockholders.
In May 1999, at the Company's Annual Meeting of Stockholders, the Company
received authorization to sell and issue up to $250,000,000 of Common Stock in
equity or equity-linked private transactions from time to time through October
1, 2000 at a price below book value but at or above the then current market
value of the Company's Common Stock. Additionally, in July 1998, the Company's
stockholders approved a proposal to increase the amount of Common Stock the
Company is authorized to issue from 85,000,000 to 150,000,000 shares.
Other
In June 1998, the FASB issued Statement of Financial Accounting Standards
No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS
133"). SFAS 133 establishes accounting and reporting standards for derivative
instruments and for hedging activities. It requires that derivatives be
recognized in the balance sheet at fair value and specifies the accounting for
changes in fair value. This statement is effective for all fiscal quarters of
fiscal years beginning after June 15, 2000, and will be adopted by the Company
for its fiscal year 2001. The Company is currently assessing the impact of
adoption of this pronouncement on its financial statements.
38
<PAGE>
ITEM 7A. FINANCIAL MARKET RISKS
The Company is exposed to financial market risks, including changes in
interest rates and foreign currency exchange rates. The Company currently does
not utilize derivative financial instruments to hedge such risks.
The primary objective of the Company's investment activities is to preserve
principal while at the same time maximizing yields without significantly
increasing risk. The Company invests primarily in high-quality, short-term debt
instruments. A hypothetical 100 basis point increase in interest rates would
result in less than a $0.1 million decrease (less than .1%) in the fair value of
the Company's available-for-sale securities.
The Company has long-term debt with a notional value of $260 million which
includes both term debt and lines of credit. Term debt totaling $75 million
bears interest at a fixed rate of 7.4% per annum. The lines of credit totaling
$185 million bear interest at the lenders' base rate (currently 8.75%). The
Company has not hedged its exposure to fluctuations in the base interest rate. A
hypothetical 100 basis point increase in interest rates would result in
approximately $1.9 million of additional interest expense per year.
The Company enters into foreign currency forward exchange contracts to
reduce the impact of currency fluctuations on firm purchase order commitments
for equipment and construction-in-process. Gains and losses on these foreign
currency investments would generally be offset by corresponding losses and gains
on the related hedging instruments, resulting in negligible net exposure to the
Company.
A substantial majority of the Company's revenue, expense and capital
purchasing activities are transacted in U.S. dollars. However, the Company does
enter into these transactions in other currencies, primarily, the Malaysian
ringgit. Since late 1998, the ringgit has been pegged at a conversion rate of
3.8 Malaysian ringgit to the U.S. dollar. If the pegging is lifted in the
future, the Company will evaluate whether or not it will enter any hedging
contracts for the Malaysian ringgit. Based on 1999 expenses that were
denominated in Malaysian ringgit, an adverse change in exchange rates (defined
as 20% in the Malaysian ringgit to U.S. dollar rate) would result in a decline
in income before taxes of approximately $7 million.
39
<PAGE>
ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS
KOMAG, INCORPORATED
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Page
----
Report of Ernst & Young LLP, Independent Auditors 38
Consolidated Statements of Operations,
1999, 1998 and 1997 39
Consolidated Balance Sheets, 1999 and 1998 40-41
Consolidated Statements of Cash Flows,
1999, 1998 and 1997 42-43
Consolidated Statements of Stockholders' Equity,
1999, 1998 and 1997 44
Notes to Consolidated Financial Statements 45-66
40
<PAGE>
Report of Ernst & Young LLP, Independent Auditors
The Board of Directors and Stockholders
Komag, Incorporated
We have audited the accompanying consolidated balance sheets of Komag,
Incorporated as of January 2, 2000 and January 3, 1999, and the related
consolidated statements of operations, stockholders' equity, and cash flows for
each of the three years in the period ended January 2, 2000. Our audits also
included the financial statement schedule listed in the Index at Item 14(a).
These financial statements and schedule are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements and schedule based on our audits. We did not audit the financial
statements of Asahi Komag Co., Ltd. (a corporation in which the Company has a
50% interest) as of January 3, 1999, and for each of the two years in the period
ended January 3, 1999. Those financial statements were audited by other auditors
whose report has been furnished to us, and our opinion, insofar as it relates to
data included for Asahi Komag Co., Ltd. as of January 3, 1999 and for each of
the two years in the period ended January 3, 1999, is based solely on the report
of the other auditors.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits and the report of other
auditors provide a reasonable basis for our opinion.
In our opinion, based on our audits and the report of other auditors, the
financial statements referred to above present fairly, in all material respects,
the consolidated financial position of Komag, Incorporated at January 2, 2000
and January 3, 1999, and the consolidated results of its operations and its cash
flows for each of the three years in the period ended January 2, 2000, in
conformity with accounting principles generally accepted in the United States.
Also, in our opinion, the related financial statement schedule, when considered
in relation to the basic financial statements taken as a whole, presents fairly
in all material respects the information set forth therein.
The accompanying financial statements have been prepared assuming that
Komag, Incorporated will continue as a going concern. As more fully described in
Note 1, the Company has incurred recent operating losses and is out of
compliance with certain covenants of loan agreements with its lenders. These
conditions raise substantial doubt about the Company's ability to continue as a
going concern. Management's plans in regard to these matters are also described
in Note 1. The financial statements do not include any adjustments to reflect
the possible future effects on the recoverability and classification of assets
or the amounts and classification of liabilities that may result from the
outcome of this uncertainty.
Ernst & Young LLP
San Jose, California
January 21, 2000, except for Note 16,
as to which the date is March 17, 2000
41
<PAGE>
<TABLE>
KOMAG, INCORPORATED
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
<CAPTION>
Fiscal Year Ended
-----------------------------------
1999 1998 1997
--------- --------- ---------
<S> <C> <C> <C>
Net sales to unrelated parties $ 148,299 $ 328,883 $ 631,082
Net sales to related party (see Note 13 and 14) 183,647 -- --
--------- --------- ---------
Net sales 331,946 328,883 631,082
Cost of sales (see Notes 12 and 13) 354,655 391,635 537,536
--------- --------- ---------
Gross profit (loss) (22,709) (62,752) 93,546
Operating expenses:
Research, development and engineering 44,254 61,637 51,427
Selling, general and administrative 18,889 19,762 27,523
Amortization of intangibles 17,272 -- --
Restructuring/impairment charges 187,965 187,768 52,157
--------- --------- ---------
268,380 269,167 131,107
--------- --------- ---------
Operating loss (291,089) (331,919) (37,561)
Other income (expense):
Interest income 5,189 8,804 4,753
Interest expense (23,319) (19,212) (9,116)
Other, net 1,552 4,853 4,104
--------- --------- ---------
(16,578) (5,555) (259)
--------- --------- ---------
Loss before income taxes, minority
interest and equity in joint venture loss (307,667) (337,474) (37,820)
Provision (benefit) for income taxes (25,808) 1,315 (20,982)
--------- --------- ---------
Loss before minority interest and equity
in joint venture loss (281,859) (338,789) (16,838)
Minority interest in net income (loss) of
consolidated subsidiary (212) 544 400
Equity in net loss of unconsolidated joint venture (1,402) (27,003) (4,865)
--------- --------- ---------
Net loss $(283,049) $(366,336) $ (22,103)
========= ========= =========
Basic and diluted loss per share $ (4.54) $ (6.89) $ (0.42)
========= ========= =========
Number of shares used in basic and diluted computation 62,291 53,169 52,217
========= ========= =========
</TABLE>
See notes to consolidated financial statements.
42
<PAGE>
KOMAG, INCORPORATED
CONSOLIDATED BALANCE SHEETS
(In thousands, except per share amounts)
<TABLE>
<CAPTION>
Fiscal Year End
----------------------
1999 1998
--------- ---------
<S> <C> <C>
Assets
Current Assets
Cash and cash equivalents $ 25,916 $ 64,467
Short-term investments 43,610 63,350
Accounts receivable (including $25,971 and $512 due from
related parties in 1999 and 1998, respectively) less
allowances of $2,180 in 1999 and $2,847 in 1998 36,494 43,434
Inventories:
Raw materials 7,695 8,434
Work-in-process 4,820 10,672
Finished goods 10,503 14,534
--------- ---------
Total inventories 23,018 33,640
Prepaid expenses and deposits 3,254 4,348
Refundable income taxes 815 2,216
Deferred income taxes 3,767 7,883
--------- ---------
Total current assets 136,874 219,338
Investment in Unconsolidated Joint Venture -- 1,399
Property, Plant and Equipment
Land 7,785 7,785
Buildings 134,471 128,359
Leasehold improvements 36,656 86,565
Furniture 10,980 10,911
Equipment 630,221 686,169
--------- ---------
820,113 919,789
Less allowances for depreciation and amortization (506,658) (449,772)
--------- ---------
Net property, plant and equipment 313,455 470,017
Net Intangible Assets 22,996 --
Deposits and Other Assets 2,546 3,341
--------- ---------
$ 475,871 $ 694,095
========= =========
</TABLE>
See notes to consolidated financial statements.
43
<PAGE>
KOMAG, INCORPORATED
CONSOLIDATED BALANCE SHEETS (CONTINUED)
(In thousands, except per share amounts)
Fiscal Year End
------------------------
1999 1998
--------- ---------
Liabilities and Stockholders' Equity
Current Liabilities
Current portion of long-term debt $ 260,000 $ 260,000
Trade accounts payable 21,474 27,274
Accounts payable to related parties 2,019 1,848
Accrued compensation and benefits 10,048 15,544
Other liabilities 19,615 3,254
Income taxes payable 109 134
Restructuring liability 25,490 4,128
--------- ---------
Total current liabilities 338,755 312,182
Note Payable to Related Party 21,186 --
Deferred Income Taxes 20,045 52,564
Other Long-term Liabilities 13,245 1,403
Minority Interest in Consolidated Subsidiary 3,927 4,139
Commitments
Stockholders' Equity
Preferred Stock, $0.01 par value per share:
Authorized--1,000 shares
No shares issued and outstanding -- --
Common Stock, $0.01 par value per share:
Authorized--150,000 shares in 1999
and 1998
Issued and outstanding 65,875 shares
in 1999 and 53,887 shares in 1998 659 539
Additional paid-in capital 445,384 407,549
Accumulated deficit (367,909) (84,860)
Accumulated other comprehensive income 579 579
--------- ---------
Total stockholders' equity 78,713 323,807
--------- ---------
$ 475,871 $ 694,095
========= =========
See notes to consolidated financial statements.
44
<PAGE>
KOMAG, INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
<TABLE>
<CAPTION>
Fiscal Year Ended
-----------------------------------
1999 1998 1997
--------- --------- ---------
<S> <C> <C> <C>
Operating Activities
Net cash provided by (used in) operating activities--
see detail on following page $ (31,954) $ 23,601 $ 84,396
Investing Activities
Acquisition of property, plant and equipment (32,017) (89,033) (199,112)
Purchases of short-term investments (9,590) (31,050) (37,585)
Proceeds from short-term investments at maturity 29,330 -- 7,785
Proceeds from disposal of property, plant and equipment 2,240 5,449 550
Deposits and other assets 58 912 (1,190)
Dividend distribution from unconsolidated joint venture -- -- 1,535
--------- --------- ---------
Net cash used in investing activities (9,979) (113,722) (228,017)
Financing Activities
Proceeds from long-term obligations -- 15,000 175,000
Sale of Common Stock, net of issuance costs 3,382 5,691 11,777
--------- --------- ---------
Net cash provided by financing activities 3,382 20,691 186,777
--------- --------- ---------
Increase (decrease) in cash and cash equivalents (38,551) (69,430) 43,156
Cash and cash equivalents at beginning of year 64,467 133,897 90,741
--------- --------- ---------
Cash and cash equivalents at end of year $ 25,916 $ 64,467 $ 133,897
========= ========= =========
</TABLE>
See notes to consolidated financial statements.
45
<PAGE>
KOMAG, INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
(In thousands)
<TABLE>
<CAPTION>
Fiscal Year Ended
-----------------------------------
1999 1998 1997
--------- --------- ---------
<S> <C> <C> <C>
Net loss $(283,049) $(366,336) $ (22,103)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Depreciation and amortization 92,634 116,682 128,542
Amortization of intangibles 17,272 -- --
Provision for losses on accounts receivable (404) (1,125) 1,315
Equity in net loss of unconsolidated
joint venture 1,402 27,003 4,865
Loss on disposal of equipment 424 481 2,854
Impairment charge related to goodwil/property,
plant and equipment 44,348 175,000 --
Non-cash portion of restructuring charge
related to write-off of property, plant and equipment 98,548 -- 33,013
Deferred income taxes (28,403) (59) 2,513
Deferred rent (1,890) 443 463
Minority interest in net income (loss) of
consolidated subsidiary (212) 544 400
Changes in operating assets and liabilities:
Accounts receivable 32,803 35,995 (23,431)
Accounts receivable from related parties (25,459) 3,594 4,343
Inventories 12,771 33,138 (4,818)
Prepaid expenses and deposits 1,091 (659) (831)
Trade accounts payable (5,800) (12,769) (40,046)
Accounts payable to related parties 171 (5,245) 3,799
Accrued compensation and benefits (5,496) 1,948 (8,239)
Other liabilities (5,443) (342) 1,683
Income taxes (payable) refundable 1,376 22,433 (11,179)
Restructuring liability 21,362 (7,125) 11,253
--------- --------- ---------
Net cash provided by (used in) operating activities $ (31,954) $ 23,601 $ 84,396
========= ========= =========
Supplemental disclosure of cash flow information
Cash paid for interest $ 20,159 $ 19,683 $ 8,148
Cash paid (refunded) for income taxes (39) (21,017) (12,305)
Income tax benefit from stock
options exercised -- -- 1,834
</TABLE>
See notes to consolidated financial statements.
46
<PAGE>
KOMAG, INCORPORATED
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(In thousands)
<TABLE>
<CAPTION>
Accumu-
lated
Retained Other
Common Stock Additional Earnings/ Compre-
---------------------- Paid-in (Accumulated hensive
Shares Amount Capital Deficit) Income Total
--------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
Balance at December 29, 1996 51,696 $ 517 $ 388,305 $ 303,579 $ 5,539 $ 697,940
Net loss (22,103) (22,103)
Accumulated translation adjustment (3,228) (3,228)
---------
Total Comprehensive Loss (25,331)
---------
Common Stock issued under stock
option and purchase plans, including
related tax benefits 1,098 11 13,564 13,575
--------- --------- --------- --------- --------- ---------
Balance at December 28, 1997 52,794 528 401,869 281,476 2,311 686,184
Net loss (366,336) (366,336)
Accumulated translation adjustment (1,732) (1,732)
---------
Total Comprehensive Loss (368,068)
---------
Common Stock issued under stock
option and purchase plans 1,093 11 5,680 5,691
--------- --------- --------- --------- --------- ---------
Balance at January 3, 1999 53,887 539 407,549 (84,860) 579 323,807
Net loss and comprehensive loss (283,049) (283,049)
Common Stock issued under Asset
Purchase Agreement 10,783 108 34,465 34,573
Common Stock issued under stock
option and purchase plans 1,205 12 3,370 3,382
--------- --------- --------- --------- --------- ---------
Balance at January 2, 2000 65,875 $ 659 $ 445,384 ($367,909) $ 579 $ 78,713
========= ========= ========= ========= ========= =========
</TABLE>
See notes to consolidated financial statements.
47
<PAGE>
KOMAG, INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Consolidation: The consolidated financial statements include the
accounts of the Company, its wholly owned and majority-owned subsidiaries (see
Note 12) and equity in its unconsolidated joint venture (see Note 13). All
significant intercompany accounts and transactions have been eliminated in
consolidation.
The financial statements have been prepared on a going concern basis. The
Company has incurred cumulative operating losses and is not in compliance with
certain financial covenants of its various bank agreements. Such non-compliance
constitutes an event of default under the agreements. The Company has not been
in payment default under these credit facilities and has continued to pay all
interest charges and other fees associated with these facilities on their
scheduled due dates. Amounts outstanding under these unsecured credit agreements
at January 2, 2000 amounted to $260,000,000. To date, the Company's lenders have
not accelerated any principal payments under these facilities. The Company is
currently negotiating with its lenders for amendments to its existing credit
facilities. There can be no assurance that the Company will be able to obtain
such amendments to its credit facilities on commercially reasonable terms. In
the event that the Company does not successfully amend its credit facilities or
restructure its debt obligations, the Company could be required to significantly
reduce or possibly suspend its operations, and/or sell additional securities on
terms that would be highly dilutive to current stockholders of the Company. The
financial statements do not include any adjustments to reflect the possible
future effects on the recoverability and classification of assets or the amounts
and classification of assets and liabilities that may result from the outcome of
this uncertainty.
Foreign Currency Translation: The functional currency of the Company's
unconsolidated joint venture is the Japanese yen. Translation adjustments
relating to the translation of these statements are included as a separate
component of stockholders' equity and not included in net income. The functional
currency for the Company's Malaysian operation is the U.S. dollar. Remeasurement
gains and losses, resulting from the process of remeasuring these foreign
currency financial statements into U.S. dollars, are included in operations.
Foreign Exchange Gains and Losses: The Company may enter into foreign currency
forward exchange contracts to reduce the impact of currency fluctuations on firm
purchase order commitments for equipment and construction-in-process. Gains and
losses related to these contracts are included in the cost of the assets
acquired. The Company had $7,000 of Malaysian ringgit and $33,000 of Singapore
dollar based firm purchase commitments at January 2, 2000. There were no foreign
exchange contracts outstanding at January 2, 2000 and January 3, 1999.
Cash Equivalents: The Company considers as a cash equivalent any highly liquid
investment that matures within three months of its purchase date.
Short-Term Investments: The Company invests its excess cash in high-quality,
short-term debt instruments. None of the Company's debt security investments
have maturities greater than one year. At January 2, 2000, all short-term
investments are designated as available for sale. Interest and dividends on the
investments are included in interest income.
49
<PAGE>
The following is a summary of the Company's investments by major security type
at amortized cost, which approximates fair value:
Fiscal Year Ended
---------------------
1999 1998
-------- --------
(in thousands)
Municipal auction rate preferred stock $ 39,200 $ 63,350
Corporate debt securities 7,339 33,765
Mortgage-backed securities 24,650 34,060
-------- --------
$ 71,189 $131,175
======== ========
Amounts included in cash and cash equivalents $ 27,579 $ 67,825
Amounts included in short-term investments 43,610 63,350
-------- --------
$ 71,189 $131,175
======== ========
There were no realized gains or losses on the Company's investments during 1999
as all investments were held to maturity during the year. The Company utilizes
zero-balance accounts and other cash management tools to invest all available
funds, including bank balances in excess of book balances.
Inventories: Inventories are stated at the lower of cost (first-in, first-out
method) or market.
Property, Plant and Equipment: Property, plant and equipment are stated at cost
less accumulated depreciation and amortization. Depreciation is computed by the
straight-line method over the estimated useful lives of the assets. The
estimated useful life of the Company's buildings is 30 years. Furniture and
equipment are generally depreciated over 3 to 5 years and leasehold improvements
are amortized over the shorter of the lease term or the useful life.
Revenue Recognition: The Company records sales upon shipment and provides an
allowance for estimated returns of defective products.
Research and Development: Research and development costs are expensed as
incurred.
Stock Compensation: The Company has adopted Statement of Financial Accounting
Standard No. 123, "Accounting for Stock-Based Compensation" ("FAS 123"). In
accordance with the provisions of FAS 123, the Company applies APB Opinion 25
and related Interpretations in accounting for its stock-based compensation
plans. Note 5 to the Consolidated Financial Statements contains a summary of the
pro- forma effects to reported net loss and basic and diluted loss per share for
1999, 1998 and 1997 as if the Company had elected to recognize compensation cost
based on the fair value of the options granted at grant date as prescribed by
FAS 123.
Income Taxes: The provision (benefit) for income taxes is based on pretax
financial accounting income (loss). Deferred tax assets and liabilities are
recognized for the expected tax consequences of temporary differences between
the tax and book basis of assets and liabilities. The provision (benefit) for
income taxes also includes foreign withholding taxes.
50
<PAGE>
Loss Per Share: The Company determines loss per share in accordance with
Financial Accounting Standards Board Statement No. 128, "Earnings per Share"
("FAS 128").
Fiscal Year Ended
-------------------------------------
1999 1998 1997
--------- --------- ---------
(in thousands, except per share amounts)
Numerator: Net loss $(283,049) $(366,336) $ (22,103)
--------- --------- ---------
Denominator for basic and
diluted loss per share -
weighted-average shares 62,291 53,169 52,217
--------- --------- ---------
Basic and diluted loss per share $ (4.54) $ (6.89) $ (0.42)
========= ========= =========
Incremental common shares attributable to the future exercise of outstanding
options (assuming proceeds would be used to purchase treasury stock) of 442,000,
1,135,000 and 1,849,000 for 1999, 1998 and 1997, respectively, were not included
in the diluted loss per share computation because the effect would have been
antidilutive.
Comprehensive Income (Loss): In June 1997, the Financial Accounting Standards
Board issued Statement of Financial Accounting Standards No. 130, "Reporting
Comprehensive Income" ("SFAS 130"). SFAS 130 requires that all items that are
required to be recognized under accounting standards as components of
comprehensive income (loss) be reported in a financial statement that is
displayed with the same prominence as other financial statements. All periods
presented reflect the adoption of SFAS 130. Accumulated other comprehensive
income is primarily comprised of accumulated translation adjustments.
Fiscal Year: The Company uses a 52-53 week fiscal year ending on the Sunday
closest to December 31. The years ended January 2, 2000 and December 28, 1997
were comprised of 52 weeks. The year ended January 3, 1999 was comprised of 53
weeks.
Derivative Instruments and Hedging Activities: In June 1998, the FASB issued
Statement of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS 133"). SFAS 133 establishes
accounting and reporting standards for derivative instruments and for hedging
activities. It requires that derivatives be recognized in the balance sheet at
fair value and specifies the accounting for changes in fair value. This
statement is effective for all fiscal quarters of fiscal years beginning after
June 15, 2000, and will be adopted by the Company for its fiscal year 2001. The
Company is currently assessing the impact of adoption of this pronouncement on
its financial statements.
Use of Estimates: The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the amounts
51
<PAGE>
reported in the financial statements and accompanying notes. Actual results
could differ from those estimates.
NOTE 2. SEGMENT AND GEOGRAPHIC INFORMATION
The Company operates in one business segment, which is the development,
production and marketing of high-performance thin-film media for use in hard
disk drives. The Company primarily sells to original equipment manufacturers in
the rigid disk drive market.
The Company adopted Statement of Financial Accounting Standards No. 131,
"Disclosures About Segments of an Enterprise and Related Information" ("SFAS
131") at January 3, 1999. SFAS 131 establishes annual and interim reporting
standards for an enterprise's operating segments and related disclosures about
its products, services, geographic areas and major customers. Under SFAS 131,
the Company's operations are treated as one operating segment as it only reports
profit and loss information on an aggregate basis to chief operating decision
makers of the Company.
Summary information for the Company's operations by geographic location is as
follows:
Fiscal Year Ended
-----------------------------------
1999 1998 1997
--------- --------- ---------
(in thousands)
Net sales
To customers from U.S. operations $ 115,554 $ 157,408 $ 290,986
To customers from Far East operations 216,392 171,475 340,096
Intercompany from Far East operations 73,201 88,890 121,945
Intercompany from U.S. operations 31,945 33,360 38,310
--------- --------- ---------
437,092 451,133 791,337
Eliminations (105,146) (122,250) (160,255)
--------- --------- ---------
Total net sales $ 331,946 $ 328,883 $ 631,082
========= ========= =========
Operating loss
U.S. operations $(204,172) $(205,852) $(112,022)
Far East operations (86,917) (127,837) 70,821
--------- --------- ---------
(291,089) (333,689) (41,201)
Eliminations -- 1,770 3,640
--------- --------- ---------
Total operating loss $(291,089) $(331,919) $ (37,561)
========= ========= =========
Long lived assets
U.S. operations $ 55,690 $ 202,286 $ 355,470
Far East operations 283,307 272,471 357,505
--------- --------- ---------
Total long lived assets $ 338,997 $ 474,757 $ 712,975
========= ========= =========
52
<PAGE>
External sales by geographic location, which is determined by the customers'
sold to address, are as follows:
Fiscal Year Ended
-----------------------------------
1999 1998 1997
--------- --------- ---------
(in thousands)
Malaysia $ 162,635 $ 86,495 $ 112,952
Singapore 149,344 151,854 304,358
U.S. 16,570 33,154 9,213
All Other Far East Countries 1,964 487 1,572
Europe 971 23,990 11,896
Japan (see Note 13) 337 25,698 91,342
Thailand 125 7,205 99,749
--------- --------- ---------
Total net sales $ 331,946 $ 328,883 $ 631,082
========= ========= =========
NOTE 3. CONCENTRATION OF CUSTOMER AND SUPPLIER RISK
The Company performs ongoing credit evaluations of its customers' financial
conditions and generally requires no collateral. Significant customers accounted
for the following percentages of net sales in 1999, 1998 and 1997:
Fiscal Year Ended
-----------------------------------
1999 1998 1997
--------- --------- ---------
Western Digital Corporation 71% 43% 38%
Maxtor Corporation 16% 25% 19%
International Business Machines <10% 18% 10%
Quantum Corporation/MKE <10% <10% 15%
Seagate Technology, Inc. <10% <10% 14%
In April of 1999, the Company purchased Western Digital Corporation's (WDC)
media operation. As part of the purchase, the Company and WDC entered into a
volume purchase agreement whereby WDC is obligated, over the three years
following the acquisition date, to purchase a significant majority of its media
requirements from the Company.
Kobe Steel, Ltd. ("Kobe") supplies aluminum substrate blanks to Komag Material
Technology, Inc. ("KMT"), and the Company in turn purchases the majority of
KMT's entire output of finished substrates. The Company also relies on a limited
number of other suppliers, in some cases a sole
53
<PAGE>
supplier, for certain other materials used in its manufacturing processes. These
materials include nickel plating solutions, certain polishing and texturing
supplies and sputtering target materials. These suppliers work closely with the
Company to optimize the Company's production processes. Although this reliance
on a limited number of suppliers, or a sole supplier, entails some risk that the
Company's production capacity would be limited if one or more of such materials
were to become unavailable or available in reduced quantities, the Company
believes that the advantages of working closely with these suppliers outweigh
such risks. If such materials should be unavailable for a significant period of
time, the Company's results of operations could be adversely affected.
NOTE 4. STOCKHOLDER'S EQUITY
In July 1998, the Company's stockholders approved at a Special Meeting of
Stockholders a proposal to increase the amount of Common Stock the Company is
authorized to issue from 85,000,000 to 150,000,000 shares.
In May 1999, the Stockholders granted the Company authorization to sell and
issue up to $250,000,000 of Common Stock in equity or equity-linked private
transactions from time to time through October 1, 2000 at a price below book
value but at or above the then current market value of the Company's Common
Stock.
NOTE 5. STOCK OPTION PLANS AND STOCK PURCHASE PLAN
At January 2, 2000, the Company has stock-based compensation plans, which are
described below. The Company has elected to follow Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees" and related
Interpretations in accounting for its plans. Accordingly, no compensation cost
has been recorded in the financial statements for its stock option and stock
purchase plans. Had compensation cost for the stock-based compensation plans
been determined consistent with Statement of Financial Accounting Standard No.
123, "Accounting for Stock-Based Compensation," the Company's net loss and loss
per share would have been increased to the pro forma amounts indicated below:
Fiscal Year Ended
-------------------------------------
1999 1998 1997
--------- --------- --------
(in thousands, except per share amounts)
Net loss: As reported $(283,049) $(366,336) $(22,103)
Pro forma (303,793) (396,390) (36,833)
Basic and diluted EPS: As reported ($4.54) ($6.89) ($0.42)
Pro forma (4.88) (7.46) (0.71)
For purposes of the pro forma disclosure, the fair value of each option grant is
estimated on the date of grant using the Black-Scholes option pricing model with
the following assumptions used for grants in
54
<PAGE>
1999, 1998 and 1997, respectively: risk-free interest rates of 5.8%, 5.5% and
6.3%; volatility factors of the expected market price of the Company's Common
Stock of 90.4%, 63.4% and 61.9%; and a weighted-average expected life of the
options of 4.3, 4.7 and 6.5 years. There was no dividend yield included in the
calculation as the Company does not pay dividends. The weighted-average fair
value of options granted during 1999, 1998 and 1997 was $2.72, $4.29 and $11.06,
respectively.
For purposes of the pro forma disclosure, the fair value of the employees'
purchase rights under the Employee Stock Purchase Plan has been estimated using
the Black-Scholes model assuming risk-free interest rates of 5.8%, 5.5% and 6.5%
in 1999, 1998 and 1997, respectively. Volatility factors of the expected market
price were 90.4%, 63.5% and 60% for 1999, 1998 and 1997, respectively. The
weighted-average expected life of the purchase rights was six months for 1999,
1998 and 1997. The weighted-average fair value of those purchase rights granted
in 1999, 1998 and 1997 was $2.90, $3.09 and $6.37, respectively.
Since FAS 123 is applicable only to options granted subsequent to December 31,
1994, its pro forma effect was not fully reflected until 1999.
In September 1997, the Company's Board of Directors approved the 1997
Supplemental Stock Option Plan ("Supplemental Plan"). Under the Supplemental
Plan, the Company may grant nonqualified stock options to purchase up to
6,100,000 shares of Common Stock. In December 1999, the Company's Board of
Directors approved an increase of 1,500,000 shares in the total number of shares
that may be issued under the Supplemental Plan to a total of 7,600,000 shares.
Under the Company's stock option plans ("Plans"), the Company may grant options
to purchase up to 25,860,000 shares of Common Stock. Options may be granted to
employees, directors, independent contractors and consultants. The Restated 1987
Stock Option Plan provides for issuing both incentive stock options and
nonqualified stock options, both of which must be granted at fair market value
at the date of grant. The Supplemental Stock Option Plan and the Komag Material
Technology, Inc. Stock Option Plan provide for issuing nonqualified stock
options, which must be granted at fair market value at the date of grant.
Outstanding options generally vest over four years and expire no later than ten
years from the date of grant. Options may be exercised in exchange for cash or
outstanding shares of the Company's Common Stock. No options were exercised in
exchange for outstanding shares of the Company's Common Stock in 1999 and 1998.
Approximately 16,000 shares of the Company's Common Stock were received in
exchange for option exercises in 1997.
In October 1997, the Company's Board of Directors approved an option exchange
program, subject to election by the option holders, whereby options to purchase
1,806,000 shares of the Company's Common Stock at prices ranging from $19.75 to
$36.00 per share were canceled and reissued at $19.44 per share, which was the
fair market value of the Company's Common Stock at that time. The average
exercise price of the canceled options was approximately $26.62 per share. The
new options generally vest over two to four years. The option exchange program
was not available to the Company's executive officers or non-employee members of
the Company's Board of Directors.
In June 1998, the Company's Board of Directors approved an option exchange
program, subject to election by the option holders, whereby options to purchase
7,551,000 shares of the Company's Common Stock at prices ranging from $6.19 to
$31.06 per share were canceled and reissued at $5.35 per share, which was the
fair market value of the Company's Common Stock at that time. The average
55
<PAGE>
exercise price of the canceled options was approximately $15.65 per share.
Vesting under the new options remained unchanged, however, the options were
subject to a one year prohibition on exercisability. The option exchange program
was available to executive officers but was not available to the Company's
non-employee members of the Company's Board of Directors.
At January 2, 2000, approximately 1,815,000 shares of Common Stock were reserved
for future option grants and 15,349,000 shares of Common Stock were reserved for
the exercise of outstanding options. Approximately 4,486,000, 950,000 and
2,297,000 of the outstanding options were exercisable at January 2, 2000,
January 3, 1999 and December 28, 1997, respectively.
56
<PAGE>
A summary of stock option transactions is as follows:
Weighted-
average
Shares Exercise Price Total
--------- --------- ---------
(in thousands, except
per share amounts)
Outstanding at December 29, 1996 5,745 $ 15.26 $ 87,678
Granted 4,141 22.38 92,685
Exercised (678) 9.66 (6,549)
Cancelled (2,314) 25.42 (58,817)
--------- --------- ---------
Outstanding at December 28, 1997 6,894 16.68 114,997
Granted 11,290 7.43 83,842
Exercised (168) 8.55 (1,432)
Cancelled (9,200) 15.23 (140,122)
--------- --------- ---------
Outstanding at January 3, 1999 8,816 6.50 57,285
Granted 9,934 3.92 38,815
Exercised (34) 9.33 (317)
Cancelled (3,367) 6.28 (21,205)
--------- --------- ---------
Outstanding at January 2, 2000 15,349 $ 4.86 $ 74,578
========= ========= =========
57
<PAGE>
The following table summarizes information concerning currently outstanding and
exercisable options (option shares in thousands):
Options Outstanding Options Exercisable
----------------------------------- ---------------------
Remaining
Range of Number Contractual Exercise Number Exercise
Exercise Prices Outstanding Life (yrs)* Price* Exercisable Price*
- --------------- ----------- ----------- ------ ----------- ------
$1.69 - $3.00 3,543 9.9 $2.59 49 2.68
3.01 - 4.00 4,428 9.5 3.74 9 3.20
4.01 - 5.35 5,900 6.7 5.33 3,501 5.35
5.36 - 12.63 1,286 6.0 9.35 736 9.17
12.64 - 28.44 102 6.1 23.07 101 23.13
28.45 - 34.13 90 6.9 34.12 90 34.12
------- -------
15,349 4,486
======= =======
* Weighted-average
Under the terms of the Employee Stock Purchase Plan ("ESPP Plan"), employees may
elect to contribute up to 10% of their compensation toward the purchase of
shares of the Company's Common Stock. The purchase price per share will be the
lesser of 85% of the fair market value of the stock on the first day or the last
day of each semi-annual offering period.
In May 1999, the Shareholders approved a 2,550,000 share increase in the total
number of shares that may be issued under the ESPP Plan. The total number of
shares of stock that may be issued under the Plan cannot exceed 7,400,000
shares. Shares issued under the ESPP Plan approximated 1,170,000, 925,000 and
436,000 in 1999, 1998 and 1997, respectively. At January 2, 2000, approximately
2,115,000 shares of Common Stock were reserved for future issuance under the
ESPP Plan.
NOTE 6. BONUS AND PROFIT SHARING PLANS
Under the terms of the Company's cash profit sharing plan, a percentage of
consolidated semi-annual operating profit, as defined in the plan, is allocated
among all employees who meet certain criteria. Under the terms of the Company's
bonus plans, a percentage of consolidated annual operating profit, as defined in
the respective bonus plans, is paid to eligible employees. The bonus plans also
include provisions for discretionary bonuses. The Company expensed $1,486,000
under the discretionary bonus provisions in 1999. No bonus and cash profit
sharing provision based on operating profits was recorded in 1999 and 1998. The
Company expensed $1,966,000 under these bonus and cash profit sharing plans in
1997.
The Company and its subsidiaries maintain savings and deferred profit sharing
plans. Employees who meet certain criteria are eligible to participate. In
addition to voluntary employee contributions to these plans, the Company
contributes four percent of semi-annual consolidated operating profit, as
defined in the plans. These contributions are allocated to all eligible
employees. Furthermore, the Company matches a portion of each employee's
contributions to the plans up to a maximum amount. The Company contributed
$615,000, $695,000 and $2,534,000 to the plans in 1999, 1998 and 1997,
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<PAGE>
respectively. Expenses for the Company's bonus and profit sharing plans are
included in selling, general and administrative expenses.
NOTE 7. INCOME TAXES
The provision (benefit) for income taxes consists of the following:
Fiscal Year Ended
---------------------------------
1999 1998 1997
-------- --------- --------
(in thousands)
Federal:
Current $ 1,369 $ 59 $(24,036)
Deferred (20,555) (59) 2,192
-------- --------- --------
(19,186) -- (21,844)
State:
Current 2 2 (490)
Deferred (7,848) -- 321
-------- --------- --------
(7,846) 2 (169)
Foreign:
Current 1,224 1,313 1,031
-------- --------- --------
$(25,808) $ 1,315 $(20,982)
======== ========= ========
The foreign provision above consists of withholding taxes on royalty and
interest payments and foreign taxes of subsidiaries.
59
<PAGE>
Deferred tax assets (liabilities) are comprised of the following:
Fiscal Year End
----------------------
1999 1998
--------- --------
(in thousands)
State income taxes $(8,647) $(10,649)
Deferred income (10,028) (34,023)
Other (1,370) (7,892)
--------- --------
Gross Deferred tax liabilities (20,045) (52,564)
--------- --------
Depreciation 2,666 319
Inventory valuation adjustments 365 2,283
Accrued compensation and benefits 288 2,442
State income taxes -- 2,484
Other 448 355
Tax benefit of net operating losses 176,478 97,846
Tax benefit of credit carryforwards 35,213 33,085
-------- --------
Gross Deferred tax assets 215,458 138,814
Deferred tax asset valuation allowance (211,691) (130,931)
-------- --------
Net Deferred tax assets 3,767 7,883
-------- --------
$(16,278) $(44,681)
======== ========
As of January 2, 2000, the Company has federal and state tax net operating loss
carryforwards of approximately $384,000,000 and $122,000,000, respectively. The
Company also has federal and state tax credit carryforwards of approximately
$16,800,000 and $18,400,000, respectively. The Company's federal net operating
losses expire beginning in 2013 through 2019 and the state net operating losses
expire beginning in 2003 through 2004. The Company's federal tax credit
carryovers expire beginning in 2000 through 2019 and the state tax credit
carryforwards expire beginning in 2003 through 2006. Due to the uncertainty of
the timing and amount of future income, the Company has fully reserved for the
potential future tax benefit of all net operating loss and credit carryforwards
in the deferred tax asset valuation allowance.
Dastek Holding Company, a 60%-owned subsidiary of the Company, has a federal tax
net operating loss carryforward of approximately $100,000,000. The Company has
fully reserved for the potential future federal tax benefit of this net
operating loss in the deferred tax asset valuation allowance due to the fact
that its utilization is limited to the subsidiary's separately computed future
taxable income and that the subsidiary has no history of operating profits. The
net operating losses expire beginning in 2009 through 2011.
The deferred tax asset valuation allowance increased $80,760,000 in 1999,
$63,885,000 in 1998, and $32,000,000 in 1997.
60
<PAGE>
A reconciliation of the income tax provision at the 35% federal statutory rate
to the income tax provision at the effective tax rate is as follows:
<TABLE>
<CAPTION>
Fiscal Year Ended
----------------------------------
1999 1998 1997
--------- --------- --------
(in thousands)
<S> <C> <C> <C>
Income taxes computed at federal statutory rate $(107,683) $(118,116) $(13,237)
State and foreign income taxes, net of federal
benefit (6,622) 1,315 907
Permanently reinvested foreign (earnings) losses 15,052 46,446 (25,597)
Losses for which no current year benefit available 72,095 70,995 16,561
Other 1,350 675 384
--------- --------- --------
$ (25,808) $ 1,315 $(20,982)
========= ========= ========
</TABLE>
Foreign pretax income (loss) was ($101,400,000), ($131,400,000) and $74,400,000
in 1999, 1998 and 1997, respectively.
In February 2000, the Company obtained favorable resolution of various federal
income tax audits which had been in process as of January 2, 2000. These audits
were resolved with no taxes owed by the Company. As a result, the related income
tax liability as of January 2, 2000 was reduced by $27,000,000 million and the
provision for income taxes for the year ended 1999 reflects this adjustment.
Komag USA (Malaysia) Sdn. ("KMS"), the Company's wholly owned thin-film media
operation in Malaysia, was granted an extension of its initial tax holiday by
the Malaysian government for a period of five years commencing in July 1998. KMS
has also been granted an additional ten-year tax holiday for its second and
third plant sites in Malaysia. The government determined in the third quarter of
1999 that earnings from the second and third plant sites will be tax free
through 2001. The remaining period of the ten-year holiday will be reassessed in
2001 based on achieving certain investment criteria. The tax holidays had no
impact on either the Company's 1999 or 1998 net loss. In 1997, the tax holiday
reduced the Company's net loss by approximately $16,596,000 ($0.32 per share
under both the basic and diluted methods).
NOTE 8. TERM DEBT AND LINES OF CREDIT
The Company has borrowed $260,000,000 under its term debt and line of credit
facilities at January 2, 2000 and January 3, 1999. At January 2, 2000, these
borrowings incurred interest at 7.4% to 8.5%, with interest-only payments due
quarterly.
The Company is in default under certain financial covenants contained in the
Company's bank credit facilities which include the following ratios/tests:
profitability, quick ratio, leverage ratio, tangible net worth, debt coverage,
and debt to capitalization. The Company is not in payment default under these
credit facilities as all interest charges and fees associated with these
facilities have been paid on their scheduled due dates. At the time of the
covenant default the Company had $260,000,000 of debt
61
<PAGE>
outstanding against a total borrowing capacity of $345,000,000 under the various
senior unsecured credit facilities. As a result of the covenant default, the
Company's lenders withdrew the $85,000,000 in unused borrowing capacity. To
date, the lenders have not accelerated any principal payments under the credit
facilities. The Company is currently negotiating with its lenders for amendments
to the existing credit facilities.
NOTE 9. FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying values of cash and short-term investments, accounts receivable and
certain other liabilities on the Consolidated Balance Sheets approximate fair
value at January 2, 2000 and January 3, 1999 due to the relatively short period
to maturity of the instruments. As of January 2, 2000 and January 3, 1999, the
Company was in default of its debt covenants and the fair value of the Company's
debt borrowings was approximately $211,000,000 and $251,000,000, respectively.
The fair value of the bank borrowings was based on the discounted cash flow
method in 1999 and by quoted market prices or pricing models using current
market rates in 1998. See Note 1 for fair value of foreign currency hedge
contracts.
NOTE 10. LEASES AND COMMITMENTS
The Company leases certain production, research and administrative facilities
under operating leases that expire at various dates between 2000 and 2013.
Certain of these leases include renewal options varying from five to twenty
years.
At January 2, 2000, the future minimum commitments for all noncancellable
operating leases are as follows (in thousands):
Facilities
Held for
Facilities Disposal/
Occupied Sublease Total
------- ------- -------
2000 $ 2,435 $ 2,839 $ 5,274
2001 2,567 2,979 5,546
2002 2,584 3,060 5,644
2003 2,606 2,517 5,123
2004 2,493 2,387 4,880
Thereafter 4,763 16,371 21,134
------- ------- -------
Total minimum lease payments $17,448 $30,153 $47,601
======= ======= =======
Rental expense for all operating leases amounted to $6,605,000, $6,573,000 and
$8,047,000 in 1999, 1998 and 1997, respectively.
62
<PAGE>
In January 2000, the Company entered a sublease as the sub-lessor for the
administrative building in San Jose, California. The term of the sublease is
from January 14, 2000 through March 14, 2007. The payments for each of the
following five years and thereafter, which have not been included in the table
above, are as follows (in thousands):
2000 $ 916
2001 1,408
2002 1,450
2003 1,494
2004 1,539
Thereafter 3,562
-------
Total $10,369
=======
The Company has current noncancellable capital commitments of approximately
$1,956,000.
NOTE 11. RESTRUCTURING CHARGES
During the third quarter of 1997, the Company evaluated the size of its
production capacity relative to market demand and implemented a restructuring
plan to close two older Milpitas, California facilities. The Company recorded a
$52.2 million restructuring charge which included $3.9 million for severance
costs associated with approximately 330 terminated employees (all in the U.S.
and predominately all from the manufacturing area), $33.0 million for the
write-down of the net book value of excess equipment that was scrapped and
disposed of leasehold improvements, $10.1 million related to equipment order
cancellations and other equipment-related costs, and $5.2 million for facility
closure costs. Non-cash items included in the restructuring charge totaled
approximately $33.0 million.
In the second quarter of 1998 several customers reduced orders for the Company's
products in response to downward adjustments in their disk drive production
build schedules. Due to the expectation that the media industry's supply/demand
imbalance would extend into 1999, the Company adjusted its expectations for the
utilization of its installed production capacity. Based on this analysis of the
Company's production capacity and its expectations of the media market over the
remaining life of the Company's fixed assets, the Company concluded that it
would not be able to recover the book value of those assets based on projected
undiscounted cash flows. As a result, the Company implemented a restructuring
plan in June 1998 that included a reduction in the Company's U.S. and Malaysian
workforce and the cessation of operations at its oldest San Jose, California
plant. The Company recorded a restructuring charge of $187.8 million which
included $4.1 million for severance costs (approximately 170 employees,
predominately in the U.S. and approximately 69%, 27% and 4% from the
manufacturing area, engineering area and sales, general and administrative area,
respectively), $5.9 million related to equipment order cancellations and other
equipment related costs, and $2.8 million for facility closure costs. The asset
impairment component of the charge was $175.0 million and effectively reduced
asset valuations to reflect the economic effect of recent industry price erosion
for disk media and the projected under-utilization of the Company's production
equipment and facilities. The fair value of these assets was determined based
upon the estimated future cash flows to be generated by the assets, discounted
at a market rate of interest (15.8%) The cash component of the total charge was
$12.8
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<PAGE>
million. Non-cash items in the restructuring/impairment charge totaled $175.0
million.
The Company incurred lower facility closure costs than anticipated in the
restructuring charges. The oldest Milpitas plant was sublet sooner than
anticipated and the Company reached a lease termination agreement with its
landlord on the second Milpitas plant in the third quarter of 1998. The Company
thereby avoided expected future rent payments and the cost of renovating the
facility to its original lease condition. Additionally, the Company determined
that it would not close its oldest San Jose, California facility at the
expiration of its lease. As a result the Company did not incur costs to restore
the facility to its original lease condition as contemplated in the
restructuring charge. Higher than expected costs for equipment order
cancellations offset the lower facility closure costs. A total of 515 employees
were terminated in the restructuring activities.
The following tables summarize these restructuring activities.
1997 Restructuring Reserve
<TABLE>
<CAPTION>
Writedown Net Book Equipment Order
Value of Equipment Cancellations And Facility
and Leasehold Other Closure Severance
(in millions) Improvements Related Costs Costs Costs Total
------ ------- ------ ------ ------
<S> <C> <C> <C> <C> <C>
Expensed in 1997 $33.0 $ 10.1 $ 5.2 $ 3.9 $ 52.2
Charged to Reserve (33.0) (4.2) (0.3) (3.4) (40.9)
----- ------ ------ ------ ------
Balance at December 28, 1997 -- 5.9 4.9 0.5 11.3
Charged to Reserve -- (7.9) (1.9) (0.4) (10.2)
Adjustment to Reserve -- 5.5 (3.0) (0.1) 2.4
----- ------ ------ ------ ------
Balance at January 3, 1999 -- 3.5 -- -- 3.5
Charged to Reserve -- (1.7) -- -- (1.7)
----- ------ ------ ------ ------
Balance at January 2, 2000 $ -- $ 1.8 $ -- $ -- $ 1.8
===== ====== ====== ====== ======
</TABLE>
1998 Restructuring Reserves
<TABLE>
<CAPTION>
Asset Equipment Order Facility
Impairment Cancellations And Closure Severance
(in millions) Charge Other Related Costs Costs Costs Total
------ ------ ------ ------ ------
<S> <C> <C> <C> <C> <C>
Expensed in 1998 $175.0 $ 5.9 $ 2.8 $ 4.1 $187.8
Charged to Reserve (175.0) (5.1) -- (4.5) (184.6)
Adjustment to Reserve -- -- (2.8) 0.2 (2.6)
------ ------ ------ ------ ------
Balance at January 3, 1999 -- 0.8 -- (0.2) 0.6
Reallocated Reserve -- (0.2) -- 0.2 --
------ ------ ------ ------ ------
Balance at January 2, 2000 $ -- $ 0.6 $ -- $ -- $ 0.6
====== ====== ====== ====== ======
</TABLE>
64
<PAGE>
At January 2, 2000, $2.4 million related to these restructuring activities
remained in current liabilities. The Company has made cash payments totaling
approximately $29.4 million primarily for severance, equipment order
cancellations and facility closure costs. The majority of the remaining
liability, primarily for equipment order cancellations, is expected to be
settled through the use of cash by the end of the first quarter of 2000. The
Company recorded restructuring charges of $4.3 million in the second quarter of
1999. This restructuring charge related to severance costs associated with 400
terminated employees all in the U.S. and predominately all from the
manufacturing area. The entire $4.3 million was paid out to the employees during
the second and third quarter of 1999.
During the third quarter of 1999, the Company implemented a restructuring plan
based on an evaluation of the size and location of its existing production
capacity relative to the short-term and long-term market demand outlook. Under
the 1999 restructuring plan, the Company decided to close its U.S. manufacturing
operations in San Jose, California. The restructuring actions resulted in a
charge of $139.3 million and included $98.5 million for leasehold improvements
and equipment write-offs, $17.7 million for future liabilities under
non-cancelable equipment leases associated with equipment no longer being used,
$15.6 million for severance pay associated with approximately 980 terminated
employees (all in the U.S. and predominately all from the manufacturing area),
and $7.5 million in plant closure costs. Non-cash items included in the
restructuring charge totaled approximately $98.5 million.
1999 Restructuring Reserves
<TABLE>
<CAPTION>
Writedown Net Book Liabilities Under
Value of Equipment Non-Cancelable Facility
and Leasehold Equipment Closure Severance
(in millions) Improvements Leases Costs Costs Total
------------ ------ ----- ----- -----
<S> <C> <C> <C> <C> <C>
Expensed in 1999 $ 98.5 $ 17.7 $ 7.5 $19.9 $143.6
Charged to Reserve (98.5) (3.9) (3.0) (15.1) (120.5)
------ ------ ----- ----- ------
Balance at January 2, 2000 $ -- $ 13.8 $ 4.5 $ 4.8 $ 23.1
====== ====== ===== ===== ======
</TABLE>
At January 2, 2000, $23.1 million related to the 1999 restructuring activities
remained in current liabilities. During the third and fourth quarters of 1999,
the Company made cash payments totaling $22.0 million. Cash outflows of
approximately $9.3 million associated with severance pay and closure costs will
occur primarily during the first quarter of 2000. Cash payments of approximately
$13.8 million under the equipment leases will be made monthly through mid-2002.
65
<PAGE>
NOTE 12. KOMAG MATERIAL TECHNOLOGY, INC.
The Company's financial statements include the consolidation of the financial
results of Komag Material Technology, Inc. ("KMT"), which manufactures and sells
aluminum disk substrate products for high-performance magnetic storage media.
KMT is owned 80% by the Company and 20% by Kobe Steel USA Holdings Inc. ("Kobe
USA"), a U.S. subsidiary of Kobe Steel, Ltd. ("Kobe").
Other transactions between Kobe or its distributors and the Company were as
follows:
Fiscal Year Ended
-----------------------------
1999 1998 1997
------- ------- -------
(in thousands)
Accounts payable to Kobe or its distributors:
Beginning of year $ 1,799 $ 4,830 $ 2,430
Purchases 15,031 23,758 52,308
Payments (14,823) (26,789) (49,908)
------- ------- -------
End of year $ 2,007 $ 1,799 $ 4,830
======= ======= =======
NOTE 13. UNCONSOLIDATED JOINT VENTURE
In 1987, the Company formed a partnership, Komag Technology Partners
("Partnership"), with the U.S. subsidiaries of two Japanese companies and
simultaneously formed a subsidiary, Asahi Komag Co., Ltd. ("AKCL"). The Company
contributed technology in exchange for a 50% interest in the Partnership. The
Partnership and its subsidiary (joint venture) established a facility in Japan
to manufacture and sell the Company's thin-film media products in Japan. AKCL
has also historically sold its products to the Company for resale outside of
Japan. In 1996, the Company granted AKCL various licenses to sell its products
to specified customers outside of Japan in exchange for a 5% royalty on these
sales. The Company recorded approximately $3,303,000, $1,989,000 and $1,388,000
of royalty in other income in 1999, 1998 and 1997, respectively. Equipment
purchases by the Company from its joint venture partners were $2,836,000,
$14,458,000 and $17,836,000 in 1999, 1998 and 1997, respectively. In 1997, AKCL
sold its entire interest in another company for $10,800,000 to a group of new
investors as part of a recapitalization and AKCL recorded the proceeds from this
sale as a gain ($5,300,000, net of tax).
The Company's share of the joint venture's net loss was ($1,402,000),
($27,003,000) and ($4,865,000) in 1999, 1998 and 1997, respectively. Due to the
AKCL losses, the Company's investment in AKCL was written down to zero in 1999.
During 1999, the Company did not record $2.6 million in additional losses as it
would have reduced the net book value of the investment in AKCL below zero.
Assuming AKCL reports net income in future periods, the Company will record its
share of such income only to the extent by which the income exceeds the losses
incurred subsequent to the date on which the investment balance became zero.
Other transactions between the joint venture and the Company were as follows:
Fiscal Year Ended
-----------------------------
1999 1998 1997
------- ------- -------
(in thousands)
Accounts receivable from joint venture:
Beginning of year $ 459 $ 4,053 $ 8,316
Sales 981 15,799 95,302
Cash receipts (835) (19,393) (99,565)
------- ------- -------
End of year $ 605 $ 459 $ 4,053
======= ======= =======
Accounts payable to joint venture:
Beginning of year $ 19 $ 2,256 $ 549
Purchases 215 4,153 14,686
Payments (222) (6,390) (12,979)
------- ------- -------
End of year $ 12 $ 19 $ 2,256
======= ======= =======
66
<PAGE>
Summary combined financial information for the Partnership and AKCL for the
years ended December 31, 1999, 1998 and 1997, and as of December 31, 1999 and
1998 is as follows. The subsidiary's total assets, liabilities, revenues, costs
and expenses approximate 100% of the combined totals.
Fiscal Year Ended
------------------------------------
1999 1998 1997
--------- --------- ---------
(in thousands)
Summarized Statements of Operations:
Net sales $ 189,346 $ 138,330 $ 186,474
Costs and expenses 197,321 192,311 200,305
Income tax provision (benefit) 29 25 (4,101)
--------- --------- ---------
Net Loss $ (8,004) $ (54,006) $ (9,730)
========= ========= =========
Fiscal Year End
-----------------------
1999 1998
--------- --------
(in thousands)
Summarized Balance Sheets:
Current assets $ 58,280 $ 69,773
Noncurrent assets 149,580 163,035
--------- --------
Total Assets $ 207,860 $232,808
========= ========
Current liabilities $ 137,686 $139,043
Long-term obligations 73,260 88,892
Partners' capital (3,086) 4,873
--------- --------
Total Liabilities and Partners' Capital $ 207,860 $232,808
========= ========
NOTE 14. PURCHASE OF WESTERN DIGITAL CORPORATION'S MEDIA OPERATION
In April 1999, the Company purchased the assets of Western Digital Corporation's
("WDC's") media operation through the issuance of approximately 10.8 million
shares of the Company's Common Stock and a note in the principal amount of $30.1
million. The shares issued in the transaction, which represented 16.7% of the
Company's outstanding shares on a post-issuance basis, were originally
unregistered and subject to trading restrictions. WDC may resell these shares in
specified increments over a three and one-half year period under registration
rights granted by the Company or under SEC rules after expiration of the
required holding periods. The Company registered 30% of the shares in January
2000 pursuant to the agreement. Principal and interest accrued on the note are
due in three years and the note is subordinated to the Company's senior credit
facilities. In the event WDC realizes a return on its Komag equity holdings in
excess of a targeted amount within three years, the excess amount will reduce
the balance due under the note. The Company discounted the principal amount of
the subordinated note payable to $21.2 million based on the Company's estimated
incremental borrowing rate at the time of the acquisition of 18% for this class
of financial instrument.
67
<PAGE>
Additionally, the Company and WDC signed a volume purchase agreement under which
the Company agreed to supply a substantial portion of WDC's media needs over the
next three years. Under the volume purchase agreement WDC began to purchase most
of its media requirements from the Company after the closing date. However, due
to weak unit demand driven by a substantial decrease in the number of disks per
drive the Company closed the former WDC media operation at the end of June 1999,
nearly fifteen months ahead of the Company's original transition plan.
The Company's acquisition of WDC's media operation was recorded in the second
quarter of 1999 as a business combination using the purchase method of
accounting. Under this method the Company recorded the following (in millions):
Purchase Price Paid:
Common Stock $ 34.6
Note Payable 21.2
------
Total Costs $ 55.8
======
Assets Acquired:
Goodwill $ 79.2
Volume Purchase Agreement 4.7
Equipment 5.3
Inventory 2.1
Liabilities Assumed:
Remaining Lease Obligations
for Equipment Removed
from Service (26.5)
Facility Closure Costs (5.6)
Purchase Order Cancellation
Liabilities (2.6)
Other Liabilities (0.8)
------
Net Assets Acquired $ 55.8
======
The Company recognized goodwill and other intangibles in connection with the
acquisition of the WDC media operation in the amount of $83.9 million. Goodwill
typically reflects the difference between the fair value of the assets acquired
and consideration paid. Under purchase accounting rules, the Company also
recorded liabilities that increased the amount of goodwill recognized. These
liabilities included estimated costs for the closure of the former WDC media
operation as well as costs related to the remaining lease obligations for
equipment taken out of service due to the closure.
During 1999, the Company paid a total of approximately $13.3 million against
liabilities arising from
68
<PAGE>
this transaction including equipment lease obligations ($7.6 million), rent
($1.3 million), property taxes ($1.2 million) and other liabilities ($3.2
million). Equipment lease obligations are expected to be paid monthly through
mid-2002. At January 2, 2000, the current portion of the equipment lease
obligations was approximately $10.2 million. The majority of the facility
closure costs, purchase order cancellation costs and other liabilities
associated with the WDC transaction are expected to be paid by mid-2000.
Based on reduced cash flow expectations influenced by continuing difficult
market conditions through the end of the third quarter of 1999, the company
recorded an impairment charge of approximately $44.3 million against this
goodwill balance which was recorded on the Statement of Operations on the line
captioned "Restructuring/impairment charges." The fair value of the goodwill as
of the end of the third quarter of 1999 was determined based on the discounted
cash flows resulting from expected sales volumes to WDC through the remaining
period of the volume purchase agreement. This charge, combined with the goodwill
amortization for the second, third and fourth quarters, reduced the goodwill
balance to approximately $23.0 million at January 2, 2000. The goodwill is being
amortized over the three year term of the Company's volume purchase agreement
with Western Digital. Future impairment assessments will be performed by the
Company if events or changes in circumstances indicate that the carrying amount
of the goodwill may not be fully recoverable. If such assessments indicate the
carrying value of the goodwill will not be recoverable, as measured based on the
discounted cash flow method, the carrying amount will be adjusted to fair value.
The discounted cash flow estimates that will be used will contain management's
best estimates, using appropriate and customary assumptions and projections at
the time.
Related party transactions between WDC and the Company subsequent to April 8,
1999 were as follows (in thousands):
1999
--------
Accounts receivable from WDC:
Beginning of year $ --
Sales 183,511
Cash receipts (158,198)
--------
End of year $ 25,313
========
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<PAGE>
NOTE 15. QUARTERLY SUMMARIES
(in thousands, except per share amounts, unaudited)
<TABLE>
<CAPTION>
1999
-----------------------------------------------------------
1st Quarter 2nd Quarter(1) 3rd Quarter(2) 4th Quarter(3)
----------- -------------- -------------- --------------
<S> <C> <C> <C> <C>
Net sales $ 90,013 $ 93,226 $ 79,898 $ 68,809
Gross profit (loss) 747 (4,631) (17,606) (1,219)
Net income (loss) (21,526) (38,234) (229,166) 5,877
Basic and diluted earnings
(loss) per share ($ 0.40) ($ 0.60) ($ 3.50) $ 0.09
1998
-----------------------------------------------------------
1st Quarter 2nd Quarter(4) 3rd Quarter 4th Quarter
----------- -------------- -------------- --------------
Net sales $76,057 $78,808 $ 81,314 $92,704
Gross profit (loss) (31,595) (35,637) (2,803) 7,283
Net loss (58,158) (261,884) (27,449) (18,845)
Basic and diluted loss
per share ($1.10) ($4.95) ($0.51) ($0.35)
</TABLE>
(1) Results for the second quarter of 1999 included a $4,321,000 restructuring
charge, which primarily related to severance pay associated with 400
terminated employees.
(2) Results for the third quarter of 1999 included a $139,296,000 restructuring
charge and a $44,348,000 impairment charge. The restructuring charge
primarily related to the closing of the Company's U.S. manufacturing
operations based on an evaluation of the size and location of its existing
production capacity relative to the short-term and long-term market demand
outlook. The impairment charge related to the write-down of goodwill was
based on reduced cash flow expectations influenced by continuing difficult
market conditions. The goodwill had originated from the acquisition of
Western Digital Corporation's media operation.
(3) In February 2000, the Company obtained favorable resolution of various
federal tax return audits which had been in process as of the fiscal year
ended January 2, 2000. These audits were resolved with no taxes owed by the
Company. As a result, the related income tax liability as of January 2,
2000 was reduced by $27.0 million and the provision for income taxes for
the fourth quarter and year ended 1999 reflect this adjustment.
(4) Results for the second quarter of 1998 included a $187,768,000
restructuring charge which primarily related to an asset impairment charge
of $175,000,000. The asset impairment charge effectively reduced asset
valuations to reflect the economic effect of industry price erosion for
disk media and projected under utilization of the Company's production
equipment and facilities. Based on analysis of the Company's production
capacity and its expectations of the media market over the remaining life
of the Company's fixed assets, the Company concluded that it would not be
able to recover the book value of those assets.
70
<PAGE>
NOTE 16. SUBSEQUENT EVENTS
In March 2000, the Company entered into an agreement with an institutional
investor to sell up to $20 million of common stock. The shares of common stock
will be sold pursuant to a private equity line of credit, under which the
Company may exercise "put options" to sell shares for a price equal to 90%, 92%
or 94% of market price. The shares may be sold periodically in maximum
increments of $1.5 million to $3.5 million over a period of up to thirty months.
Upon signing the agreement, the Company issued warrants to the investor to
acquire 80,000 shares of common stock at a price equal to 125% of market price.
The warrants are exercisable over a three-year period beginning in August 2000.
71
<PAGE>
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS AND FINANCIAL DISCLOSURE.
Not Applicable.
PART III
ITEMS 10, 11, 12 and 13.
Items 10 through 13 of Part III will be contained in the Komag,
Incorporated Proxy Statement for the Annual Meeting of Stockholders to be held
May 10, 2000 (the "2000 Proxy Statement"), which will be filed with the
Securities and Exchange Commission no later than April 19, 2000. The cross-
reference table below sets forth the captions under which the responses to these
items are found:
<TABLE>
<CAPTION>
10-K Item Description Caption in 1999 Proxy Statement
- --------- ----------- -------------------------------
<S> <C> <C>
10 Directors and Executive Officers "Item No. 1--Election of Directors:
Director Nominees; Business
Experience of Nominees and
Directors" and "Additional
Information: Certain
Relationships and Related
Transactions; Other Matters"
11 Executive Compensation "Additional Information: Executive
Compensation and Related
Information"
12 Security Ownership of Certain Beneficial "Additional Information: Principal
Owners and Management Stockholders"
13 Certain Relationships and Related "Additional Information: Certain
Transactions Relationships and Related
Transactions"
</TABLE>
The information set forth under the captions listed above, contained in the
1999 Proxy Statement, are hereby incorporated herein by reference in response to
Items 10 through 13 of this Report on Form 10-K.
72
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) List of Documents filed as part of this Report.
1. Financial Statements.
The following consolidated financial statements of Komag, Incorporated are
filed in Part II, Item 8 of this Report on Form 10-K:
Consolidated Statements of Operations--Fiscal Years 1999, 1998 and 1997
Consolidated Balance Sheets--January 2, 2000 and January 3, 1999
Consolidated Statements of Cash Flows--Fiscal Years 1999, 1998 and 1997
Consolidated Statements of Stockholders' Equity--Fiscal Years 1999, 1998
and 1997
Notes to Consolidated Financial Statements
2. Financial Statement Schedules.
The following financial statement schedule of Komag, Incorporated is filed
in Part IV, Item 14(d) of this report on Form 10-K:
Schedule II--Valuation and Qualifying Accounts
Report of Other Auditor
--Report of Chuo Audit Corporation on Asahi Komag Co., Ltd.
All other schedules for which provision is made in the applicable
accounting regulation of the Securities and Exchange Commission are not required
under the related instructions or are inapplicable and therefore have been
omitted.
73
<PAGE>
3. Exhibits.
3.1 Amended and Restated Certificate of Incorporation (incorporated by
reference from Exhibit 3.1 filed with the Company's report on Form 10-Q
for the quarter ended September 27, 1998).
3.2 Bylaws (incorporated by reference from Exhibit 3.3 filed with the
Company's report on Form 10-K for the year ended December 30, 1990).
4.1 Registration Rights Agreement between Komag, Incorporated and Western
Digital Corporation dated April 8, 1999 (incorporated by reference from
Exhibit 4.1 filed with the Registration Statement on Form S-3--File No.
33-93051)
4.2 Specimen Stock Certificate (incorporated by reference from Exhibit 4.2
filed with Amendment No. 1 to the Registration Statement).
10.1.1 Lease Agreement dated May 24, 1991 between Milpitas-Hillview and Komag,
Incorporated (incorporated by reference from Exhibit 10.1.2 filed with
the Company's report on Form 10-K for the year ended December 29, 1991).
10.1.4 Lease Agreement dated May 2, 1989 by and between Stony Point Associates
I and Komag Material Technology, Inc. (incorporated by reference from
Exhibit 10.1.6 filed with the Company's report on Form 10-K for the year
ended December 31, 1989).
10.1.6 Second Amendment to Lease dated December 28, 1990 by and between
Milpitas- Hillview and Komag, Incorporated (incorporated by reference
from Exhibit 10.1.12 filed with the Company's report on Form 10-K for
the year ended December 30, 1990).
10.1.11 Lease Agreement (B10) dated May 24, 1996 between Sobrato Development
Companies #871 and Komag, Incorporated (incorporated by reference from
Exhibit 10.1.11 filed with the Company's report on Form 10-K for the
year ended December 29, 1996).
10.1.12 Lease Agreement (B11) dated May 24, 1996 between Sobrato Development
Companies #871 and Komag, Incorporated (incorporated by reference from
Exhibit 10.1.12 filed with the Company's report on Form 10-K for the
year ended December 29, 1996).
10.1.13 Asset Purchase Agreement between the Company and Western Digital
Corporation dated April 8, 1999 (incorporated by reference from Exhibit
10.1.13 filed with the Company's report of Form 10-Q for the quarter
ended July 4, 1999) (Confidential treatment requested as to certain
portions.)
10.1.14 Volume Purchase Agreement dated as of April 8, 1999 by and between the
Company and Western Digital Corporation (incorporated by reference from
Exhibit 10.1.14 filed with the Company's report of Form 10-Q for the
quarter ended July 4, 1999) (Confidential treatment requested as to
certain portions.)
10.1.15 Sublease Agreement (B11) dated January 10, 2000, between Komag,
Incorporated and 2Wire, Inc.
74
<PAGE>
10.1.16 Second Amendment to Lease dated March 16, 1999 by and between Northern
Trust Bank of California N.A. and Komag material Technology, Inc.
10.2 Form of Directors' Indemnification Agreement (incorporated by reference
from Exhibit 10.9 filed with the Company's report on Form 10-K for the
year ended December 30, 1990).
10.3.1 Joint Venture Agreement by and among Komag, Inc.; Asahi Glass Co., Ltd.;
and Vacuum Metallurgical Company dated November 9, 1986, as amended
January 7, 1987 and January 27, 1987 (incorporated by reference from
Exhibit 10.10.1 filed with the Registration Statement on Form S-1--File
No. 33-13663) (confidential treatment obtained as to certain portions).
10.3.2 General Partnership Agreement for Komag Technology Partners dated
January 7, 1987 (incorporated by reference from Exhibit 10.10.2 filed
with the Registration Statement on Form S-1--File No. 33-13663).
10.3.3 Technology Contribution Agreement dated January 7, 1987 by and between
Komag, Incorporated and Komag Technology Partners (incorporated by
reference from Exhibit 10.10.3 filed with the Registration Statement on
Form S-1--File No. 33-13663) (confidential treatment obtained as to
certain portions).
10.3.4 Technical Cooperation Agreement dated January 7, 1986 by and between
Asahi Glass Company, Ltd. and Komag, Incorporated (incorporated by
reference from Exhibit 10.10.4 filed with the Registration Statement on
Form S-1--File No. 33-13663).
10.3.5 Third Amendment to Joint Venture Agreement by and among Komag, Inc.;
Asahi Glass Co., Ltd.; Vacuum Metallurgical Company; et al dated March
21, 1990 (incorporated by reference from Exhibit 10.10.5 filed with the
Company's report on Form 10-K for the year ended December 31, 1989).
10.3.6 Fourth Amendment to Joint Venture Agreement by and among Komag, Inc.;
Asahi Glass Co., Ltd.; Vacuum Metallurgical Company; et al dated May 24,
1990 (incorporated by reference from Exhibit 10.10.11 filed with the
Company's report on Form 10-K for the year ended January 1, 1995).
10.3.7 Fifth Amendment to Joint Venture Agreement by and among Komag, Inc.,
Asahi Glass Co., Ltd.; Vacuum Metallurgical Company; et al dated
November 4, 1994 (incorporated by reference from Exhibit 10.10.12 filed
with the Company's report on Form 10-K for the year ended January 1,
1995).
10.3.8 Joint Venture Agreement dated March 6, 1989 by and between Komag,
Incorporated; Komag Material Technology, Inc.; and Kobe Steel USA
Holdings Inc. (incorporated by reference from Exhibit 10.10.6 filed with
the Company's report on Form 10-K for the year ended December 31, 1989)
(confidential treatment obtained as to certain portions).
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<PAGE>
10.3.9 Joint Development and Cross-License Agreement dated March 10, 1989 by
and between Komag, Incorporated; Kobe Steel, Ltd.; and Komag Material
Technology, Inc. (incorporated by reference from Exhibit 10.10.7 filed
with the Company's report on Form 10-K for the year ended December 31,
1989).
10.3.10 Blank Sales Agreement dated March 10, 1989 by and between Komag,
Incorporated; Kobe Steel, Ltd.; and Komag Material Technology, Inc.
(incorporated by reference from Exhibit 10.3.10 filed with the Company's
report on Form 10-K for the year ended December 31, 1989).
10.3.11 Finished Substrate Agreement dated March 10, 1989 by and between Komag,
Incorporated; Kobe Steel, Ltd.; and Komag Material Technology, Inc.
(incorporated by reference from Exhibit 10.10.9 filed with the Company's
report on Form 10-K for the year ended December 31, 1989) (confidential
treatment obtained as to certain portions).
10.3.12 Stock Purchase Agreement between Komag, Incorporated and Kobe Steel USA
Holdings Inc. dated November 17, 1995 (incorporated by reference from
Exhibit 10.3.12 filed with the Company's report on Form 10-K for the
year ended December 31,1995).
10.3.13 Substrate Agreement by and between Kobe Steel, Ltd. and Komag,
Incorporated dated November 17, 1995 (incorporated by reference from
Exhibit 10.3.13 filed with the Company's report on Form 10-K for the
year ended December 31, 1995) (confidential treatment obtained as to
certain portions).
10.3.14 License Amendment Agreement among Komag, Incorporated; Komag Material
Technology, Inc.; and Kobe Steel, Ltd. dated November 17, 1995
(incorporated by reference from Exhibit 10.3.14 filed with the Company's
report on Form 10-K for the year ended December 31, 1995).
10.3.15 Substrate Sales Amendment Agreement among Komag, Incorporated; Komag
Material Technology, Inc.; and Kobe Steel, Ltd. dated November 17, 1995
(incorporated by reference from Exhibit 10.3.15 filed with the Company's
report on Form 10-K for the year ended December 31, 1995).
10.3.16 Joint Venture Amendment Agreement among Komag, Incorporated; Komag
Material Technology, Inc.; and Kobe Steel USA Holdings Inc. dated
November 17, 1995 (incorporated by reference from Exhibit 10.3.16 filed
with the Company's report on Form 10-K for the year ended December 31,
1995) (confidential treatment obtained as to certain portions). . 10.4.1
Restated 1987 Stock Option Plan, effective January 31, 1996 and forms of
agreement thereunder (incorporated by reference from Exhibit 10.4.1
filed with the Company's report on Form 10-Q for the quarter ended June
30, 1996).
10.4.1 Restated 1987 Stock Option Plan, effective January 31, 1996 and forms of
agreement thereunder (incorporated by reference from Exhibit 10.4.1
filed with the Company's report on Form 10-Q for the quarter ended June
30, 1996).
10.4.2 Komag, Incorporated Management Bonus Plan As Amended and Restated
January 22, 1997 (incorporated by reference from Exhibit 10.4.2 filed
with the Company's report on Form 10-K for the year ended January 3,
1999).
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<PAGE>
10.4.3 1988 Employee Stock Purchase Plan Joinder Agreement dated July 1, 1993
between Komag, Incorporated and Komag USA (Malaysia) Sdn. (incorporated
by reference from Exhibit 10.11.11 filed with the Company's report on
Form 10-K for the year ended January 2, 1994).
10.4.4 Komag, Incorporated Discretionary Bonus Plan (incorporated by reference
from Exhibit 10.4.4 filed with the Company's report on Form 10-K for the
year ended December 29, 1996).
10.4.5 Komag, Incorporated 1997 Supplemental Stock Option Plan Amended June 12,
1998 (incorporated by reference from Exhibit 10.4.5 filed with the
Company's report on Form 10-K for the year ended January 3, 1999).
10.5.3 Komag Material Technology, Inc. 1995 Stock Option Plan (incorporated by
reference from Exhibit 10.11.12 filed with the Company's report on Form
10-Q for the Quarter ended October 1, 1995).
10.6 Common Stock Purchase Agreement dated December 9, 1988 by and between
Komag, Incorporated and Asahi Glass Co., Ltd. (incorporated by reference
from Exhibit 1 filed with the Company's report on Form 8-K filed with
the Securities and Exchange Commission on December 20, 1988).
10.7 Common Stock Purchase Agreement dated February 6, 1990 by and between
Komag, Incorporated and Kobe Steel USA Holdings Inc. (incorporated by
reference from Exhibit 10.17 filed with the Company's report on Form
10-K for the year ended December 31, 1989).
10.8 Registration Rights Agreement dated March 21, 1990 by and between Komag,
Incorporated and Kobe Steel USA Holdings Inc. (incorporated by reference
from Exhibit 10.18 filed with the Company's report on Form 10-K for the
year ended December 31, 1989).
10.9 Amendment No. 1 to Common Stock Purchase Agreement dated March 21, 1990
by and between Komag, Incorporated and Asahi Glass Co., Ltd.
(incorporated by reference from Exhibit 10.19 filed with Amendment No. 1
to the Registration Statement filed with the Securities and Exchange
Commission on May 26, 1987).
10.10 Amended and Restated Registration Rights Agreement dated March 21, 1990
by and between Komag, Incorporated and Asahi Glass Co., Ltd.
(incorporated by reference from Exhibit 10.20 filed with Amendment No. 1
to the Registration Statement filed with the Securities and Exchange
Commission on May 26, 1987).
10.11 Letter dated February 10, 1992 from the Malaysian Industrial Development
Authority addressed to Komag, Incorporated approving the "Pioneer
Status" of the Company's thin-film media venture in Malaysia
(incorporated by reference from Exhibit 10.28 filed with the Company's
report on Form 10-K for the year ended January 3, 1993).
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10.12 Credit Agreement between Komag, Incorporated and The Industrial Bank of
Japan, Limited, San Francisco Agency dated December 15, 1995
(incorporated by reference from Exhibit 10.16 filed with the Company's
report on Form 10-K for the year ended December 31, 1995).
10.13 First Amendment to Credit Agreement by and between Komag, Incorporated
and The Industrial Bank of Japan, Limited, San Francisco Agency dated
November 19, 1996 (incorporated by reference to Exhibit 10.17 filed with
the Company's report on Form 10-K for the year ended December 29, 1996).
10.14 Second Amendment to Credit Agreement by and between Komag, Incorporated
and The Industrial Bank of Japan, Limited, San Francisco Agency dated
January 31, 1997 (incorporated by reference to Exhibit 10.18 filed with
the Company's report on Form 10-K for the year ended December 29, 1996).
10.15 Credit Agreement between Komag, Incorporated and The Dai-Ichi Kangyo
Bank, Limited, San Francisco Agency dated October 7, 1996 (incorporated
by reference to Exhibit 10.19 filed with the Company's report on Form
10-K for the year ended December 29, 1996).
10.16 First Amendment to Credit Agreement between Komag, Incorporated and The
Dai-Ichi Kangyo Bank, Limited, San Francisco Agency dated November 25,
1996 (incorporated by reference to Exhibit 10.20 filed with the
Company's report on Form 10-K for the year ended December 29, 1996).
10.17 Credit Agreement dated as of February 7, 1997 among Komag, Incorporated,
institutional lenders and The Industrial Bank of Japan, Limited, San
Francisco Agency, as agent for the lenders(incorporated by reference to
Exhibit 10.22 filed with the Company's report on Form 10-K for the year
ended December 29, 1996).
10.18 Amended and Restated Credit Agreement Among Komag, Incorporated and
BankBoston, N.A. as agent (incorporated by reference from Exhibit 10.23
filed with the Company's report on Form 10-Q for the quarter ended June
29, 1997).
10.19 First Amendment to Amended and Restated Credit Agreement dated October
9, 1997 among Komag, Incorporated and BankBoston, N.A. as agent
(incorporated by reference from Exhibit 10.24 filed with the Company's
report on Form 10-Q for the quarter ended September 28, 1997).
10.20 Second Amendment to Amended and Restated Credit Agreement dated March
23, 1998 among Komag, Incorporated and BankBoston, N.A. as agent
(incorporated by reference from Exhibit 10.20 filed with the Company's
report on Form 10-Q for the quarter ended March 29, 1998).
21 List of Subsidiaries.
23.1 Consent of Ernst & Young LLP, independent auditors.
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<PAGE>
23.2 Consent of Chuo Audit Corporation.
24 Power of Attorney. Reference is made to the signature pages of this
Report.
27 Financial Data Schedule.
- ----------
The Company agrees to furnish to the Commission upon request a copy of any
instrument with respect to long-term debt where the total amount of securities
authorized thereunder does not exceed 10% of the total assets of the Company.
(b) Reports on Form 8-K.
Not Applicable
79
<PAGE>
Undertaking
For the purposes of complying with the amendments to the rules governing
Form S-8 (effective July 13, 1990) under the Securities Act of 1933, the
undersigned registrant hereby undertakes as follows:
Insofar as indemnification for liabilities arising under the Securities Act
of 1933 may be permitted to directors, officers or controlling persons of the
registrant pursuant to the foregoing provisions, or otherwise, the registrant
has been advised that in the opinion of the Securities and Exchange Commission
such indemnification is against public policy as expressed in the 1933 Act and
is, therefore, unenforceable. In the event that a claim for indemnification
against such liabilities (other than the payment by the registrant of expenses
incurred or paid by a director, officer or controlling person of the registrant
in the successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered on the Form S-8 identified below, the registrant will, unless in the
opinion of its counsel the matter has been settled by controlling precedent,
submit to a court of appropriate jurisdiction the question whether such
indemnification by it is against public policy as expressed in the 1933 Act and
will be governed by the final adjudication of such issue.
The preceding undertaking shall be incorporated by reference into
registrant's Registration Statements on Form S-8 Nos. 33-16625 (filed August 19,
1987), 33-19851 (filed January 28, 1988), 33-25230 (filed October 28, 1988),
33-41945 (filed July 29, 1991), 33-45469 (filed February 3, 1992), 33-53432
(filed October 16, 1992), 33-80594 (filed June 22, 1994), 33-62543 (filed
September 12, 1995), 333-06081 (filed June 14, 1996), 333-23095 (filed March 11,
1997), 333-31297 (filed July 15, 1997), 333-48867 (filed March 30, 1998)
333-84567 (filed August 5, 1999) and on Form S-3 No. 333-93051 (filed December
17, 1999) and S-3/A No. 333-81263 (filed December 17, 1999).
80
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized, in San Jose, California on
this 31st day of March, 2000.
Komag, Incorporated
By Thian Hoo Tan
----------------------------------
Thian Hoo Tan
President and Chief Executive Officer
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature
appears herein constitutes and appoints Thian Hoo Tan and Edward H. Siegler, and
each of them, as his true and lawful attorneys-in-fact and agents, with full
power of substitution and re-substitution, for him and in his name, place and
stead, in any and all capacities, to sign any and all amendments to this Report
on Form 10-K, and to file the same, with all exhibits thereto, and other
documents in connection therewith, with the Securities and Exchange Commission,
granting unto said attorneys-in-fact and agents, and each of them, full power
and authority to do and perform each and every act and thing requisite and
necessary to be done in connection therewith, as fully to all intents and
purposes as he might or could do in person, hereby ratifying and confirming all
that said attorneys-in-fact and agents, or any of them, or their or his
substitute or substitutes, may lawfully do or cause to be done by virtue hereof.
81
<PAGE>
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed by the following persons in the capacities and on the
dates indicated:
Name Title Date
---- ----- ----
THIAN HOO TAN President, Chief Executive March 31, 2000
- ----------------------- Officer and Director
(Thian Hoo Tan) (Principal Executive Officer)
EDWARD H. SIEGLER Vice President, Chief Financial March 31, 2000
- ----------------------- Officer and Secretary (Principal
(Edward H. Siegler) Financial Officer)
KATHLEEN A. BAYLESS Vice President, Corporate Controller March 31, 2000
- ----------------------- (Principal Accounting Officer)
(Kathleen A. Bayless)
CHRIS A. EYRE Director March 31, 2000
- -----------------------
(Chris A. Eyre)
IRWIN FEDERMAN Director March 31, 2000
- -----------------------
(Irwin Federman)
GEORGE A. NEIL Director March 31, 2000
- -----------------------
(George A. Neil)
MICHAEL R. SPLINTER Director March 31, 2000
- -----------------------
(Michael R. Splinter)
ANTHONY SUN Director March 31, 2000
- -----------------------
(Anthony Sun)
MASAYOSHI TAKEBAYASHI Director March 31, 2000
- -----------------------
(Masayoshi Takebayashi)
*By EDWARD H. SIEGLER
---------------------
(Edward H. Siegler,
Attorney-in-Fact)
82
<PAGE>
ITEM 14(d) FINANCIAL STATEMENT SCHEDULES
KOMAG, INCORPORATED
Schedule II--VALUATION AND QUALIFYING ACCOUNTS
(in thousands)
<TABLE>
<CAPTION>
Col. A Col. B Col. C Col. D Col. E
- ------ ------ ------ ------ ------
Additions
Balance at Charged to Balance
Beginning Costs and at End
Description of Period Expenses Deductions of Period
- ----------- --------- -------- ---------- ---------
<S> <C> <C> <C> <C>
Year ended December 28, 1997
Allowance for doubtful accounts $1,984 $ 1,286 $(28) $3,298
Allowance for sales returns 1,103 7,145 (1) 7,122 (2) 1,126
------ ------- ------ ------
$3,087 $ 8,431 $7,094 $4,424
====== ======= ====== ======
Year ended January 3, 1999
Allowance for doubtful accounts $3,298 $(1,125) $ 8 $2,165
Allowance for sales returns 1,126 7,654 (1) 8,098 (2) 682
------ ------- ------ ------
$4,424 $ 6,529 $8,106 $2,847
====== ======= ====== ======
Year ended January 2, 2000
Allowance for doubtful accounts $2,165 $ (404) $ -- $1,761
Allowance for sales returns 682 3,105 (1) 3,368 (2) 419
------ ------- ------ ------
$2,847 $ 2,701 $3,368 $2,180
====== ======= ====== ======
</TABLE>
(1) Additions to the allowance for sales returns are netted against sales.
(2) Actual sales returns of subsequently scrapped product were charged against
the allowance for sales returns. Actual sales returns of product that was
subsequently tested and shipped to another customer were netted directly
against sales.
(3) The Company recorded a restructuring charge of $52,157,000 to consolidate
its U.S. manufacturing operations.
(4) Charges against the restructuring liability included non-cash charges of
$33,013,000 for the write-off of the net book value of equipment and
leaseholds, and cash charges of approximately $7,891,000 for severance and
equipment related costs.
(5) The Company recorded a restructuring charge of $187,768,000 which primarily
related to an asset impairment charge due to industry price erosion for
disk media and the projected under utilization of the Company's production
equipment and facilities.
(6) Charges against the restructuring liability included non-cash charges of
$175,000,000 for the asset impairment charge and cash charges of
approximately $19,893,000 for severance and equipment related costs.
(7) The Company recorded restructuring charges of $143,617,000 and a
$44,348,000 impairment charge. The restructuring charge primarily related
to the closing of the Company's U.S. manufacturing operations based on an
evaluation of the size and location of its existing production capacity
relative to the short-term and long-term market demand outlook. The
impairment charge related to the write-down of goodwill is based on reduced
cash flow expectations influenced by continuing difficult market
conditions.
(8) Charges against the restructuring liability included non-cash charges of
$143,080,000 for asset impairment charges and the goodwill impairment
charge and cash charges of $23,523,000 for severance and equipment and
facility related costs.
83
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REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors
Asahi Komag Co., Ltd.
We have audited the accompanying consolidated balance sheets of Asahi Komag
Co., Ltd. and its subsidiary (the "Company") as of December 31, 1998 and 1997,
and the consolidated statements of income, cash flows, and changes in equity for
the years ended December 31, 1998, 1997 and 1996. These financial statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. These standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, based on our audit, the financial statements referred to
above present fairly, in all material respects, the consolidated financial
position of the Company as of December 31, 1998 and 1997, and the consolidated
results of its operations and its cash flows for the years ended December 31,
1998, 1997 and 1996 in conformity with generally accepted accounting principles
applicable in the United States of America.
The consolidated financial statements as of and for the year ended December
31, 1998 have been translated into United States Dollars solely for the
convenience of the reader. Our audit included the translation, and in our
opinion such translation has been made in accordance with the basis stated in
note 2h to the consolidated financial statements.
CHUO AUDIT CORPORATION
Tokyo, Japan
January 22, 1999
84
Exhibit 10.1.15
SUBLEASE
THIS SUBLEASE ( "Sublease") is dated for reference purposes as of
January 10, 2000, and is made by and between Komag Incorporated, a Delaware
corporation ("Sublessor"), and 2Wire, Inc., a Delaware corporation
("Sublessee"). Sublessor and Sublessee agree as follows:
RECITALS:
Sublessor, as lessee, and Sobrato Development Companies #960, a
California limited partnership, as lessor ("Master Lessor") and as successor
in-interest to Sobrato Development Company #871, entered into that certain Lease
dated May 24, 1996, as amended by that certain First Amendment to Lease
(collectively, the "Master Lease"), with respect to that certain 5.60 acre
parcel of land and that approximately 81,778 square foot building ("Building")
known as 1704 Automation Parkway, San Jose, California, and including the
exclusive use of 307 parking spaces in the parking areas adjacent to the
Building ("Parking Area"). The Parking Area is identified on Exhibit B attached
hereto. The land, Building and Parking Area are referred to as the "Project". A
copy of the Master Lease is attached hereto as Exhibit A. Capitalized terms used
and not otherwise defined herein shall have the meaning ascribed to them in the
Master Lease.
AGREEMENT:
1. Subleased Premises: Subject to the terms and conditions set forth
herein, Sublessor subleases to Sublessee, and Sublessee subleases from
Sublessor, the "Subleased Premises" which shall be defined as follows: (i) from
January 14, 2000 ("Initial Premises Commencement Date") to January 31, 2000,
that certain premises consisting of approximately 7,500 square feet as set forth
on Exhibit C attached hereto ("Initial Premises"); (ii) from February 1, 2000
("First Floor Premises Commencement Date") to February 29, 2000 the first floor
of the Project consisting of approximately 40,889 square feet, as set forth on
Exhibit C attached hereto ("First Floor Premises") and (iii) from March 1, 2000
("Second Floor Premises Commencement Date") to March 14, 2007, the entire
Project as set forth on Exhibit C attached hereto ("Project"). For purposes of
this Sublease, the square footage amounts set forth in this Sublease are agreed
by the parties to be an accurate estimate of Sublessee's exclusive space
regardless of any measurements to the contrary and are subject to adjustment by
Master Lessor as provided for in the Master Lease.
2. Early Occupancy: Following execution of this Sublease by Sublessor
and Sublessee and delivery by Sublessee of its Security Deposit and the first
payment of Base Rent to Sublessor as required hereunder, and proof that
Sublessee has obtained the workers compensation, public liability and property
damage insurance required to be obtained by Sublessee under this Sublease,
Sublessor shall provide Sublessee with access to the Project for the purpose of
planning its improvements to the Subleased Premises and installing a phone
switch. In addition, Sublessor shall use commercially reasonable efforts to: (a)
make available to Sublessee space for equipment storage and for early occupancy
by up to 25 of Sublessee's employees and independent contractors prior to the
Initial
85
<PAGE>
Premises Commencement Date ("Initial Premises Early Occupancy"), and (b) make
the First Floor Premises and Second Floor Premises available to Sublessee for
occupancy prior to the respective Commencement Dates for such Premises set forth
in Paragraph 1, above ("First and Second Floor Premises Early Occupancy").
Sublessee shall provide Sublessor advance notice before entering the Project
prior to the Initial Premises Commencement Date. During any period of Initial
Premises Early Occupancy, Sublessee shall be subject to the terms and conditions
of the Master Lease excluding any payments of Base Monthly Rent or Additional
Rent (as defined in the Master Lease) or Project operating expenses. During any
period of First and Second Floor Premises Early Occupancy, Sublessee shall be
subject to the terms and conditions of the Master Lease excluding the payment of
Base Rent, but Sublessee shall be subject to payments of Additional Rent as
reasonably allocated by Sublessor to Sublessee's use and occupancy of the First
Floor Premises or Project, as applicable. During any period of Initial Premises
Early Occupancy or First and Second Floor Premises Early Occupancy, Sublessee
shall not interfere with Sublessor's operations on the Project, and shall be
subject to Sublessor's reasonable security precautions.
3. Use: Sublessee shall use the Subleased Premises only for such uses
permitted under the Master Lease and for no --- other purpose without Master
Lessor's and Sublessor's prior written consent, which consent shall not be
unreasonably withheld, conditioned or delayed.
4. Term: The term ("Term") of this Sublease shall commence on the
Initial Premises Commencement Date, and shall terminate on the earliest to occur
of (a) March 14, 2007, (b) the date this Sublease is sooner terminated pursuant
to its terms, or (c) the date the Master Lease is sooner terminated pursuant to
its terms (collectively the "Expiration Date").
5. Delivery and Acceptance: Sublessor shall use commercially reasonable
efforts to deliver possession of the Project to Sublessee in accordance with the
schedule set forth in Subparagraph 1 hereof. If, despite such efforts, Sublessor
is unable to deliver possession of the Initial Premises to Sublessee on or
before February 1, 2000, the First Floor Premises on or before March 1, 2000 or
the Project on or before April 1, 2000 for any reason (other than as the result
of the actions or omissions of Sublessee), then, as Sublessee's sole and
exclusive remedy, Sublessee may terminate this Sublease by written notice to
Sublessor given no later than ten (10) days following the date upon which
Sublessor's failure to deliver as required hereunder gives rise to Sublessee's
right to terminate this Sublease. If Sublessee does not exercise its right to
terminate hereunder, Sublessee shall not be obligated to pay Base Rent or
Additional Rent on any portion of the Project until Sublessee receives
possession of that portion of the Project. In addition, any period of rent
abatement that Sublessee otherwise would have enjoyed shall run from the date of
delivery of possession and continue for a period equal to what Sublessee
otherwise would have enjoyed.
6. Rent:
(a) Base Rent. Except as set forth in Subparagraphs 6(b) and 6(d)
hereof, payments of Base Rent (as defined in this Paragraph) shall not commence
until the Second Floor Premises Commencement Date and the period from the
Initial Premises Commencement Date to the Second Floor Premises Commencement
Date shall be considered a period free of any payment of Base Rent. Sublessee
shall pay to Sublessor as base monthly rent ("Base Rent") the following amounts:
-2-
<PAGE>
Price per Sq. Ft. Base Rent
----------------- ---------
From the Second Floor Premises Commencement
Date to June 30, 2000 (50% Free Base Rent Period
based on 40,889 square feet) $1.400 $ 57,244.60
July 1, 2000 to February 28, 2001 $1.400 $114,489.20
March 1, 2001 to February 28, 2002 $1.442 $117,923.87
March 1, 2002 to February 28, 2003 $1.485 $121,440.33
March 1, 2003 to February 29, 2004 $1.530 $125,120.34
March 1, 2004 to February 28, 2005 $1.576 $128,882.13
March 1, 2005 to February 28, 2006 $1.623 $132,725.69
March 1, 2006 to February 28, 2007 $1.672 $136,732.82
March 1, 2007 to March 14, 2007 $1.722 $140,821.72
(b) Base Rent and Additional Rent (as defined in Subparagraph 6(c)
hereof), except as otherwise set forth in Subparagraphs 6(a) and (c) hereof,
shall be paid to Sublessor on or before the first (1st) day of each month during
the Term. Base Rent and Additional Rent (collectively, "Rent") for any period
during the Term hereof which is for less than one month of the Term shall be a
pro rata portion of the monthly installment based on the actual number of days
in such month. Rent shall be payable without notice or demand and without any
deduction, offset, or abatement (except as expressly set forth herein), in
lawful money of the United States of America. Rent shall be paid directly to
Sublessor at Komag, Inc., 1710 Automation Parkway, San Jose, CA 95131,
Attention: Accounts Receivable, or such other address as may be designated in
writing by Sublessor. Notwithstanding the foregoing, upon execution of this
Sublease by Sublessee, Sublessee shall pay to Sublessor the sum of Fifty-Seven
Thousand Two Hundred and Forty-Four Dollars and 60/00 ($57,244.60) as prepayment
of Base Rent for credit against the first installment of Base Rent due upon the
Second Floor Premises Commencement Date and any resulting excess shall be
applied to the second installment of Base Rent due hereunder.
(c) Additional Rent. All monies other than Base Rent required to be
paid by Sublessee under this Sublease (and under the Master Lease as
incorporated into this Sublease) shall be deemed additional rent ("Additional
Rent"). Except as otherwise set forth in this Paragraph, Sublessee shall pay
such amounts of Additional Rent to Sublessor within ten (10) days following the
date upon which Sublessor delivers an invoice to Sublessee for such payment of
Additional Rent.
(i) Notwithstanding anything to the contrary in this Sublease,
except for costs or charges arising out of the negligence or willful misconduct
of Sublessee, Sublessee shall have no obligation to pay any Additional Rent for
the period from the Initial Premises Commencement Date to the First Floor
Premises Commencement Date. Sublessee shall pay its Pro-Rata Share of Additional
Rent for the period from the First Floor Premises Commencement Date to the
Second Floor Premises Commencement Date. "Pro-Rata Share" shall mean
Fifty-Percent (50%) of the Additional Rent owed by Sublessor under the Master
Lease, provided, however, that Sublessor, in the reasonable exercise of its
discretion, may allocate any particular item of Additional Rent on any other
basis to reflect an allocation of Additional Rent that is equitable and
attributable to Sublessee's occupancy of Subleased Premises.
-3-
<PAGE>
(ii) Notwithstanding anything to the contrary in this Sublease,
in no event shall Sublessee be responsible for the payment of any real property
taxes assessed against any real property other than the Premises, nor any
personal property taxes assessed against any personal property or trade or
business fixtures that are not owned or leased by Sublessee.
(d) Inducement Recapture. Any agreement for free or abated rent or
other charges, or for the giving or paying by Sublessor to or for the Sublessee
of any cash or other bonus, inducement or consideration for Sublessee's entering
into this Sublease, all of which concessions are hereinafter referred to as
"Inducement Provisions," shall be deemed conditioned upon Sublessee's full and
faithful performance of all of the terms, covenants and conditions of this
Sublease. Upon a material and uncured breach of this Sublease, or any default
under Section 22 of the Master Lease as incorporated into this Sublease, any
such Inducement Provision shall automatically be deemed deleted from this
Sublease and of no further force and effect, and any rent, other charge, bonus,
inducement or consideration theretofore abated, given or paid by Sublessor under
such Inducement Provision shall be immediately due and payable by Sublessee to
Sublessor. The acceptance by Sublessee of Rent shall not be deemed a waiver of
this provision unless so specifically stated in writing by Sublessor.
7. Security Deposit. Upon execution of this Sublease by Sublessee,
Sublessee shall provide to Sublessor a security deposit in the form of a letter
of credit in the amount of Two Hundred and Fifty Thousand Dollars ($250,000).
("Letter of Credit"). All references in this Sublease and the Master Lease (as
incorporated herein) to the Security Deposit shall mean the Letter of Credit or
any Cash Deposit. The Letter of Credit shall: (i) be issued by a commercial bank
reasonably satisfactory to Sublessor ("Issuer"); (ii) be a stand-by, sight
draft, irrevocable letter of credit; (iii) name Sublessor as beneficiary; (iv)
not expire prior to one year or longer after the date of its issuance; and (v)
provide that it is governed by the Uniform Customs and Practice for Documentary
Credits (1993 revisions). Notwithstanding anything to the contrary in this
Paragraph, upon completion of an initial public offering of Sublessee's stock on
the New York or NASDAQ Stock Exchanges, Sublessee's Letter of Credit, or the
balance of any cash proceeds held by Sublessor, shall be returned to Sublessee
upon Sublessee's delivery to Sublessor of a new Letter of Credit in the amount
of One Hundred Forty Thousand Eight Hundred and Twenty-One Dollars and
Seventy-Two Cents ($140,821.72) and such reduced letter of credit shall be the
"Letter of Credit" hereunder.Within fourteen (14) days prior to expiration of
any Letter of Credit then in effect, Sublessee shall cause the Issuer to issue
and deliver to Sublessor a Letter of Credit to replace the expiring Letter to
Credit ("Replacement Letter of Credit"). The Replacement Letter of Credit shall
be in the amount required under this Paragraph 7 and shall be on the terms and
conditions set forth in items (i) through (v) above. In the event Sublessee
fails to timely provide a Replacement Letter of Credit as provided herein,
Sublessor shall be entitled to draw upon the entire amount of the Letter of
Credit and hold it as a cash security deposit until a Replacement Letter of
Credit is furnished by Sublessee. If Sublessee fails to pay Rent or other
charges due in accordance with the terms of this Sublease or otherwise defaults
with respect to any provision of this Sublease, then Sublessor may draw upon,
use, apply or retain all or any portion of the Security Deposit to satisfy any
uncured default in the payment of any Rent or other charge resulting from
Sublessee's uncured default, for the payment of any other sum which Sublessor
has become obligated to pay by reason of Sublessee's default, or to compensate
Sublessor for any loss or damage which Sublessor has suffered thereby. If
Sublessor so uses or applies all or any portion of the Security Deposit, then
Sublessee, within ten
-4-
<PAGE>
(10) days after written demand by Sublessor therefor specifying the portion of
the Letter of Credit applied and the purpose of the application, shall restore
the Security Deposit to the full amount stated above. Within thirty (30) days
following the expiration or earlier termination of this Sublease, if Sublessee
is not in default hereunder, Sublessor shall return to Sublessee so much of the
Security Deposit as is held by Sublessor and has not been applied by Sublessor
pursuant to this Paragraph, or which is not otherwise required to cure
Sublessee's defaults hereunder.
8. Sublessee's Repair and Maintenance Obligations: Notwithstanding
anything to the contrary in this Sublease or Paragraph 16 hereof, from the
Initial Premises Commencement Date to the First Floor Premises Commencement
Date, Sublessee shall have no obligation to repair or maintain the Subleased
Premises or reimburse Sublessor for any costs attributable to Sublessor's
obligation to maintain or repair the Subleased Premises under the terms of the
Master Lease, except to the extent resulting from the negligence or willful
misconduct of Sublessee. From the First Floor Premises Commencement Date to the
Second Floor Premises Commencement Date, Sublessee shall have no obligations to
repair or maintain the Subleased Premises (except to the extend resulting from
the negligence or willful misconduct of Sublessee), but Sublessee shall
reimburse Sublessor for costs incurred by Sublessor for maintenance and repair
as set forth in Paragraph 6(c) hereof.
9. Use of the Cafeteria: Sublessor shall permit Sublessee's employees
to use the cafeteria located at the Project at any time between the Initial
Premises Commencement Date and the First Floor Premises Commencement Date,
provided, however, that Sublessee shall reimburse Sublessor, as Additional Rent,
for Sublessor's costs attributable to Sublessee's share of cafeteria operations
costs on a mutually agreed upon basis. From and after the First Floor Premises
Commencement Date, Sublessee agrees to permit Sublessor's employees in the
Project and those located at 1710 Automation Parkway, San Jose, California, to
use the cafeteria provided, however, that Sublessor shall reimburse Sublessee on
a mutually agreed upon basis for such usage taking into account the respective
numbers of employees of Sublessor and Sublessee with regular access to the
cafeteria. Notwithstanding the foregoing, Sublessee reserves the right at any
time during the Term, in its sole discretion, to terminate Sublessor's use of
the cafeteria if the parties are unable to mutually agree on an appropriate
reimbursement formula or if Sublessor's usage, when added to Sublessee's usage,
exceeds the efficient capacity of the cafeteria or otherwise becomes disruptive
to Sublessee.
10. Transferred Property: Sublessee desires to purchase from Sublessor
and Sublessor desires to sell to Sublessee that certain personal property,
equipment and fixtures identified on Schedule 1 of Exhibit D ("Transferred
Property"). The Transferred Property shall be sold to Sublessee at a purchase
price of Four Hundred Thousand Dollars ($400,000) (subject to adjustment as set
forth on Schedule 1 to Exhibit D) payable as set forth herein. Provided that
Master Lessor has approved this Sublease, on or before February 1, 2000,
Sublessor shall provide to Sublessee an executed bill of sale for the Subleased
Property in the form of the attached Exhibit D ("Bill of Sale") and Sublessee
shall provide to Sublessor a cash payment in the amount of Two Hundred Thousand
Dollars ($200,000) and an executed promissory note in the amount of $200,000 in
the form of the attached Exhibit E ("Note"). The payments made under the Note
shall be considered Additional Rent for the purposes of this Sublease. Except as
otherwise specifically set forth in the Bill of Sale, Sublessor is transferring
the Transferred Property to Sublessee "as is" "where is" and Sublessor makes no
representation or warranty of any kind with respect to the Transferred Property,
including, without limitation, the condition or fitness of the Transferred
Property for Sublessee' s proposed or
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actual use thereof. Sublessor shall have no obligation to repair or replace any
item of Transferred Property. The parties hereto acknowledge that from the First
Floor Premises Commencement Date to the Second Floor Premises Commencement Date,
Sublessor shall be permitted to continue to use, at no cost to Sublessor, the
Transferred Property located on the second floor of the Project, provided that
Sublessor shall be responsible for any injury, loss or damage to such
Transferred Property while it is being used by Sublessor.
11. Security System: From the First Floor Premises Commencement Date to
the Second Floor Premises Commencement Date, Sublessor shall provide security
services to Sublessee and Sublessee shall pay to Sublessor, as Additional Rent,
Sublessee's Pro-Rata Share of such costs. After the Second Premises Commencement
Date, and for the remainder of the Term, Sublessee may request to share
Sublessor's existing security services, and if Sublessor consents, Sublessee
shall reimburse Sublessor for the costs of such services, as Additional Rent,
for its Pro Rata Share of such security services.
12. Enforcement of Master Lessor's Obligations: In enforcing
performance of all such obligations of Master Lessor's obligations under the
Master Lease, Sublessor shall (a) upon Sublessee's written request, immediately
notify Master Lessor of its nonperformance under the Master Lease and request
that Master Lessor perform its obligations under the Master Lease, and (b)
permit Sublessee to commence a lawsuit or other action in Sublessee's name (and
assign to Sublessee any rights of Sublessor required in connection therewith),
or commence a lawsuit or other action in Sublessor's name, to obtain the
performance required from Master Lessor under the Master Lease, provided that
(i) Sublessee pays any all costs, expenses, liabilities or damages of any kind
or nature incurred in connection with or arising out of any such lawsuit or
other action; and (ii) uses counsel reasonably acceptable to Sublessor in the
pursuit of any such lawsuit prosecuted in Sublessor's name. Sublessee shall
promptly provide Sublessor a copy of any and all pleadings to be filed in any
such lawsuit.
13. Condition of the Subleased Premises: Sublessor shall provide the
Subleased Premises to Sublessee with the roof, elevators, HVAC system,
electrical, plumbing and lighting in good working condition. Sublessee shall
have until May 31, 2000 ("Warranty Period") to notify Sublessor in writing of
any non-compliance with the warranty set forth in the previous sentence, and
upon receipt of such written notice during the Warranty Period, Sublessor shall
promptly make required repairs, except to the extent such repairs are an
obligation of Master Lessor under the Master Lease. Except as specifically set
forth in this Paragraph 12, Sublessee is subleasing the Subleased Premises on an
"as-is" basis, and Sublessor has made no representations or warranties, express
or implied, with respect to the condition of the Project as of the Initial
Premises Commencement Date. Except as specifically set forth in this Paragraph,
Sublessor shall have no obligation whatsoever to make or pay the cost of any
alterations, improvements or repairs to the Premises, including, without
limitation, any improvement or repair required to comply with any law,
regulations, building code or ordinance (including, without limitation, the
Americans with Disabilities Act of 1990). Sublessor shall have no obligation to
perform any of the repairs or capital improvements required to be performed by
Master Lessor under the terms of the Master Lease; Sublessor's sole and
exclusive obligations in this regard are stated in Paragraphs 12 and 17(a)(iv)
hereof.
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14. Effect of Conveyance: As used in this Sublease, the term
"Sublessor" means the holder of the "Tenant's" interest under the Master Lease.
In the event of any assignment or transfer of the "Tenant's" interest under the
Master Lease, which assignment or transfer may occur at any time during the Term
hereof, as between Sublessor and Sublessee, Sublessor shall be and hereby is
entirely relieved of all covenants and obligations of Sublessor hereunder
arising from and after the date of such transfer, provided that Sublessor
delivers to Sublessee the written agreement of the transferee to assume and
carry out all covenants and obligations to be performed by Sublessor hereunder
from and after the date of such transfer. Sublessor may transfer and deliver any
security of Sublessee to the transferee of the "Tenant's" interest under the
Master Lease, and thereupon Sublessor shall be discharged from any further
liability with respect thereto. Any fees or costs relating to the transfer of
any Letter of Credit shall be paid by Sublessee.
15. Surrender: Sublessee shall not be permitted to make any alterations
to the Subleased Premises without the advance written consent of Master Lessor
(pursuant to the terms of the Master Lease) and Sublessor. Sublessor shall not
unreasonably withhold, condition or delay consent to such alterations, but
Sublessor may place reasonable conditions upon its consent, including a
requirement (notwithstanding any consent of Master Lessor): (i) that such
alteration be removed at the end of the Sublease Term; and (ii) that in the
event Sublessee desires to perform alterations which when aggregated with other
alterations performed by Sublessee in the Subleased Premises, in the reasonable
estimation of Sublessor, will cost in excess of $100,000 to remove, until such
time as Sublessee is a public company listed on the New York or NASDAQ Stock
Exchanges, Sublessee shall provide a bond or other financial assurance
acceptable to Sublessor (in the reasonable exercise of its discretion) insuring
that sufficient proceeds will be available to fund Sublessee's removal
obligation. If Master Lessor or Sublessor does not consent to the surrender of
such alterations at the expiration or earlier termination of the Term, then
prior to expiration or earlier termination of this Sublease, Sublessee shall
remove from the Subleased Premises, at Sublessee's sole cost and expense, such
alterations, along with all of its trade fixtures and personal property, and
shall surrender the Subleased Premises to Sublessor in good condition and
repair, free of Hazardous Materials (as defined in the Master Lease) caused by
Sublessee, reasonable wear and tear excepted and otherwise in the condition as
existed on the Initial Premises Commencement Date If the Subleased Premises are
not so surrendered, then Sublessee shall be liable to Sublessor for all costs
incurred by Sublessor (including any charges by Master Lessor under the Master
Lease) in returning the Subleased Premises to such required condition, plus
interest thereon at the lesser of twelve (12) percent per annum or the maximum
rate allowable by law.
16. Holdover: If Sublessee remains in possession of the Subleased
Premises after the expiration or earlier termination of this Sublease,
Sublessee's continued possession shall be as a sublessee from month to month of
Sublessor and Sublessee shall continue to comply with and perform all the terms
and obligations of the Sublessee under this Sublease and pay Sublessor holdover
Base Rent equal to one hundred and twenty five percent (125%) of the Base Rent
payable immediately preceding the termination of this Sublease ("Prior Base
Rent")plus actual Additional Rent for the first two (2) months of the hold over,
and one hundred and fifty percent of such Prior Base Rent plus actual Additional
Rent thereafter . Sublessee shall indemnify, protect, defend and hold harmless
Sublessor, its officers, directors, employees, agents and assigns, from and
against all loss and liability resulting from Sublessee's delay in surrendering
the Subleased Premises from and after the termination of this Sublease.
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17. Other Sublease Terms:
(a) Incorporation by Reference. Except as otherwise provided in or
modified by this Sublease, the terms, provisions and conditions contained in the
Master Lease are incorporated herein by reference, and are made a part hereof as
if set forth herein at length; provided, however, that: (i) each reference in
such incorporated sections to "Lease" shall be deemed a reference to "Sublease"
as defined herein, each reference to the "Premises" shall be deemed a reference
to the "Subleased Premises" as defined herein; each reference to "Base Monthly
Rent" shall be deemed a reference to "Base Rent" as defined herein, and each
reference to "Commencement Date" shall be deemed a reference to "Initial
Premises Commencement Date" as defined herein (except as otherwise specifically
set forth herein); (iii) each reference to "Landlord" and "Tenant" shall be
deemed a reference to "Sublessor" and "Sublessee", respectively; (iv) with
respect to work, services, repairs, restoration, insurance, capital
improvements, or the performance of any other obligation of Master Lessor under
the Master Lease, the sole obligation of Sublessor shall be to notify and demand
performance from Master Lessor as and when requested to do so by Sublessee, and
to use Sublessor's reasonable efforts (provided Sublessee pays all reasonable
costs incurred by Sublessor in connection therewith) to obtain Master Lessor's
performance, and Sublessor shall further permit Sublessee to bring an action on
behalf of Sublessor against Master Lessor to compel the performance of such
obligations at the sole cost and expense of Sublessee; (v) with respect to any
obligation of Sublessee to be performed under this Sublease, wherever the Master
Lease grants to Sublessor a specified number of days to perform its
corresponding obligations under the Master Lease (excluding the payment of any
Rent), except as otherwise provided herein, Sublessee shall have two (2) fewer
days to perform the obligation, including, without limitation, curing any
defaults; (vi) Sublessor shall have no liability to Sublessee with respect to
(a) representations and warranties made by Master Lessor under the Master Lease,
(b) any indemnification obligations of Master Lessor under the Master Lease or
other obligations or liabilities of Master Lessor with respect to compliance
with laws, condition of the Premises or Hazardous Materials, and (c) Master
Lessor's repair, maintenance, restoration, upkeep, insurance and similar
obligations under the Master Lease, regardless of whether the incorporation of
one or more provisions of the Master Lease into the Sublease might otherwise
operate to make Sublessor liable therefor; (vii) with respect to any approval or
consent required to be obtained from the "Landlord" under the Master Lease, such
approval or consent must be obtained from both Master Lessor and Sublessor, and
the approval or consent of Sublessor may be withheld if Master Lessor's approval
or consent is not obtained; (viii) the following provisions of the Master Lease
are expressly not incorporated herein by reference: Sections 1, 2, 4, 57; the
seventh sentence of Section 8; the introductory clause in the first sentence the
second full paragraph of Section 12.C.; Sections 26 and 29.B. and.; the first
sentence of Section 32; Sections 34, 37, 38, 39, 41, 42, 46.E., 46.I., 46.L. and
46.N.; Exhibits A-G; and the First Amendment to Lease in its entirety: (ix) the
time limits set forth in Section 22(c) of the Master Lease as incorporated
herein shall be modified from ninety (90) days to thirty (30) days; (x) the time
limits in Section 46.M. of the Master Lease shall be changed from five (5) days
to fifteen (15) days; and (xi) notwithstanding anything to the contrary in this
Sublease, or the provisions of the Master Lease incorporated herein (including,
without limitation, the second paragraph of Sections 10 or 46.M. of the Master
Lease): (i) Sublessee shall be required to remove any Alterations placed in the
Project to the extent their removal is required by Master Lessor pursuant to the
terms of the Master Lease (unless Master Lessor has agreed, in writing, to allow
such Alterations to remain in the
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Project) and (ii) Sublessor's consent to any sublease or assignment shall be
deemed denied if Master Lessor's consent to such sublease or assignment is
denied. Sublessee acknowledges that the provisions of Section 13 of the Master
Lease, as incorporated herein, will require Sublessee, during the Term, to pay
all personal property taxes associated with the building improvements, fixtures
and equipment located on the Sublease Premises.
(b) Assumption of Obligations. This Sublease is and at all times shall
be subject and subordinate to the Master Lease and the rights of Master Lessor
thereunder. Sublessor covenants and agrees not to modify the Master Lease in a
manner that adversely affects Sublessee's rights hereunder. Sublessor shall not
commit or permit an of its employees or agents to commit on the Subleased
Premises any act or omission which shall violate any term or condition of the
Master Lease. Sublessor represents and warrants that the Master Lease is in full
force and effect and that Sublessor has no knowledge of any default by Sublessor
or Master Lessor under the Master Lease. Sublessee hereby expressly assumes and
agrees during the Term of this Sublease: (i) to comply with all provisions of
the Master Lease which are required to be performed by Sublessee hereunder; and
(ii) to perform all the obligations on the part of the "Tenant" to be performed
under the terms of the Master Lease during the term of this Sublease which are
required to be performed by Sublessee hereunder. Sublessee shall not commit or
permit to be committed on the Subleased Premises any act or omission which shall
violate any term or condition of the Master Lease. In the event of termination
of Sublessor's interest as "Tenant" under the Master Lease for any reason, this
Sublease shall terminate simultaneously (subject to any other agreement which
may exist between Sublessee and Master Lessor) with such termination of
Sublessor's interest. Sublessor shall not be permitted to voluntarily terminate
the Master Lease except in strict accordance with specific termination rights
granted Sublessor in the Sections 28 and 30 Master Lease.
18. Quiet Enjoyment. The Sublessor covenants that, upon the Sublessee
paying Rent in a timely manner and observing in a timely fashion all of the
Sublessee's other obligations hereunder, the Sublessee may peaceably and quietly
have, hold and enjoy the Subleased Premises throughout the term, free from any
interference from Sublessor, subject to the terms and conditions provided
elsewhere in this Sublease.
19. Notices: The address of each party shall be that address set forth
below their signatures at the end of this Sublease. Any party hereto may change
its address for the purposes of this Paragraph 19 by delivery of at least five
(5) days prior written notice of such change to the other party in the manner
set forth in this Paragraph. All notices, demands or communications in
connection with this Sublease shall be (i) in writing, (ii) properly addressed,
and (iii) either (a) served personally, (b) or sent by prepaid, certified mail,
return receipt requested, or (c) sent by recognized overnight courier service,
or (d) sent by facsimile. Notices served personally shall be deemed received on
the date of delivery. Notices mailed in accordance herewith shall be deemed
received on the date the U.S. Post Office receipts delivery or refusal to accept
delivery. Notices delivered by recognized courier service shall be deemed
received on the next business day following deposit with the courier service.
Notices sent by facsimile shall be deemed received upon electronic confirmation
of receipt of transmission. If a notice is received or deemed received on a
Saturday, Sunday or legal holiday, it shall be deemed received on the next
business day. All notices given to Master Lessor under the Master Lease shall be
considered received only when delivered in accordance with the Master Lease.
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20. Hazardous Materials: Sublessee shall use no Hazardous Materials in,
on, under or about the Subleased Premises or the building, except in accordance
with the terms and conditions of the Master Lease, and except for the types and
quantities of Hazardous Materials set forth on Exhibit F attached hereto, and
Sublessee shall indemnify, defend with counsel reasonably acceptable to
Sublessor, protect, and hold harmless Sublessor, its employees, agents,
contractors, stockholders, officers, directors, successors, personal
representatives, and assigns from and against all claims, actions, suits,
proceedings, judgments, losses, costs, personal injuries, damages, liabilities,
deficiencies, fines, penalties, damages, attorneys' fees, consultants' fees,
investigations, detoxifications, remediations, removals, and expenses of every
type and nature, to the extent caused by the use, release, disposal, discharge
or emission of Hazardous Materials on or about the Subleased Premises during the
Term of this Sublease by Sublessee or Sublessee's employees or agents or
invitees other than Sublessor, Master Lessor or their agents or employees.
21. Conditions Precedent: Notwithstanding anything to the contrary set
forth in this Sublease, it shall be an express condition precedent to
Sublessor's and Sublessee's obligations hereunder that, and this Sublease shall
not be effective unless and until, Master Lessor has consented in writing to
this Sublease, as set forth on Exhibit G attached hereto ("Master Lessor's
Consent"). If Master Lessor does not consent in writing to this Sublease within
thirty (30) days after the full execution and delivery of this Sublease, then
either party may, at any time thereafter until such consent and non-disturbance
are obtained, terminate this Sublease upon written notice to the other,
whereupon any monies previously paid by Sublessee to Sublessor shall be
reimbursed to Sublessee.
22. Assignment and Subletting: Sublessee shall not assign this Sublease
or sublet all or any part of the Subleased Premises except in accordance with
Section 29 of the Master Lease. Any transfer circumstance or event which
constitutes an assignment or subletting under the Master Lease shall constitute
an assignment or subletting under this Sublease. Notwithstanding anything to the
contrary in this Sublease, Sublessee may assign this Sublease as well as its
rights and obligations hereunder without the consent of Sublessor as provided in
Section 29.E. of the Master Lease (as incorporated herein) so long as at the
time of such sublet or assignment, Sublessee has a net worth of $50,000,000.
23. Indemnity: Sublessee shall indemnify, defend, protect, and hold
Sublessor and its officers, agents, employees, successors and assigns
(collectively, "Sublessor's Agents") and Master Lessor harmless from and against
all claims, demands, actions, causes of action, losses and expenses
(collectively "Claims") which may be brought against Sublessor, Sublessor's
Agents or Master Lessor or which Sublessor, Sublessor's Agents or Master Lessor
may pay or incur by reason of any breach or default of this Sublease by
Sublessee, a misrepresentation by Sublessee of the matters set forth herein, or
the acts, omissions, negligence or willful misconduct of Sublessee or
Sublessee's employees, agents, contractors, or invitees in or about the
Subleased Premises during the Term to the extent that the Claims are not caused
by the negligence or willful misconduct of Sublessor or Sublessor's Agents.
Without limiting the generality of the foregoing, Sublessee shall indemnify,
defend, protect and hold Sublessor, Sublessor's Agents and Master Lessor
harmless from and against any Claims which may be brought against Sublessor,
Sublessor's Agents or Master Lessor or which Sublessor, Sublessor's Agents or
Master Lessor may pay or incur by reason of any violation of any laws by
Sublessee or its employees, agents or contractors.
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24. Signage: Subject to Master Lessor's approval and subject to
Sublessee's compliance with all laws, codes, ordinances and covenants,
conditions and restrictions, beginning no later than the Second Floor Premises
Commencement Date, Sublessee shall be entitled to exclusive use of that monument
sign located on the right side of the entrance to the Project at the northeast
corner of Automation Parkway and Hostetter Road. In addition, subject to Section
20 of the Master Lease, Sublessee shall have the exclusive right to place
signage on the interior and exterior of the Project. Sublessor shall remove all
of its signage at the Project prior to the Second Floor Premises Commencement
Date. Sublessee acknowledges that the existing monument was subject to special
permitting requirements and that Sublessee may have to also seek special
permitting or replace such monument with a smaller sized monument.
25. Successors: This Sublease shall be binding on and inure to the
benefit of the parties hereto and their respective successors and permitted
assigns.
26. Leaseback of Storage Space: Sublessee shall use commercially
reasonable efforts, but without obligation to do so, to make available no more
than 5,000 square feet of storage space for lease by Sublessor for a period of
no more than six months following the Second Floor Premises Commencement Date.
Such space shall be provided at the same Base Rent plus prorata expenses as paid
by Sublessee under this Sublease. Sublessor would have access to such space
during normal business hours.
27. Broker: Sublessor and Sublessee represent, warrant and agree that
the only brokers or agents with which they have dealt in connection with this
Lease are CB Richard Ellis, Inc. ("Sublessor's Broker") and Cornish & Carey
Commercial ("Sublessee's Broker"), for whose commissions Sublessor shall be
solely responsible pursuant to a separate brokerage commission agreement.
Sublessor and Sublessee agree to indemnify, defend and hold the other harmless
of, from and against any claims against or costs and expenses (including
reasonable attorney's fees and expenses) incurred by the other resulting from a
misrepresentation, breach of warranty, nonfulfillment of warranty or breach of
agreement with respect to the foregoing. The provisions of this Paragraph 26
shall survive the expiration of the Term or sooner termination of this Sublease.
28. Counterparts: This Sublease may be executed in one or more
counterparts each of which shall be deemed an original but all of which together
shall constitute one and the same instrument. Signature copies may be detached
from the counterparts and attached to a single copy of this Sublease physically
to form one document. A facsimile counterpart signature delivered to each party
shall be deemed an original for the purpose of the execution of this Sublease.
29. Entire Agreement: This Sublease and the provisions of the Master
Lease incorporated herein by the express terms of this Sublease constitute the
complete and exclusive agreement among the parties with respect to the matters
contained herein and supersede all prior written or oral agreements or
statements by and among the parties hereto regarding the same, provided that
this Sublease shall be at all times subject to all of the terms and conditions
of the Master Lease.
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IN WITNESS WHEREOF, the parties have executed this Sublease as of the
day and year first above written.
SUBLESSEE: SUBLESSOR:
2WIRE, INC. KOMAG INCORPORATED
By: By:
-------------------------------- ------------------------------------
Printed Printed
Name: Name:
------------------------------ ----------------------------------
Its: Its:
------------------------------- -----------------------------------
Date: Date:
------------------------------ ----------------------------------
Address: Address: 1710 Automation Parkway
San Jose, CA 95131
Attention: Attention: Treasurer
FAX: FAX:
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EXHIBIT A
MASTER LEASE
This Exhibit is a copy of the Lease Agreement dated May 24, 1996 between Sobrato
Development Companies #871 and Komag, Incorporated (incorporated by reference
from Exhibit 10.1.12 filed with the Company's report on Form 10-K for the year
ended December 29, 1996).
<PAGE>
EXHIBIT B
PARKING AREA
This exhibit is a drawing of the parking lot associated with the building under
lease.
<PAGE>
EXHIBIT C
INITIAL AND FIRST FLOOR PREMISES AND PROJECT
This is a two page drawing of the layout of the building under sublease which
depicts both the first and second floor.
<PAGE>
EXHIBIT D
BILL OF SALE
For good and valuable consideration the receipt of which is hereby
acknowledged, Komag, Inc. a Delaware corporation, ("Seller") does hereby sell,
transfer, and convey to 2Wire, Inc., a Delaware corporation, or its designated
assignee ("Buyer"), all Transferred Property owned by Seller used in connection
with the Project (as such terms are defined in that certain Sublease dated as of
January 14, 2000, between Seller and Buyer) which Transferred Property is listed
on Schedule 1 attached hereto.
Seller does hereby represent and warrant to Buyer that, except as
identified on Schedule 1, Seller is the sole, lawful owner of such personal
property, that Seller has good title and full right to sell the same free and
clear of any lien, encumbrance or claim of any nature, and will warrant and
defend the title thereto unto Buyer, its successors and assigns, against the
claims and demands of all persons whomsoever.
Seller will, at the request of Buyer and without further consideration,
promptly execute and deliver, and will cause its officers, agents and employees
to execute and deliver, such other instruments of sale, transfer, conveyance and
assignment, and take such other actions, as may reasonably be necessary to
effectuate the transaction contemplated hereby.
Seller, on behalf of itself and its successors and assigns, does hereby
agree to indemnify and hold Buyer, its successors and assigns, harmless from any
and all obligations arising under or in relation to the Transferred Property or
any maintenance, service and supply contracts related thereto, prior to the date
hereof but not thereafter.
SELLER:
KOMAG, INC.,
a Delaware corporation
By:
--------------------------------
Its:
--------------------------------
DATED this _____ day of January, 2000
<PAGE>
SCHEDULE 1
Description of Transferred Property
1. Subject only to the exclusions in paragraphs 2 and 3, below, the property
to be purchased by Sublessee from Sublessor pursuant to paragraph 10 of the
Sublease (the "Transferred Property") includes all fixtures, furniture,
equipment and personal property existing on the Premises as of December 20,
1999. Without limiting the generality of the foregoing, and for purposes of
clarification only, the Transferred Property specifically includes: the
equipment racks in the telecom and computer rooms, the patch panels with
existing in-place wiring, all security system elements located in the
building, all AV equipment in the building that is physically attached to
the structure such as monitors, speakers, screens, all cafeteria equipment
and furniture, utensils, refrigerators, stoves, all file cabinets, book
cases, cubicles, desks, chairs, conference room furniture and equipment,
Polycom phones, clocks, pictures and wall hangings, all built-in fixtures,
lights, cabling in the video conference rooms.
2. Notwithstanding the provisions of paragraph 1, above, the following items
are excluded from the Transferred Property: all telephones (other than
Polycom phones), computers, servers, 3Com switches, routers, tape storage
cabinets, ups, APC roll around equipment cabinets, HP plotter, printers,
copiers, and equipment owned by 3rd parties (the only items as such being
the coffee services), fireproof file cabinets, the Picturetel video
conferencing equipment including codec, cameras, microphones, monitors and
connected telecom equipment, and all items owned personally by Komag
employees.
3. Notwithstanding the provisions of paragraph 1, above, at any time prior to
February 1, 2000, Sublessor, at its sole cost and with the reasonable prior
written consent of Sublessee, may remove from the Premises and retain
selected items of Transferred Property ("Retained Property"), provided: (a)
Sublessor shall provide Sublessee with a complete list of such Retained
Property together with original invoices, receipts or other reasonably
satisfactory evidence of the original cost of such Retained Property, and
(b) the $200,000 down payment to be paid by Sublessee to Sublessor on or
before February 1, 2000, shall be reduced by an amount equal to the total
original cost of the Retained Property multiplied by forty (40) percent.
4. Sublessor promptly shall repair and restore any damage to the Premises
caused by Sublessor's removal of items excluded from the Transferred
Property and/or any Retained Property.
<PAGE>
EXHIBIT E
DO NOT DESTROY THIS NOTE: When paid, this note must be surrendered to
the Borrower.
PROMISSORY NOTE
(PRINCIPAL AND INTEREST)
$200,000 _________________, California, __________________, 2000
In installments and at the times hereinafter stated, for value received 2Wire,
Inc., a Delaware corporation ("Borrower") promises to pay to Komag, Inc., a
Delaware corporation or order ("Lender"), at 1710 Automation Parkway, San Jose,
California 95131, Attn: Accounts Receivable, the principal sum of Two Hundred
Thousand Dollars, with interest from March 1, 2000 on the amounts of principal
remaining from time to time unpaid, until said principal sum is paid at the rate
of twelve percent (12%) per cent per annum, compounded monthly. Principal and
Interest shall be due in monthly installments of Three Thousand Five Hundred and
Thirty-Dollars and 55/00 ($3530.55), on the first day of each and every month,
beginning on the first day of March, 2000. On March 1, 2007, all remaining
payments of interest and principal, if any, shall be immediately due and
payable.
AT ANY TIME, THE PRIVILEGE IS RESERVED TO PRE-PAY ALL OR ANY PORTION OF
THE BALANCE OWING UNDER THIS NOTE. Each payment shall be credited first, on the
interest then due; and the remainder on the principal sum; and interest shall
thereupon cease upon the amount so credited on the said principal sum. Should
default be made in the payment of any of said installments when due, then the
whole sum of principal and interest shall become immediately due and payable at
the option of the holder of this note. In addition to failure to make payment
when due, it shall also be considered a default under this note if Borrower
defaults under the terms and conditions under that certain Sublease dated
January 14, 2000 between Borrower and Lender for premises located at 1704
Automation Parkway, San Jose, CA. Borrower hereby waives presentment, demand,
protest and notice of any kind, including notice of presentment, demand,
protest, dishonor and nonpayment. No waiver by the holder hereof of any default
shall be effective unless in writing nor shall it operate as a waiver of any
other default or of the same default on a future occasion. No failure to
accelerate the indebtedness evidenced hereby by reason of any default hereunder
and no acceptance by the holder hereof of a past-due payment shall be construed
as a novation of this Note. Should any legal action or proceeding be commenced
to collect this Note or any part of the indebtedness evidenced hereby, the
prevailing party in such action or proceeding shall be entitled to collect from
the non-prevailing party reasonable attorneys' fees and costs. Time is of the
essence of this Note. The validity, construction, effect, performance and
enforcement of this Note shall be governed in all respects by the laws of the
State of California (without reference to conflicts of laws). Principal and
interest are payable in lawful money of the United States of America.
2WIRE, INC., a Delaware corporation
By:
---------------------------------------------
Its:
---------------------------------------------
Dated:
---------------------------------------------
<PAGE>
EXHIBIT F
HAZARDOUS MATERIALS
No Hazardous Materials shall be used in the Subleased Premises other that
Hazardous Materials contained in products used for typical office and janitorial
purposes which shall be maintained in accordance with laws.
<PAGE>
EXHIBIT G
MASTER LESSOR'S CONSENT
LANDLORD'S CONSENT TO SUBLEASE AND TO ALTERATIONS
Sobrato Development Companies #960, successor-in-interest to Sobrato
Development Companies #871 ("Landlord"), as Landlord under that certain Lease
dated May 24, 1996 (the "Lease") by and between Landlord and Komag Incorporated
("Tenant"), as Tenant, subject to and specifically conditioned upon the
following terms and conditions, hereby grants its consent to the Sublease dated
January ___, 2000, made by and between the Tenant, as Sublandlord, and 2Wire,
Inc. ("Subtenant"), as Subtenant, a copy of which is attached as Exhibit A (the
"Sublease"), covering that certain premises commonly known as 1704 Automation
Parkway (the "Premises"). In addition, Landlord grants its consent to the
alterations and improvements to the Premises proposed to be constructed by
Subtenant as set forth on attached Exhibit B ("Subtenant Improvements").
As conditions to this Landlord's Consent to Sublease and to Alterations
("Consent"), it is understood and agreed as follows:
1. No Release. This Consent shall in no way release Tenant or any
person or entity claiming by, through or under Tenant, including Subtenant, from
any of its covenants, agreements, liabilities and duties under the Lease, as the
same may be amended from time to time, regardless of any provision to the
contrary in the Sublease.
2. Specific Provisions of Lease and Sublease. Except as otherwise
specifically provided herein, this Consent does not constitute approval by
Landlord of any of the provisions of the Sublease, nor shall the same be
construed to amend the Lease in any respect; any purported modifications being
solely for the purpose of setting forth the rights and obligations as between
Tenant and Subtenant, but not binding Landlord. The Sublease is, in all
respects, subject and subordinate to the Lease, as the same may be amended.
Furthermore, as between Subtenant and Landlord, and Tenant and Landlord (but not
as between Tenant and Subtenant) in the case of any conflict between the
provisions of this Consent or the Lease and the provisions of the Sublease, the
provisions of this Consent or the Lease, as the case may be, shall prevail
unaffected by the Sublease.
<PAGE>
3. Tenant's Continuing Liability. Tenant shall be liable to Landlord
for any default under the Lease, whether such default is caused by Tenant or
Subtenant or anyone claiming by or through either Tenant or Subtenant, but the
foregoing shall not be deemed to restrict or diminish any right which Landlord
or Tenant may have against Subtenant pursuant to the Lease, in law or in equity
for violation of the Lease or otherwise, including, without limitation, the
right to enjoin or otherwise restrain any violation of the Lease by Subtenant.
4. Default by Tenant under the Lease. If Tenant defaults under the
Lease, Landlord may elect to receive directly from Subtenant all sums due or
payable to Tenant by Subtenant pursuant to the Sublease. Upon written notice
from Landlord, Subtenant shall thereafter pay to Landlord any and all sums due
or payable under the Sublease. In such event, Tenant shall receive from Landlord
a corresponding credit for such sums against any payments then due or thereafter
becoming due from Tenant.
5. Termination of Lease. If at any time prior to the expiration of the
term of the Sublease the Lease shall terminate or be terminated for any reason,
the Sublease shall simultaneously terminate provided, however, that either
Landlord or Subtenant may, by written notice delivered to the other within
thirty (30) days after termination of the Lease, elect to continue Subtenant's
tenancy uninterrupted for the remainder of the term of the Sublease subject to
the following: (a) Subtenant shall attorn to Landlord upon all of the terms and
conditions of the Lease (as modified by paragraphs 7 and 8, below) except that
the Base Rent set forth in the Sublease shall be substituted for the Base Rent
set forth in the Lease and the computation of Additional Rent as provided in the
Lease shall be modified as set forth in the Sublease, and (b) neither Landlord
nor Subtenant shall be responsible to the other for the acts or omissions of
Tenant occurring prior to the election to continue Subtenant's tenancy pursuant
to this paragraph. The foregoing provisions of this paragraph shall apply
notwithstanding that, as a matter of law, the Sublease may otherwise terminate
upon the termination of the Lease and shall be self-operative upon such written
notice by Landlord or Subtenant, and no further instrument shall be required to
give effect to said provisions. However, upon the request of the other, Landlord
and Subtenant agree to execute, from time to time, documents in confirmation of
the foregoing provisions of this paragraph reasonably satisfactory to the
requesting party.
6. Sublease Profits. Landlord and Tenant agree that after making
deductions based on the terms of Section 29.B.(i)-(vi) of the Lease, Landlord
shall not be entitled to any payment of excess or bonus rent paid by Subtenant
to Tenant under the terms of the Sublease. Landlord shall also not have any
right to any portion of the amounts paid in consideration of the Transferred
Property as identified in paragraph 10 of the Sublease.
<PAGE>
7. Construction of Subtenant Improvements. Landlord's consent to the
Subtenant Improvements is an accommodation to Subtenant, and Landlord shall have
no liability or responsibility, either express or implied, for the completeness
or suitability of the plans and specifications for their intended purpose.
Subtenant shall construct the Subtenant Improvements in accordance with all
existing applicable municipal, local, state and federal laws, statutes, rules,
regulations and ordinances and will not commence construction until it has
obtained and paid for all required permits for the contemplated work. Subtenant
will notify Landlord of the date of commencement of construction to enable
Landlord to post Notices of Non-Responsibility, and Subtenant shall obtain
Landlord's prior written consent to any substantial and material changes in the
nature or scope of the Subtenant Improvements. Subtenant agrees to indemnify and
hold Landlord and Tenant harmless from any loss, cost, damage or expense of any
kind or nature resulting from the work, including, without limitation, any loss
or damage as result of defective work from any cause; any damage or injury to
persons or property, including any damage to the structure or adjacent
improvements; claims of workmen, suppliers and/or professional consultants,
including mechanics lien claims; and any cost or expense incurred by Landlord or
Tenant in defense of, repair of or payment of such claims, including their
reasonable attorneys' fees. Upon written demand from Landlord, Subtenant shall
immediately pay to Landlord any such cost or expense incurred by Landlord.
8. Removal of Subtenant Improvements. Neither Tenant nor Subtenant
shall be obligated to remove any of the Subtenant Improvements upon expiration
of the term or sooner termination of the Sublease. However, Subtenant shall have
the right remove any or all of the Subtenant Improvements, together with its
personal property and trade fixtures, at any time during the term of the
Sublease, or upon expiration or sooner termination of the Sublease, provided
that Subtenant restores the Premises to the condition which existed prior to the
construction of the Subtenant Improvements, reasonable wear and tear excepted.
Any damage or destruction caused by Subtenant's removal of such items shall be
repaired at Subtenant's sole cost and expense.
9. Notices. Subtenant agrees to promptly deliver a copy to Landlord of
all notices of default and all other notices sent to Tenant under the Sublease,
and Tenant agrees to promptly deliver a copy to Landlord of all such notices
sent to Subtenant under the Sublease. Landlord agrees to promptly deliver to
Subtenant a copy of all such notices sent to Tenant. Any notices required or
allowed to be given hereunder shall be delivered personally, or sent by United
States registered or certified mail, postage prepaid, return receipt requested,
or by reputable overnight courier, to Landlord, at its address set forth in the
Lease, and to Tenant and Subtenant, at their respective addresses set forth in
the Sublease.
<PAGE>
Landlord: Sobrato Development Companies #960,
a California limited partnership
By
------------------------------------------------
Its
------------------------------------------------
Tenant: Komag Incorporated, a Delaware corporation
By
------------------------------------------------
Its
------------------------------------------------
Subtenant: 2Wire, Inc., a Delaware corporation
By
------------------------------------------------
Its
------------------------------------------------
Exhibit 10.1.16
SECOND AMENDMENT TO LEASE
This SECOND AMENDMENT TO LEASE ("Second Amendment") is made and entered into as
of March 16, 1999 by and between Northern Trust Bank of California N.A., not
individually but as Special Trustee under agreement dated March 2, 1998 and
known as Trust Number 22-48166, The Northern Trust Company, as Custodian for the
Motion Picture Industry Individual Account Plan, First Hawaiian Bank, as
Custodian for the Hawaii Carpenters Pension Fund, Basis PRE, Inc., a California
corporation, Supplemental PRE, Inc., a California corporation, and Wells Fargo
Bank, N.A. (successor by merger to First Interstate Bank of California), as
Corporate Co-Trustee for the Western States Office & Professional Employees
Pension Fund ("Landlord") and Komag Material Technology, Inc., a California
corporation ("Tenant").
I. Landlord's predecessor in interest and Tenant entered into that certain
lease ("Lease") dated May 2, 1989, and that certain Amendment to Lease dated
November 1, 1993 ("First Amendment") for certain property ("Premises') situated
at Stony Point West Business Park ("Park"), Santa Rosa, California, as more
particularly set forth in the Lease.
II. Landlord's predecessor in interest, owner of the Park, sold the
Premises to Landlord and as a consequence references to the Park in the Lease
are no longer applicable to the Lease obligations of Tenant.
III. The parties wish to extend the Term of the Lease and make other
modifications thereto.
IV. This Second Amendment supersedes the First Amendment.
Therefore, in consideration of the mutual covenants and agreements
contained in this Amendment, and other good and valuable consideration, the
receipt and sufficiency of which is hereby acknowledged, Landlord and Tenant
agree as follows:
A. The First Amendment is hereby replaced with this Second Amendment
effective as of May 1, 1999. The Lease as amended by this Second Amendment shall
govern the rights and obligations of Landlord and Tenant for the New Term (as
defined below) and the First Amendment shall not be applicable to the New Term.
B. References to the "Park" in the Lease, unless intended to include the
"Premises", are to be disregarded and any Tenant obligations regarding the Park
or Park Operating Expenses are not applicable.
C. Unless otherwise stated, any capitalized term in this Second Amendment
is hereby given the same meaning as set forth in the Lease.
<PAGE>
D. Tenant accepts the Premises in their "as is" condition on commencement
of the New Term.
E. Section 3.01 of the Lease is modified to provide as follows: The Term of
this Lease shall be for five (5) years commencing on May 1, 1999 and ending on
April 30, 2004 ("New Term").
F. Section 3.02(a) is deleted and replaced by: Provided that Tenant is not
in default under this Lease at the time of exercise of the right to extend and
on April 30, 2004, the expiration date of the New Term ("New Term Expiration
Date"), Tenant shall have the right, at its option, to extend this Lease for one
(1) period of five (5) years ("New Term Extension Term") commencing on May 1,
2004.
Section 3.02(b) is deleted and replaced by: If Tenant elects to extend this
Lease for the New Term Extension Term, Tenant shall give unequivocal written
notice ("New Term Extension Exercise Notice") of its exercise to Landlord not
less than one hundred eighty (180) days, nor more than three hundred sixty (360)
days prior to the New Term Expiration Date. Tenant's failure to give the New
Term Exercise Notice in a timely manner shall be deemed a waiver of Tenant's
right to extend. The terms, covenants and conditions applicable to the New Term
Extension Term shall be the same terms, covenants and conditions of this Lease
as amended by this Second Amendment, except that (i) Tenant shall not be
entitled to any further option to extend after the New Term Extension Term, and
(ii) the Base Rent for the Premises shall be increased (but not decreased) as
provided in this Amended Section 3.02.
Section 3.02(c) is amended to change the phrase "First Exercise Notice"
wherever it appears to "New Term Exercise Notice," and the phrase "First
Extension Term" is changed to "New Term Extension Term," wherever it appears,
and the phrase "Term" is changed to "New Term," wherever it appears, so that
Base Rent for the New Term Extension Term will be full market rent to be
determined as provided in Section 3.02(c)(i) through (iv).
Section 3.02(d) is deleted.
G. The following shall be added at the end of Section 4.01 of the Lease:
The monthly Base Rent for the New Term shall be as follows:
Months 1-12 (May 1, 1999-April 30, 2000): $44,538 per Month; $534,456 per Year
<PAGE>
Months 13-24 (May 1, 2000-April 30, 2001):$46,231 per Month; $554,772 per Year
Months 25-36 (May 1, 2001-April 30, 2002):$47,998 per Month; $575,856 per Year
Months 37-48 (May 1, 2002-April 30, 2003):$49,811 per Month; $597,732 per Year
Months 49-60 (May 1, 2003-April 30, 2004):$51,704 per Month; $620,448 per Year
H. Section 4.03 is amended to add the following:
Base Rent for the New Term includes the following Operating Expenses: (a) real
estate taxes described in Section 5.01, (b) exterior landscaping repair and
maintenance, (c) the insurance specified in Sections 6.01 and 6.03, (d)
telephone lines for fire and life safety equipment for the Premises and (e)
Management Cost Recovery, which is limited to 3% of the Base Rent. Any other
Operating Expenses (defined below) arising after commencement of the New Term
are Tenant's responsibility and payable as Additional Rent.
I. Section 4.04 of the Lease is hereby deleted for the New Term.
J. Sections 5.01, 5.02, 5.03 of the Lease are hereby deleted for the New
Term except for purposes of reference.
K. Sections 6.01 and 6.03 of the Lease are hereby deleted for the New Term
except for purposes of reference.
L. Sections 7.01 through 7.05 are deleted for the New Term and replaced by:
Section 7.01. "Operating Expenses" are all reasonable costs and expenses
arising after commencement of the New Term of every kind and nature which
Landlord shall pay or become obligated to pay in connection with ownership and
operation of the Premises, surrounding property and supporting facilities which
Landlord has not previously incurred during Tenant's occupancy of the Premises
as of the commencement of the New Term which are incurred after commencement of
the New Term by Landlord, excluding:
(a) real estate taxes as specified in Section 5.01, (b) exterior
landscaping repair and maintenance, (c) the insurance specified in Sections 6.01
and 6.03, (d) telephone lines for fire and life safety equipment for the
Premises and (e) the Management Cost Recovery, which is limited to 3% of the
Base Rent.
-3-
LANDLORD __________
TENANT __________
<PAGE>
M. Section 8.01 of the Lease is amended as follows:
(a) Subsection 8.01(c) is modified to substitute "commencement of the NEW
TERM" for the term "Occupancy Date" in the third sentence.
(b) The existing Subsection 8.01(d) is deleted and replaced with the
following:
Tenant shall schedule annual inspections of the roof of the Building each
year and provide Landlord a roof inspection report from a qualified roofing
inspection company, mutually agreed upon by Landlord and Tenant, on the form
provided by Landlord and Tenant shall oversee and pay for all needed roof
repairs and maintenance, as reasonably determined necessary by such inspection.
Landlord reserves the right to perform its own inspection and Tenant shall pay
for all repairs reasonably determined necessary by such inspection. In the event
a roof replacement is necessary, the replacement will be the responsibility of
the Landlord, and no portion of the expense of replacement will be passed on to
the Tenant.
N. Section 10.01 of the Lease is hereby deleted and replaced with the
following:
10.01 Compliance with Laws and Regulations
Tenant's Obligations. Tenant, shall, at its sole cost and expense, comply
with all of the requirements of all municipal, state and federal authorities now
in force, or which may hereafter be in force, pertaining to Tenant's use of the
Premises, and shall faithfully observe in the use of the Premises all municipal
ordinances and state and federal statutes now in force or which may hereafter be
in force, provided, however, that in no event shall Tenant be responsible for
improvements to the Premises that are structural or capital in nature, unless
such alterations are required by law due to Tenant's particular use of the
Premises (as opposed to office uses generally). The judgment of any court of
competent jurisdiction, or the admission of Tenant in any action or proceeding
against Tenant, whether Landlord be a party thereto or not, that any such
ordinance or statute pertaining to the Premises has been violated, shall be
conclusive of that fact as between Landlord and Tenant.
O. Section 10.02 of the Lease is hereby deleted and replaced with the
following:
-4-
LANDLORD __________
TENANT __________
<PAGE>
10.02 Hazardous Materials. For purposes hereof, "Hazardous Materials" shall
mean any and all flammable explosives, radioactive material, hazardous waste,
toxic substance or related material, including but not limited to those
chemicals known to cause cancer or reproductive toxicity and those materials and
substances defined as "hazardous substances", "hazardous materials", "hazardous
wastes" or "toxic substances" in the Environmental Laws. For purposes hereof,
"Environmental Laws" shall mean the Comprehensive Environmental Response,
Compensation and Liability Act of 1980, 42 U.S.C. Section 9601 et seq; the
Hazardous Materials Transportation Act, 39 U.S.C. Section 1801, et seq.; the
Solid Waste Disposal Act, as amended by the Resource Conservation and Recovery
Act, 42 U.S.C. Section 6901 et seq.; the Federal Clean Water Act, 33 U.S.C.
Section 1251 et seq.; the Clean Air Act, 42 U.S.C. Section 7401 et seq.; the
Porter-Cologne Water Quality Act, California Water Code Section 13020 et seq.;
and the California Health and Safety Code, Section 25100 et seq., including all
amendments thereto, replacements thereof, and regulations adopted and
publications promulgated pursuant thereto.
(a) Tenant agrees that during the term of this Lease, Tenant shall not
violate any federal, state or local law, ordinance or regulation relating to
industrial hygiene, soil, water or environment conditions on, under or about the
Premises including, but not limited to the Environmental Laws.
(b) Tenant further agrees that, unless Tenant receives Landlord's prior
written consent, which may be withheld in Landlord's reasonable discretion,
during the Term of this Lease, there shall be no use, presence, disposal,
storage, generation, release or threatened release of Hazardous Materials on,
from or under the Premises by Tenant, its agents, employees, contractors or
invitees, except that Tenant may use incidental amounts of office and custodial
supplies on the Premises, provided they are used in compliance with
Environmental Laws.
-5-
LANDLORD __________
TENANT __________
<PAGE>
(c) Tenant shall advise Landlord in writing of any use, generation,
storage, release, threatened release or disposal of Hazardous Materials by
Tenant, its agents, employees, or contractors, of which it is aware. Tenant
shall immediately notify Landlord in writing of any violation, inspection or
enforcement proceeding under any environmental law concerning Tenant or the
Premises of which Tenant becomes aware. Tenant shall make available to Landlord
such information and records as Tenant may have and Landlord may request
concerning the matters described herein. Tenant shall permit Landlord, its
agents and engineers to inspect at reasonable times the Premises and any and all
governmental agency files and records relating to Tenant or the Premises
concerning Hazardous Materials and to conduct investigations and tests ("tests")
concerning Hazardous Materials, provided that: (i) Landlord shall provide Tenant
with written notice at least five (5) days in advance, (ii) all such tests shall
be performed in a manner using diligent efforts to minimize interruptions to
Tenant and Tenant's use of the Premises to the extent commercially reasonable,
and, (iii) Landlord shall give Tenant at least ten (10) days prior written
notification of the location of any drilling work to be performed, (iv) Tenant
shall be entitled to have a representative present for all such testing, and (v)
Landlord shall indemnify, defend, protect and hold Tenant harmless from any
loss, damage, injury, or liability to Tenant's property and employees in and
about the Premises caused by Landlord's agents, invitees, contractors, or
employees, related to such testing. The tests provided for herein may be
conducted by Landlord at or after termination or expiration of the Lease. In the
event such testing shall demonstrate that Tenant has caused such Hazardous
Materials to be present, Tenant shall pay Landlord within thirty (30) days after
Landlord sends to Tenant an invoice therefor, the reasonable amount of all costs
and expenses incurred by Landlord as a result thereof, including without
limitation, those set forth in subparagraph (d), and costs of testing. In the
event that such testing shall either not disclose the presence of any Hazardous
Materials on the Premises, or does not demonstrate the Tenant to be the cause of
the Hazardous Materials on the Premises, Landlord shall pay the costs of such
testing solely, without benefit of contribution thereof from Tenant.
(d) Tenant shall indemnify, defend and hold Landlord harmless from and
against any and all claims, judgments, damages, penalties, fines, liabilities,
losses, suits, administrative proceedings and costs (including, but not limited
to, reasonable attorneys' and consultants' fees and all costs and expenses in
connection with any tests, evaluations or remediation or compliance arising from
or related to Hazardous Uses or Release of Hazardous Materials or violations of
Environmental Laws on or about the Premises due to the activities of Tenant or
Tenant's agents, invitees, contractors or employees.
(e) Notwithstanding anything to the contrary in this Lease, nothing herein
shall prevent Tenant from using materials other than Hazardous Materials on the
Premises that would be used in the ordinary course of its business as
contemplated by this Lease. If during the Term of this Lease, Tenant
contemplates utilizing Hazardous Materials (or assigns this Lease or sublease to
any assignee or subtenant who utilizes Hazardous Material), Tenant shall obtain
the prior written approval from Landlord to the use thereof, which approval
shall not be unreasonably withheld.
-6-
LANDLORD __________
TENANT __________
<PAGE>
P. Prior Agreements. This Second Amendment contains all of the agreements
of the parties hereto with respect to any matter covered or mentioned in this
Second Amendment, and no prior agreements or understanding pertaining to any
such matters shall be effective for any purpose. This Second Amendment shall not
be effective or binding on any party until fully executed by both parties
hereto.
Q. Effectiveness of Lease. Except as expressly amended hereby, all of the
terms, covenants, conditions, provisions and agreements of the Lease shall
remain in full force and effect.
IN WITNESS WHEREOF, the parties hereto have executed this Second Amendment
a of the date first above written.
LANDLORD TENANT
NORTHERN TRUST BANK OF CALIFORNIA N.A., KOMAG MATERIAL
not individually but as Special Trustee TECHNOLOGY, INC.
under agreement dated March 2, 1998 a California corporation
and known as Trust Number 22-48166
THE NORTHERN TRUST COMPANY By:
as Custodian for the Motion Picture ----------------------------------
Industry Individual Account Plan Its:
---------------------------------
FIRST HAWAIIAN BANK,
as Custodian for the Hawaii
Carpenters Pension Fund
BASIC PRE, Inc.,
a California corporation
SUPPLEMENTAL PRE, Inc.,
a California corporation
WELLS FARGO BANK, N.A.
(Successor by merger to
First Interstate Bank of California),
as Corporate Co-Trustee for the
Western States Office & Professional
Employees Pension Fund
By: McMorgan & Company
Its: Investment Manager
By:
------------------------------
Patrick Murray
Vice President
Date:
------------------------------
-8-
LANDLORD __________
TENANT __________
Exhibit 21
KOMAG, INCORPORATED
List of Subsidiaries
Asahi Komag Co., Ltd., a Japanese corporation
Komag USA (Malaysia) Sdn., a Malaysian corporation
Exhibit 23.1
CONSENT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
We consent to the incorporation by reference in the Registration Statements
(Form S-3 No. 333-93051, Form S-3/A No. 333-81263 and Form S-8 Nos. 333-84567,
333-48867, 333-31297, 333-23095, 333-06081, 33-62543, 33-80594, 33-53432,
33-45469, 33-41945, 33-25230, 33-19851, and 33-16625) pertaining to the Komag
Incorporated Deferred Compensation Plan, the Komag, Incorporated Restated 1987
Stock Option Plan, the Komag Material Technology, Inc. 1995 Stock Option Plan,
the Komag, Incorporated Employee Stock Purchase Plan, the Komag, Incorporated
Restated 1987 Stock Option Plan, the - Komag, Incorporated 1988 Employee Stock
Purchase Plan, the Dastek, Inc. 1992 Stock Option Plan, and the 1997
Supplemental Stock Option Plan of our report dated January 21, 2000 (except Note
16 as to which the date is March 17, 2000), with respect to the consolidated
financial statements and schedule of Komag, Incorporated included in this Annual
Report (Form 10-K) for the year ended January 2, 2000.
Ernst & Young LLP
San Jose, California
March 29, 2000
Exhibit 23.2
CONSENT OF INDEPENDENT ACCOUNTANTS
We consent to the incorporation by reference in this annual report of Komag,
Incorporated on Form 10-K of our report dated January 22, 1999, on our audits of
the consolidated financial statements of Asahi Komag Co., Ltd. as of December
31, 1998, and for the years ended December 31, 1998 and 1997.
CHUO AUDIT CORPORATION
Tokyo, Japan
March 29, 2000
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
ACCOMPANYING FINANCIAL STATEMENTS AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE
TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<CURRENCY> U.S. DOLLARS
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> JAN-02-2000
<PERIOD-START> JAN-04-1999
<PERIOD-END> JAN-02-2000
<EXCHANGE-RATE> 1
<CASH> 25,916
<SECURITIES> 43,610
<RECEIVABLES> 35,664
<ALLOWANCES> 2,180
<INVENTORY> 23,018
<CURRENT-ASSETS> 136,874
<PP&E> 820,113
<DEPRECIATION> 506,658
<TOTAL-ASSETS> 475,871
<CURRENT-LIABILITIES> 338,755
<BONDS> 0
0
0
<COMMON> 659
<OTHER-SE> 51,054
<TOTAL-LIABILITY-AND-EQUITY> 475,871
<SALES> 331,946
<TOTAL-REVENUES> 331,946
<CGS> 354,655
<TOTAL-COSTS> 354,655
<OTHER-EXPENSES> 268,380
<LOSS-PROVISION> (400)
<INTEREST-EXPENSE> 23,319
<INCOME-PRETAX> (307,667)
<INCOME-TAX> 1,192
<INCOME-CONTINUING> (310,049)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (310,049)
<EPS-BASIC> (4.98)
<EPS-DILUTED> (4.98)
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