1 ================================================================================ 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 (FEE REQUIRED). For the fiscal year ended December 31, 2000. [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 (NO FEE REQUIRED). For the transition period from __________ to __________. Commission file number: 000-26966 ADVANCED ENERGY INDUSTRIES, INC. - -------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) <TABLE> <S> <C> DELAWARE 84-0846841 (State or other jurisdiction of incorporation (I.R.S. Employer Identification No.) or organization) 1625 SHARP POINT DRIVE, FORT COLLINS, CO 80525 (Address of principal executive offices) (Zip Code) </TABLE> Registrant's telephone number, including area code: (970) 221-4670 Securities registered pursuant to Section 12(b) of the Act: NONE Securities registered pursuant to section 12(g) of the Act: COMMON STOCK, $0.001 PAR VALUE (Title of Class) 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 (Section 229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant's
2 knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K [ ]. As of March 12, 2001, there were 31,555,604 shares of the Registrant's Common Stock outstanding and the aggregate market value of such stock held by non-affiliates of the Registrant was $409,060,275. DOCUMENTS INCORPORATED BY REFERENCE Portions of the Company's definitive proxy statement for the annual meeting of stockholders to be held on May 9, 2001 are incorporated by reference into Part III of this Form 10-K. 2
3 ADVANCED ENERGY INDUSTRIES, INC. FORM 10-K TABLE OF CONTENTS <TABLE> <S> <C> <C> PART I ITEM 1. BUSINESS 4 EXECUTIVE OFFICERS OF THE REGISTRANT 30 ITEM 2. PROPERTIES 31 ITEM 3. LEGAL PROCEEDINGS 31 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 32 PART II ITEM 5. MARKET PRICE FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS 33 ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA 34 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 35 ITEM 7.A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 48 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA 50 ITEM 9. DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURES 73 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT 74 ITEM 11. EXECUTIVE COMPENSATION 74 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT 74 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS 74 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K 75 </TABLE> 3
4 PART I ITEM 1. BUSINESS GENERAL We design, manufacture and support products and systems critical to plasma-based manufacturing processes. These systems are important components in industrial manufacturing equipment that modifies surfaces or deposits or etches thin film layers on computer chips, CDs, flat panel displays such as computer screens, DVDs, windows, eyeglasses, solar panels and other products. Our systems refine, modify and control the raw electrical power from a utility and convert it into power that is uniform and predictable. This allows manufacturing equipment to produce and deposit very thin films at an even thickness on a mass scale. We market and sell our systems primarily to large, original equipment manufacturers of semiconductor, flat panel display, data storage and other industrial thin film manufacturing equipment. We have sold our systems worldwide to more than 100 OEMs and directly to more than 500 end-users. Our principal customers include Applied Materials, Axcelis, Lam Research, Novellus, Singulus, ULVAC and Unaxis. We seek to expand our product offerings and customer base. In September 1998 we acquired the assets of Fourth State Technology, Inc. This acquisition provided us with the capability to design and manufacture power-related process control systems used to monitor and analyze data in thin film processes. In October 1998 we acquired RF Power Products, Inc., which designs, manufactures and markets radio frequency (RF) power conversion and control systems consisting of generators and matching networks. This acquisition expanded our existing product line of RF generators and matching networks. Generators provide radio frequency power and matching networks provide the power flow control to our customers' equipment. We sell these products principally to semiconductor capital equipment manufacturers. We also sell similar systems to capital equipment manufacturers in the flat panel display and thin film disk media industries. We continue to explore applications for these products in other industries. In October 1999 we further expanded our range of product offerings when we acquired a majority ownership in LITMAS, in which we had previously held a minority interest. LITMAS is a manufacturer of plasma gas abatement systems and high-density plasma sources for the semiconductor capital equipment industry. In April 2000 we acquired Noah Holdings, Inc. ("Noah"), a privately held manufacturer of solid state temperature control systems used to control process temperatures during semiconductor manufacturing. 4
5 In August 2000 we acquired Sekidenko, Inc. ("Sekidenko"), a privately held manufacturer of optical fiber temperature measurement and control systems for the semiconductor and related industries. In January 2001 we acquired Engineering Measurements Company ("EMCO"), a publicly held manufacturer of flowmeters for use in semiconductor manufacturing and advanced product applications. Since inception we have sold over 200,000 power conversion and control systems. Sales to customers in the semiconductor capital equipment industry constituted 65% of our sales in 1999 and 70% in 2000. We sell our systems primarily through direct sales personnel to customers in the United States, Europe and Asia, and through distributors in Australia, China, France, India, Israel, Italy, Mexico, Singapore and Sweden. International sales represented 27% of our sales in 1999 and 28% in 2000. DEVELOPMENT OF COMPANY BUSINESS We incorporated in Colorado in 1981 and reincorporated in Delaware in 1995. In 1995 we effected the initial public offering of our Common Stock. As used in this Form 10-K, references to "Advanced Energy" refer to Advanced Energy Industries, Inc. and references to "we", "us", or "our" refer to Advanced Energy and its consolidated subsidiaries. Our principal executive offices are located at 1625 Sharp Point Drive, Fort Collins, Colorado 80525, and our telephone number is 970-221-4670. PRODUCTS Our switchmode power conversion and control systems have advanced features, which have enabled our customers to develop new plasma-based processing applications. In 1982 we introduced our first low-frequency switchmode power conversion and control system specifically designed for use in plasma processes. In 1983 we introduced our first direct current (DC) system designed for use in physical vapor deposition (PVD) applications. This DC system is a compact, cost-effective power solution, which greatly reduces stored energy, a major limitation in PVD systems. In 1989 we introduced tuners used to match the characteristics of the plasma with the RF generators. We carried the state of the art further in 1995 when we introduced the Pinnacle series of DC systems, which we updated in 1997 with the Pinnacle-II. In 1990 we introduced the first switchmode RF power conversion and control systems for use in semiconductor etch applications. This product line achieved significant design wins because of its smaller size and its ability to provide more precise control. In 1998 we developed the APEX series of RF systems, which use new technology to further reduce size and extend the frequency and power range of our RF product line. We introduced a family of accessories for the DC product line in 1993. These pulsed DC products provided major improvements in arc prevention and suppression. We are currently extending the power 5
6 range of our systems to much higher power levels to enable them to supply products for advanced product applications. The products in these product families range in price from $3,100 to $175,000, with an average price of approximately $9,500. The acquisition of RF Power Products in 1998 expanded our product line of RF generators and matching networks. Solid-state generators are presently available for power requirements of up to 10 kW and are sold primarily to capital equipment manufacturers in the semiconductor equipment, flat panel display, thin film and analytical equipment markets. RF matching networks are systems composed primarily of variable inductors and capacitors with application-specific circuits that can be designed to a customer's specific power requirements. Our RF generators and matching networks have average selling prices similar to our DC products. In 1998 we acquired an ion source technology which can produce a beam of ions for surface modification and other ion beam processes. In that same year we also sold our first products having this technology. We also developed and introduced products using inductively coupled sources of both the solenoidal and toroidal forms. In 1998 we also developed sophisticated pulsing power supply specifically for electroplating processes on semiconductor wafers, which led to the introduction of the E'Wave product in 1999. The acquisition of Fourth State Technology in 1998 enhanced our capability to design and manufacture RF power-related process control systems used to monitor and analyze data in thin film processes. This technology also is enabling us to develop power conversion and control systems that incorporate advanced measurement and control systems. The acquisition of a majority interest in LITMAS in 1999 expanded our product line to include plasma abatement systems and high-density plasma sources. We market these products to semiconductor capital equipment manufacturers. The acquisition of Noah in 2000 expanded our product offerings to include solid state temperature control systems for use in controlling temperatures during semiconductor manufacturing. The acquisition of Sekidenko in 2000 expanded our product offerings to include optical fiber temperature measurement and control systems. We market these products to semiconductor capital equipment manufacturers. The acquisition of EMCO in 2001 expanded our product offerings to include electronic and electromechanical precision instruments for measuring and controlling the flow of liquids, steam and gases. 6
7 The following chart sets forth our principal product lines and related basic information: <TABLE> <CAPTION> - ------------------------------------------------------------------------------------------------------------------------------------ PRODUCT POWER/CURRENT MAJOR PROCESS PLATFORM DESCRIPTION LEVEL APPLICATIONS - ------------------------------------------------------------------------------------------------------------------------------------ <S> <C> <C> <C> <C> MDX Power control and 500W-80kW PVD DIRECT conversion system o Metal sputtering o Reactive sputtering ---------------- ------------------------ ------------------ ---------------------------- CURRENT MDX II Power control and 15kW-120kW PVD conversion system o Metal sputtering PRODUCTS o Reactive sputtering ---------------- ------------------------ ------------------ ---------------------------- Pinnacle(TM) Power control and 6kW-120kW PVD Pinnacle(TM)- II conversion system o Metal sputtering o Reactive sputtering ---------------- ------------------------ ------------------ ---------------------------- Pinnacle(TM)Plus Pulsed power control and 5kW - 10kW PVD conversion system o Metal sputtering o Reactive sputtering ---------------- ------------------------ ------------------ ---------------------------- Sparc-le(R) Arc management 1kW-60kW For use with MDX accessory systems - permits precise control of reactive sputtering of insulating films ---------------- ------------------------ ------------------ ---------------------------- E-Chuck Electrostatic chuck <100W General wafer handling in power system semiconductor PVD, CVD, and etch applications - ------------------------------------------------------------------------------------------------------------------------------------ Astral(TM) Pulsed DC power system 20kW, 120kW, 200kW PVD HIGH-POWER o Reactive sputtering ---------------- ------------------------ ------------------ ---------------------------- Crystal(TM) Mid-frequency power 180kW PVD PRODUCTS control and conversion CVD system Reactive sputtering Dual magnetron sputtering - ------------------------------------------------------------------------------------------------------------------------------------ PE and PE-II Low frequency 1.25kW-30kW CVD LOW AND MID- power control and PVD conversion system o Reactive sputtering FREQUENCY Surface modification ---------------- ------------------------ ------------------ ---------------------------- PRODUCTS PD Mid-frequency 1.25kW-8kW CVD power control and PVD conversion system o Reactive sputtering Surface modification ---------------- ------------------------ ------------------ ---------------------------- LF Low frequency 500W-1kW Etch power control and PVD conversion system - ------------------------------------------------------------------------------------------------------------------------------------ HFV Power control and 3kW-8kW PVD conversion system Etch ---------------- ------------------------ ------------------ ---------------------------- RADIO RFX Power control and 600W General R&D conversion system ---------------- ------------------------ ------------------ ---------------------------- FREQUENCY RFG Power control and 600W-5.5kW Etch conversion system CVD ---------------- ------------------------ ------------------ ---------------------------- PRODUCTS RFXII Power control and 600W-5.5kW Etch conversion system CVD ---------------- ------------------------ ------------------ ---------------------------- APEX(TM) Power control and 1kW-10kW Etch conversion system CVD ---------------- ------------------------ ------------------ ---------------------------- AZX, VZX, Tuner 100W-5kW Impedance matching SwitchMatch(TM) network ---------------- ------------------------ ------------------ ---------------------------- RF Power control and 500W-5kW Etch conversion system CVD ---------------- ------------------------ ------------------ ---------------------------- Atlas(TM) Power control and 1.5kW-5kW Etch conversion system ---------------- ------------------------ ------------------ ---------------------------- Mercury(TM) Tuner 500W-10kW Impedance matching network ---------------- ------------------------ ------------------ ---------------------------- FTMS(TM) Tuner 2kW-5kW Impedance matching network - ------------------------------------------------------------------------------------------------------------------------------------ 12cm multi-cell Round ion beam source 1.5kW-2.0kW Magnetic media ION BEAM SOURCES ion beam source DLC deposition Optical ion assist ---------------- ------------------------ ------------------ ---------------------------- PRODUCTS Linear ion beam 38cm, 65cm, 94cm 1.0kW-3.0kW Architectural glass sources Flat panel displays - pre-cleaning Ion assist deposition ---------------- ------------------------ ------------------ ---------------------------- Inductively 3kW linear ICP 3kW Enhanced reactive coupled plasma deposition source (ICP - 3) Low energy CVD Low energy cleaning ---------------- ------------------------ ------------------ ---------------------------- RAPID-F Toroidal fluorine ion 8 kW Chamber cleaning RAPID-O source 8 kW Reactive gas sputtering Torodal oxygen ion source - ------------------------------------------------------------------------------------------------------------------------------------ </TABLE> 7
8 <TABLE> <CAPTION> - ------------------------------------------------------------------------------------------------------------------------------------ PRODUCT POWER/CURRENT MAJOR PROCESS PLATFORM DESCRIPTION LEVEL APPLICATIONS - ------------------------------------------------------------------------------------------------------------------------------------ <S> <C> <C> <C> <C> Gen-Cal(TM) RF power measurement 50W-3kW Generator diagnostic tool ---------------- ------------------------ ------------------ ---------------------------- OTHER RF-EP RF probe 50W-5kW End-point detection system ---------------- ------------------------ ------------------ ---------------------------- Z-Scan(TM) RF probe 50W-5kW Impedance measurement tool ---------------- ------------------------ ------------------ ---------------------------- PRODUCTS RF-MS RF metrology system 5W-5kW Plasma diagnostic tool ---------------- ------------------------ ------------------ ---------------------------- ID Ion-beam conversion 500W-5kW Ion-beam deposition and control system Ion implantation Ion-beam etching/milling ---------------- ------------------------ ------------------ ---------------------------- E'Wave(TM) Bipolar electroplating 400W-8kW Electroplating copper onto a wafer ---------------- ------------------------ ------------------ ---------------------------- Virtual Front Power system control N/A Computer control of power Panel systems ---------------- ------------------------ ------------------ ---------------------------- NPSA Products Low voltage, high <1 kW Powering of next current power regulators generation microprocessors and ASICs - ------------------------------------------------------------------------------------------------------------------------------------ </TABLE> DIRECT CURRENT PRODUCTS The MDX Series. We introduced our MDX series of products in 1983. These products are most commonly used as DC power supplies for PVD sputtering where precise control, superior arc prevention and suppression and low stored energy characteristics are required. They are also used as bias supplies for RF sputtering, tool coating and some etching systems. The MDX series consists of six different product lines that provide a range of power levels from 500W to 120kW. Our second generation product, the MDX II, was introduced in 1991 to support higher power levels, to provide wider output range, and to meet strict European regulatory requirements. A model in the MDX series, the MDX-L, was designed for especially high reliability and was introduced in 1992. The Pinnacle(TM) Platform. The Pinnacle platform, which we introduced in 1995, including its updated version, the Pinnacle(TM) -II, which we introduced in 1997, is the most recent general purpose platform in the DC product line. We developed the Pinnacle primarily for use in DC PVD sputtering processes, and it provides substantial improvements in arc prevention, arc suppression capability, reduced size, higher precision and expanded control capability. The low stored energy of Pinnacle, a basic feature of our DC power conversion equipment, is the lowest ever achieved in a switchmode power supply, and is due to the patented basic circuit topology. The Pinnacle(TM) Plus Platform. This platform, introduced in 1999, is a pulsed DC power system designed principally for use in reactive sputtering to produce insulating films. It is capable of producing up to 10kW of power in short pulses at frequencies up to 350kHz, for virtual elimination of arcing in difficult processes. Sparc-le(R) Accessories. Our Sparc-le line of DC accessories, first introduced in 1993 and updated several times since, is designed both to reduce the number of arcs that occur in plasma-based processes and to reduce the energy delivered if arcs do occur. The Sparc-le accessories are especially effective in applications involving the deposition of insulating materials where the reaction between the plasma and target is likely to produce 8
9 more severe arc conditions. The Sparc-le accessories are most commonly used with the MDX product lines. Electrostatic Chuck Power Systems. We designed this system of power conversion units for a specific customer for use in wafer handling systems for the semiconductor fabrication market. The electrostatic chuck is a device that uses electric fields to hold or "chuck" a wafer in a vacuum environment without mechanical holding force. This permits more gentle handling of the wafer and simultaneous heating or cooling of the wafer during processing. When our power system applies voltage to the wafer, electric fields are created which hold the wafer in position. Exact control and careful ramping of the voltage permits the wafer to be picked and placed with precision. The system permits multiple power units to be held in a single chassis for ease of integration into the customer's system. HIGH-POWER PRODUCTS These products are designed for use in heavy industrial processes such as architectural glass and other large area coating applications. Astral(TM) Products. The Astral products, made in 20kW, 120kW and 200kW versions, offer a new technology, called "current pulsed dual magnetron sputtering." These units are used for development of coatings for CRT and flat panel displays, automotive applications and new types of glass coatings. Crystal(TM). The Crystal 180kW power conversion unit was developed for use in industrial PVD applications such as architectural glass coating, but is also useful in PECVD (Plasma Enhanced Chemical Vapor Deposition). The latter may be used for deposition of oxygen- and water-vapor-barrier coatings on films used in food packaging. In PVD the unit is typically used as a powering source for a pair of magnetron sputtering sources in the "dual" configuration in a reactive sputtering system. LOW AND MID-FREQUENCY PRODUCTS The PE and PD Series. We introduced the PE low frequency power systems in 1982. The PE series systems are air cooled and primarily intended for use in certain PVD, CVD and industrial surface modification applications, including dual cathode sputtering and printed circuit board de-smearing. The PE series systems range in frequency from 25kHz to 100kHz. The PE-II systems are water cooled and produce 10kW at 40kHz. The PD series of mid-frequency power conversion and control systems, introduced in 1990, represented significant technological advancements by applying switchmode techniques to higher frequencies. The water-cooled PD systems are used primarily in semiconductor etch and CVD applications. The PD series range in frequency from 275kHz to 400kHz. Both the PE and PD series systems have cost-effective single-stage power generation, and include systems with pulsed power technology. 9
10 LF Generators. The LF low-frequency generators were introduced to us as a result of the acquisition of RF Power Products. The LF-5 is a 500W unit and the LF-10 is a 1kW unit. Both of these units are variable-frequency, microprocessor-controlled systems. With a frequency range extending from 50kHz to 460kHz, these generators are a good complement to the PD and PE series. RADIO FREQUENCY PRODUCTS HFV power generator. The HFV power generator produces 3, 5, or 8kW of power at a variable frequency of about 2MHz for powering inductively coupled plasma (ICP) systems. It is water cooled and ultra compact, providing up to 8kW of power in a 5-1/4 inch rack mount enclosure 20-1/4 inches deep, thereby representing the highest power density in the industry at these frequencies. The RF Series. The RFX system is a 13.56MHz, 600W, air-cooled platform introduced in 1985. This low-power system is used primarily in research and development applications. The RFG and RFXII, introduced in the early 1990s, are water-cooled power conversion and control systems utilizing a hybrid switchmode technology. The RFG and RFXII systems operate at frequencies ranging from 4MHz to 13.56MHz. These systems were the first fully switchmode RF designs. These RF systems are most commonly used in semiconductor processes, including RF sputtering, plasma etching/deposition and reactive ion etching applications. During 1998 we developed the APEX series of power control and conversion systems, which have the highest power density ever produced at radio frequencies. One APEX unit produces 10kW at 13.56MHz in a 5-1/4 inch rack mount enclosure. Another APEX unit produces 5.5kW in a 5x7.5x15 inch enclosure, and still another produces 3kW in the same enclosure but includes a switchable matching network and a voltage-current (V-I) probe measurement system integrated in the package. The APEX line also includes power conversion systems that produce 1, 2, 4 and 8kW at 27.12MHz. The RF-5, RF-10, RF-20, RF-30 and RF-50 units that we produce generate power between 500W and 5kW, and are selectively available with frequencies from 2 MHz to 40 MHz. They use simple AC transformer front ends and employ linear RF sections, permitting variable frequency and high-speed pulse operation. The Atlas(TM) Series. The Atlas power systems, introduced in 1998, combine the advantages of a modernized version of the linear RF sections of the RF series with a switchmode AC front end. These systems currently range in power from 1.5kW to 5kW at nominal center frequencies of 12.56, 13.56 and 27.12 MHz. These units complement our new APEX series. For several applications, the ability to sweep the frequency about the nominal center frequency provides significant advantages to the customer. Now the customer can choose to have either the compact package of the fixed-frequency APEX or, where required, the frequency agility of the Atlas systems. 10
11 The AZX Series. The AZX series tuners are RF matching networks designed as accessories to match the complex electrical characteristics of a plasma to the requirements of our RF series of power conversion and control systems. AZX tuners, introduced in 1989, are also sold separately for incorporation into other vendors' power conversion and control systems. The AZX tuners typically operate at a 13.56MHz frequency range. The VZX series tuners, introduced in 1998, are digital automatic impedance matching networks which utilize a predictive algorithm to provide tuning speeds up to three times faster than the older AZX series. SwitchMatch(TM) networks, also introduced by us in 1998, are selectable fixed matching units, which we offer both as part of APEX systems and as standalone products. The AM and Mercury Matching Network Series. The mechanical matching networks are available in power handling capabilities up to 30kW. These matching networks are extremely compact, utilizing two ceramic envelope vacuum variable capacitors. The modular construction of the matching networks allows rapid customization without the delays usually encountered in custom design. Since most applications require custom refinements for optimum performance, this feature has benefited us greatly in achieving numerous design wins. In 1998, we introduced the FTMS (Frequency Transformation Matching System), which is a solid state matching network with no moving parts. We use this system in conjunction with our frequency agile Atlas generators. The FTMS is available in power levels up to 5kW. ION BEAM SOURCES Plasma Sources. We introduced our ion sources and inductively coupled plasma (ICP) sources products in 1998. Several versions of the ion sources product include a 12cm round source for the magnetic media and optical markets as well as linear sources up to one meter long for applications in the flat panel display and architectural glass markets. The ICP product, also developed in 1998, allowed us access to reactive deposition and cleaning applications where low energy is critical to prevent substrate damage. This was followed by the development of a toroidal ICP for chamber cleaning with fluorine, called the RAPID-F, and a second toroidal source of activated oxygen for reactive gas processes. All these products feature high reliability, low maintenance designs, and are well suited for the demanding environments in today's production facilities. OTHER PRODUCTS The RF-EP End-point Detection System. The RF-EP reduces length of time to end-point on CVD and etch chambers in comparison to optical detection. This system uses one of three signals (voltage, current or phase) to precisely and accurately detect end-point. The RF-EP also greatly reduces the level of greenhouse emissions by consuming less process gas. The Z-Scan(TM) Voltage-Current (V-I) Probe. This unit, first delivered in 1998, replaces the RFZ impedance probe introduced in 1993. Z-Scan measures the RF 11
12 properties of a plasma process and provides condensed information through its Z-Ware software. The sensing technology incorporated in Z-Scan probe allows accurate, real-time measurement of power, voltage, current and impedance levels at both fundamental and harmonic frequencies, under actual powered process conditions. Such measurements not only help our customers design their process systems, but are also used as sensitive detectors of process conditions, including etch endpoint. The RF-MS Diagnostic System. The RF-MS simultaneously performs endpoint and excursion detection for multiple CVD chambers. Additionally, the system's software monitors the long-term transients in the process tool performance such as wet clean and transition in the film stress. The RF-MS has demonstrated significant cost savings through improved wafer yields, reduced particle contamination and higher throughput. The ID Series. The ID power conversion and control systems, introduced in 1981, were the first products we designed. These systems were specifically designed to power broad-beam ion sources. ID series systems are composed of a coordinated set of multiple special purpose power supplies that are used for ion-beam deposition and sputtering, implantation, etching and milling. The E'Wave(TM). The E'Wave is designed for the semiconductor industry for electroplating copper onto a wafer. The power supply can produce up to four channels of multi-step, bipolar, square waveforms, which permit the copper to be alternatively plated and etched in precisely controlled ways, in order to fill very small cavities on the wafer surface. Each channel can produce 400W continuous and up to 2kW peak, for a total supply output of 1.6kW continuous and 8kW peak. The Virtual Front End. This product enables one to operate or control the power system from a laptop or desktop PC. It has a graphing capability, which permits real-time monitoring of the plasma characteristics and the power delivered to it. New Power Supply Architecture ("NPSA"). In 1998, we embarked on a program to adapt our high frequency technology to the powering of microprocessors, which now require higher currents at lower voltages, and which require the powering source to be extremely agile (able to handle rapidly changing power drains). We sold the first of such products in 1999. Our technology permits smaller, less expensive power regulators, which are stable under high rates of change of current draw, without the use of expensive electrolytic capacitors. MARKETS AND CUSTOMERS MARKETS Most of our sales historically have been to customers in the semiconductor capital equipment industry. Sales to customers in this industry represented 65% of our sales 1999 12
13 and 70% in 2000. Our power conversion and control systems are also used in the flat panel display, data storage and advanced product applications markets. Following is a discussion of the major markets for our systems: SEMICONDUCTOR CAPITAL EQUIPMENT MANUFACTURING MARKET. We sell our products primarily to semiconductor capital equipment manufacturers for incorporation into equipment used to make integrated circuits. Our products are currently used in a variety of applications including dielectric and metal film deposition, etch, ion implantation, photo-resist strip and megasonic cleaning. The precise control over plasma-based processes that use our power conversion and control systems enables the production of integrated circuits with reduced feature sizes and increased speed and performance. We also sell plasma abatement systems and high-density plasma sources through LITMAS, solid state temperature control systems through Noah, and optical fiber thermometers through Sekidenko. We anticipate that the semiconductor capital equipment industry will continue to be a substantial part of our business for the foreseeable future. DATA STORAGE MANUFACTURING EQUIPMENT MARKETS. We also sell systems to data storage equipment manufacturers and to data storage device manufacturers for use in producing a variety of products, including CDs, computer hard disks, including both media and thin film heads, CD-ROMs and DVDs. These products use a PVD process to produce optical and magnetic thin film layers, as well as a protective wear layer. In this market the trend towards higher recording densities is driving the demand for increasingly dense, thinner and more precise films. The use of equipment incorporating magnetic media to store analog and digital data continues to expand with the growth of the laptop, desktop and workstation computer markets and the consumer electronics audio and video markets. FLAT PANEL DISPLAY MANUFACTURING EQUIPMENT MARKET. We also sell our systems to manufacturers of flat panel displays and flat panel projection devices, which have fabrication processes similar to those employed in manufacturing integrated circuits. Flat panel technology produces bright, sharp, large, color-rich images on flat screens for products ranging from hand-held computer games to laptop and desktop computer monitors to large-screen televisions. There are three major types of flat panel displays, including liquid crystal displays, field emitter displays and gas plasma displays. There are two types of flat panel projection devices, including liquid crystal projection and digital micro-mirror displays. We sell our products to all five of these markets. ADVANCED PRODUCT APPLICATIONS MARKETS. We also sell our products to OEMs and producers of end products in a variety of industrial markets. Thin film optical coatings are used in the manufacture of many industrial products including solar panels, architectural glass, eyeglasses, lenses, barcode readers and front surface mirrors. Thin films of diamond-like coatings and other materials are currently applied to products in plasma-based processes to strengthen and harden surfaces on such diverse products as tools, razor blades, automotive parts and hip joint replacements. Other thin film processes 13
14 that use our products also enable a variety of industrial packaging applications, such as decorative wrapping and food packaging. The advanced thin film production processes allow precise control of various optical and physical properties, including color, transparency and electrical and thermal conductivity. The improved adhesion and high film quality resulting from plasma-based processing make it the preferred method of applying the thin films. Many of these thin film industrial applications require power levels substantially greater than those used in our other markets. We also sell low-wattage power supplies to OEMs in the telecommunications, non-impact printing and laser markets through Tower. APPLICATIONS We have sold our products for use in connection with the following processes and applications: <TABLE> <CAPTION> SEMICONDUCTOR DATA STORAGE FLAT PANEL DISPLAY ADVANCED PRODUCT APPLICATIONS ------------- ------------ ------------------ ----------------------------- <S> <C> <C> <C> Chemical vapor deposition CD-ROMs Active matrix LCDs Automobile coatings (CVD) (metal and dielectric) CDs Digital micro-mirror Chemical, physical and materials research Plasma-enhanced CVD Recordable CDs Field emission displays Circuit board etch-back and de-smear High-density plasma CVD DVDs Large flat panel displays Consumer product coatings Etch Hard disk carbon wear coatings LCD projection Diamond-like coatings Ion implantation Hard disk magnetic media Liquid crystal displays Food package coatings Magnet field controls Magneto-optic CDs Medical applications Glass coatings Megasonic cleaning Thin film heads Plasma displays Non-impact printing Photo-resist stripping Optical coatings Physical vapor deposition (PVD) Photovoltaics Superconductors Telecommunications </TABLE> CUSTOMERS We have sold our systems worldwide to more than 100 OEMs and directly to more than 500 end-users. Since inception we have sold more than 200,000 power conversion and control systems. Our ten largest customers accounted for 60% of our total sales in 1998, 67% in 1999 and 72% in 2000. We expect that sales of our products to these customers will continue to account for a high percentage of our sales in the foreseeable future. Representative customers include: <TABLE> <S> <C> Alcatel Comptech Novellus Applied Materials Optical Coating Laboratory Axcelis Singulus First Light Technology Sony Fujitsu Texas Instruments Hewlett-Packard Tokyo Electron, Ltd. IBM ULVAC Intevac Unaxis Lam Research Veeco Mattson Technologies Verteq Micron Technology VideoJet International Motorola </TABLE> 14
15 MARKETING, SALES AND SERVICE We sell our systems primarily through direct sales personnel to customers in the United States, Europe and Asia. Our sales personnel are located at our headquarters in Fort Collins, Colorado, and in regional sales offices in Voorhees, New Jersey; Austin, Texas; Milpitas, California; and Concord, Massachusetts. To serve customers in Asia and Europe, we have offices in Tokyo, Japan; Filderstadt, Germany; Bicester, England; Bundang, South Korea; Taipei Hsien, Taiwan; and Shenzhen, China. These offices have primary responsibility for sales in their respective markets. We also have distributors in Australia, China, France, India, Israel, Italy, Mexico, Singapore and Sweden. Noah, located in San Jose, California, and Sekidenko, located in Vancouver, Washington, sell through direct sales personnel. Our United States operations also sell through manufacturers' representatives. EMCO, located in Longmont, Colorado, sells through direct sales personnel and manufacturers' representatives. Sales outside the United States represented approximately 27% of our total sales during 1998, 27% in 1999 and 28% in 2000. We expect sales outside the United States to continue to represent a significant portion of future sales. Although we have not experienced any significant difficulties involving international sales, such sales are subject to certain risks, including exposure to currency fluctuations, the imposition of governmental controls, political and economic instability, trade restrictions, changes in tariffs and taxes and longer payment cycles typically associated with international sales. Our future performance will depend, in part, upon our ability to compete successfully in Japan, one of the largest markets for semiconductor fabrication equipment and flat panel display equipment, and a major market for data storage and other industrial equipment utilizing our systems. The Japanese market has historically been difficult for non-Japanese companies to penetrate. Although we and a number of our significant non-Japanese customers have established operations in Japan, there can be no assurance that we or our customers will be able to maintain or improve our competitive positions in Japan. We believe that customer service and technical support are important competitive factors and are essential to building and maintaining close, long-term relationships with our customers. We maintain customer service offices in Fort Collins, Colorado; Austin, Texas; Voorhees, New Jersey; Tokyo, Japan; Filderstadt, Germany; Bundang, South Korea; Taipei Hsien, Taiwan; and Shenzhen, China. Noah maintains a customer service office in San Jose, California. Sekidenko maintains a customer service office in Vancouver, Washington. EMCO has a repair facility in Longmont, Colorado. We offer warranty coverage for our systems for periods ranging from 12 to 30 months after shipment against defects in design, materials and workmanship. 15
16 MANUFACTURING We conduct the majority of our manufacturing at facilities in Fort Collins, Colorado, and Voorhees, New Jersey. We also conduct manufacturing for one customer in Austin, Texas. Noah conducts manufacturing at its facility in San Jose, California, Sekidenko conducts manufacturing at its facility in Vancouver, Washington, and EMCO conducts manufacturing at its facility in Longmont, Colorado. We generally manufacture different systems at each facility. Our manufacturing activities consist of the assembly and testing of components and subassemblies, which are then integrated into our final products. Once final testing of all electrical and electro-mechanical subassemblies is completed, the final product is subjected to a series of reliability enhancing operations prior to shipment to customers. We purchase a wide range of electronic, mechanical and electrical components, some of which are designed to our specifications. We outsource some of our subassembly work. We rely on sole and limited source suppliers for certain parts and subassemblies. This reliance creates a potential inability to obtain an adequate supply of required components, and reduced control over pricing and timing of delivery of components. An inability to obtain adequate supplies would require us to seek alternative sources of supply or might require us to redesign our systems to accommodate different components or subassemblies. We could be prevented from the timely shipping of our systems to our customers if we were forced to seek alternative sources of supply, manufacture such components or subassemblies internally, or redesign our systems. INTELLECTUAL PROPERTY We have a policy of seeking patents on inventions governing new products or technologies as part of our ongoing research, development, and manufacturing activities. We currently hold twenty-seven United States patents and four foreign patents covering various aspects of our products, and have over fifty patent applications pending in the United States, Europe and Japan. Our intellectual property is not protected by patents in several countries in which we do business, and we have limited patent protection in certain other countries. The costs of applying for patents in foreign countries and translating the applications into foreign languages require us to select carefully the inventions for which we apply for patent protection and the countries in which we seek such protection. Generally, we have concentrated our efforts to obtain international patents in the United Kingdom, Germany, France, Italy and Japan because there are other manufacturers and developers of power conversion and control systems in those countries, as well as customers for those systems. Litigation from time to time may be necessary to enforce patents issued to us, to protect trade secrets or know-how owned by us, to defend us against claimed infringement of the rights of others or to determine the scope and validity of the proprietary rights of others. See "Cautionary Statements - Risk Factors - We are highly 16
17 dependent on our intellectual property but may not be able to protect it adequately" and "--Intellectual property litigation could be costly." COMPETITION The markets we serve are highly competitive and characterized by ongoing technological development and changing customer requirements. Significant competitive factors in our markets include product performance, price, quality and reliability and level of customer service and support. We believe that we currently compete effectively with respect to these factors, although there can be no assurance that we will be able to compete effectively in the future. The markets in which we compete have seen an increase in global competition, especially from Japanese- and European-based equipment vendors. We have several foreign and domestic competitors for each of our product lines. Some of these competitors are larger and have greater resources than we have. Our ability to continue to compete successfully in these markets depends on our ability to make timely introductions of system enhancements and new products. Our primary competitors are ENI, a subsidiary of Astec America, Inc.; Applied Science and Technology (ASTeX), a subsidiary of MKS Instruments, Inc.; Huettinger; Shindingen; Kyosan; Comdel; and Daihen. Our competitors are expected to continue to improve the design and performance of their systems and to introduce new systems with competitive performance characteristics. We believe we will be required to maintain a high level of investment in research and development and sales and marketing in order to remain competitive. OPERATING SEGMENT We operate and manage our business of supplying products and systems for plasma-based manufacturing processes as one segment. RESEARCH AND DEVELOPMENT The market for power conversion and control systems and related accessories is characterized by ongoing technological changes. We believe that continued and timely development of new products and enhancements to existing systems to support OEM requirements is necessary for us to maintain a competitive position in the markets we serve. Accordingly, we devote a significant portion of our personnel and financial resources to research and development projects and seek to maintain close relationships with our customers and other industry leaders to remain responsive to their product requirements. Research and development expenses were $24.4 million in 1998, $28.3 million in 17
18 1999 and $37.0 million in 2000. Such expenses represented 18.2% of our total sales in 1998, 14.0% in 1999 and 10.2% in 2000. We believe that continued research and development investment and ongoing development of new products are essential to the expansion of our markets, and expect to continue to make significant investments in research and development activities. NUMBER OF EMPLOYEES As of December 31, 2000, we had a total of 1,498 employees, of whom 1,343 are full-time continuous employees. There is no union representation of our employees, and we have never experienced a work stoppage. We utilize temporary employees as a means to provide additional staff while reviewing the performance of the temporary employee. We consider our employee relations to be good. EFFECTS OF ENVIRONMENTAL LAWS We are subject to federal, state and local environmental laws and regulations. We believe we are in material compliance with all such laws and regulations. CAUTIONARY STATEMENTS - RISK FACTORS This Form 10-K contains, in addition to historical information, forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, and Section 21E of the Securities Exchange Act of 1934. For example, statements relating to our beliefs, expectations and plans are forward-looking statements, as are statements that certain actions, conditions or circumstances will continue. Forward-looking statements involve risks and uncertainties. As a result, our actual results may differ materially from the results discussed in the forward-looking statements. Factors that could cause or contribute to such differences or prove any forward-looking statements, by hindsight, to be overly optimistic or unachievable, include without limitation the risks described in this section. We do not have any obligation to update publicly any forward-looking statements, whether as a result of new information, future events or otherwise. OUR QUARTERLY OPERATING RESULTS ARE SUBJECT TO SIGNIFICANT FLUCTUATIONS, WHICH COULD NEGATIVELY IMPACT OUR STOCK PRICE. Our quarterly operating results have fluctuated significantly and we expect them to continue to experience significant fluctuations. Downward fluctuations in our quarterly results have historically resulted in decreases in the price of our common stock. Quarterly operating results are affected by a variety of factors, many of which are beyond our control. These factors include: 18
19 o changes or slowdowns in economic conditions in the semiconductor and semiconductor capital equipment industries and other industries in which our customers operate; o the timing and nature of orders placed by major customers; o changes in customers' inventory management practices; o customer cancellations of previously placed orders and shipment delays; o pricing competition from our competitors; o component shortages resulting in manufacturing delays; o the introduction of new products by us or our competitors; o costs incurred by responding to specific feature requests by customers; and o declines in macroeconomic conditions. In addition, companies in the semiconductor capital equipment industry and other electronics companies experience pressure to reduce costs. Our customers exert pressure on us to reduce prices, shorten delivery times and extend payment terms. These pressures could lead to significant changes in our operating results from quarter to quarter. In the past, we have incurred charges and costs related to events such as acquisitions, restructuring and storm damages. The occurrence of similar events in the future could adversely affect our operating results in the applicable quarter. Our operating results in one or more future quarters may fall below the expectations of analysts and investors. In those circumstances, the trading price of our common stock would likely decrease and, as a result, any trading price of the convertible notes may decrease. THE MARKET PRICE OF OUR COMMON STOCK IS HIGHLY VOLATILE, WHICH COULD LEAD TO LOSSES FOR INDIVIDUAL INVESTORS AND COSTLY SECURITIES CLASS ACTION LITIGATION. The market for technology stocks, including our common stock, has experienced significant price and volume fluctuations. These fluctuations often have been unrelated or disproportionate to the operating performance of the companies. From our IPO in November 1995 through February 28, 2001, the closing prices of our common stock on the Nasdaq National Market have ranged from $3.50 to $73.25. The market for our common stock likely will continue to be subject to fluctuations. Many factors could cause the trading price of our common stock to fluctuate substantially, including the following: o future announcements concerning our business, our technology, our customers or competitors; 19
20 o variations in our operating results; o introduction of new products or changes in product pricing policies by us, our competitors or our customers; o changes in earnings estimates by securities analysts or announcements of operating results that are not aligned with the expectations of analysts and investors; o the economic and competitive conditions in the industries in which our customers operate; and o general stock market trends. In the past, following periods of volatility in the market price of a particular company's securities, securities class action litigation has often been brought against that company. Many technology companies have been subject to this type of litigation. We may also become involved in this type of litigation. Litigation is often expensive and diverts management's attention and resources, which could significantly harm our business, financial condition and results of operations. THE SEMICONDUCTOR AND SEMICONDUCTOR CAPITAL EQUIPMENT INDUSTRIES ARE HIGHLY VOLATILE AND OUR OPERATING RESULTS ARE AFFECTED TO A LARGE EXTENT BY EVENTS IN THOSE INDUSTRIES. The semiconductor industry historically has been highly volatile and has experienced periods of oversupply resulting in significantly reduced demand for semiconductor capital equipment. These reductions, in turn, have significantly reduced demand for our systems. During downturns, some of our customers have drastically reduced their orders to us and have implemented substantial cost reduction programs. Sales to customers in the semiconductor capital equipment industry accounted for 52% of our total sales in 1998, 65% in 1999 and 70% in 2000. We expect that we will continue to depend significantly on the semiconductor and semiconductor capital equipment industries for the foreseeable future. A rapid decrease in demand for our products can occur with limited advance notice because we supply subsystems to equipment manufacturers and make a portion of our shipments on a just-in-time basis. This decrease in demand can adversely impact our business and financial results disproportionately because of its unanticipated nature. A SIGNIFICANT PORTION OF OUR SALES ARE CONCENTRATED AMONG A FEW CUSTOMERS. Our ten largest customers accounted for 60% of our total sales in 1998, 67% in 1999 and 72% in 2000. Our largest customer accounted for 24% of our total sales in 1998, 34% in 1999 and 39% in 2000. The loss of any of these customers or a material reduction in 20
21 any of their purchase orders would significantly harm our business, financial condition and results of operations. THE MARKETS IN WHICH WE OPERATE ARE HIGHLY COMPETITIVE. We face substantial competition, primarily from established companies, some of which have greater financial, marketing and technical resources than we do. Our primary competitors are ENI, a subsidiary of Astec America, Inc.; Applied Science and Technology (ASTeX), a subsidiary of MKS Instruments, Inc.; Huettinger; Shindingen; Kyosan; Comdel; and Daihen. We expect that our competitors will continue to develop new products in direct competition with ours, improve the design and performance of their systems and introduce new systems with enhanced performance characteristics. To remain competitive, we need to continue to improve and expand our systems and system offerings. In addition, we need to maintain a high level of investment in research and development and expand our sales and marketing efforts, particularly outside of the United States. We may not be able to make the technological advances and investments necessary to remain competitive. New products developed by competitors or more efficient production of their products could increase pressure on the pricing of our systems. In addition, electronics companies, including companies in the semiconductor capital equipment industry, have been facing pressure to reduce costs. Either of these factors may require us to make significant price reductions to avoid losing orders. Further, our current and prospective customers consistently exert pressure on us to lower prices, shorten delivery times and improve the capability of our systems. Failure to respond adequately to such pressures could result in a loss of customers or orders. WE MAY NOT BE ABLE TO INTEGRATE OUR ACQUISITIONS. We have experienced significant growth through acquisitions and continue to actively pursue acquisition opportunities. Prior to 1997, we did not make any significant acquisitions. In the three years from 1997 through 1999, we acquired five companies. From January 2000 through February 2001, we acquired three companies and entered into a strategic partnership arrangement with one other company. Many of our acquisitions to date have been in markets in which we have limited experience. We might not be able to compete successfully in these markets or operate the acquired businesses efficiently. Our business and results of operations could be adversely affected if integrating our acquisitions results in substantial costs, delays or other operational or financial problems. Further, the increased pace of our acquisitions has required us to try to integrate multiple acquisitions simultaneously. This has exponentially increased the demands placed on our management team and has decreased the time and effort that management can give to integrating each acquisition, while continuing to manage our existing business. 21
22 Future acquisitions could place additional strain on our operations and management. Our ability to manage future acquisitions will depend on our success in: o evaluating new markets and investments; o monitoring operations of acquired companies; o controlling costs and unanticipated expenses of acquired companies; o integrating acquired operations and personnel; o retaining existing customers and strategic partners of acquired companies; o maintaining effective quality controls of acquired companies; and o expanding our internal management, technical and accounting systems. Also, in connection with future acquisitions we may issue equity securities, which could be dilutive, incur debt, recognize substantial one-time expenses or create goodwill or other intangible assets that could result in significant amortization expense. WE ARE GROWING AND MAY BE UNABLE TO MANAGE OUR GROWTH EFFECTIVELY. We have been experiencing a period of growth and expansion. This growth and expansion is placing significant demands on our management and our operating systems. We need to continue to improve and expand our management, operational and financial systems, procedures and controls, including accounting and other internal management systems, quality control, delivery and service capabilities. In order to manage our growth, we may also need to spend significant amounts of cash to: o fund increases in expenses; o acquire additional facilities and equipment; o take advantage of unanticipated opportunities, such as major strategic alliances or other special marketing opportunities, acquisitions of complementary businesses or assets, or the development of new products; or o otherwise respond to unanticipated developments or competitive pressures. If we do not have enough cash on hand, cash generated from our operations or cash available under our credit facility to meet these cash requirements, we will need to seek 22
23 alternative sources of financing to carry out our growth and operating strategies. We may not be able to raise needed cash on terms acceptable to us, or at all. Financings may be on terms that are dilutive or potentially dilutive. If alternative sources of financing are required but are insufficient or unavailable, we will be required to modify our growth and operating plans to the extent of available funding. SHORTAGES OF COMPONENTS NECESSARY FOR OUR PRODUCT ASSEMBLY CAN DELAY OUR SHIPMENTS. Manufacturing our power conversion and control systems requires numerous electronic components. Dramatic growth in the electronics industry has significantly increased demand for these components. This demand has resulted in periodic shortages and allocations of needed components, and we expect to experience additional shortages and allocations from time to time. Shortages and allocations could cause shipping delays for our systems, adversely affecting our results of operations. Shipping delays also could damage our relationships with current and prospective customers. OUR DEPENDENCE ON SOLE AND LIMITED SOURCE SUPPLIERS COULD AFFECT OUR ABILITY TO MANUFACTURE PRODUCTS AND SYSTEMS. We rely on sole and limited source suppliers for some of our components and subassemblies that are critical to the manufacturing of our systems. This reliance involves several risks, including the following: o the potential inability to obtain an adequate supply of required components; o reduced control over pricing and timing of delivery of components; and o the potential inability of our suppliers to develop technologically advanced products to support our growth and development of new systems. We believe that in time we could obtain and qualify alternative sources for most sole and limited source parts or could manufacture the parts ourselves. Seeking alternative sources or commencing internal manufacture of the parts could require us to redesign our systems, resulting in increased costs and likely shipping delays. We may be unable to manufacture the parts internally or redesign our systems, which could result in further costs and shipping delays. These increased costs would decrease our profit margins if we could not pass the costs to our customers. Further, shipping delays could damage our relationships with current and potential customers and have a material adverse effect on our business and results of operations. 23
24 WE ARE HIGHLY DEPENDENT ON OUR INTELLECTUAL PROPERTY BUT MAY NOT BE ABLE TO PROTECT IT ADEQUATELY. Our success depends in part on our proprietary technology. We attempt to protect our intellectual property rights through patents and non-disclosure agreements. However, we might not be able to protect our technology, and competitors might be able to develop similar technology independently. In addition, the laws of certain foreign countries might not afford our intellectual property the same protection as do the laws of the United States. For example, our intellectual property is not protected by patents in several countries in which we do business, and we have limited patent protection in certain other countries. The costs of applying for patents in foreign countries and translating the applications into foreign languages require us to select carefully the inventions for which we apply for patent protection and the countries in which we seek such protection. Generally, we have concentrated our efforts to obtain international patents in the United Kingdom, Germany, France, Italy and Japan because there are other manufacturers and developers of power conversion and control systems in those countries, as well as customers for those systems. Our inability or failure to obtain adequate patent protection in a particular country could have a material adverse effect on our ability to compete effectively in that country. Our patents also might not be sufficiently broad to protect our technology, and any existing or future patents might be challenged, invalidated or circumvented. Additionally, our rights under our patents may not provide meaningful competitive advantages. INTELLECTUAL PROPERTY LITIGATION COULD BE COSTLY. We do not believe that any of our products are infringing any patents or proprietary rights of others, although infringements may exist or might occur in the future. Litigation may be necessary to enforce patents issued to us, to protect our trade secrets or know-how, to defend ourselves against claimed infringement of the rights of others or to determine the scope and validity of the proprietary rights of others. Litigation has resulted, and in the future may result, in substantial costs and diversion of our efforts. Moreover, an adverse determination in any current or future litigation could cause us to lose proprietary rights, subject us to significant liabilities to third parties, require us to seek licenses or alternative technologies from others or prevent us from manufacturing or selling our products. Any of these events could have a material adverse effect on our business, financial condition and results of operations. See Item 3 -- Legal Proceedings. WE MUST CONSTANTLY DEVELOP AND SELL NEW SYSTEMS IN ORDER TO KEEP UP WITH RAPID TECHNOLOGICAL CHANGES. The markets for our systems and the markets in which our customers compete are characterized by ongoing technological developments and changing customer requirements. We must continue to improve existing systems and to develop new systems that keep pace with technological advances and meet the needs of our customers in order to succeed. We might not be able to continue to improve our systems or develop new systems. The systems we do develop might not be cost-effective or introduced in a timely 24
25 manner. Developing and introducing new systems may involve significant and uncertain costs. Our business, financial condition and results of operations, as well as our customer relationships, could be adversely affected if we fail to develop or introduce improved systems and new systems in a timely manner. WE MUST ACHIEVE DESIGN WINS TO RETAIN OUR EXISTING CUSTOMERS AND TO OBTAIN NEW CUSTOMERS. The constantly changing nature of semiconductor fabrication technology causes equipment manufacturers to continually design new systems. We often must work with these manufacturers early in their design cycles to modify our equipment to meet the requirements of the new systems. Manufacturers typically choose one or two vendors to provide the power conversion equipment for use with the early system shipments. Selection as one of these vendors is called a design win. It is critical that we achieve these design wins in order to retain existing customers and to obtain new customers. We typically must customize our systems for particular customers to use in their equipment to achieve design wins. This customization increases our research and development expenses and can strain our engineering and management resources. These investments do not always result in design wins. Once a manufacturer chooses a power conversion and control system for use in a particular product, it is likely to retain that system for the life of that product. Our sales and growth could experience material and prolonged adverse effects if we fail to achieve design wins. In addition, design wins do not always result in substantial sales or profits. We believe that equipment manufacturers often select their suppliers based on factors such as long-term relationships. Accordingly, we may have difficulty achieving design wins from equipment manufacturers who are not currently customers. In addition, we must compete for design wins for new systems and products of our existing customers, including those with whom we have had long-term relationships. OUR EFFORTS TO BE RESPONSIVE TO CUSTOMERS MAY LEAD TO INCURRING COSTS THAT ARE NOT READILY RECOVERABLE. We may incur manufacturing overhead and other costs, many of which are fixed, to meet anticipated customer demand. Accordingly, operating results could be adversely affected if orders or revenues in a particular period or for a particular system do not meet expectations. We often require long lead times for development of our systems during which times we must expend substantial funds and management effort. We may incur significant development and other expenses as we develop our systems without realizing corresponding revenue in the same period, or at all. 25
26 OUR SUCCESS DEPENDS UPON OUR ABILITY TO ATTRACT AND RETAIN KEY PERSONNEL. Our success depends upon the continued efforts of our senior management team and our technical, marketing and sales personnel. These employees may voluntarily terminate their employment with us at any time. Our success also depends on our ability to attract and retain additional highly qualified management, technical, marketing and sales personnel. The process of hiring employees with the combination of skills and attributes required to carry out our strategy can be extremely competitive and time-consuming. We may not be able to successfully retain existing personnel or identify, hire and integrate new personnel. If we lose the services of key personnel for any reason, including retirement, or are unable to attract additional qualified personnel, our business, financial condition and results of operations could be materially and adversely affected. WE CONDUCT MANUFACTURING AT ONLY A FEW SITES AND OUR SITES ARE NOT GENERALLY INTERCHANGEABLE. We conduct the majority of our manufacturing at our facilities in Fort Collins, Colorado and in Voorhees, New Jersey. We also conduct manufacturing in Austin, Texas; San Jose, California; Vancouver, Washington; and Longmont, Colorado. Each facility generally manufactures different systems and, therefore, are not readily interchangeable. In July 1997 a severe rainstorm in Fort Collins caused substantial damage to our Fort Collins facilities and to some equipment and inventory. The damage caused us to stop manufacturing at that facility temporarily and prevented us from resuming full production there until mid-September 1997. Our insurance policies did not cover all of the costs that we incurred in connection with the rainstorm. Future natural or other uncontrollable occurrences at any of our primary manufacturing facilities that negatively impact our manufacturing processes may not be fully covered by insurance and could cause significant harm to our operations and results of operations. WE MIGHT NOT BE ABLE TO COMPETE SUCCESSFULLY IN INTERNATIONAL MARKETS OR TO MEET THE SERVICE AND SUPPORT NEEDS OF OUR INTERNATIONAL CUSTOMERS. Our customers increasingly require service and support on a worldwide basis as the markets in which we compete become increasingly globalized. We maintain sales and service offices in Germany, Japan, South Korea, the United Kingdom, Taiwan and China. Sales to customers outside the United States accounted for 27% of our total sales in 1998, 27% in 1999 and 28% in 2000, and we expect international sales to continue to represent a significant portion of our future sales. International sales are subject to various risks, including: o currency fluctuations; o governmental controls; 26
27 o political and economic instability; o barriers to entry; o trade restrictions; o changes in tariffs and taxes; and o longer payment cycles. In particular, the Japanese market has historically been difficult for non-Japanese companies, including us, to penetrate. Providing support services for our systems on a worldwide basis also is subject to various risks, including: o our ability to hire qualified support personnel; o maintenance of our standard level of support; and o differences in local customs and practices. Our international activities are also subject to the difficulties of managing overseas distributors and representatives and managing foreign subsidiary operations. We cannot assure you that we will be successful in addressing any of these risks. FLUCTUATIONS IN THE CURRENCY EXCHANGE RATE BETWEEN THE U.S. DOLLAR AND FOREIGN CURRENCIES COULD ADVERSELY AFFECT OUR OPERATING RESULTS. A portion of our sales is subject to currency exchange risks as a result of our international operations. We have experienced fluctuations in foreign currency exchange rates, particularly against the Japanese yen. We entered into various forward foreign exchange contracts as a hedge against currency fluctuations in the yen. We have not employed hedging techniques with respect to any other currencies. Our current or any future hedging techniques might not protect us adequately against substantial currency fluctuations. WE MUST MAINTAIN MINIMUM LEVELS OF CUSTOMIZED INVENTORY TO SUPPORT CERTAIN CUSTOMER DELIVERY REQUIREMENTS. We must keep a relatively large number and variety of customized systems in our inventory to meet client delivery requirements because a portion of our business involves the just-in-time shipment of systems. Our inventory may become obsolete as we develop new systems and as our customers develop new systems. Inventory obsolescence could have a material adverse effect on our financial condition 27
28 and results of operations. WE ARE SUBJECT TO NUMEROUS GOVERNMENTAL REGULATIONS. We are subject to federal, state, local and foreign regulations, including environmental regulations and regulations relating to the design and operation of our power conversion and control systems. We must ensure that our systems meet certain safety and emissions standards, many of which vary across the states and countries in which our systems are used. For example, the European Union has published directives specifically relating to power supplies. We must comply with these directives in order to ship our systems into countries that are members of the European Union. In the past, we have invested significant resources to redesign our systems to comply with these directives. We believe we are in compliance with current applicable regulations, directives and standards and have obtained all necessary permits, approvals and authorizations to conduct our business. However, compliance with future regulations, directives and standards could require us to modify or redesign certain systems, make capital expenditures or incur substantial costs. If we do not comply with current or future regulations, directives and standards: o we could be subject to fines; o our production could be suspended; or o we could be prohibited from offering particular systems in specified markets. WE MAY INVEST IN START-UP COMPANIES AND COULD LOSE OUR ENTIRE INVESTMENT. We have a majority interest in a start-up company and have invested in other start-up companies that develop products and technologies that we believe may provide us with future benefits. These investments may not provide us with any benefit, and we may not achieve any economic return on any of these investments. Our investments in these start-up companies are subject to all of the risks inherent in investing in companies that are not established. We could lose all or any part of our investments in these companies. WE LEASE OUR FORT COLLINS, COLORADO FACILITIES AND A CONDOMINIUM FROM ENTITIES IN WHICH TWO INDIVIDUALS WHO ARE INSIDERS AND MAJOR STOCKHOLDERS HAVE FINANCIAL INTERESTS. We lease our executive offices and manufacturing facilities in Fort Collins, Colorado from Prospect Park East Partnership and from Sharp Point Properties, LLC. Douglas S. Schatz, our Chairman, President and Chief Executive Officer, holds a 26.7% interest in each of the leasing entities. G. Brent Backman, a member of our board of directors, holds a 6.6% interest in each of the leasing entities. Aggregate rental payments under such leases for 2000 totaled approximately $1.6 million. We also lease a condominium in Breckenridge, 28
29 Colorado to provide rewards and incentives to our customers, suppliers and employees. We lease the condominium from AEI Properties, a partnership in which Mr. Schatz holds a 60% interest and Mr. Backman holds a 40% interest. Aggregate rental payments under the condominium lease for 2000 totaled approximately $36,000. As of March 12, 2001, Mr. Schatz owned approximately 35.9% of our common stock, and Mr. Backman owned approximately 3.8% of our common stock. OUR EXECUTIVE OFFICERS AND DIRECTORS OWN A SIGNIFICANT PERCENTAGE OF OUR OUTSTANDING COMMON STOCK, WHICH COULD ENABLE THEM TO CONTROL OUR BUSINESS AND AFFAIRS. Our executive officers and directors owned approximately 41.1% of our common stock outstanding as of March 12, 2001. Douglas S. Schatz, our Chairman, President and Chief Executive Officer, owned approximately 35.9% of our common stock outstanding as of March 12, 2001. These stockholdings give our executive officers and directors collectively, and Mr. Schatz individually, significant voting power. Depending on the number of shares that abstain or otherwise are not voted on a particular matter, our executive officers collectively may be able to elect all of the members of our board of directors and to control our business affairs for the foreseeable future. ANTI-TAKEOVER PROVISIONS LIMIT THE ABILITY OF A PERSON OR ENTITY TO ACQUIRE CONTROL OF US. Our certificate of incorporation and bylaws include provisions which: o allow the board of directors to issue preferred stock with rights senior to those of the common stock without any vote or other action by the holders of the common stock; o limit the right of our stockholders to call a special meeting of stockholders; and o impose procedural and other requirements that could make it difficult for stockholders to effect certain corporate actions. In addition, we are subject to the anti-takeover provisions of the Delaware General Corporation Law. Any of these provisions could delay or prevent a person or entity from acquiring control of us. The effect of these provisions may be to limit the price that investors are willing to pay in the future for our securities. These provisions might also discourage potential acquisition proposals or could diminish the opportunities for our stockholders to participate in a tender offer, even if the acquisition proposal or tender offer is at a price above the then current market price for our common stock. 29
30 EXECUTIVE OFFICERS OF THE COMPANY Our executive officers and their ages as of March 20, 2001 are as follows: <TABLE> <CAPTION> NAME AGE POSITION ---- --- -------- <S> <C> <C> Douglas S. Schatz 55 Chief Executive Officer, President and Chairman of the Board Richard P. Beck 67 Senior Vice President, Chief Financial Officer and Director James F. Gentilcore 48 Executive Vice President Joseph R. Monkowski, Ph.D. 47 Senior Vice President, Business Development William A. Ruff 50 President, Advanced Energy Voorhees, Inc. Richard A. Scholl 62 Senior Vice President and Chief Technology Officer </TABLE> - ---------- DOUGLAS S. SCHATZ is a co-founder and has been our Chief Executive Officer and Chairman of the Board since our incorporation in 1981. From our incorporation to July 1999, Mr. Schatz also served as our President. In March 2001 he began serving again as our President. Mr. Schatz also co-founded Energy Research Associates, Inc., a designer of custom power supplies, and served as its Vice President of Engineering from 1977 through 1980. Prior to co-founding Energy Research Associates, Mr. Schatz held various engineering and management positions at Applied Materials. He is also a director of Advanced Power Technology, Inc., a publicly held company. RICHARD P. BECK joined us in March 1992 as Vice President and Chief Financial Officer and became Senior Vice President in February 1998. He joined our board of directors in September 1995. From 1987 to 1992 Mr. Beck served as Executive Vice President and Chief Financial Officer of Cimage Corporation, a computer software company. Mr. Beck is a director of Applied Films Corporation, TTM Technologies and Photon Dynamics, Inc., all publicly held companies. JAMES F. GENTILCORE joined us in March 1996 as Vice President of Sales and Marketing. He became Senior Vice President of Sales and Marketing in April 1998 and President of Advanced Energy Voorhees, Inc. in October 1999. In January 2001 he became President of EMCO, one of our wholly owned subsidiaries. In February 2001 he became Executive Vice President. From 1990 to 1996 he served with MKS Instruments and held the position of Vice President, Marketing. JOSEPH R. MONKOWSKI, PH.D. joined RF Power Products, Inc. in February 1998 as Senior Vice President and General Manager of the Electronics Technology Business Group. In October 1998, upon the merger of Advanced Energy and RF Power Products, 30
31 Dr. Monkowski became our Senior Vice President of Sales and Marketing. In August 2000 he became Senior Vice President, Business Development. Prior to joining RF Power Products, Dr. Monkowski held various executive positions with technology companies, including President of the instruments group of Pacific Scientific Company from 1994 to 1997. WILLIAM A. RUFF joined us in 1990 as the Product Manager - RF Power Systems. From 1995 to 1997 he was the Business Unit Engineering Manager - Applied Materials Business Unit, and from 1997 to 1999 he was an Engineering Director of Advanced Energy. In 1999 Mr. Ruff became Vice President Engineering, Advanced Energy Voorhees, Inc. and in March 2001 became President, Advanced Energy Voorhees, Inc. Prior to joining us, Mr. Ruff held various engineering positions in other technology companies. RICHARD A. SCHOLL joined us in 1988 as Vice President, Engineering. Mr. Scholl became our Chief Technology Officer in September 1995. Prior to joining us, Mr. Scholl was General Manager, Vacuum Products Division at Varian Associates, Inc., a manufacturer of high-technology systems and components. ITEM 2. PROPERTIES Our headquarters and main manufacturing facility are located in Fort Collins, Colorado, in approximately 297,000 square feet of leased space. Additional manufacturing and office facilities are located in Voorhees, New Jersey, in approximately 78,000 square feet of leased space; Longmont, Colorado, in approximately 45,000 square feet of owned space; Austin, Texas, in approximately 20,000 square feet of leased space; San Jose, California, in approximately 20,000 square feet of leased space; Vancouver, Washington, in approximately 20,000 square feet of leased space; and Matthews, North Carolina, in approximately 4,000 square feet of leased space. To serve the needs of our customers, we also maintain regional offices in Milpitas, California; Concord, Massachusetts; Tokyo, Japan; Filderstadt, Germany; Bicester, England; Bundang, South Korea; Taipei Hsien, Taiwan; and Shenzhen, China. We consider the above facilities suitable and adequate to meet our needs for the foreseeable future. We believe that suitable additional or alternative space will be available in the future on commercially reasonable terms as needed. ITEM 3. LEGAL PROCEEDINGS From time to time, we are party to various legal proceedings relating to our business. We are not currently party to any material legal proceedings, except as described below: We are the defendant in an action filed by Applied Science and Technology, Inc., a Delaware corporation. The civil action was filed in the U.S. District Court for the District of Delaware on November 30, 2000. Applied Science and Technology, which is a 31
32 subsidiary of MKS Instruments, Inc., alleges that, by manufacturing and selling reactive gas generators, we are infringing upon its patent. Applied Science and Technology seeks injunctive relief and damages in an unspecified amount. The action is in the discovery stage. We have reviewed the allegations with our patent counsel and believe we have meritorious defenses to the claim. We have denied the allegation of infringement and will defend against the claim vigorously. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Not applicable. 32
33 PART II ITEM 5. MARKET PRICE FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS Advanced Energy's common stock is traded on the Nasdaq National Market under the symbol AEIS. At March 12, 2001, the number of common stockholders of record was 962, and the last sale price on that day was $24 7/16. Below is a table showing the range of high and low bid quotations for the common stock as quoted (without retail markup or markdown and without commissions) on the Nasdaq National Market; they do not necessarily represent actual transactions: <TABLE> <CAPTION> High Bid Low Bid -------- ------- <S> <C> <C> 1999 Fiscal Year First Quarter 30 1/2 17 7/8 Second Quarter 40 3/4 23 1/2 Third Quarter 45 30 Fourth Quarter 49 7/8 30 3/8 2000 Fiscal Year First Quarter 77 7/16 42 15/16 Second Quarter 72 7/8 35 1/4 Third Quarter 63 32 1/8 Fourth Quarter 35 1/2 15 </TABLE> Advanced Energy has not declared or paid any cash dividends on its capital stock since it terminated its election to be treated as an S corporation for tax purposes, effective January 1, 1994. Advanced Energy currently intends to retain all future earnings to finance its business. Accordingly, Advanced Energy does not anticipate paying cash or other dividends on its common stock in the foreseeable future. Furthermore, Advanced Energy's revolving credit facility prohibits the declaration or payment of any cash dividends on its common stock. We issued 12,791 shares of common stock to Curtis Camus, an employee, as of October 1, 1999. Mr. Camus was a founder of LITMAS, a privately held ion source company in which we now hold a majority interest. The shares were issued to Mr. Camus as partial consideration for his shares of LITMAS and were valued at $385,000. We did not use any underwriters in connection with the sale of shares to Mr. Camus. We did not register the sale with the Securities and Exchange Commission, as we relied on the exemption from registration provided by Rule 506 under the Securities Act of 1933. 33
34 ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA The following selected consolidated financial data is qualified by reference to, and should be read with, our 2000 Consolidated Financial Statements, related notes and management's discussion included in this Form 10-K. The selected consolidated statement of operations data for the years ended December 31, 2000, 1999 and 1998, and the related consolidated balance sheet data as of and for the years ended December 31, 2000 and 1999, were derived from consolidated financial statements audited by Arthur Andersen LLP, independent accountants, whose related audit report is included in this Form 10-K. The selected consolidated statement of operations data for the years ended December 31, 1997 and 1996, and the related consolidated balance sheet data as of December 31, 1998, 1997 and 1996, were derived from audited consolidated financial statements not included in this Form 10-K. <TABLE> <CAPTION> YEARS ENDED DECEMBER 31, --------------------------------------------------------------- 2000 1999 1998 1997 1996 ---------- ---------- ---------- ---------- ---------- (IN THOUSANDS, EXCEPT PER SHARE DATA) <S> <C> <C> <C> <C> <C> STATEMENT OF OPERATIONS DATA: Sales ..................................... $ 359,782 $ 202,849 $ 134,019 $ 188,339 $ 138,074 Gross profit .............................. 176,453 92,202 40,019 71,656 49,706 Total operating expenses .................. 91,253 62,876 54,767 49,889 39,448 Income (loss) from operations ............. 85,200 29,326 (14,748) 21,767 10,258 Net income (loss) ......................... $ 68,034 $ 19,066 $ (11,025) $ 12,931 $ 6,128 ========== ========== ========== ========== ========== Diluted earnings (loss) per share ......... $ 2.10 $ 0.62 $ (0.38) $ 0.48 $ 0.23 Diluted weighted-average common shares outstanding ............................ 32,425 30,934 29,007 27,057 26,493 </TABLE> <TABLE> <CAPTION> DECEMBER 31, ------------------------------------------------------------ 2000 1999 1998 1997 1996 -------- -------- -------- -------- ------- (IN THOUSANDS) <S> <C> <C> <C> <C> <C> BALANCE SHEET DATA: Cash, cash equivalents and marketable securities............................ $189,527 $207,483 $ 28,714 $ 32,551 $12,455 Working capital............................ 279,626 257,484 63,225 77,188 43,365 Total assets............................... 365,835 325,433 107,736 136,545 72,517 Total debt................................. 83,980 139,012 1,603 8,784 5,037 Stockholders' equity....................... 238,798 156,989 92,163 99,969 56,495 </TABLE> 34
35 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion contains, in addition to historical information, forward-looking statements, within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. For example, statements relating to our beliefs, expectations and plans are forward-looking statements, as are statements that certain actions, conditions or circumstances will continue. Forward-looking statements involve risks and uncertainties. As a result, our actual results may differ materially from the results discussed in the forward-looking statements. Factors that could cause or contribute to such differences or prove any forward-looking statements, by hindsight, to be overly optimistic or unachievable, include, but are not limited to the following: o the significant fluctuations in our quarterly operating results; o the volatility of the semiconductor and semiconductor capital equipment industries; o timing and success of integration of recent and potential future acquisitions; and o supply constraints and technological changes. For a discussion of these and other factors that may impact our realization of our forward-looking statements, see Part I "Cautionary Statements - Risk Factors." OVERVIEW We design, manufacture and support products and systems critical to plasma-based manufacturing processes. These systems are important components of industrial manufacturing equipment that modifies surfaces or deposits or etches thin film layers on computer chips, CDs, flat panel displays such as computer screens, DVDs, windows, eyeglasses and other products. We market and sell our systems primarily to large global OEMs of semiconductor, data storage and flat panel display manufacturing equipment and for manufacturers of other products in advanced product applications markets. We recognize revenues upon shipment of our systems. The semiconductor capital equipment industry accounted for approximately 52% of our sales in 1998, 65% in 1999 and 70% in 2000. We have been successful in achieving a number of design wins each year, which have resulted in our obtaining new customers and solidifying relationships with our existing customers. We believe our ability to continue to achieve design wins with existing and potential customers will be critical to our future success. 35
36 We continue to seek to expand our product offerings and customer base through internal development and acquisitions. We took a step towards achieving further market penetration in September 1998 when we acquired the assets of Fourth State Technology, Inc. This acquisition enhanced our capability to design and manufacture RF power-related process control systems used to monitor and analyze data in thin film etch processes. In October 1998 we acquired RF Power Products, Inc. ("RFPP"), which designs, manufactures and supports RF power conversion and control systems, consisting of generators and matching networks. We believe our ability to offer an expanded line of RF systems to our existing customer base has strengthened our relationships. We sell these products principally to semiconductor capital equipment manufacturers. We also sell similar systems to capital equipment manufacturers in the flat panel display and thin film data storage industries. In April 1999 we changed the name of RFPP to Advanced Energy Voorhees, Inc. and conduct business under that name. In October 1999 we acquired a majority interest in LITMAS, a company that designs and manufactures plasma gas abatement systems and high-density plasma sources. In November 1999 we completed two underwritten public offerings, one for $135 million of convertible subordinated notes, and one for 1,000,000 shares of our common stock, at a price of $39 per share. These offerings provided aggregate net proceeds of approximately $167.1 million. In December 1999 we completed formation of our wholly owned sales and service subsidiary in Taiwan. In March 2000 we formed a strategic partnership with Symphony Systems, a supplier of network-based applications and open-architecture software solutions to the semiconductor and semiconductor capital equipment industries, to deliver an advanced network-based infrastructure to our customers. In April 2000 we acquired Noah Holdings, Inc. ("Noah"), which manufactures solid state temperature control systems to control process temperatures during semiconductor manufacturing. In June 2000 we signed an exclusive distribution agreement with Berkeley Process Control, Inc., a manufacturer of integrated motion and machine control technologies. In July 2000 we entered into an agreement to acquire EMCO, which manufactures electronic and electromechanical precision instruments for measuring and controlling the flow of liquids, steam and gases. EMCO became a wholly owned subsidiary of Advanced Energy in January 2001. 36
37 In August 2000 we acquired Sekidenko, Inc. ("Sekidenko"), which supplies optical fiber thermometers to the semiconductor capital equipment industry. In October 2000 we opened a representative office in Shenzhen, China, to be responsible for market development, sales and technical support in China. In October and November 2000 we repurchased $53.4 million principal amount of our convertible subordinated notes on the open market, leaving us with $81.6 million of such long-term debt outstanding. These purchases resulted in an after-tax net extraordinary gain of $7.6 million. In November 2000 we entered into a strategic investment agreement with Dressler HF Technik GmbH, a privately held supplier of RF power solutions for plasma-based applications located in Germany. RESULTS OF OPERATIONS The following table summarizes certain data as a percentage of sales extracted from our statement of operations: <TABLE> <CAPTION> YEARS ENDED DECEMBER 31, 2000 1999 1998 ------ ------ ------ <S> <C> <C> <C> Sales ............................................... 100.0% 100.0% 100.0% Cost of sales ....................................... 51.0 54.5 70.1 ------ ------ ------ Gross margin ........................................ 49.0 45.5 29.9 ------ ------ ------ Operating expenses: Research and development .......................... 10.2 14.0 18.2 Sales and marketing ............................... 6.7 9.0 10.9 General and administrative ........................ 6.8 8.0 9.8 Restructuring charges ............................. 0.3 -- 0.7 Merger costs ...................................... 1.3 -- 2.1 Storm recoveries .................................. -- -- (0.8) ------ ------ ------ Total operating expenses ............................ 25.3 31.0 40.9 ------ ------ ------ Income (loss) from operations ....................... 23.7 14.5 (11.0) Other income (expense) .............................. 2.1 0.7 0.1 ------ ------ ------ Net income (loss) before income taxes, minority interest and extraordinary item .................... 25.8 15.2 (10.9) Provision (benefit) for income taxes ................ 9.0 5.8 (2.7) Minority interest in net income ..................... 0.0 0.0 -- ------ ------ ------ Net income (loss) before extraordinary item ......... 16.8 9.4 (8.2) Extraordinary item (net of applicable taxes) ........ 2.1 -- -- ------ ------ ------ Net income (loss) ................................... 18.9% 9.4% (8.2)% ====== ====== ====== </TABLE> SALES We sell power conversion and control systems and related equipment primarily to the semiconductor capital equipment, data storage and advanced product applications markets in the United States, to the flat panel display and data storage markets in Japan, and to data storage and advanced product applications and industrial markets in Europe. We also sell spare parts and repair services worldwide through our customer service and technical support organization. 37
38 Sales were $134.0 million, $202.8 million and $359.8 million in 1998, 1999 and 2000, respectively, representing an increase of 51% from 1998 to 1999 and an increase of 77% from 1999 to 2000. Our sales increases were due to increased unit sales. A substantial portion of our sales growth from 1998 to 2000 was due to higher system sales to our four largest customers, two of whom are primarily semiconductor capital equipment OEMs, one of whom is a data storage OEM, and one of whom is a flat panel display OEM. Our sales in 1999 reflected the recovery in the semiconductor capital equipment industry from the severe downturn of 1998, and resulted from capacity expansion and increased investment in advanced technology by the semiconductor industry. This recovery and expansion resulted in record sales for us in 1999. It also resulted in record sales for us in 1999 to the semiconductor capital equipment industry specifically. This recovery continued into 2000, and resulted in another record year of sales for us in total and to the semiconductor capital equipment industry. Our experience has shown that our sales to semiconductor capital equipment customers is dependent on the volatility of that industry, as a result of sudden changes in semiconductor supply and demand, and rapid technological advances in both semiconductor devices and wafer fabrication processes. Our sales to the semiconductor capital equipment industry in 1999 increased 88% over sales to that industry in 1998. Sales to the data storage industry increased 26% from 1998 to 1999. Sales to the flat panel display industry increased 92% from 1998 to 1999. Sales to advanced product applications industries decreased 15% from 1998 to 1999. Our sales to the semiconductor capital equipment industry in 2000 increased 92% over sales to that industry in 1999. Sales to the data storage industry increased 13% from 1999 to 2000. Sales to the flat panel display industry increased 162% from 1999 to 2000. Sales to advanced product applications industries increased 32% from 1999 to 2000. The following tables summarize annual net sales, and percentages of net sales, by customer type for us for each of the three years in the period ended December 31, 2000: 38
39 <TABLE> <CAPTION> YEARS ENDED DECEMBER 31, ------------------------------ 2000 1999 1998 -------- -------- -------- (IN THOUSANDS) <S> <C> <C> <C> Semiconductor capital equipment ........... $252,889 $131,395 $ 69,894 Data storage .............................. 24,751 21,823 17,300 Flat panel display ........................ 29,273 11,171 5,832 Advanced product applications ............. 37,726 28,563 33,593 Customer service technical support ........ 15,143 9,897 7,400 -------- -------- -------- $359,782 $202,849 $134,019 ======== ======== ======== </TABLE> <TABLE> <CAPTION> YEARS ENDED DECEMBER 31, -------------------------- 2000 1999 1998 ------ ------ ------ <S> <C> <C> <C> Semiconductor capital equipment ........ 70% 65% 52% Data storage ........................... 7 11 13 Flat panel display ..................... 8 5 4 Advanced product applications .......... 11 14 25 Customer service technical support ..... 4 5 6 ------ ------ ------ 100% 100% 100% ====== ====== ====== </TABLE> The following tables summarize annual net sales, and percentages of net sales, by geographic region for us for each of the three years in the period ended December 31, 2000: <TABLE> <CAPTION> YEARS ENDED DECEMBER 31, ------------------------------ 2000 1999 1998 -------- -------- -------- (IN THOUSANDS) <S> <C> <C> <C> United States and Canada .... $260,596 $148,424 $ 98,042 Europe ...................... 52,893 32,344 25,986 Asia Pacific ................ 45,874 21,583 9,580 Rest of world ............... 419 498 411 -------- -------- -------- $359,782 $202,849 $134,019 ======== ======== ======== </TABLE> <TABLE> <CAPTION> YEARS ENDED DECEMBER 31, -------------------------- 2000 1999 1998 ------ ------ ------ <S> <C> <C> <C> United States and Canada ..... 72% 73% 73% Europe ....................... 15 16 20 Asia Pacific ................. 13 11 7 Rest of world ................ 0 0 0 ------ ------ ------ 100% 100% 100% ====== ====== ====== </TABLE> GROSS MARGIN Our gross margins were 29.9%, 45.5% and 49.0% for 1998, 1999 and 2000, respectively. The improvement in gross margin from 1998 to 1999 was primarily a result of our efforts to reduce material costs, improve overhead cost controls and a more favorable absorption of manufacturing costs which resulted from the higher sales base. The improvement in gross margin from 1999 to 2000 was primarily a result of a more favorable absorption of manufacturing costs, which resulted from the higher sale base. We added new facilities in Fort Collins, Colorado in the first quarter of 2001 to increase our manufacturing capacity. Due to substantial fixed costs involved in this expansion, there could be an adverse impact on overhead absorption in 2001 if the increased capacity is not fully utilized. In the fourth quarter of 1997 the semiconductor capital equipment industry entered a sudden and severe downturn which continued through the end of 1998. The downturn in this industry, with the resulting underutilization of capacity, significantly impacted our financial results for 1998. The combination of the expansion and lower sales resulted in 39
40 an over-capacity situation for us, leading to unfavorable absorption of manufacturing overhead and a substantially reduced margin. This underutilization of manufacturing capacity continued to negatively impact gross margins, until sales to the semiconductor capital equipment market recovered in 1999 and 2000. Historically, price competition has not had a material effect on margins. However, competitive pressures may produce a decline in average selling prices for certain products. Any decline in average selling prices not offset by reduced costs could result in a decline in our gross margins. We provide warranty coverage for our systems ranging from 12 to 30 months, and estimate the anticipated costs of repairing our systems under such warranties based on the historical average costs of the repairs. To date, we have not experienced significant warranty costs in excess of our recorded reserves. RESEARCH AND DEVELOPMENT We invest in research and development to identify new technologies, develop new products and improve existing product designs. Our research and development expenses were $24.4 million, $28.3 million and $37.0 million for 1998, 1999 and 2000, respectively, representing an increase of 16% from 1998 to 1999 and 31% from 1999 to 2000. As a percentage of sales, research and development expenses decreased from 18.2% in 1998 to 14.0% in 1999 and decreased again to 10.2% in 2000 because of the increasingly higher sales base. The increase in expenses from 1998 to 2000 is primarily due to increases in payroll, materials and supplies and depreciation of equipment used for new product development. We believe continued investment in the research and development of new systems is critical to our ability to serve new and existing markets, and we continue to invest in new product development during industry downturns. Since our inception, the majority of our research and development costs generally have been internally funded and all have been expensed as incurred. SALES AND MARKETING EXPENSES Our sales and marketing expenses support domestic and international sales and marketing activities which include personnel, trade shows, advertising, and other marketing activities. Sales and marketing expenses were $14.6 million, $18.3 million and $24.1 million for 1998, 1999 and 2000, respectively. This represents a 25% increase from 1998 to 1999 and a 32% increase from 1999 to 2000. The increase in expenses from 1998 to 2000 is primarily due to higher payroll, commissions, promotion, distribution and travel costs. We incurred these expenses to continue to increase our sales management and product management capabilities. As a percentage of sales, sales and marketing expenses decreased from 10.9% in 1998 to 9.0% in 1999 and decreased again to 6.7% in 2000 because of the increasingly higher sales base, while dollars spent increased. 40
41 GENERAL AND ADMINISTRATIVE EXPENSES Our general and administrative expenses support our worldwide financial, administrative, information systems and human resources functions. General and administrative expenses were $13.1 million, $16.2 million and $24.6 million for 1998, 1999 and 2000, respectively. This represents a 24% increase from 1998 to 1999 and a 51% increase from 1999 to 2000. The increases from 1998 to 2000 are primarily due to higher spending for payroll and purchased services. As a percentage of sales, general and administrative expenses decreased from 9.8% in 1998 to 8.0% in 1999 and decreased again to 6.8% in 2000 because of the increasingly higher sales base. We continue to implement our management system software, including the replacement of existing systems in our domestic and foreign locations. We expect that charges related to personnel training and implementation of the new software will continue into 2001. RESTRUCTURING AND MERGER COSTS AND ONE-TIME CREDIT In 1998 we recorded a $1.1 million recovery, which represented a settlement with our insurance carrier related to storm damage to our headquarters and main manufacturing facilities in the Fort Collins area in 1997. We had previously recorded $2.7 million of storm damages in 1997. In August 1998 we announced a restructuring plan to respond to the downturn in the semiconductor capital equipment market. The plan included a reduction of workforce of 128 people, the closure of one facility in our Fort Collins, Colorado campus, and the abandonment of plans to construct a new manufacturing facility in Fort Collins. We achieved other reductions in workforce at the Voorhees facility throughout 1998. We took a charge of $1.0 million for the restructuring in the third quarter of 1998. On October 8, 1998, Advanced Energy acquired RF Power Products, Inc., accounted for as a pooling of interests transaction that involved the exchange of four million shares of Advanced Energy common stock for the publicly-held common stock of RFPP. As part of the business combination, we incurred $2.7 million of expense recorded in the fourth quarter of 1998 for merger costs. We incurred additional operating expenses during 1999 relating to consolidating and integrating operations of this business combination. On April 6, 2000, Advanced Energy acquired Noah Holdings, Inc. in a pooling of interests transaction that involved the exchange of approximately 687,000 shares of Advanced Energy common stock for the privately held common stock of Noah. As part of the business combination, we incurred $2.3 million of expense in the second quarter of 2000 for merger costs. We incurred additional operating expenses during 2000 and expect to incur further operating expenses in 2001 relating to consolidating and integrating operations of this business combination. 41
42 On July 17, 2000, we announced the consolidation of our Tower, Inc., facility in Fridley, Minnesota, into our existing facility in Voorhees, New Jersey. We recorded a restructuring charge of $1.0 million in the third quarter of 2000 related to the consolidation, which was completed during the fourth quarter of 2000. On August 18, 2000, Advanced Energy acquired Sekidenko, Inc., in a merger that was accounted for as a pooling of interests. This merger involved the exchange of 2.1 million shares of Advanced Energy common stock for the privately held common stock of Sekidenko. As part of the business combination, we took a charge of $2.3 million in the third quarter of 2000 for merger costs. We incurred additional operating expenses during 2000 and expect to incur further operating expenses in 2001 relating to consolidating and integrating operations of this business combination. The $2.7 million of merger costs incurred in 1998 and $4.6 million of merger costs incurred in 2000 cannot be capitalized, and in certain cases are nondeductible for income tax purposes. OTHER INCOME (EXPENSE) Other income (expense) consists primarily of interest income and expense, foreign exchange gains and losses and other miscellaneous gains, losses, income and expense items. Interest income was approximately $1.1 million, $2.2 million and $10.7 million for the years 1998, 1999 and 2000, respectively. In 1998 interest income was earned primarily from earnings on investments made from the proceeds of our initial public offering in 1995 and our underwritten public offering in 1997. In 1999 and 2000 interest income was earned primarily from the proceeds of our offering of convertible subordinated notes and common stock offering of November 1999. Interest expense consists principally of accruals of interest on our convertible subordinated notes, on borrowings under our bank credit and capital lease facilities and a state government loan. Interest expense was approximately $340,000, $1.4 million and $7.7 million for the years 1998, 1999 and 2000, respectively. The increase of interest expense from 1998 to 2000 was primarily due to interest on the convertible subordinated notes. Our foreign subsidiaries' sales are primarily denominated in currencies other than the U.S. dollar. We recorded net foreign currency gains of $369,000 and $1.5 million for 1998 and 1999, respectively, and a net foreign currency loss of $196,000 in 2000. The increase from 1998 to 1999 was primarily due to strengthening of the exchange rate of the Japanese yen to the U.S. dollar. The loss in 2000 was due to a weakening of the exchange rate of the Japanese yen to the U.S. dollar offset by the effect of our use of forward foreign exchange contracts to hedge our exposure to fluctuations in foreign exchange rates. Since 1997 we have entered into various forward foreign exchange contracts as a hedge against currency fluctuations in the Japanese yen. We will continue to evaluate various policies to minimize the effect of foreign currency fluctuations. 42
43 Eleven European countries adopted a Single European Currency (the "euro") as of January 1, 1999 with a transition period continuing through at least January 1, 2002. As of January 1, 1999, these eleven of the fifteen member countries of the European Union (the "participating countries") established fixed conversion rates between their existing sovereign currencies and the euro. For three years after the introduction of the euro, the participating countries can perform financial transactions in either the euro or their original local currencies. This will result in a fixed exchange rate among the participating countries, whereas the euro (and the participating countries' currencies in tandem) will continue to float freely against the U.S. dollar and other currencies of non-participating countries. A twelfth European country adopted the euro on January 1, 2001. Although we do not expect the introduction of the euro currency to have a significant impact on our revenues or results of operations, we are unable to determine what effects, if any, the currency change in Europe will have on competition and competitive pricing in the affected regions. Miscellaneous expense items were $939,000 and $698,000 in 1998 and 1999, respectively. Miscellaneous income of $4.7 million in 2000 was primarily due to a $4.8 million gain on a sale of an investment. PROVISION (BENEFIT) FOR INCOME TAXES The income tax benefit for 1998 was $3.5 million and represented an effective tax rate of 24%. The income tax provision of $11.7 million for 1999 represented an effective rate of 38%. The income tax provision of $36.8 million in 2000, which included $4.6 million of provision for an extraordinary item, represented an effective rate of 35%. Changes in our relative earnings and the earnings of our foreign subsidiaries affect our consolidated effective tax rate. We adjust our income taxes periodically based upon the anticipated tax status of all foreign and domestic entities. EXTRAORDINARY GAIN In the fourth quarter of 2000 we repurchased an aggregate of approximately $53.4 million principal amount of our convertible subordinated notes in the open market, for a cost of approximately $40.8 million. These purchases resulted in a pretax extraordinary gain of $12.2 million, or $7.6 million after tax. QUARTERLY RESULTS OF OPERATIONS The following tables present unaudited quarterly results in dollars and as a percentage of sales for each of the eight quarters in the period ended December 31, 2000. We believe that all necessary adjustments have been included in the amounts stated below to present fairly such quarterly information. The operating results for any quarter are not necessarily indicative of results for any subsequent period. 43
44 <TABLE> <CAPTION> QUARTERS ENDED ---------------------------------------------------------------------------------- MAR. 31, JUNE 30, SEPT. 30, DEC. 31, MAR. 31, JUNE 30, SEPT. 30, DEC. 31, 1999 1999 1999 1999 2000 2000 2000 2000 -------- -------- -------- -------- -------- -------- -------- -------- (IN THOUSANDS, EXCEPT PER SHARE DATA) <S> <C> <C> <C> <C> <C> <C> <C> <C> Sales ....................................... $ 36,419 $ 45,363 $ 55,626 $ 65,441 $ 75,028 $ 85,701 $ 96,317 $102,736 Cost of sales ............................... 21,187 25,093 30,675 33,692 38,361 43,338 49,492 52,138 -------- -------- -------- -------- -------- -------- -------- -------- Gross profit ................................ 15,232 20,270 24,951 31,749 36,667 42,363 46,825 50,598 -------- -------- -------- -------- -------- -------- -------- -------- Operating expenses: Research and development .................. 6,029 6,983 7,211 8,103 8,113 8,504 9,711 10,668 Sales and marketing ....................... 3,432 4,187 4,589 6,117 5,867 5,373 6,232 6,629 General and administrative ................ 3,509 3,746 4,437 4,533 5,639 5,810 6,748 6,376 Restructuring charge ...................... -- -- -- -- -- -- 1,000 -- Merger costs .............................. -- -- -- -- -- 2,333 2,250 -- -------- -------- -------- -------- -------- -------- -------- -------- Total operating expenses .................... 12,970 14,916 16,237 18,753 19,619 22,020 25,941 23,673 -------- -------- -------- -------- -------- -------- -------- -------- Income from operations ...................... 2,262 5,354 8,714 12,996 17,048 20,343 20,884 26,925 Other (expense) income ...................... (80) 45 1,063 522 120 731 5,598 1.036 -------- -------- -------- -------- -------- -------- -------- -------- Net income before income taxes, minority interest and extraordinary item ........... 2,182 5,399 9,777 13,518 17,168 21,074 26,482 27,961 Provision for income taxes .................. 951 2,109 3,687 4,994 5,947 8,023 10,195 8,076 Minority interest in net income ............. -- -- -- 69 (17) (67) (2) 106 -------- -------- -------- -------- -------- -------- -------- -------- Net income before extraordinary item ........ 1,231 3,290 6,090 8,455 11,238 13,118 16,289 19,779 Extraordinary item (net of income taxes) .... -- -- -- -- -- -- -- 7,610 -------- -------- -------- -------- -------- -------- -------- -------- Net income .................................. $ 1,231 $ 3,290 $ 6,090 $ 8,455 $ 11,238 $ 13,118 $ 16,289 $ 27,389 ======== ======== ======== ======== ======== ======== ======== ======== Diluted earnings per share before extraordinary item ........................ $ 0.04 $ 0.11 $ 0.20 $ 0.27 $ 0.35 $ 0.40 $ 0.50 $ 0.61 ======== ======== ======== ======== ======== ======== ======== ======== Diluted earnings per share from extraordinary item ........................ $ -- $ -- $ -- $ -- $ -- $ -- $ -- $ 0.22 ======== ======== ======== ======== ======== ======== ======== ======== Diluted earnings per share .................. $ 0.04 $ 0.11 $ 0.20 $ 0.27 $ 0.35 $ 0.40 $ 0.50 $ 0.83 ======== ======== ======== ======== ======== ======== ======== ======== Diluted weighted-average common shares outstanding ........................ 30,814 30,604 30,932 31,816 32,512 32,543 32,417 34,078 * ======== ======== ======== ======== ======== ======== ======== ======== </TABLE> * Includes dilution from subordinated notes <TABLE> <CAPTION> QUARTERS ENDED -------------------------------------------------------------------------------- MAR. 31, JUNE 30, SEPT. 30, DEC. 31, MAR. 31, JUNE 30, SEPT. 30, DEC. 31, 1999 1999 1999 1999 2000 2000 2000 2000 -------- -------- --------- -------- -------- -------- --------- -------- <S> <C> <C> <C> <C> <C> <C> <C> <C> PERCENTAGE OF SALES: Sales ..................................... 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% Cost of sales ............................. 58.2 55.3 55.1 51.5 51.1 50.7 51.4 50.7 ------- ------- ------- ------- ------- ------- ------- ------- Gross margin .............................. 41.8 44.7 44.9 48.5 48.9 49.3 48.6 49.3 ------- ------- ------- ------- ------- ------- ------- ------- Operating expenses: Research and development ................ 16.6 15.4 13.0 12.4 10.8 9.9 10.0 10.4 Sales and marketing ..................... 9.4 9.2 8.2 9.3 7.9 6.2 6.5 6.5 General and administrative .............. 9.6 8.3 8.0 6.9 7.5 6.8 7.0 6.2 Restructuring charge .................... -- -- -- -- -- -- 1.0 -- Merger costs ............................ -- -- -- -- -- 2.7 2.4 -- ------- ------- ------- ------- ------- ------- ------- ------- Total operating expenses .................. 35.6 32.9 29.2 28.6 26.2 25.6 26.9 23.1 ------- ------- ------- ------- ------- ------- ------- ------- Income from operations .................... 6.2 11.8 15.7 19.9 22.7 23.7 21.7 26.2 Other (expense) income .................... (0.2) 0.1 1.9 0.8 0.2 0.9 5.8 1.0 ------- ------- ------- ------- ------- ------- ------- ------- Net income before income taxes, minority interest and extraordinary item ......... 6.0 11.9 17.6 20.7 22.9 24.6 27.5 27.2 Provision for income taxes ................ 2.6 4.6 6.7 7.7 7.9 9.4 10.6 7.8 Minority interest in net income ........... -- -- -- 0.1 0.0 (0.1) 0.0 0.1 ------- ------- ------- ------- ------- ------- ------- ------- Net income before extraordinary item ...... 3.4 7.3 10.9 12.9 15.0 15.3 16.9 19.3 Extraordinary item (net of income taxes) .. -- -- -- -- -- -- -- 7.4 ------- ------- ------- ------- ------- ------- ------- ------- Net income ................................ 3.4% 7.3% 10.9% 12.9% 15.0% 15.3% 16.9% 26.7% ======= ======= ======= ======= ======= ======= ======= ======= </TABLE> We have experienced and expect to continue to experience significant fluctuations in our quarterly operating results. Our expense levels are based, in part, on expectations of future revenues. If revenue levels in a particular quarter do not meet expectations, operating results may be adversely affected. A variety of factors have an influence on the level of our revenues in a particular quarter. These factors include: 44
45 o general economic conditions; o specific economic conditions in the semiconductor and semiconductor capital equipment industries and other industries in which our customers operate; o timing and nature of orders from major customers; o changes in customers' inventory management practices; o customer cancellations of previously placed orders and shipment delays; o pricing competition from our competitors; o costs incurred by responding to specific feature requests by customers; o component shortages resulting in manufacturing delays; o exchange rate fluctuations; o management decisions to commence or discontinue product lines; o our ability to design, introduce and manufacture new products on a cost effective and timely basis; o the introduction of new products by us or our competitors; o the timing of research and development expenditures; and o expenses related to acquisitions, strategic alliances, and the further development of marketing and service capabilities. We are dependent on obtaining orders for shipment in a particular quarter to achieve our revenue objectives for that quarter. Accordingly, it is difficult for us to predict accurately the timing and level of sales in a particular quarter. We anticipate quarterly fluctuations in sales to continue. Our quarterly operating results in 1999 and 2000 reflect the changing demand for our products during this period, principally from manufacturers of semiconductor capital equipment, data storage equipment and flat panel displays, and our ability to adjust our manufacturing capacity to meet this demand. Sales to the semiconductor capital equipment industry increased each quarter throughout 1999 and 2000. Data storage sales were flat from the first quarter of 1999 to the second quarter of 1999, then increased in the third and fourth quarters of 1999. Data storage sales then decreased in the first and second quarters of 2000, increased in the third quarter of 2000 and decreased in the fourth quarter of 2000. Sales to the flat panel display industry increased each quarter of 1999 and 2000. Sales to advanced product applications markets, though fluctuating on a 45
46 quarterly basis throughout 1999 and 2000, were higher in the second half of 1999 than in the first half of 1999, were higher again in the first half of 2000 and again in the second half of 2000. Our revenue from all sectors is heavily influenced by general economic conditions in each of the industries we serve. Our gross margin improved on a quarterly basis in 1999 and reached a relatively consistent level in each of the quarters in 2000. Gross margin improved from 41.8% in the first quarter of 1999 to 44.7% in the second quarter of 1999, then improved to 44.9% in the third quarter of 1999 and to 48.5% in the fourth quarter of 1999. These increases were due to increased utilization of capacity from the recovery in the semiconductor capital equipment industry and from our increased efforts to lower material costs. Gross margin improved slightly to 48.9% in the first quarter of 2000 and again to 49.3% in the second and fourth quarters of 2000, with a slight decrease to 48.6% in the third quarter of 2000. Operating expenses were $13.0 million, $14.9 million, $16.2 million and $18.8 million during the first, second, third and fourth quarters of 1999, respectively, but declined as a percentage of sales throughout 1999 as the sales base increased each quarter. Operating expenses excluding restructuring and merger costs were $19.6 million, $19.7 million, $22.7 million and $23.7 million during the first, second, third and fourth quarters of 2000, respectively. Operating expenses, excluding restructuring and merger costs, declined as a percentage of sales in the first and second quarters of 2000, and increased slightly as a percentage of sales in the third and fourth quarters of 2000. As a percentage of sales, operating expenses have generally declined during periods of rapid sales growth, when sales increased at a rate faster than our ability to add personnel and facilities to support the growth. Operating expenses as a percentage of sales have generally increased during periods of flat or decreased sales, when our infrastructure is retained to support anticipated future growth. Other income (expense) consists primarily of interest income and expense, foreign currency gain and loss, and miscellaneous gains, losses, income and expense items. Interest income and expense increased significantly in the fourth quarter of 1999, when the interest income and expense from the proceeds of the convertible subordinated notes and the interest from the proceeds of the common stock sale began. Interest income and expense stayed at higher levels throughout 2000. During 1999 we recorded a net foreign exchange gain of $1.5 million, which occurred mostly in the second half of the year, and in 2000 we recorded a $196,000 foreign currency loss. We continue to utilize forward foreign exchange contracts in Japan to mitigate the effects of foreign currency fluctuations. The third quarter of 2000 included a $4.8 million gain on a sale of an investment. Our effective rate for income tax provision fluctuated throughout 1999 and 2000, varying from 31% to 44%. The fluctuations were due to certain nondeductible expenses including merger costs, and due to initiatives we implemented in 2000 to reduce our overall rate. 46
47 LIQUIDITY AND CAPITAL RESOURCES Since our inception, we have financed our operations, acquired equipment and met our working capital requirements through borrowings under our revolving lines of credit, long-term loans secured by property and equipment, cash flow from operations and proceeds from underwritten public offerings of our common stock and convertible subordinated debt. Operating activities provided cash of $10.4 million in 1999, primarily as a result of net income, depreciation, amortization, increases in accounts payable and increased accruals for payroll, employee benefits and income taxes, offset by increases in accounts receivable and inventories. Operating activities provided cash of $22.8 million in 2000, primarily as a result of net income, depreciation, amortization and increases in accounts payable and increased accruals for payroll, employee benefits and income taxes, partially offset by increases in receivables and inventories, gains on retirement of convertible subordinated notes and a sale of an investment, and earnings from marketable securities. We expect future receivable and inventory balances to fluctuate with net sales. We are required to maintain higher levels of buffer stock inventory to satisfy our customers' delivery requirements. Any increase in our inventory levels will require the use of cash to finance the inventory. Investing activities used cash of $176.2 million in 1999, and consisted of a net increase in marketable securities of $168.9 million, the purchase of property and equipment of $7.2 million and an addition to an investment of $175,000. Investing activities provided cash of $27.4 million in 2000, and consisted of a net decrease in marketable securities of $38.1 million, proceeds from a sale of an investment of $4.5 million and proceeds from a sale of equipment of $150,000, offset by purchases of property and equipment of $14.1 million, a purchase of technology of $1.0 million and an addition to an investment of $250,000. Financing activities provided cash of $174.5 million in 1999, and consisted of net proceeds from convertible subordinated debt of $130.5 million, net proceeds from the sale of common stock of $37.8 million, proceeds from the exercise of employee stock options and sale of common stock through our employee stock purchase plan ("ESPP") of $4.5 million, and other proceeds of $1.7 million. Financing activities used cash of $37.5 million in 2000, and consisted of open market repurchases of our convertible notes of $40.8 million and other uses of $1.6 million, offset by proceeds from the exercise of employee stock options and sale of common stock through our ESPP of $4.9 million. In the fourth quarter of 2000 we repurchased an aggregate of approximately $53.4 million principal amount of our convertible subordinated notes in the open market, for a cost of approximately $40.8 million. The note purchases were funded from our available cash. We may repurchase additional notes in the open market from time to time, if market conditions and our financial position are deemed favorable for such purchases. 47
48 We plan to spend approximately $12.5 million in 2001 for the acquisition of equipment, leasehold improvements and furnishings, with depreciation expense for 2001 projected to be $9.5 million. In January 2001 we used cash to purchase the outstanding common stock of EMCO for approximately $30 million. As of December 31, 2000, we had working capital of $279.6 million. Our principal sources of liquidity consisted of $31.7 million of cash and cash equivalents, $157.8 million of marketable securities, and a credit facility consisting of a $30.0 million revolving line of credit, with options to convert up to $10.0 million to a three-year term loan. Advances under the revolving line of credit bear interest at either the prime rate (8.5% at February 28, 2001) minus 1.25% or the LIBOR 360-day rate (4.88375% at February 28, 2001) plus 150 basis points, at our option. All advances under this revolving line of credit will be due and payable April 7, 2001. As of December 31, 2000 there was an advance outstanding of $875,000 to our Japanese subsidiary, Advanced Energy Japan K.K. We also had another line of credit of $1.9 million of which there was no balance outstanding at December 31, 2000. This credit line expired in January 2001. We believe that our cash and cash equivalents, marketable securities, cash flow from operations and available borrowings, will be sufficient to meet our working capital needs through at least the end of 2001. After that time, we may require additional equity or debt financing to address our working capital, capital equipment or expansion needs. In addition, any significant acquisitions we make may require additional equity or debt financing to fund the purchase price, if paid in cash. There can be no assurance that additional funding will be available when required or that it will be available on terms acceptable to us. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK INTEREST RATE RISK Our exposure to market risk for changes in interest rates relates primarily to our investment portfolio and long-term debt obligations. We generally place our investments with high credit quality issuers and by policy are averse to principal loss and seek to protect and preserve our invested funds by limiting default risk, market risk and reinvestment risk. As of December 31, 2000, our investments consisted primarily of commercial paper, municipal bonds and notes and mutual funds. FOREIGN CURRENCY EXCHANGE RATE RISK We transact business in various foreign countries. Our primary foreign currency cash flows are generated in countries in Asia and Europe. We have entered into various 48
49 forward foreign exchange contracts to hedge against currency fluctuations in the Japanese yen. We will continue to evaluate various methods to minimize the effects of currency fluctuations. At December 31, 2000, we held foreign forward exchange contracts with nominal amounts of $11.5 million and market settlement amounts of $10.7 million for an unrealized gain position of $826,000. OTHER RISK We have invested in a start-up company and may in the future make additional investments in start-up companies that develop products which we believe may provide future benefits. The current start-up investment and any future start-up investments will be subject to all of the risks inherent in investing in companies that are not established. 49
50 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA INDEX TO CONSOLIDATED FINANCIAL STATEMENTS <TABLE> <CAPTION> PAGE ---- <S> <C> Report of Arthur Andersen LLP, Independent Public Accountants............................................ 51 Consolidated Balance Sheets as of December 31, 2000 and 1999............................................. 52 Consolidated Statement of Operations for the Years Ended December 31, 2000, 1999 and 1998................ 54 Consolidated Statement of Stockholders' Equity for the Years Ended December 31, 2000, 1999 and 1998...... 55 Consolidated Statement of Cash Flows for the Years Ended December 31, 2000, 1999 and 1998................ 56 Notes to Consolidated Financial Statements............................................................... 57 Schedule II - Valuation and Qualifying Accounts.......................................................... 73 </TABLE> 50
51 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To Advanced Energy Industries, Inc.: We have audited the accompanying consolidated balance sheets of Advanced Energy Industries, Inc. (a Delaware corporation) and subsidiaries as of December 31, 2000 and 1999, and the related consolidated statements of operations, stockholders' equity and cash flows for each of the three years in the period ended December 31, 2000. These consolidated financial statements and the schedule referred to below are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements and schedule based on our audits. 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 provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Advanced Energy Industries, Inc. and subsidiaries as of December 31, 2000 and 1999, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2000 in conformity with accounting principles generally accepted in the United States. Our audits were made for the purpose of forming an opinion on the basic consolidated financial statements taken as a whole. The schedule attached to the consolidated financial statements is presented for purposes of complying with the Securities and Exchange Commission's rules and is not a part of the basic consolidated financial statements. This schedule has been subjected to the auditing procedures applied in our audits of the basic consolidated financial statements and, in our opinion, is fairly stated in all material respects in relation to the basic consolidated financial statements taken as a whole. Denver, Colorado ARTHUR ANDERSEN LLP February 12, 2001. 51
52 ADVANCED ENERGY INDUSTRIES, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (IN THOUSANDS) <TABLE> <CAPTION> DECEMBER 31, ----------------------- 2000 1999 ---------- ---------- <S> <C> <C> ASSETS CURRENT ASSETS: Cash and cash equivalents ............................................ $ 31,716 $ 21,043 Marketable securities - trading ...................................... 157,811 186,440 Accounts receivable -- Trade (less allowances for doubtful accounts of approximately $784 and $639 at December 31, 2000 and 1999, respectively) ...... 72,732 44,652 Related parties ................................................... 38 32 Other ............................................................. 3,775 1,787 Notes receivable ..................................................... 2,472 -- Income tax receivable ................................................ 74 1,453 Inventories .......................................................... 45,266 28,410 Other current assets ................................................. 2,508 1,803 Deferred income tax assets, net ...................................... 7,483 3,753 ---------- ---------- Total current assets ......................................... 323,875 289,373 ---------- ---------- PROPERTY AND EQUIPMENT, at cost, net of accumulated depreciation of $24,427 and $18,629 at December 31, 2000 and 1999, respectively .......................................... 24,101 17,699 ---------- ---------- OTHER ASSETS: Deposits and other ................................................... 995 559 Goodwill and intangibles, net of accumulated amortization of $6,061 and $3,860 at December 31, 2000 and 1999, respectively ..... 9,890 11,040 Investments - available for sale ..................................... 1,824 -- Demonstration and customer service equipment, net of accumulated depreciation of $2,302 and $2,235 at December 31, 2000 and 1999, respectively ....................................... 2,889 2,352 Deferred debt issuance costs, net .................................... 2,261 4,410 ---------- ---------- 17,859 18,361 ---------- ---------- Total assets ................................................. $ 365,835 $ 325,433 ========== ========== </TABLE> The accompanying notes to consolidated financial statements are an integral part of these consolidated balance sheets. 52
53 ADVANCED ENERGY INDUSTRIES, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (IN THOUSANDS) <TABLE> <CAPTION> DECEMBER 31, ------------------------ 2000 1999 ---------- ---------- <S> <C> <C> LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES: Accounts payable trade ........................................ $ 18,250 $ 15,702 Accrued payroll and employee benefits ......................... 11,723 7,606 Other accrued expenses ........................................ 4,383 3,040 Customer deposits ............................................. 104 804 Accrued income taxes payable .................................. 7,923 1,266 Capital lease obligations, current portion .................... 53 100 Notes payable, current portion ................................ 1,284 2,485 Accrued interest payable on convertible subordinated notes .... 529 886 ---------- ---------- Total current liabilities ............................. 44,249 31,889 ---------- ---------- LONG-TERM LIABILITIES: Capital lease obligations, net of current portion ............. -- 46 Notes payable, net of current portion ......................... 1,043 1,381 Convertible subordinated notes payable ........................ 81,600 135,000 ---------- ---------- 82,643 136,427 ---------- ---------- Total liabilities ..................................... 126,892 168,316 ---------- ---------- COMMITMENTS AND CONTINGENCIES (Note 14) MINORITY INTEREST ............................................... 145 128 ---------- ---------- STOCKHOLDERS' EQUITY: Preferred stock, $0.001 par value, 1,000 shares authorized, none issued and outstanding .................... -- -- Common stock, $0.001 par value, 40,000 shares authorized; 31,537 and 30,981 shares issued and outstanding at December 31, 2000 and 1999, respectively ................... 32 31 Additional paid-in capital .................................... 124,930 108,997 Retained earnings ............................................. 116,971 48,937 Deferred compensation ......................................... (1,620) (86) Accumulated other comprehensive loss .......................... (1,515) (890) ---------- ---------- Total stockholders' equity ............................ 238,798 156,989 ---------- ---------- Total liabilities and stockholders' equity ............ $ 365,835 $ 325,433 ========== ========== </TABLE> The accompanying notes to consolidated financial statements are an integral part of these consolidated balance sheets. 53
54 ADVANCED ENERGY INDUSTRIES, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENT OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) <TABLE> <CAPTION> YEARS ENDED DECEMBER 31, -------------------------------------- 2000 1999 1998 ---------- ---------- ---------- <S> <C> <C> <C> SALES ........................................................................... $ 359,782 $ 202,849 $ 134,019 COST OF SALES ................................................................... 183,329 110,647 94,000 ---------- ---------- ---------- Gross profit .................................................................. 176,453 92,202 40,019 ---------- ---------- ---------- OPERATING EXPENSES: Research and development ...................................................... 36,996 28,326 24,405 Sales and marketing ........................................................... 24,101 18,325 14,616 General and administrative .................................................... 24,573 16,225 13,121 Restructuring charges ......................................................... 1,000 -- 1,000 Merger costs .................................................................. 4,583 -- 2,742 Storm recoveries .............................................................. -- -- (1,117) ---------- ---------- ---------- Total operating expenses .................................................... 91,253 62,876 54,767 ---------- ---------- ---------- INCOME (LOSS) FROM OPERATIONS ................................................... 85,200 29,326 (14,748) ---------- ---------- ---------- OTHER INCOME (EXPENSE): Interest income ............................................................... 10,727 2,174 1,111 Interest expense .............................................................. (7,698) (1,430) (340) Foreign currency (loss) gain .................................................. (196) 1,504 369 Other income (expense), net ................................................... 4,652 (698) (939) ---------- ---------- ---------- 7,485 1,550 201 ---------- ---------- ---------- Net income (loss) before income taxes, minority interest and extraordinary item ................................................................... 92,685 30,876 (14,547) PROVISION (BENEFIT) FOR INCOME TAXES ............................................ 32,241 11,741 (3,522) MINORITY INTEREST IN NET INCOME ................................................. 20 69 -- ---------- ---------- ---------- NET INCOME (LOSS) BEFORE EXTRAORDINARY ITEM ..................................... 60,424 19,066 (11,025) EXTRAORDINARY ITEM (LESS APPLICABLE INCOME TAXES OF $4,566) (Note 11) ............................................................. 7,610 -- -- ---------- ---------- ---------- NET INCOME (LOSS) ............................................................... $ 68,034 $ 19,066 $ (11,025) ========== ========== ========== NET EARNINGS (LOSS) PER SHARE BEFORE EXTRAORDINARY ITEM: BASIC ......................................................................... $ 1.93 $ 0.64 $ (0.38) ========== ========== ========== DILUTED ....................................................................... $ 1.86 $ 0.62 $ (0.38) ========== ========== ========== EARNINGS PER SHARE FROM EXTRAORDINARY ITEM: BASIC ......................................................................... $ 0.24 $ -- $ -- ========== ========== ========== DILUTED ....................................................................... $ 0.24 $ -- $ -- ========== ========== ========== NET EARNINGS (LOSS) PER SHARE: BASIC ......................................................................... $ 2.17 $ 0.64 $ (0.38) ========== ========== ========== DILUTED ....................................................................... $ 2.10 $ 0.62 $ (0.38) ========== ========== ========== BASIC WEIGHTED-AVERAGE COMMON SHARES OUTSTANDING ................................................................... 31,336 29,706 29,007 ========== ========== ========== DILUTED WEIGHTED-AVERAGE COMMON SHARES OUTSTANDING ............................................................ 32,425 30,934 29,007 ========== ========== ========== </TABLE> The accompanying notes to consolidated financial statements are an integral part of these consolidated statements. 54
55 ADVANCED ENERGY INDUSTRIES, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY (IN THOUSANDS) FOR THE YEARS ENDED DECEMBER 31, 2000, 1999 AND 1998 <TABLE> <CAPTION> ACCUMULATED COMMON STOCK ADDITIONAL STOCKHOLDERS' OTHER TOTAL ---------------------- PAID-IN RETAINED NOTES DEFERRED COMPREHENSIVE STOCKHOLDERS' SHARES AMOUNT CAPITAL EARNINGS RECEIVABLE COMPENSATION (LOSS) INCOME EQUITY ---------- ---------- ---------- ---------- ------------- ------------ ------------- ------------ <S> <C> <C> <C> <C> <C> <C> <C> <C> BALANCES, December 31, 1997 .................... 27,241 $ 27 $ 59,357 $ 41,378 $ (67) $ (34) $ (692) $ 99,969 Exercise of stock options for cash ..... 219 -- 728 -- -- -- -- 728 Proceeds from stockholders' notes receivable...... -- -- -- -- 67 -- -- 67 Sale of common stock through employee stock purchase plan ........ 20 -- 133 -- -- -- -- 133 Amortization of deferred compensation ......... -- -- -- -- -- 34 -- 34 Issuance of common stock for intangibles .......... 1,680 2 2,094 -- -- -- -- 2,096 Tax benefit related to shares acquired by employees under stock compensation plans ................ -- -- 365 -- -- -- -- 365 Adjustment to conform year-end of merged entity ..... -- -- -- (482) -- -- -- (482) Comprehensive loss: Equity adjustment from foreign currency translation .......... -- -- -- -- -- -- 278 -- Net loss .............. -- -- -- (11,025) -- -- -- -- Total comprehensive loss ................ -- -- -- -- -- -- -- (10,747) ---------- ---------- ---------- ---------- ---------- ---------- ---------- ---------- BALANCES, December 31, 1998 .................... 29,160 29 62,677 29,871 -- -- (414) 92,163 Exercise of stock options for cash ..... 490 1 4,147 -- -- -- -- 4,148 Sale of common stock through employee stock purchase plan .. 22 -- 345 -- -- -- -- 345 Issuance of common stock for intangibles .......... 227 -- 2,335 -- -- -- -- 2,335 Tax benefit related to shares acquired by employees under stock compensation plans ................ -- -- 1,422 -- -- -- -- 1,422 Sale of common stock through private and public offerings, net of approximately $2,448 of expenses ... 1,070 1 37,826 -- -- -- -- 37,827 Issuance of common stock for services rendered ............. 12 -- 136 -- -- -- -- 136 Deferred compensation on stock options issued ............... -- -- 109 -- -- (109) -- -- Amortization of deferred compensation -- -- -- -- -- 23 -- 23 Comprehensive income: Equity adjustment from foreign currency translation .......... -- -- -- -- -- -- (476) -- Net income ............ -- -- -- 19,066 -- -- -- -- Total comprehensive income .............. -- -- -- -- -- -- -- 18,590 ---------- ---------- ---------- ---------- ---------- ---------- ---------- ---------- BALANCES, December 31, 1999 .................... 30,981 31 108,997 48,937 -- (86) (890) 156,989 Exercise of stock options for cash ..... 488 1 4,393 -- -- -- -- 4,394 Issuance of common stock for services provided and merger costs ............... 55 -- 2,430 -- -- -- -- 2,430 Sale of common stock through employee stock purchase plan .. 13 -- 520 -- -- -- -- 520 Tax benefit related to shares acquired by employees under stock compensation plans ... -- -- 6,595 -- -- -- -- 6,595 Deferred compensation on stock options issued ............... -- -- 1,995 -- -- (1,995) -- -- Amortization of deferred compensation -- -- -- -- -- 461 -- 461 Comprehensive income: Equity adjustment from foreign currency translation .......... -- -- -- -- -- -- (1,990) -- Unrealized holding gains ................ -- -- -- -- -- -- 1,365 -- Net income ............ -- -- -- 68,034 -- -- -- -- Total comprehensive income .............. -- -- -- -- -- -- -- 67,409 ---------- ---------- ---------- ---------- ---------- ---------- ---------- ---------- BALANCES, December 31, 2000 .................... 31,537 $ 32 $ 124,930 $ 116,971 $ -- $ (1,620) $ (1,515) $ 238,798 ========== ========== ========== ========== ========== ========== ========== ========== </TABLE> The accompanying notes to consolidated financial statements are an integral part of these consolidated statements. 55
56 ADVANCED ENERGY INDUSTRIES, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENT OF CASH FLOWS (IN THOUSANDS) <TABLE> <CAPTION> YEARS ENDED DECEMBER 31, -------------------------------------- 2000 1999 1998 ---------- ---------- ---------- <S> <C> <C> <C> CASH FLOWS FROM OPERATING ACTIVITIES: Net income (loss) .................................................................. $ 68,034 $ 19,066 $ (11,025) Adjustment for conforming year-end of merged entity ................................ -- -- (482) Adjustments to reconcile net income (loss) to net cash provided by operating activities - Depreciation and amortization ................................................... 10,506 8,356 7,113 Amortization of deferred debt issuance costs .................................... 616 81 -- Provision for restructuring ..................................................... 1,000 -- 1,000 Minority interest ............................................................... 17 69 -- Stock issued for services rendered and merger costs ............................. 2,430 136 -- Provision for deferred income taxes ............................................. (3,730) 851 (1,620) Amortization of deferred compensation ........................................... 461 23 34 (Gain) loss on disposal of property and equipment ............................... (54) (15) 120 Gain on sale of investment ...................................................... (4,841) -- -- Gain on retirement of convertible subordinated notes ............................ (12,176) -- -- Earnings from marketable securities, net ........................................ (9,471) (1,724) (765) Writedown of LITMAS investment .................................................. -- 322 600 Changes in operating assets and liabilities - Accounts receivable-trade, net ............................................... (28,080) (28,822) 20,648 Related parties and other receivables ........................................ (1,994) (1,306) 1,473 Notes receivable ............................................................. (2,472) -- -- Inventories .................................................................. (16,856) (4,882) 10,305 Other current assets ......................................................... (705) (252) 2,109 Deposits and other ........................................................... (502) 280 (991) Demonstration and customer service equipment ................................. (1,282) (563) (1,034) Accounts payable trade ....................................................... 2,548 9,171 (9,603) Accrued payroll and employee benefits ........................................ 4,117 4,467 (2,585) Customer deposits and other accrued expenses ................................. 558 1,022 916 Income taxes payable/receivable, net ......................................... 14,631 4,088 (5,929) ---------- ---------- ---------- Net cash provided by operating activities .................................. 22,755 10,368 10,284 ---------- ---------- ---------- CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of marketable securities .................................................. (10,000) (170,805) (1,000) Sale of marketable securities ...................................................... 48,100 1,928 6,100 Proceeds from sale of investment ................................................... 4,464 -- -- Proceeds from sale of equipment .................................................... 150 -- -- Purchase of property and equipment, net ............................................ (14,062) (7,168) (5,410) Purchase of technology ............................................................. (981) -- -- Purchase of LITMAS, net of cash acquired ........................................... (250) (175) (1,000) Acquisition of assets of Fourth State Technology, Inc. ............................. -- -- (2,500) ---------- ---------- ---------- Net cash provided by (used in) investing activities ........................ 27,421 (176,220) (3,810) ---------- ---------- ---------- CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from notes payable ........................................................ 1,491 3,304 2,201 Repayment of notes payable and capital lease obligations ........................... (3,123) (1,637) (9,382) Proceeds from convertible debt, net ................................................ -- 130,509 -- Repurchase of convertible debt, net ................................................ (40,795) -- -- Sale of common stock, net of expenses .............................................. -- 37,827 -- Sale of common stock through employee stock purchase plan .......................... 520 345 133 Proceeds from exercise of stock options and warrants ............................... 4,394 4,148 728 Proceeds from stockholders' notes receivable ....................................... -- -- 67 ---------- ---------- ---------- Net cash (used in) provided by financing activities ............................. (37,513) 174,496 (6,253) ---------- ---------- ---------- EFFECT OF CURRENCY TRANSLATION ON CASH ............................................... (1,990) (476) 278 ---------- ---------- ---------- INCREASE IN CASH AND CASH EQUIVALENTS ................................................ 10,673 8,168 499 CASH AND CASH EQUIVALENTS, beginning of period ....................................... 21,043 12,875 12,376 ---------- ---------- ---------- CASH AND CASH EQUIVALENTS, end of period ............................................. $ 31,716 $ 21,043 $ 12,875 ========== ========== ========== SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES: Tax benefit related to shares acquired by employees under stock option plans .... $ 6,595 $ 1,422 $ 365 ========== ========== ========== Conversion of royalty payable to note payable ................................... $ -- $ 742 $ -- ========== ========== ========== Deferred compensation on stock options issued ................................... $ 1,995 $ 109 $ -- ========== ========== ========== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Cash paid for interest ............................................................. $ 7,385 $ 459 $ 423 ========== ========== ========== Cash paid for income taxes, net .................................................... $ 25,791 $ 6,221 $ 2,395 ========== ========== ========== </TABLE> The accompanying notes to consolidated financial statements are an integral part of these consolidated statements. 56
57 ADVANCED ENERGY INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (1) COMPANY OPERATIONS Advanced Energy Industries, Inc. (the "Company") was incorporated in Colorado in 1981 and reincorporated in Delaware in 1995. The Company is primarily engaged in the development and production of products and systems critical to plasma-based manufacturing processes, which are used by manufacturers of semiconductors and in industrial thin film manufacturing processes. The Company owns 100% of each of the following subsidiaries: Advanced Energy Japan K.K. ("AE-Japan"), Advanced Energy Industries GmbH ("AE-Germany"), Advanced Energy Industries U.K. Limited ("AE-UK"), Advanced Energy Industries Korea, Inc. ("AE-Korea") and Advanced Energy Taiwan, Ltd. ("AE-Taiwan"). The Company also owns 100% of Advanced Energy Voorhees, Inc. ("AEV"), formerly RF Power Products, Inc. ("RFPP"), Tower Electronics, Inc. ("Tower"), Noah Holdings, Inc. ("Noah") and Sekidenko, Inc. ("Sekidenko") and 59.5% of LITMAS. As discussed in Note 3, Noah was merged into the Company on April 6, 2000, and Sekidenko was merged into the Company on August 18, 2000. The acquisitions of Noah and Sekidenko have been accounted for as a pooling of interests under Accounting Principles Board Opinion No. 16. Accordingly, all prior period consolidated financial statements have been restated to include Noah and Sekidenko as though they had always been part of the Company. AEV is a New Jersey-based designer and manufacturer of radio frequency power systems, matching networks and peripheral products primarily used by original equipment providers in the semiconductor capital equipment, commercial coating, flat panel display and analytical instrumentation markets. Tower is a Minnesota-based designer and manufacturer of custom, high-performance switchmode power supplies used principally in the telecommunications, medical and non-impact printing industries. Noah is a California-based manufacturer of solid state temperature control systems used to control process temperatures during semiconductor manufacturing. Sekidenko is a Washington-based manufacturer and supplier of optical fiber thermometers to the semiconductor capital equipment industry. LITMAS is a start-up company that designs and manufactures plasma gas abatement systems and high-density plasma sources. The Company continues to be subject to certain risks similar to other companies in its industry. These risks include significant fluctuations of quarterly operating results, the volatility of the semiconductor and semiconductor capital equipment industries, customer concentration within the markets the Company serves, manufacturing facilities risks, recent and potential future acquisitions, management of growth, supply constraints and dependencies, dependence on design wins, barriers to obtaining new customers, the high level of customized designs, rapid technological changes, competition, international sales risks, the Asian financial markets, intellectual property rights, governmental regulations, and the volatility of the market price of the Company's common stock. A significant change in any of these risk factors could have a material impact on the Company's business. (2) SIGNIFICANT ACCOUNTING POLICIES BASIS OF PRESENTATION -- The consolidated financial statements include the accounts of the Company and its subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation. CASH AND CASH EQUIVALENTS -- For cash flow purposes, the Company considers all cash and highly liquid investments with an original maturity of 90 days or less to be cash and cash equivalents. INVENTORIES -- Inventories include costs of materials, direct labor and manufacturing overhead. Inventories are valued at the lower of market or cost, computed on a first-in, first-out basis. 57
58 MARKETABLE SECURITIES - TRADING -- The Company has investments in marketable equity securities and municipal bonds, which have original maturities of 90 days or more. In accordance with Statement of Financial Accounting Standards ("SFAS") No. 115, "Accounting for Certain Investments in Debt and Equity Securities," the investments are classified as trading securities and reported at fair value with unrealized gains and losses included in earnings. DEMONSTRATION AND CUSTOMER SERVICE EQUIPMENT -- Demonstration and customer service equipment are manufactured products utilized for sales demonstration and evaluation purposes. The Company also utilizes this equipment in its customer service function as replacement and loaner equipment to existing customers. The Company depreciates the equipment based on its estimated useful life in the sales and customer service functions. The depreciation is computed based on a three-year life. PROPERTY AND EQUIPMENT -- Property and equipment is stated at cost. Additions, improvements, and major renewals are capitalized. Maintenance, repairs, and minor renewals are expensed as incurred. Depreciation is provided using straight-line and accelerated methods over three to ten years for machinery and equipment and furniture and fixtures, with computers and communication equipment depreciated over a three-year life. Amortization of leasehold improvements and leased equipment is provided using the straight-line method over the life of the lease term or the life of the assets, whichever is shorter. GOODWILL AND INTANGIBLES -- Goodwill and intangibles are recorded at the date of acquisition at their allocated cost. Amortization is provided over the estimated useful lives ranging from five to seven years for both the goodwill and the intangible assets. CONCENTRATIONS OF CREDIT RISK -- The Company's revenues generally are concentrated among a small number of customers, the majority of which are in the semiconductor capital equipment industry. The Company's foreign subsidiaries sales are primarily denominated in currencies other than the U.S. dollar (see Note 15). The Company establishes an allowance for doubtful accounts based upon factors surrounding the credit risk of specific customers, historical trends and other information. WARRANTY POLICY -- The Company estimates the costs of repairing products under warranty based on the historical average cost of the repairs. The Company offers warranty coverage for its systems for periods ranging from 12 to 30 months after shipment. CUMULATIVE TRANSLATION ADJUSTMENT -- The functional currency for the Company's foreign operations is the applicable local currency. The Company records a cumulative translation adjustment from translation of the financial statements of AE-Japan, AE-Germany, AE-Korea, AE-UK and AE-Taiwan. This equity account includes the results of translating balance sheet assets and liabilities at current exchange rates as of the balance sheet date, and the statements of operations and cash flows at the average exchange rates during the respective year. The Company recognizes gain or loss on foreign currency transactions, which are not considered to be of a long-term investment nature. The Company recognized a loss on foreign currency transactions of $196,000 for the year ended December 31, 2000, and gains on foreign currency transactions of $1,504,000 and $369,000 for the years ended December 31, 1999 and 1998, respectively. REVENUE RECOGNITION -- The Company recognizes revenue upon shipment of its systems and spare parts, at which time title passes to the customer. For most of its customers, the Company has established a warranty policy as part of its contract with the customer, to provide for repairs and replacement of defective systems. The Company records an estimate for such repairs based upon its experience, and does not record an offset against revenue for such temporary returns. 58
59 The Company has an arrangement with one of its major customers, a semiconductor capital equipment manufacturer, in which completed systems are shipped to the customer and held by them on a consignment basis. The customer draws systems from this inventory as needed, at which time title passes to the customer and the Company recognizes revenue. The customer is subject to the Company's normal warranty policy for repair of defective systems. In some instances the Company delivers systems to customers for evaluation purposes. In these arrangements, the customer retains the systems for specified periods of time without commitment to purchase. On or before the expiration of the evaluation period, the customer either rejects the system and returns it to the Company, or accepts the system. Upon acceptance, title passes to the customer, the Company invoices the customer for the system, and revenue is recognized. Pending acceptance by the customer, such systems are reported on the Company's balance sheet at an estimated value based on the lower of cost or market, and are included in the amount for demonstration and customer service equipment, net of accumulated depreciation. INCOME TAXES -- The Company accounts for income taxes in accordance with SFAS No. 109, "Accounting for Income Taxes." SFAS No. 109 requires deferred tax assets and liabilities to be recognized for temporary differences between the tax basis and financial reporting basis of assets and liabilities, computed at current tax rates. Also, the Company's deferred income tax assets include certain future tax benefits. The Company records a valuation allowance against any portion of those deferred income tax assets which it believes it will more likely than not fail to realize. EARNINGS PER SHARE -- Basic EPS is computed by dividing income available to common stockholders by the weighted-average number of common shares outstanding during the period. The computation of diluted EPS is similar to the computation of basic EPS except that the numerator is increased to include certain charges which would not have been incurred, and the denominator is increased to include the number of additional common shares that would have been outstanding (using the treasury stock and if-converted methods) if potentially dilutive common shares had been issued. For the periods presented, certain stock options outstanding and conversion of the convertible subordinated notes payable were not included in this calculation because to do so would be anti-dilutive. Basic and diluted EPS were the same for fiscal 1998 as the Company incurred losses from operations, therefore, making the effect of all potentially dilutive common shares anti-dilutive. COMPREHENSIVE INCOME (LOSS) -- SFAS No. 130, "Reporting Comprehensive Income," established rules for the reporting of comprehensive income (loss) and its components. Comprehensive income (loss) for the Company consists of net income (loss), foreign currency translation adjustments and unrealized holding gains and is presented in the Consolidated Statement of Stockholders' Equity. SEGMENT REPORTING -- SFAS No. 131, "Disclosure about Segments of an Enterprise and Related Information," requires a public business enterprise to report financial and descriptive information about its reportable operating segments. Operating segments are components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision-maker in deciding how to allocate resources and in assessing performance. Management operates and manages the Company's business as one operating segment because all of its products and systems have similar economic characteristics and production processes. RECENT ACCOUNTING PRONOUNCEMENTS -- In June 1998 the FASB issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities." The Company is required to adopt SFAS No. 133, as amended by SFAS No. 137, on January 1, 2001. SFAS No. 133 establishes accounting and reporting standards for derivative instruments and for hedging activity by requiring all derivatives to be recorded on the balance sheet as either an asset or liability and measured at their fair value. Changes in the derivative's fair value will be recognized currently in earnings unless specific hedging accounting criteria 59
60 are met. SFAS No. 133 also establishes uniform hedge accounting criteria for all derivatives. The Company will not seek specific hedge accounting treatment for its foreign currency forward contracts (Note 18). The Company has assessed its position with regard to its derivative and hedging activities and does not believe that the adoption of SFAS No. 133 will have a material impact on the Company's financial condition or results of operations. In December 1999 the staff of the Securities and Exchange Commission issued its Staff Accounting Bulletin ("SAB") No. 101, "Revenue Recognition." SAB No. 101 provides guidance on the measurement and timing of revenue recognition in financial statements of public companies. Changes in accounting policies to apply the guidance of SAB No. 101 must be adopted by recording the cumulative effect of the change in the fiscal quarter ending December 31, 2000. The adoption of SAB No. 101 did not have a material effect on the Company's financial position or results of operations. In March 2000 the FASB issued FASB Interpretation No. 44, "Accounting for Certain Transactions Involving Stock Compensation" ("FIN No. 44"). FIN No. 44 provides clarification and guidance on applying APB No. 25. Generally, FIN No. 44 provides for prospective application for grants or modifications to existing stock options or awards made after June 30, 2000. The adoption of FIN No. 44 in 2000 did not have a material effect on the Company's financial condition or results of operations. ESTIMATES AND ASSUMPTIONS -- The preparation of the Company's consolidated financial statements in conformity with generally accepted accounting principles requires the Company's management to make estimates and assumptions that affect the amounts reported and disclosed in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates. ASSET IMPAIRMENTS -- The Company reviews its long-lived assets and certain identifiable intangibles to be held and used by the Company for impairment whenever events or changes in circumstances indicate their carrying amount may not be recoverable. In so doing, the Company estimates the future net cash flows expected to result from the use of the asset and its eventual disposition. If the sum of the expected future net cash flows (undiscounted and without interest charges) is less than the carrying amount of the asset, an impairment loss is recognized to reduce the asset to its estimated fair value. Otherwise, an impairment loss is not recognized. Long-lived assets and certain identifiable intangibles to be disposed of, if any, are reported at the lower of carrying amount or fair value less cost to sell. RECLASSIFICATIONS -- Certain reclassifications have been made to the 1998 and 1999 financial statements to conform to the 2000 presentation. (3) ACQUISITIONS SEKIDENKO, INC. -- On August 18, 2000, Sekidenko, Inc. ("Sekidenko"), a privately held, Vancouver, Washington-based supplier of optical fiber thermometers to the semiconductor capital equipment industry, was merged with a wholly owned subsidiary of the Company. The Company issued 2.1 million shares of its common stock to the former shareholders of Sekidenko. In connection with the merger, the Company recorded in the third quarter of 2000 a charge to operating expenses of $2.3 million for direct merger-related costs. NOAH HOLDINGS, INC. -- On April 6, 2000, Noah Holdings, Inc. ("Noah"), a privately held, California-based manufacturer of solid state temperature control systems used to control process temperatures during semiconductor manufacturing, was merged with a wholly owned subsidiary of the Company. The Company issued approximately 687,000 shares of its common stock in connection with the acquisition. In addition, outstanding Noah stock options were converted into options to purchase approximately 40,000 shares of the Company's common stock. In connection with the merger, the Company recorded in the second quarter of 2000 a charge to operating expenses of $2.3 million for direct merger-related costs. 60
61 AEV -- On October 8, 1998, RF Power Products, Inc., since renamed Advanced Energy Voorhees, Inc. ("AEV"), a New Jersey-based designer and manufacturer of radio frequency power systems, matching networks and peripheral products primarily for original equipment providers in the semiconductor capital equipment, commercial coating, flat panel display and analytical instrumentation markets, was merged with a wholly owned subsidiary of the Company. The Company issued approximately four million shares of its common stock to the former shareholders of AEV. In addition, outstanding AEV stock options were converted into options to purchase approximately 148,000 shares of the Company's common stock. AEV's operating results for the month of December 1998 are not reflected in the accompanying consolidated statement of operations. This is due to changing AEV's year-end from November 30 to December 31 to conform to the Company's year-end. AEV's month of December 1998 operating results were revenues of approximately $723,000 and a net loss of $482,000, which has been charged directly to retained earnings in order to report only twelve months' operating results. In connection with the merger, the Company recorded in the fourth quarter of 1998 a charge to operating expenses of $2,742,000 for direct merger-related costs. Each of the above mergers constituted a tax-free reorganization and have been accounted for as a pooling of interests under Accounting Principles Board Opinion No. 16. Accordingly, all prior period consolidated financial statements presented have been restated to include the combined balance sheet, statements of operations and cash flows of AEV, Noah and Sekidenko as though each had always been part of the Company. There were no transactions between the Company, AEV, Noah and Sekidenko prior to the combinations, and immaterial adjustments were recorded at AEV, Noah and Sekidenko to conform their accounting policies. Certain reclassifications were made to conform the AEV, Noah and Sekidenko financial statements to the Company's presentations. The results of operations for the separate companies and combined amounts presented in the consolidated financial statements follow: <TABLE> <CAPTION> YEARS ENDED DECEMBER 31, ------------------------------------- 2000 1999 1998 ---------- ---------- ---------- (IN THOUSANDS) <S> <C> <C> <C> Sales: Pre-AEV merger Advanced Energy .................................. $ -- $ -- $ 86,289 AEV .............................................. -- -- 18,436 Advanced Energy and AEV combined before Noah and Sekidenko mergers ............................... 67,171 183,958 19,973 Noah before Noah and Sekidenko mergers ............. 3,080 7,617 5,639 Sekidenko before Noah and Sekidenko mergers ........ 4,777 11,274 3,682 Post-Noah merger Advanced Energy combined with AEV and Noah ....... 123,190 -- -- Sekidenko ........................................ 7,034 -- -- Post-Sekidenko merger .............................. 154,530 -- -- ---------- ---------- ---------- Consolidated .................................... $ 359,782 $ 202,849 $ 134,019 ========== ========== ========== Net income (loss): Pre-AEV merger Advanced Energy .................................. $ -- $ -- $ (2,748) AEV .............................................. -- -- (3,859) Advanced Energy and AEV combined before Noah and Sekidenko mergers ............................... 9,996 16,838 (168) AEV merger costs ................................... -- -- (2,742) Noah before Noah and Sekidenko mergers ............. 43 184 (1,620) Sekidenko before Noah and Sekidenko mergers ........ 1,199 2,044 112 Post-Noah merger Advanced Energy combined with AEV and Noah ....... 20,809 -- -- Sekidenko ........................................ 1,367 -- -- Noah merger costs .................................. (2,333) -- -- Post-Sekidenko merger .............................. 39,203 -- -- Sekidenko merger costs ............................. (2,250) -- -- ---------- ---------- ---------- Consolidated .................................... $ 68,034 $ 19,066 $ (11,025) ========== ========== ========== </TABLE> 61
62 OTHER INTANGIBLES -- During 1999 Noah acquired various intangible assets, primarily a license agreement and patents, by issuing approximately 214,000 shares of common stock valued at $1,950,000. The entire purchase price was allocated to other intangibles and is being amortized over a seven-year useful life. During 1998 Sekidenko acquired various intangible assets, primarily a license agreement, by issuing approximately 1,680,000 shares of common stock valued at $2,096,000. The entire purchase price was allocated to other intangibles and is being amortized over a five-year useful life. LITMAS -- During 1998 the Company acquired a 29% ownership interest in LITMAS, a privately held, North Carolina-based start-up company that designs and manufactures plasma gas abatement systems and high-density plasma sources. The purchase price consisted of $1 million in cash. On October 1, 1999, the Company acquired an additional 27.5% interest in LITMAS for an additional $560,000. The purchase price consisted of $385,000 in the Company's common stock and $175,000 in cash. The acquisition was accounted for using the purchase method of accounting and resulted in $523,000 allocated to intangible assets as goodwill. The results of operations of LITMAS are included within the accompanying consolidated financial statements from the date the controlling interest of 56.5% was acquired. On October 1, 2000, the Company acquired an additional 3.0% interest in LITMAS for an additional $250,000, bringing the Company's ownership interest in LITMAS to 59.5%. FST -- Effective September 3, 1998, the Company acquired substantially all of the assets of Fourth State Technology, Inc. ("FST"), a privately held, Texas-based designer and manufacturer of process controls used to monitor and analyze data in the RF process. The purchase price consisted of $2.5 million in cash, assumption of a $113,000 liability, and an earn-out provision, which is based on profits over a twelve-quarter period beginning October 1, 1998. Approximately $2.6 million of the initial purchase price was allocated to intangible assets. During the fourth quarter of 1999, the Company accrued $240,000 to intangible assets as a result of the earn-out provision being met during the fifth quarter period. The results of operations of FST are included within the accompanying consolidated financial statements from the date of acquisition. (4) PUBLIC OFFERING OF COMMON STOCK In November 1999 the Company closed on an additional offering of its common stock. In connection with the offering, 1,000,000 shares of common shares were sold at a price of $39 per share, providing gross proceeds of $39,000,000, less $2,448,000 in offering costs. (5) MARKETABLE SECURITIES - TRADING MARKETABLE SECURITIES - TRADING are reported at their fair value and consisted of the following: <TABLE> <CAPTION> DECEMBER 31, ---------- ---------- 2000 1999 ---------- ---------- (IN THOUSANDS) <S> <C> <C> Commercial paper .................. $ 85,827 $ 118,894 Municipal bonds and notes ......... 54,022 67,453 Mutual funds ...................... 17,962 93 ---------- ---------- $ 157,811 $ 186,440 ========== ========== </TABLE> These marketable securities have original costs of $157,112,000 and $185,069,000 as of December 31, 2000 and 1999, respectively. 62
63 (6) ACCOUNTS RECEIVABLE - TRADE ACCOUNTS RECEIVABLE - TRADE consisted of the following: <TABLE> <CAPTION> DECEMBER 31, ---------- ---------- 2000 1999 ---------- ---------- (IN THOUSANDS) <S> <C> <C> Domestic .................................... $ 41,545 $ 21,877 Foreign ..................................... 31,971 23,414 Allowance for doubtful accounts ............. (784) (639) ---------- ---------- $ 72,732 $ 44,652 ========== ========== </TABLE> (7) INVENTORIES INVENTORIES consisted of the following: <TABLE> <CAPTION> DECEMBER 31, ----------------- 2000 1999 ------- ------- (IN THOUSANDS) <S> <C> <C> Parts and raw materials ................ $34,462 $19,381 Work in process ........................ 3,777 2,526 Finished goods ......................... 7,027 6,503 ------- ------- $45,266 $28,410 ======= ======= </TABLE> (8) PROPERTY AND EQUIPMENT PROPERTY AND EQUIPMENT consisted of the following: <TABLE> <CAPTION> DECEMBER 31, ---------------------- 2000 1999 ------- -------- (IN THOUSANDS) <S> <C> <C> Machinery and equipment................................ $ 25,075 $ 18,121 Computers and communication equipment.................. 12,484 8,967 Furniture and fixtures................................. 4,026 3,781 Vehicles............................................... 197 161 Leasehold improvements................................. 6,746 5,298 -------- -------- 48,528 36,328 Less - accumulated depreciation........................ (24,427) (18,629) -------- -------- $ 24,101 $ 17,699 ======== ======== </TABLE> (9) INVESTMENTS IN MARKETABLE SECURITIES, AVAILABLE FOR SALE In the third quarter of 2000 the Company exercised warrants of a supplier in a cashless transaction and received 458,000 shares of the supplier's common stock, which is publicly traded. Concurrent with the exercise, the Company sold 320,000 shares of the supplier's common stock and recognized a gain of approximately $4.8 million. The remaining 138,000 shares have been classified as available-for-sale securities and are reflected as an investment of approximately $1.7 million in the accompanying balance sheet. 63
64 (10) NOTES PAYABLE <TABLE> <CAPTION> DECEMBER 31, ------------------------ 2000 1999 ---------- ---------- (IN THOUSANDS) <S> <C> <C> Revolving line of credit of $30,000,000, expiring April 7, 2001, interest at bank's prime rate minus 1.25% or the LIBOR 360-day rate plus 150 basis points, (average 1.98718% during 2000, 2.39857% at December 31, 2000) This line includes $20,000,000 available for general use, with an option to convert up to $10,000,000 to a three-year term loan; additional advances up to $5,000,000 each for Optional Currency Rate Advances and Foreign Exchange Contracts. Borrowing base consists of the sum of 80% of eligible accounts receivable plus the lesser of 20% of eligible inventory or $5,000,000. Loan covenants provide certain financial restrictions related to working capital, leverage, net worth, payment and declaration of dividends and profitability ..................................... $ 875 $ 1,958 Revolving line of credit of $1,875,000, expired January 2001, interest at bank's prime rate plus 3.5% (minimum 12% plus 1% discount rate). Loan is secured by a Certificate of Deposit, certain accounts receivable, inventory, equipment and intangibles, and is guaranteed by a stockholder. Agreement provides for an early termination fee of $30,000 if the line is terminated prior to maturity ............. -- 241 Note payable, shareholder (see Note 16) .............................................. 356 447 Note payable, royalties, with interest at 7%, with monthly payments ranging from $5,000 to $15,000, including interest, due July 2002. The note is unsecured ........ 704 738 Note payable, other .................................................................. 120 -- Note payable to the New Jersey Economic Development Authority, with interest at 5%, principal and interest due monthly, matures January 2002 and secured by machinery and equipment ............................................................ 109 216 Note payable, shareholder (see Note 16) .............................................. 163 266 ---------- ---------- 2,327 3,866 Less -- current portion .............................................................. (1,284) (2,485) ---------- ---------- $ 1,043 $ 1,381 ========== ========== </TABLE> (11) CONVERTIBLE SUBORDINATED NOTES PAYABLE In November 1999 the Company issued $135 million of convertible subordinated notes payable at 5.25%. These notes mature November 15, 2006, with interest payable on May 15th and November 15th each year beginning May 15, 2000. Net proceeds to the Company were approximately $130.5 million, after deducting $4.5 million of offering costs, which have been capitalized and are being amortized over a period of seven years. Holders of the notes may convert the notes at any time into shares of the Company's common stock, at $49.53 per share. The Company may convert the notes on or after November 19, 2002 at a redemption price of 103.00% times the principal amount, and may convert at successively lesser amounts thereafter until November 15, 2006, at which time the Company may convert at a redemption price equal to the principal amount. At December 31, 2000, $529,000 of interest expense was accrued as a current liability. In October and November 2000, the Company repurchased an aggregate of approximately $53.4 million principal amount of its convertible subordinated notes in the open market, for a cost of approximately $40.8 million. These purchases resulted in an after-tax extraordinary gain of $7.6 million. The purchased notes have been cancelled. Approximately $81.6 million principal amount of the notes remains outstanding, which had a fair market value of approximately $66.7 million as of December 31, 2000. The Company may continue to purchase additional notes in the open market from time to time, if market conditions and its financial position are deemed favorable for such purposes. (12) INCOME TAXES For the years ended December 31, 2000, 1999 and 1998, the provision for income taxes consisted of an amount for taxes currently payable and a provision for tax effects deferred to future periods. In 1997 the 64
65 \Company's statutory U.S. tax rate increased from 34% to 35%. The provision (benefit) for income taxes for the years ended December 31, 2000, 1999 and 1998 was as follows: <TABLE> <CAPTION> DECEMBER 31, -------------------------------------- 2000 1999 1998 ---------- ---------- ---------- (IN THOUSANDS) <S> <C> <C> <C> Federal ................. $ 28,869 $ 8,087 $ (3,843) State and local ......... 3,592 1,376 (561) Foreign taxes ........... 4,346 2,278 882 ---------- ---------- ---------- $ 36,807 $ 11,741 $ (3,522) ========== ========== ========== Current ................. $ 40,537 $ 10,890 $ (1,902) Deferred ................ (3,730) 851 (1,620) ---------- ---------- ---------- $ 36,807 $ 11,741 $ (3,522) ========== ========== ========== </TABLE> The following reconciles the Company's effective tax rate to the federal statutory rate for the years ended December 31, 2000, 1999 and 1998: <TABLE> <CAPTION> DECEMBER 31, -------------------------------------- 2000 1999 1998 ---------- ---------- ---------- (IN THOUSANDS) <S> <C> <C> <C> Income tax expense (benefit) per federal statutory rate ...... $ 36,703 $ 10,807 $ (5,091) State income taxes, net of federal deduction ................. 2,232 894 (365) Foreign sales corporation .................................... (2,516) (331) -- Nondeductible merger costs ................................... 1,604 (228) 960 Nondeductible intangible and goodwill amortization ........... 618 553 500 Other permanent items, net ................................... (2,262) (137) (159) Effect of foreign taxes ...................................... 578 1,000 80 Foreign operating loss with no benefit provided .............. -- -- 610 Change in valuation allowance ................................ -- (717) 107 Tax credits .................................................. (150) (100) (164) ---------- ---------- ---------- $ 36,807 $ 11,741 $ (3,522) ========== ========== ========== </TABLE> The Company's deferred income tax assets are summarized as follows: <TABLE> <CAPTION> DECEMBER 31, 2000 CHANGE DECEMBER 31, 1999 ----------------- ---------- ----------------- (IN THOUSANDS) <S> <C> <C> <C> Employee bonuses and commissions ... $ 1,851 $ 1,821 $ 30 Warranty reserve ................... 1,046 437 609 Bad debt reserve ................... 229 (4) 233 Vacation accrual ................... 1,076 551 525 Royalties .......................... -- (280) 280 Obsolete and excess inventory ...... 2,433 1,546 887 Investment in LITMAS ............... 395 52 343 Depreciation and amortization ...... 312 (161) 473 Other .............................. 141 (232) 373 ---------- ---------- ---------- $ 7,483 $ 3,730 $ 3,753 ========== ========== ========== </TABLE> The domestic versus foreign component of the Company's net income (loss) before income taxes at December 31, 2000, 1999 and 1998, was as follows: <TABLE> <CAPTION> DECEMBER 31, ------------------------------------- 2000 1999 1998 ---------- ---------- ---------- (IN THOUSANDS) <S> <C> <C> <C> Domestic ........... $ 94,094 $ 25,177 $ (15,021) Foreign ............ 10,767 5,699 474 ---------- ---------- ---------- $ 104,861 $ 30,876 $ (14,547) ========== ========== ========== </TABLE> 65
66 (13) RETIREMENT PLAN The Company has 401(k) Profit Sharing Plans which cover most full-time employees who have completed six months of full-time continuous service and are age eighteen or older. Depending on the plan in which a participant is enrolled, participants may defer up to either 10% or 15% of their gross pay up to a maximum limit determined by law. Participants are immediately vested in their contributions. The Company may make discretionary contributions based on corporate financial results for the fiscal year. Effective January 1, 1998, the Company increased its matching contribution for participants in the 401(k) Plans up to a 50% matching on contributions by employees up to 6% of the employee's compensation. The Company's total contributions to the plans were approximately $1,291,000, $848,000 and $754,000 for the years ended December 31, 2000, 1999 and 1998, respectively. Vesting in the profit sharing contribution account is based on years of service, with most participants fully vested after five years of credited service. The Company also has a Money Purchase Pension Plan, which covers certain employees. This plan was frozen, effective July 1, 1998, and the Company is not required to make contributions to the plan for future years. The Company's contributions to this plan were $63,000 for 1998 and $62,000 for 2000. The Company made no contributions in 1999. (14) COMMITMENTS AND CONTINGENCIES CAPITAL LEASES The Company finances a portion of its property and equipment under capital lease obligations at interest rates ranging from 7.63% to 24.7%. The future minimum lease payments under capitalized lease obligations as of December 31, 2000 are as follows: <TABLE> <CAPTION> (IN THOUSANDS) <S> <C> Total minimum lease payments, all 2001 ...... $ 56 Less - amount representing interest ......... (3) Less - current portion ...................... (53) -------- $ 0 ======== </TABLE> OPERATING LEASES The Company has various operating leases for automobiles, equipment, and office and production space (Note 16). Lease expense under operating leases was approximately $5,155,000, $4,926,000 and $4,822,000 for the years ended December 31, 2000, 1999 and 1998, respectively. The future minimum rental payments required under noncancelable operating leases as of December 31, 2000 are as follows: <TABLE> <CAPTION> (IN THOUSANDS) <S> <C> 2001 .................... $ 5,556 2002 .................... 4,980 2003 .................... 4,017 2004 .................... 3,525 2005 .................... 3,200 Thereafter .............. 18,156 ---------- $ 39,434 ========== </TABLE> 66
67 GUARANTEE On April 12, 2000, the Company committed to a lease guarantee of approximately $1,000,000 through April 12, 2005, to a private company. The Company received 25,000 shares of the private company's common stock, which is valued at approximately $4,000 and is reflected on the Company's balance sheet in investments. (15) FOREIGN OPERATIONS The Company operates in a single operating segment with operations in the U.S., Asia and Europe. The following is a summary of the Company's foreign operations: <TABLE> <CAPTION> YEARS ENDED DECEMBER 31, -------------------------------------- 2000 1999 1998 ---------- ---------- ---------- (IN THOUSANDS) <S> <C> <C> <C> Sales: Originating in Japan to unaffiliated customers ........... $ 32,404 $ 16,270 $ 6,300 Originating in Europe to unaffiliated customers .......... 24,375 12,724 8,489 Originating in U.S. and sold to foreign customers ........ 35,504 23,996 21,188 Originating in U.S. and sold to domestic customers ....... 260,596 148,424 98,042 Originating in South Korea to unaffiliated customers ..... 2,989 1,435 -- Originating in Taiwan to unaffiliated customers .......... 3,914 -- -- Transfers between geographic areas ....................... 48,963 24,053 10,304 Intercompany eliminations ................................ (48,963) (24,053) (10,304) ---------- ---------- ---------- $ 359,782 $ 202,849 $ 134,019 ========== ========== ========== Income (loss) from operations: Japan .................................................... $ 6,533 $ 1,758 $ (1,505) Europe ................................................... 3,805 2,379 1,722 U.S ...................................................... 73,508 25,390 (14,944) South Korea .............................................. 751 188 (186) Taiwan ................................................... 594 -- -- Intercompany eliminations ................................ 9 (389) 165 ---------- ---------- ---------- $ 85,200 $ 29,326 $ (14,748) ========== ========== ========== Identifiable assets: Japan .................................................... $ 21,567 $ 13,967 Europe ................................................... 19,263 11,950 U.S ...................................................... 387,953 345,431 South Korea .............................................. 2,609 1,393 Taiwan ................................................... 5,105 -- Intercompany eliminations ................................ (70,662) (47,308) ---------- ---------- $ 365,835 $ 325,433 ========== ========== </TABLE> Intercompany sales among the Company's geographic areas are recorded on the basis of intercompany prices established by the Company. (16) RELATED PARTY TRANSACTIONS The Company leases office and production spaces from a limited liability partnership consisting of certain officers of the Company and other individuals. The leases relating to these spaces expire in 2009 and 2011 with monthly payments of approximately $52,000 and $60,000, respectively. The Company also leases other office and production space from another limited liability partnership consisting of certain officers of the Company and other individuals. The lease relating to this space expires in 2002 with a monthly payment of approximately $28,000. Approximately $1,637,000, $1,693,000 and $1,359,000 were charged to rent expense attributable to these leases for the years ended December 31, 2000, 1999 and 1998, respectively. The Company also leases office and production space from a shareholder. Approximately $228,000, $197,000 and $199,000 were charged to rent expense attributable to this lease for the years ended 67
68 December 31, 2000, 1999 and 1998, respectively. The Company leases, for business purposes, a condominium owned by a partnership of certain stockholders. The Company paid the partnership approximately $36,000 for each of the years ended December 31, 2000, 1999 and 1998, relating to this lease. During 1999 a shareholder of Sekidenko granted employees options under a preexisting arrangement to purchase shares of his common stock already outstanding at exercise prices below fair market value. Under this agreement, 29,700 and 34,250 of such options were exercised in 1999 and 2000, respectively. These options will result in the Company recognizing $109,000 as compensation expense over the four-year vesting period related to the 1999 purchases, and $1,995,000 as compensation expense over the four-year vesting period related to the 2000 purchases. Compensation expense of $23,000 and $461,000 was recognized in 1999 and 2000, respectively. In prior years, certain stockholders of the Company exercised options to purchase shares of the Company's common stock in exchange for notes receivable in the amount of the exercise price. These notes receivable and accrued interest have been paid in full. The Company has an unsecured note payable to a stockholder of $356,000, less current portion of $45,000, with interest at 7%, due November 1, 2002. The note is payable in installments of principal and interest of $135,000 in 2001 and $306,000 in 2002. The Company has a note payable to a stockholder of $163,000, less current portion of $107,000, with interest at 5%, due January 2002. The note is payable in installments of principal and interest due semi-annually on January 13th and July 13th. (17) MAJOR CUSTOMERS The Company has a major customer (sales in excess of 10% of total sales) that is a manufacturer of semiconductor capital equipment. Sales to this customer accounted for the following percentages of sales for the years ended December 31, 2000, 1999 and 1998: <TABLE> <CAPTION> DECEMBER 31, -------------------- 2000 1999 1998 ---- ---- ---- <S> <C> <C> <C> Customer A .............. 39% 34% 24% ==== ==== ==== </TABLE> (18) FORWARD CONTRACTS AE-Japan enters into foreign currency forward contracts to buy U.S. dollars to offset foreign currency risk for trade purchases payable and intercompany transactions with its parent. Foreign currency forward contracts reduce the Company's exposure to the risk that the eventual net cash outflows resulting from the purchase of products denominated in other currencies will be adversely affected by changes in exchange rates. Foreign currency forward contracts are entered into with a major commercial Japanese bank that has a high credit rating and the Company does not expect the counterparty to fail to meet its obligations under outstanding contracts. Foreign currency gains and losses under the above arrangements are not deferred. The Company generally enters into foreign currency forward contracts with maturities ranging from one to eight months, with contracts outstanding at December 31, 2000, maturing through August 2001. All forward contracts are held until maturity. At December 31, 2000, the Company held foreign forward exchange contracts with nominal amounts of $11,500,000 and market settlement amounts of $10,674,000 for an unrealized gain position of $826,000 that has been included in other income and expense in the accompanying statement of operations. 68
69 (19) STOCK PLANS EMPLOYEE STOCK OPTION PLAN -- During 1993 the Company adopted an Employee Stock Option Plan (the "Employee Option Plan") which was amended and restated in September 1995, February 1998, February 1999 and December 2000. The Employee Option Plan allows issuance of incentive stock options, non-qualified options, and stock purchase rights. The exercise price of incentive stock options shall not be less than 100% of the stock's fair market value on the date of grant. The exercise price of non-qualified stock options shall not be less than 85% of the stock's fair market value on the date of grant. Options issued in 2000, 1999 and 1998 were issued at 100% of fair market value with typical vesting over three to four years. Under the Employee Option Plan, the Company has the discretion to accelerate the vesting period. The options are exercisable for ten years from the date of grant. The Company has reserved 5,625,000 shares of common stock for the issuance of stock under the Employee Option Plan, which terminates in June 2003. In connection with the grant of certain stock options in the second quarter of 1995, the Company recorded $142,000 of deferred compensation for the difference between the deemed fair value for accounting purposes and the option price as determined by the Company at the date of grant. This amount was presented as a reduction of stockholders' equity and was amortized over the three-year vesting period of the related stock options. In connection with the grant of certain stock options in the third quarter of 1999, the Company recorded $109,000 of deferred compensation for the difference between the deemed fair value for accounting purposes and the option price as determined by the Company at the date of grant. In connection with the grant of certain stock options in 2000, the Company recorded $950,000 and $1,045,000 of deferred compensation in the first and second quarters of 2000, respectively. These amounts also reflected the difference between the deemed fair value for accounting purposes and the option price as determined by the Company at the dates of grant. These amounts are presented as a reduction of stockholders' equity, and are being amortized over the four-year vesting period of the related stock options. EMPLOYEE STOCK PURCHASE PLAN -- In September 1995 stockholders approved an Employee Stock Purchase Plan (the "Stock Purchase Plan") covering an aggregate of 200,000 shares of common stock. Employees are eligible to participate in the Stock Purchase Plan if employed by the Company for at least 20 hours per week during at least five months per calendar year. Participating employees may have up to 15% (subject to a 5% limitation set by the Company) of their earnings or a maximum of $1,250 per six month period withheld pursuant to the Stock Purchase Plan. Common stock purchased under the Stock Purchase Plan will be equal to 85% of the lower of the fair market value on the commencement date of each offering period or the relevant purchase date. During 2000, 1999 and 1998, employees purchased an aggregate of 13,025, 22,390 and 20,264 shares under the Stock Purchase Plan, respectively. NON-EMPLOYEE DIRECTORS STOCK OPTION PLAN -- In September 1995 the Company adopted the 1995 Non-Employee Directors Stock Option Plan (the "Directors Plan") covering 50,000 shares of common stock. In February 1999 the plan was amended to increase the number of shares of common stock issuable under such plan to 100,000 shares of common stock. The Directors Plan provides for automatic grants of non-qualified stock options to directors of the Company who are not employees of the Company ("Outside Directors"). Pursuant to the Directors Plan, upon becoming a director of the Company, each Outside Director will be granted an option to purchase 7,500 shares of common stock. Such options will be immediately exercisable as to 2,500 shares of common stock, and will vest as to 2,500 shares of common stock on each of the second and third anniversaries of the grant date. On each anniversary of the date on which a person became an Outside Director, an option for an additional 2,500 shares is granted. Such additional options vest on the third anniversary of the date of grant. Options will expire ten years after the grant date, and the exercise price of the options will be equal to the fair market value of the common stock on the grant date. The Directors Plan terminates September 2005. 69
70 The following summarizes the activity relating to options for the years ended December 31, 2000, 1999 and 1998: <TABLE> <CAPTION> 2000 1999 1998 ------------------------------- ------------------------------- ------------------------------ (in thousands, except shares prices) Weighted- Weighted- Weighted- Average Average Average Exercise Exercise Exercise Shares Price Shares Price Shares Price -------------- -------------- -------------- -------------- -------------- -------------- <S> <C> <C> <C> <C> <C> <C> Stock options: Incentive stock options -- Options outstanding at beginning of period ......... 1,850 $ 13.90 1,987 $ 9.01 1,475 $ 7.02 Granted ...................... 461 44.45 417 30.31 937 10.23 Exercised .................... (488) 9.12 (487) 8.44 (219) 3.35 Terminated ................... (104) 19.26 (67) 10.44 (206) 6.35 -------------- -------------- -------------- Options outstanding at end of period ............... 1,719 23.29 1,850 13.90 1,987 9.01 ============== ============== ============== Options exercisable at end of period ............... 689 14.09 801 9.10 651 6.89 ============== ============== ============== Weighted-average fair value of options granted during the period ...................... $ 32.75 $ 18.78 $ 6.71 ============== ============== ============== Price range of outstanding options ......... $0.67 - $60.75 $ 0.67 -$44.97 $0.67 - $31.63 ============== ============== ============== Price range of options terminated .................. $0.83 - $43.69 $3.88- $28.16 $0.83 - $12.75 ============== ============== ============== Non-employee directors stock options-- Options outstanding at beginning of period 55 $ 18.34 40 $ 12.18 20 $ 14.67 Granted ...................... 20 46.48 18 32.94 20 7.55 Exercised .................... -- -- (3) 11.05 -- -- Terminated ................... -- -- -- -- -- -- -------------- -------------- Options outstanding at end of period ............... 75 26.31 55 18.34 40 12.18 ============== ============== ============== Options exercisable at end of period ............... 32 18.65 22 17.27 15 11.40 ============== ============== ============== Weighted-average fair value of options granted during the period ...................... $ 30.83 $ 20.11 $ 4.93 ============== ============== ============== Price range of outstanding options ......... $6.13 - $64.94 $6.13 - $36.94 $8.63 - $29.88 ============== ============== ============== Price range of options terminated .................. $ -- $ -- $ -- ============== ============== ============== </TABLE> Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS No. 123"), defines a fair value based method of accounting for employee stock options or similar equity instruments. However, SFAS No. 123 allows the continued measurement of compensation cost for such plans using the intrinsic value based method prescribed by APB Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB No. 25"), provided that pro forma disclosures are made of net income or loss and net income or loss per share, assuming the fair value based method of SFAS No. 123 had been applied. The Company has elected to account for stock-based compensation plans under APB No. 25, under which compensation expense, if any, is recognized based on the intrinsic value of stock options and other stock awards, generally measured at the date of grant. For SFAS No. 123 purposes, the fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted-average assumptions: <TABLE> <CAPTION> 2000 1999 1998 ------- ------- ------- <S> <C> <C> <C> Risk-free interest rates 6.06% 5.92% 5.06% Expected dividend yield rates 0.0% 0.0% 0.0% Expected lives 4 years 4 years 4 years Expected volatility 103.69% 77.33% 87.48% </TABLE> The total fair value of options granted was computed to be approximately $15,719,000, $8,192,000 and $6,056,000 for the years ended December 31, 2000, 1999 and 1998, respectively. These amounts are amortized ratably over the vesting period of the options. Cumulative compensation cost recognized in pro forma net income or loss with respect to options that are forfeited prior to vesting is adjusted as a reduction of pro forma compensation expense in the period of forfeiture. Pro forma stock-based compensation, net of the effect of forfeitures and tax, was approximately $4,554,000, $2,999,000 and $2,033,000 for 2000, 1999 70
71 and 1998, respectively. Had compensation cost for these plans been determined consistent with SFAS No. 123, the Company's net income (loss) would have been reduced (increased) to the following pro forma amounts: <TABLE> <CAPTION> 2000 1999 1998 ------------ ------------ ------------ (IN THOUSANDS, EXCEPT PER SHARE DATA) <S> <C> <C> <C> Net Income (Loss): As reported ........................ $ 68,034 $ 19,066 $ (11,025) Pro forma .......................... 63,480 16,067 (13,058) Diluted Earnings (Loss) Per Share: As reported ........................ $ 2.10 $ 0.62 $ (0.38) Pro forma .......................... 1.96 0.52 (0.45) </TABLE> Because the SFAS No. 123 method of accounting has not been applied to options granted prior to January 1, 1995, the resulting pro forma compensation cost may not be representative of that to be expected in future years. The following table summarizes information about the stock options outstanding at December 31, 2000: <TABLE> <CAPTION> Options Outstanding Options Exercisable --------------------------- -------------------------- Weighted- Average Weighted- Weighted- Remaining Average Average Range of Number Contractual Exercise Number Exercise Exercise Prices Outstanding Life Price Exercisable Price ------------------ ----------- ----------- --------- ----------- ----------- <S> <C> <C> <C> <C> <C> $ 0.67 to $ 2.57 17,000 2.8 years $ 1.19 17,000 $ 1.19 $ 3.11 to $ 6.75 200,000 6.9 years $ 5.68 106,000 $ 4.91 $ 7.13 to $ 9.00 308,000 6.6 years $ 8.19 154,000 $ 8.37 $11.05 to $ 16.52 391,000 6.8 years $ 13.18 279,000 $ 12.94 $17.32 to $ 26.63 90,000 8.7 years $ 20.47 42,000 $ 19.86 $28.16 to $ 40.00 326,000 8.4 years $ 29.94 98,000 $ 29.25 $43.69 to $ 64.94 462,000 9.1 years $ 47.08 25,000 $ 47.17 ---------- ----------- ------- -------- ------- 1,794,000 7.7 years $ 23.51 721,000 $ 14.29 ========== =========== ======= ======== ======= </TABLE> (20) SUBSEQUENT EVENTS ENGINEERING MEASUREMENTS CO.-- On July 6, 2000, the Company entered into a definitive agreement to acquire Engineering Measurements Company ("EMCO"), a Longmont, Colorado-based company which manufactures electronic and electromechanical precision instruments for measuring and controlling the flow of liquids, steam and gases, for 900,000 shares of the Company's common stock. The Company and EMCO renegotiated the agreement as of October 20, 2000 to change the consideration from stock to cash. Completion of the merger was subject to approval by EMCO's shareholders and certain other conditions. On January 2, 2001, the merger was completed, and the Company paid the EMCO shareholders cash in an aggregate amount of approximately $30 million, which included the exercise prices paid in cash by EMCO option holders on exercise of any EMCO stock options after October 20, 2000 and before the completion of the merger. Options not exercised before the completion of the merger were converted into options to acquire the Company's common stock. The acquisition will be accounted for using the purchase method of accounting. 71
72 (21) QUARTERLY FINANCIAL DATA The following table presents unaudited quarterly financial data for each of the eight quarters in the period ended December 31, 2000. The quarters ended March 31, 1999 through June 30, 2000 have been restated to include the combined selected financial data of Noah and Sekidenko as though each had always been part of the Company. The Company believes that all necessary adjustments have been included in the amounts stated below to present fairly such quarterly information. The operating results for any quarter are not necessarily indicative of results for any subsequent period. <TABLE> <CAPTION> QUARTERS ENDED ------------------------------------------------------------------------------------- MAR. 31, JUNE 30, SEPT. 30, DEC. 31, MAR. 31, JUNE 30, SEPT. 30, DEC. 31, 1999 1999 1999 1999 2000 2000 2000 2000 -------- -------- -------- -------- -------- -------- -------- -------- (IN THOUSANDS, EXCEPT PER SHARE DATA) <S> <C> <C> <C> <C> <C> <C> <C> <C> Sales ...................................... $ 36,419 $ 45,363 $ 55,626 $ 65,441 $ 75,028 $ 85,701 $ 96,317 $102,736 Gross profit ............................... 15,232 20,270 24,951 31,749 36,667 42,363 46,825 50,598 Income from operations ..................... 2,262 5,354 8,714 12,996 17,048 20,343 20,884 26,925 Net income before extraordinary item ....... 1,231 3,290 6,090 8,455 11,238 13,118 16,289 19,779 Extraordinary item (net of income taxes) ... -- -- -- -- -- -- -- 7,610 Net income ................................. $ 1,231 $ 3,290 $ 6,090 $ 8,455 $ 11,238 $ 13,118 $ 16,289 $ 27,389 ======== ======== ======== ======== ======== ======== ======== ======== Diluted earnings per share before extraordinary item ....................... $ 0.04 $ 0.11 $ 0.20 $ 0.27 $ 0.35 $ 0.40 $ 0.50 $ 0.61 ======== ======== ======== ======== ======== ======== ======== ======== Diluted earnings per share from extraordinary item ....................... $ -- $ -- $ -- $ -- $ -- $ -- $ -- $ 0.22 ======== ======== ======== ======== ======== ======== ======== ======== Diluted earnings per share ................. $ 0.04 $ 0.11 $ 0.20 $ 0.27 $ 0.35 $ 0.40 $ 0.50 $ 0.83 ======== ======== ======== ======== ======== ======== ======== ======== </TABLE> The following table presents unaudited quarterly financial data for the quarters ended March 31, 1999 through June 30, 2000, retroactively combining the selected financial data of Noah and Sekidenko for the periods prior to the periods in which each was merged with the Company. <TABLE> <CAPTION> QUARTERS ENDED -------------------------------------------------------------------------------- MAR. 31, JUNE 30, SEPT. 30, DEC. 31, MAR. 31, JUNE 30, SEPT. 30, DEC. 31, 1999 1999 1999 1999 2000 2000 2000 2000 -------- -------- -------- -------- ------- -------- --------- -------- (IN THOUSANDS, EXCEPT PER SHARE DATA) <S> <C> <C> <C> <C> <C> <C> <C> <C> Sales ...................................... $ 3,691 $ 3,848 $ 4,484 $ 6,868 $ 7,857 $ 5,115 $ -- $ -- Gross profit ............................... 2,134 1,977 2,407 3,827 4,493 3,024 -- -- Income from operations ..................... 1,191 886 1,007 901 2,179 1,809 -- -- Net income before extraordinary item ....... 697 520 555 456 1,242 1,088 -- -- Extraordinary item (net of income taxes) ... -- -- -- -- -- -- -- -- Net income ................................. $ 697 $ 520 $ 555 $ 456 $ 1,242 $ 1,088 $ -- $ -- ======= ======= ======= ======= ======= ======= ====== ===== Diluted earnings per share before extraordinary item ....................... $ 0.02 $ 0.01 $ -- $ (0.01) $ 0.01 $ -- $ -- $ -- ======= ======= ======= ======= ======= ======= ====== ===== Diluted earnings per share from extraordinary item ....................... $ -- $ -- $ -- $ -- $ -- $ -- $ -- $ -- ======= ======= ======= ======= ======= ======= ====== ===== Diluted earnings per share ................. $ 0.02 $ 0.01 $ -- $ (0.01) $ 0.01 $ -- $ -- $ -- ======= ======= ======= ======= ======= ======= ====== ===== </TABLE> The following table presents unaudited quarterly financial data for the Company for each of the eight quarters in the period ended December 31, 2000, as each period had been originally presented in quarterly financial statements as reported on Forms 10-Q for the quarterly periods ended March 31, 1999, June 30, 1999, September 30, 1999, March 31, 2000 and June 30, 2000, and on Form 10-K for the quarterly period ended December 31, 1999. The quarterly period ended September 30, 2000 reflects the same financial data as previously reported on the Company's Form 10-Q for that period, and the quarterly period ended December 31, 2000 reflects the same financial data as reported in the Management's Discussion and Analysis of Financial Condition and Results of Operations elsewhere in this document. 72
73 <TABLE> <CAPTION> QUARTERS ENDED ------------------------------------------------------------------------------------- MAR. 31, JUNE 30, SEPT. 30, DEC. 31, MAR. 31, JUNE 30, SEPT. 30, DEC. 31, 1999 1999 1999 1999 2000 2000 2000 2000 -------- -------- --------- -------- -------- -------- --------- -------- (IN THOUSANDS, EXCEPT PER SHARE DATA) <S> <C> <C> <C> <C> <C> <C> <C> <C> Sales ..................................... $ 32,728 $ 41,515 $ 51,142 $ 58,573 $ 67,171 $ 80,586 $ 96,317 $102,736 Gross profit .............................. 13,098 18,293 22,544 27,922 32,174 39,339 46,825 50,598 Income from operations .................... 1,071 4,468 7,707 12,095 14,869 18,534 20,884 26,925 Net income before extraordinary item ...... 534 2,770 5,535 7,999 9,996 12,030 16,289 19,779 Extraordinary item (net of income taxes) .. -- -- -- -- -- -- -- 7,610 Net income ................................ $ 534 $ 2,770 $ 5,535 $ 7,999 $ 9,996 $ 12,030 $ 16,289 $ 27,389 ======== ======== ======== ======== ======== ======== ======== ======== Diluted earnings per share before extraordinary item ...................... $ 0.02 $ 0.10 $ 0.20 $ 0.28 $ 0.34 $ 0.40 $ 0.50 $ 0.61 ======== ======== ======== ======== ======== ======== ======== ======== Diluted earnings per share from extraordinary item ...................... $ -- $ -- $ -- $ -- $ -- $ -- $ -- $ 0.22 ======== ======== ======== ======== ======== ======== ======== ======== Diluted earnings per share ................ $ 0.02 $ 0.10 $ 0.20 $ 0.28 $ 0.34 $ 0.40 $ 0.50 $ 0.83 ======== ======== ======== ======== ======== ======== ======== ======== </TABLE> ADVANCED ENERGY INDUSTRIES, INC. AND SUBSIDIARIES SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS <TABLE> <CAPTION> BALANCE AT BEGINNING OF ADDITIONS CHARGED BALANCE AT PERIOD TO EXPENSE DEDUCTIONS END OF PERIOD -------------- ----------------- -------------- -------------- (IN THOUSANDS) <S> <C> <C> <C> <C> Year ended December 31, 1998: Inventory obsolescence reserve ........... $ 3,281 $ 6,712 $ 7,367 $ 2,626 Allowance for doubtful accounts .......... 587 229 194 622 -------------- -------------- -------------- -------------- $ 3,868 $ 6,941 $ 7,561 $ 3,248 ============== ============== ============== ============== Year ended December 31, 1999: Inventory obsolescence reserve ........... $ 2,626 $ 5,254 $ 5,576 $ 2,304 Allowance for doubtful accounts .......... 622 101 84 639 -------------- -------------- -------------- -------------- $ 3,248 $ 5,355 $ 5,660 $ 2,943 ============== ============== ============== ============== Year ended December 31, 2000: Inventory obsolescence reserve ........... $ 2,304 $ 1,437 $ 1,488 $ 2,253 Allowance for doubtful accounts .......... 639 145 -- 784 -------------- -------------- -------------- -------------- $ 2,943 $ 1,582 $ 1,488 $ 3,037 ============== ============== ============== ============== </TABLE> ITEM 9. DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURES Not applicable. 73
74 PART III In accordance with General Instruction G(3) of Form 10-K, the information required by this Part III is incorporated by reference to the Advanced Energy's definitive proxy statement relating to its 2001 Annual Meeting of Stockholders (the "Proxy Statement"), as set forth below. The Proxy Statement will be filed with the Securities and Exchange Commission within 120 days after the end of 2000. ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The information set forth in the Proxy Statement under the captions "Proposal 1/ Election of Directors--Nominees" and "Section 16(a) Beneficial Ownership Reporting Compliance" and in Part I of this Form 10-K under the caption "Executive Officers of the Company" is incorporated herein by reference. ITEM 11. EXECUTIVE COMPENSATION The information set forth in the Proxy Statement under the caption "Executive Compensation" is incorporated herein by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The information set forth in the Proxy Statement under the caption "Common Stock Ownership by Management and Other Stockholders" is incorporated herein by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The information set forth in the Proxy Statement under the caption "Certain Transactions with Management" is incorporated herein by reference. 74
75 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K <TABLE> <CAPTION> page ---- <S> <C> (a)(i) Financial Statements: Report of Independent Public Accountants 51 Consolidated Financial Statements: Balance Sheets at December 31, 2000 and 1999 52 Statement of Operations for each of the three years in the period ended December 31, 2000 54 Statement of Stockholders' Equity for each of the three years in the period ended December 31, 2000 55 Statement of Cash Flows for each of the three years in the period ended December 31, 2000 56 Notes to Consolidated Financial Statements 57 (ii) Financial Statement Schedules for each of the three years in the period ended December 31, 2000 Schedule II--Valuation and Qualifying Accounts 73 (iii) Exhibits: 2.1 Agreement and Plan of Reorganization, dated as of June 1, 1998, by and among the Company, Warpspeed, Inc., a wholly owned subsidiary of the Company, and RF Power Products, Inc.(1) 3.1 The Company's Restated Certificate of Incorporation, as amended(2) 3.2 The Company's By-laws(3) 4.1 Form of Specimen Certificate for the Company's Common Stock(3) 4.2 Indenture dated November 1, 1999 between State Street Bank and Trust Company of California, N.A., as trustee, and the Company (including form of 5 1/4% Convertible Subordinated Note due 2006)(4) 4.3 The Company hereby agrees to furnish to the SEC, upon request, a copy of the instruments which define the rights of holders of long-term debt of the Company. None of such instruments not included as exhibits herein represents long-term debt in excess of 10% of the consolidated total assets of the Company. 10.1 Comprehensive Supplier Agreement, dated May 18, 1998, between Applied Materials Inc. and the Company(1)+ 10.2 Purchase Order and Sales Agreement, dated October 12, 1999, between Lam Research Corporation and the Company(4) 10.3 Purchase Agreement, dated November 1, 1995, between Eaton Corporation and the Company(5)+ 10.4 Loan and Security Agreement, dated August 15, 1997, among Silicon Valley Bank, Bank of Hawaii and the Company(6) 10.5 Loan Agreement dated December 8, 1997, by and among Silicon Valley Bank, as Servicing Agent and a Bank, and Bank of Hawaii, as a Bank, and the Company, as borrower(7) 10.6 Lease, dated June 12, 1984, amended June 11, 1992, between Prospect Park East Partnership and the Company for property in Fort Collins, Colorado(3) 10.7 Lease, dated March 14, 1994, as amended, between Sharp Point Properties, L.L.C., and the Company for property in Fort Collins, Colorado(3) </TABLE> 75
76 10.8 Lease, dated May 19, 1995, between Sharp Point Properties, L.L.C. and the Company for a building in Fort Collins, Colorado(3) 10.9 Lease agreement, dated March 18, 1996, and amendments dated June 21, 1996 and August 30, 1996, between RF Power Products, Inc., and Laurel Oak Road, L.L.C. for property in Voorhees, New Jersey(8) 10.10 Form of Indemnification Agreement(3) 10.11 Employment Agreement, dated June 1, 1998, between RF Power Products, Inc., and Joseph Stach(9) 10.12 1995 Stock Option Plan, as amended and restated* 10.13 1995 Non-Employee Directors' Stock Option Plan, as amended and restated(9)* 10.14 License Agreement, dated May 13, 1992 between RF Power Products and Plasma-Therm, Inc.(10) 10.15 Lease Agreement dated March 18, 1996 and amendments dated June 21, 1996 and August 30, 1996 between RF Power Products, Inc. and Laurel Oak Road, L.L.C. for office, manufacturing and warehouse space at 1007 Laurel Oak Road, Voorhees, New Jersey(8) 10.16 Direct Loan Agreement dated December 20, 1996 between RF Power Products, Inc. and the New Jersey Economic Development Authority(8) 10.17 Lease, dated April 15, 1998, between Cross Park Investors, Ltd., and the Company for property in Austin, Texas(1) 10.18 Lease, dated April 15, 1998, between Cameron Technology Investors, Ltd., and the Company for property in Austin, Texas(1) 10.19 Lease dated March 20, 2000, between Sharp Point Properties, L.L.C. and the Company for a building in Fort Collins, Colorado 10.20 Agreement and Plan of Reorganization, dated April 5, 2000, between the Registrant, Noah Holdings, Inc. and AE Cal Merger Sub, Inc.(11) 10.21 Escrow and Indemnity Agreement, dated April 5, 2000, between the Registrant, the former stockholders of Noah Holdings, Inc. and Commercial Escrow Services, Inc.(11) 10.22 Agreement and Plan of Reorganization, dated July 21, 2000, by and among the Company, Mercury Merger Corporation, a wholly owned subsidiary of the Company, Sekidenko, Inc. and Dr. Ray R. Dils.(12) 10.23 Agreement and Plan of Reorganization, dated July 6, 2000, amended and restated as of October 20, 2000, by and among the Company, Flow Acquisition Corporation, a wholly owned subsidiary of the Company, and Engineering Measurements Company(13) 21.1 Subsidiaries of the Company 23.1 Consent of Arthur Andersen LLP, Independent Accountants 24.1 Power of Attorney (included on the signature pages to this Annual Report on Form 10-K) (b) The Company filed a report on Form 8-K on December 1, 2000. The report contains a summary description of the Company's repurchase in the open market of a portion of its convertible subordinated notes and that such purchased notes have been cancelled. - ---------- 76
77 (1) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1998 (File No. 000-26966), filed August 7, 1998. (2) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1999 (File No. 000-26966), filed July 28, 1999. (3) Incorporated by reference to the Company's Registration Statement on Form S-1 (File No. 33-97188), filed September 20, 1995, as amended. (4) Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1999 (File No. 000-26966). (5) Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1995 (File No. 000-26966), filed March 28, 1996, as amended. (6) Incorporated by reference to the Company's Registration Statement on Form S-3 (File No. 333-34039), filed August 21, 1997, as amended. (7) Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1997 (File No. 000-26966), filed March 24, 1998. (8) Incorporated by reference to RF Power Products' Annual Report on Form 10-K for the fiscal year ended November 30, 1996 (File No. 0-20229), filed February 25, 1997. (9) Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1998 (File No. 000-26966), filed March 24, 1999. (10) Incorporated by reference to RF Power Products' Registration Statement on Form 10 (File No. 0-020229), filed May 19, 1992 as amended. (11) Incorporated by reference to the Company's Registration Statement on Form S-3 (File No. 333-37378), filed May 19, 2000. (12) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 2000 (File No. 000-26966), filed August 4, 2000. (13) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 2000 (File No. 000-26966), filed October 30, 2000. * Compensation Plan + Confidential treatment has been granted for portions of this agreement. 77
78 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. ADVANCED ENERGY INDUSTRIES, INC. ------------------------------------------------- (Registrant) /s/ Douglas S. Schatz ------------------------------------------------- Douglas S. Schatz Chief Executive Officer, President and Chairman of the Board Each person whose signature appears below hereby appoints Douglas S. Schatz and Richard P. Beck, and each of them severally, acting alone and without the other, his true and lawful attorney-in-fact with authority to execute in the name of each such person, and to file with the Securities and Exchange Commission, together with any exhibits thereto and other documents therewith, any and all amendments to this Annual Report on Form 10-K necessary or advisable to enable the registrant to comply with the Securities Exchange Act of 1934, as amended, and any rules, regulations and requirements of the Securities and Exchange Commission in respect thereof, which amendments may make such other changes in the Annual Report on Form 10-K as the aforesaid attorney-in-fact deems appropriate. Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. <TABLE> <S> <C> <C> Signatures Title Date /s/ Douglas S. Schatz Chief Executive Officer, President and March 27, 2001 - -------------------------- Chairman of the Board Douglas S. Schatz (Principal Executive Officer) /s/ Richard P. Beck Senior Vice President, Chief Financial March 27, 2001 - -------------------------- Officer, Assistant Secretary and Richard P. Beck Director (Principal Financial Officer and Principal Accounting Officer) /s/ G. Brent Backman Director March 27, 2001 - -------------------------- G. Brent Backman /s/ Trung Doan Director March 27, 2001 - -------------------------- Trung Doan /s/ Arthur A. Noeth Director March 27, 2001 - -------------------------- Arthur A. Noeth /s/ Elwood Spedden Director March 27, 2001 - -------------------------- Elwood Spedden /s/ Gerald Starek Director March 27, 2001 - -------------------------- Gerald Starek /s/ Arthur W. Zafiropoulo Director March 27, 2001 - -------------------------- Arthur W. Zafiropoulo </TABLE> 78
79 INDEX TO EXHIBITS <TABLE> <CAPTION> EXHIBIT NUMBER DESCRIPTION - ------- ----------- <S> <C> 2.1 Agreement and Plan of Reorganization, dated as of June 1, 1998, by and among the Company, Warpspeed, Inc., a wholly owned subsidiary of the Company, and RF Power Products, Inc.(1) 3.1 The Company's Restated Certificate of Incorporation, as amended(2) 3.2 The Company's By-laws(3) 4.1 Form of Specimen Certificate for the Company's Common Stock(3) 4.2 Indenture dated November 1, 1999 between State Street Bank and Trust Company of California, N.A., as trustee, and the Company (including form of 5 1/4% Convertible Subordinated Note due 2006)(4) 4.3 The Company hereby agrees to furnish to the SEC, upon request, a copy of the instruments which define the rights of holders of long-term debt of the Company. None of such instruments not included as exhibits herein represents long-term debt in excess of 10% of the consolidated total assets of the Company. 10.1 Comprehensive Supplier Agreement, dated May 18, 1998, between Applied Materials Inc. and the Company(1)+ 10.2 Purchase Order and Sales Agreement, dated October 12, 1999, between Lam Research Corporation and the Company(4) 10.3 Purchase Agreement, dated November 1, 1995, between Eaton Corporation and the Company(5)+ 10.4 Loan and Security Agreement, dated August 15, 1997, among Silicon Valley Bank, Bank of Hawaii and the Company(6) 10.5 Loan Agreement dated December 8, 1997, by and among Silicon Valley Bank, as Servicing Agent and a Bank, and Bank of Hawaii, as a Bank, and the Company, as borrower(7) 10.6 Lease, dated June 12, 1984, amended June 11, 1992, between Prospect Park East Partnership and the Company for property in Fort Collins, Colorado(3) 10.7 Lease, dated March 14, 1994, as amended, between Sharp Point Properties, L.L.C., and the Company for property in Fort Collins, Colorado(3) 10.8 Lease, dated May 19, 1995, between Sharp Point Properties, L.L.C. and the Company for a building in Fort Collins, Colorado(3) 10.9 Lease agreement, dated March 18, 1996, and amendments dated June 21, 1996 and August 30, 1996, between RF Power Products, Inc., and Laurel Oak Road, L.L.C. for property in Voorhees, New Jersey(8) 10.10 Form of Indemnification Agreement(3) 10.11 Employment Agreement, dated June 1, 1998, between RF Power Products, Inc., and Joseph Stach(9) 10.12 1995 Stock Option Plan, as amended and restated* 10.13 1995 Non-Employee Directors' Stock Option Plan, as amended and restated(9)* 10.14 License Agreement, dated May 13, 1992 between RF Power Products and Plasma-Therm, Inc.(10) </TABLE> 79
80 <TABLE> <S> <C> 10.15 Lease Agreement dated March 18, 1996 and amendments dated June 21, 1996 and August 30, 1996 between RF Power Products, Inc. and Laurel Oak Road, L.L.C. for office, manufacturing and warehouse space at 1007 Laurel Oak Road, Voorhees, New Jersey(8) 10.16 Direct Loan Agreement dated December 20, 1996 between RF Power Products, Inc. and the New Jersey Economic Development Authority(8) 10.17 Lease, dated April 15, 1998, between Cross Park Investors, Ltd., and the Company for property in Austin, Texas(1) 10.18 Lease, dated April 15, 1998, between Cameron Technology Investors, Ltd., and the Company for property in Austin, Texas(1) 10.19 Lease dated March 20, 2000, between Sharp Point Properties, L.L.C. and the Company for a building in Fort Collins, Colorado 10.20 Agreement and Plan of Reorganization, dated April 5, 2000, between the Registrant, Noah Holdings, Inc. and AE Cal Merger Sub, Inc.(11) 10.21 Escrow and Indemnity Agreement, dated April 5, 2000, between the Registrant, the former stockholders of Noah Holdings, Inc. and Commercial Escrow Services, Inc.(11) 10.22 Agreement and Plan of Reorganization, dated July 21, 2000, by and among the Company, Mercury Merger Corporation, a wholly owned subsidiary of the Company, Sekidenko, Inc. and Dr. Ray R. Dils.(12) 10.23 Agreement and Plan of Reorganization, dated July 6, 2000, amended and restated as of October 20, 2000, by and among the Company, Flow Acquisition Corporation, a wholly owned subsidiary of the Company, and Engineering Measurements Company(13) 21.1 Subsidiaries of the Company 23.1 Consent of Arthur Andersen LLP, Independent Accountants 24.1 Power of Attorney (included on the signature pages to this Annual Report on Form 10-K) </TABLE> - ---------- (1) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1998 (File No. 000-26966), filed August 7, 1998. (2) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1999 (File No. 000-26966), filed July 28, 1999. (3) Incorporated by reference to the Company's Registration Statement on Form S-1 (File No. 33-97188), filed September 20, 1995, as amended. (4) Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1999 (File No. 000-26966). (5) Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1995 (File No. 000-26966), filed March 28, 1996, as amended. (6) Incorporated by reference to the Company's Registration Statement on Form S-3 (File No. 333-34039), filed August 21, 1997, as amended. (7) Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1997 (File No. 000-26966), filed March 24, 1998. 80
81 (8) Incorporated by reference to RF Power Products' Annual Report on Form 10-K for the fiscal year ended November 30, 1996 (File No. 0-20229), filed February 25, 1997. (9) Incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1998 (File No. 000-26966), filed March 24, 1999. (10) Incorporated by reference to RF Power Products' Registration Statement on Form 10 (File No. 0-020229), filed May 19, 1992 as amended. (11) Incorporated by reference to the Company's Registration Statement on Form S-3 (File No. 333-37378), filed May 19, 2000. (12) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 2000 (File No. 000-26966), filed August 4, 2000. (13) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 2000 (File No. 000-26966), filed October 30, 2000. * Compensation Plan + Confidential treatment has been granted for portions of this agreement. 81