UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
or
For Quarter Ended April 1, 2006
Commission File Number 000-30789
ENTEGRIS, INC.
(Exact name of registrant as specified in charter)
(State or other jurisdiction
of incorporation)
(IRS Employer
ID No.)
3500 Lyman Boulevard, Chaska, Minnesota 55318
(Address of Principal Executive Offices)
Registrant’s Telephone Number (952) 556-3131
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 whether the registrant is a large accelerated filer, an accelerated filer or a non-accelerated filer. See definition of “accelerated filer and accelerated filer”in Rule 12b-2 of the Exchange Act.
Large accelerated filer ¨ Accelerated filer x Non-accelerated filer ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES ¨ NO x
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the close of the latest practicable date.
Class
Outstanding at April 30, 2006
Common Stock, $0.01 Par Value
ENTEGRIS, INC., INC. AND SUBSIDIARIES
TABLE OF CONTENTS
FOR THE QUARTER ENDED APRIL 1, 2006
Description
PART I
Item 1.
Item 2.
Item 3.
Item 4.
PART II
Item 6.
2
Item 1. Financial Statements
ENTEGRIS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Unaudited)
(In thousands, except share data)
April 1,
2006
December 31,
2005
ASSETS
Current assets:
Cash and cash equivalents
Short-term investments
Trade accounts and notes receivable, net of allowance for doubtful accounts of $1,462 and $1,434
Inventories
Deferred tax assets
Assets of discontinued operations and other assets held for sale
Other current assets
Total current assets
Property, plant and equipment, net of accumulated depreciation of $187,480 and $186,856
Other assets:
Investments
Goodwill
Other intangible assets, net
Other
Total assets
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Current maturities of long-term debt
Short-term borrowings
Accounts payable
Accrued liabilities
Income taxes payable
Total current liabilities
Long-term debt, less current maturities
Pension benefit obligation and other liabilities
Commitments and contingent liabilities
Shareholders’ equity:
Common stock, par value $.01; 200,000,000 shares authorized; issued and outstanding shares: 137,432,237 and 136,043,921
Additional paid-in capital
Retained earnings
Accumulated other comprehensive loss
Total shareholders’ equity
Total liabilities and shareholders’ equity
See the accompanying notes to consolidated financial statements.
3
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
April 2,
Sales to non-affiliates
Sales to affiliates
Net sales
Cost of sales
Gross profit
Selling, general and administrative expenses
Engineering, research and development expenses
Operating income
Interest income, net
Other income, net
Income before income taxes
Income tax expense
Equity in net (earnings) loss of affiliates
Income from continuing operations
Income (loss) from operations of discontinued businesses, net of taxes
Net income
Basic earnings (loss) per common share:
Continuing operations
Discontinued operations
Diluted earnings (loss) per common share:
Weighted shares outstanding:
Basic
Diluted
4
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY AND COMPREHENSIVE INCOME
(In thousands)
Comprehensive
Income (loss)
Balance at December 31, 2004
Shares issued pursuant to stock option plans
Compensation earned in connection with restricted stock awards
Foreign currency translation adjustments
Net change in unrealized gain on marketable securities, net of tax
Reclassification adjustment for gain on sale of equity investment
Total comprehensive income
Balance at April 2, 2005
Balance at December 31, 2005
Shares issued under stock option plans
Stock-based compensation expense
Issuance of restricted stock grant shares
Tax benefit associated with stock plans
Balance at April 1, 2006
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CONSOLIDATED STATEMENTS OF CASH FLOWS
Operating activities:
Net (loss) income
Adjustments to reconcile net (loss) income to net cash provided by operating activities:
(Income) loss from discontinued operations
Depreciation and amortization
Share-based compensation expense
Provision for doubtful accounts
Provision for deferred income taxes
Tax benefit from employee stock plans
Gain on sale of equity investment
Changes in operating assets and liabilities, excluding effects of acquisitions:
Trade accounts receivable
Trade accounts receivable from affiliate
Accounts payable and accrued liabilities
Income taxes payable and refundable income taxes
Net cash (used in) provided by operating activities
Investing activities:
Acquisition of property and equipment
Purchase of intangible assets
Proceeds from sale of equity investment
Purchases of short-term investments
Proceeds from sale or maturities of short-term investments
Net cash used in investing activities
Financing activities:
Principal payments on short-term borrowings and long-term debt
Proceeds from short-term borrowings and long-term debt
Issuance of common stock
Net cash provided by financing activities
Discontinued Operations (Revised - See Note 1):
Net cash provided by (used in) operating activities
Net cash provided by (used in) investing activities
Net cash provided by (used in) discontinued operations
Effect of exchange rate changes on cash and cash equivalents
Increase (decrease) in cash and cash equivalents
Cash and cash equivalents at beginning of period
Cash and cash equivalents at end of period
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The Company was incorporated in Delaware in June 2005 under the name Eagle DE, Inc. (Eagle DE) as a wholly owned subsidiary of Entegris, Inc., a Minnesota corporation (Entegris Minnesota). Effective August 6, 2005 Entegris Minnesota merged into Eagle DE in a reincorporation merger of which Eagle DE was the surviving corporation. On August 6, 2005, the Company completed a merger with Mykrolis Corporation (Mykrolis) in a stock-for-stock transaction accounted for under the purchase method of accounting. Pursuant to this merger, the name of Eagle DE was changed to Entegris, Inc.
In the opinion of the Company, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary to present fairly, in conformity with accounting principles generally accepted in the United States of America, the financial position as of April 1, 2006 and December 31, 2005, the results of operations for the three months ended April 1, 2006 and April 2, 2005, and shareholders’ equity and comprehensive income, and cash flows for the three months ended April 1, 2006 and April 2, 2005.
Certain amounts reported in previous years have been reclassified to conform to the current year’s presentation. In this report, the Company has separately disclosed the operating, investing and financing portions of cash flows attributable to discontinued operations, which in prior periods were reported on a combined basis as a single amount.
Effective December 13, 2005, the Company changed its fiscal year-end from a 52-week or 53-week fiscal year period ending on the last Saturday of August to December 31. The Company’s new fiscal quarters consist of 13 week periods that end on Saturday. The Company’s fiscal quarters in 2006 end on April 1, 2006, July 1, 2006, September 30, 2006 and December 31, 2006. Unaudited information for the three months ended April 1, 2006, the comparable period of 2005, and the financial position as of April 1, 2006 and December 31, 2005 are included in this Quarterly Report on Form 10-Q. Audited information for the transition period August 28, 2005 through December 31, 2005 will be included in the Company’s Annual Report on Form 10-K to be filed for the Company’s fiscal year ending December 31, 2006.
The consolidated financial statements and notes are presented as permitted by Form 10-Q and do not contain certain information included in the Company’s annual consolidated financial statements and notes. The information included in this Form 10-Q should be read in conjunction with Management’s Discussion and Analysis and consolidated financial statements and notes thereto included in the Company’s Form 10-K for the year ended August 27, 2005 and Form 10-Q for the four-month transition period ended December 31, 2005. The results of operations for the three months ended April 1, 2006 are not necessarily indicative of the results to be expected for the full year.
2. DISCONTINUED OPERATIONS
On September 12, 2005, the Company announced that it would divest its gas delivery, life science and tape and reel product lines. The gas delivery products include mass flow controllers, pressure controllers and vacuum gauges that are used by customers in manufacturing operations to measure and control process gas flow rates and to control and monitor pressure and vacuum levels during the manufacturing process. The life sciences products include stainless steel clean in place systems for life sciences applications. Tape and reel products include the Stream™ product line, which is a packaging system designed to protect and transport microelectronic components, while enabling the high-speed automated placement of the components onto printed circuit boards used for electronics.
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The assets and liabilities of the life sciences product line and the assets of the tape and reel product line were sold in December 2005. On January 7, 2006, the Company signed a purchase agreement to sell the assets of its gas delivery product line for $15 million. The Company closed the sale of the gas delivery assets effective February 6, 2006. After adjustments for severance, sublease payments and closing costs, the net proceeds of the sale totaled $13.4 million. As part of the purchase accounting allocation of the acquisition of Mykrolis, the fair value of the assets of the gas delivery product line were classified as assets held for sale as of the date of the August 6, 2005 acquisition. Accordingly, the Company adjusted its purchase price allocation related to the assets of the gas delivery product line and did not recognize a gain or loss from the sale.
The consolidated financial statements have been reclassified to segregate as discontinued operations the assets and liabilities, and operating results of, the product lines divested for all periods presented. The summary of operating results from discontinued operations is as follows (in thousands):
Loss from discontinued operations, before income taxes
Income tax benefit
Income (loss) from discontinued operations, net of taxes
Assets of discontinued operations and other assets held for sale shown in the Consolidated Balance Sheet as of April 1, 2006 and December 31, 2005 include a building unrelated to the above product lines held for sale carried at $1.1 million.
3. SHARE-BASED COMPENSATION EXPENSE
Effective August 28, 2005, the Company adopted Statement of Financial Accounting Standards No. 123 (revised 2004), Share-Based Payment, (SFAS 123(R)) which requires the measurement and recognition of compensation expense for all share-based payment awards made to employees and directors including employee stock options and employee stock purchases related to the Employee Stock Purchase Plan (employee stock purchases) based on estimated fair values. SFAS 123(R) supersedes the Company’s previous accounting under Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (APB 25) for periods beginning in fiscal 2006. In March 2005, the Securities and Exchange Commission issued Staff Accounting Bulletin No. 107 (SAB 107) relating to SFAS 123(R). The Company has applied the provisions of SAB 107 in its adoption of SFAS 123(R).
The Company adopted SFAS 123(R) using the modified prospective transition method, which requires the application of the accounting standard as of August 28, 2005. The Company’s Consolidated Financial Statements as of and for the four months ended December 31, 2005 reflected the impact of SFAS 123(R). In accordance with the modified prospective transition method, the Company’s Consolidated Financial Statements for prior periods were not restated to reflect, and did not include, the impact of SFAS 123(R). Share-based compensation expense recorded under SFAS 123(R) for the three months ended April 1, 2006 was $4.3 million. Share-based compensation expense of $0.6 million for the three months ended April 2, 2005 was related to restricted stock grants that the Company had been recognizing under previous accounting standards. There was no share-based compensation expense related to employee stock options and employee stock purchases recognized during the three months ended April 2, 2005.
SFAS 123(R) requires companies to estimate the fair value of share-based payment awards on the date of grant using an option-pricing model. The value of the portion of the award that is ultimately expected to vest is recognized as expense over the requisite service periods in the Company’s Consolidated Statement of Operations. Prior to the adoption of SFAS 123(R), the Company accounted for share-based awards to employees
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and directors using the intrinsic value method in accordance with APB 25 as allowed under Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation (SFAS 123). Under the intrinsic value method, no share-based compensation expense had been recognized in the Company’s Consolidated Statement of Operations, other than as related to restricted stock grants, because the exercise price of the Company’s stock options granted to employees and directors equaled the fair market value of the underlying stock at the date of grant.
Share-based compensation expense recognized for periods after the adoption of SFAS 123(R) is based on the value of the portion of share-based payment awards that is ultimately expected to vest during the period. Share-based compensation expense recognized in the Company’s Consolidated Statement of Operations for the three months ended April 1, 2006 includes compensation expense for share-based payment awards granted prior to, but not yet vested as of August 27, 2005 based on the grant date fair value estimated in accordance with the pro forma provisions of SFAS 123. Share-based payment awards in the form of restricted stock awards for 1.0 million shares were granted to employees during the three months ended April 1, 2006. Share-based payment awards in the form of restricted stock awards with performance conditions for up to 0.9 million shares were also granted to employees during the quarter. Compensation expense is based on the grant date fair value estimated in accordance with the provisions of SFAS 123(R). In conjunction with the adoption of SFAS 123(R), the Company changed its method of attributing the value of share-based compensation to expense from the accelerated multiple-option approach to the straight-line single option method. Compensation expense for all share-based payment awards granted on or prior to August 27, 2005 will continue to be recognized using the accelerated multiple-option approach, while compensation expense for all share-based payment awards granted subsequent to August 27, 2005 will be recognized using the straight-line single-option method. Since share-based compensation expense recognized in the Consolidated Statement of Operations for the three months ended April 2, 2005 is based on awards ultimately expected to vest, it has been reduced for estimated forfeitures. SFAS 123(R) requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. In the Company’s pro forma information required under SFAS 123 for the periods through August 27, 2005, the Company accounted for forfeitures as they occurred.
There were share-based awards of 19,000 stock options and 6,500 restricted shares made to employees during the three months ended April 2, 2005. Prior to August 28, 2005, the Company used the Black-Scholes option-pricing model (Black-Scholes model) for the Company’s pro forma information required under SFAS 123. The Company’s determination of fair value of share-based payment awards on the date of grant using an option-pricing model is affected by the Company’s stock price as well as assumptions regarding a number of highly complex and subjective variables. These variables include, but are not limited to the Company’s expected stock price volatility over the term of the awards, and actual and projected employee stock option exercise behaviors and forfeitures.
On November 10, 2005, the Financial Accounting Standards Board (FASB) issued FASB Staff Position No. FAS 123(R)- 3, Transition Election Related to Accounting for Tax Effects of Share-Based Payment Awards (FSP 123(R)-3). The Company is considering whether to adopt the alternative transition method provided in the FASB Staff Position for calculating the tax effects of share-based compensation pursuant to SFAS 123(R). An entity may take up to one year from the effective date of FSP 123(R)-3 to evaluate its available transition alternatives and make its one-time election. The alternative transition method includes simplified methods to establish the beginning balance of the additional paid-in capital pool (APIC pool) related to the tax effects of employee share-based compensation, and to determine the subsequent impact on the APIC pool and Consolidated Statements of Cash Flows of the tax effects of employee share-based compensation awards that are outstanding upon adoption of SFAS 123(R).
Employee Stock Purchase Plan
The Company has an Employee Stock Purchase Plan, the Entegris, Inc. Employee Stock Purchase Plan (ESPP). A total of 4,000,000 common shares were reserved for issuance under the ESPP. The ESPP allows employees to elect, at six-month intervals, to contribute up to 10% of their compensation, subject to certain limitations, to purchase shares of common stock at the lower of 85% of the fair market value on the first day or last day of each six-month period. The Company treats the ESPP as a compensatory plan under SFAS 123(R). As of April 1, 2006, 1.0 million shares had been issued under the ESPP. During the three-month periods ended April 1, 2006 and April 2, 2005, the Company issued 0.1 million and 0.1 million shares, respectively under the Purchase Plan. At April 1, 2006, 3.1 million shares were available for issuance under the Purchase Plan.
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Employee Stock Option Plans
As of April 1, 2006, the Company had five stock incentive plans: the Entegris, Inc. 1999 Long-Term Incentive and Stock Option Plan (the 1999 Plan), the Entegris, Inc. Outside Directors’ Option Plan (the Directors’ Plan) and three former Mykrolis stock option plans assumed by the Company on August 10, 2005: The 2001 Equity Incentive Plan (the 2001 Plan), the 2003 Employment Inducement and Acquisition Stock Option Plan (the Employment Inducement Plan) and the 2001 Non-Employee Director Stock Option Plan (the 2001 Directors Plan). At present, the Company intends to issue new common shares upon the exercise of stock options. The plans are described in more detail below.
1999 Plan The 1999 Plan provides for the issuance of share-based and other incentive awards to selected employees, directors, and other persons (including both individuals and entities) who provide services to the Company or its affiliates. Under the 1999 Plan, the Board of Directors determines number of shares for which each option is granted, whether restrictions will be imposed on the shares subject to options, and the rate at which each option is exercisable. Under the 1999 Plan, the term of options shall be ten years, they become exercisable ratably in 25% increments over the 48 months following grant and the exercise price for shares shall not be less than 100% of the fair market value of the common stock on the date of grant of such option.
The Directors’ Plan and the 2001 Directors Plan The Directors’ Plan provides for the grant to each outside director of an option to purchase 15,000 shares on the date the individual becomes a director and for the annual grant to each outside director, at the choice of the Directors’ Plan administrator (defined as the Board of Directors or a committee of the Board), of either an option to purchase 9,000 shares, or a restricted stock award of up to 3,000 shares. Options are exercisable six months subsequent to the date of grant. Under the Directors’ Plan, the term of options shall be ten years and the exercise price for shares shall not be less than 100% of the fair market value of the common stock on the date of grant of such option. The 2001 Directors Plan provides for the grant to each newly elected eligible director of options to purchase 15,000 shares of common stock on the date of his or her first election and for the annual grant of options to purchase 10,000 shares of common stock for each subsequent year of service as a director. The exercise price of the stock options may not be less than the fair market value of the stock at the date of grant. On August 10, 2005 the Company’s Board of Directors determined that the equity compensation paid to non-employee directors would be an aggregate of 10,000 shares of restricted stock per annum, inclusive of the amounts specified in the above described plans.
2001 Plan The 2001 Plan provides for the issuance of share-based and other incentive awards to selected employees, directors, and other persons (including both individuals and entities) who provide services to the Company or its affiliates. The 2001 Plan has a term of ten years. Under the 2001 Plan, the Board of Directors determines the term of each option, option price, number of shares for which each option is granted, whether restrictions will be imposed on the shares subject to options, and the rate at which each option is exercisable. The exercise price for incentive stock options may not be less than the fair market value per share of the underlying common stock on the date granted (110% of fair market value in the case of holders of more than 10% of the voting stock of the Company). The 2001 Plan contains an “evergreen” provision, which increases the number of shares in the pool of options available for grant annually by 1% of the number of shares of common stock outstanding on the date of the Annual Meeting of Stockholders or such lesser amount determined by the Board of Directors.
Employment Inducement Plan The Employment Inducement Plan is a non-shareholder approved plan that provides for the issuance of stock options and other share-based awards to newly-hired employees and to employees of companies acquired by the Company. The Employment Inducement Plan has a term of ten years. Options granted under the Employment Inducement Plan have a maximum term of ten years and an exercise price equal to the fair market value of the Company’s common stock on the date of grant. The Board of Directors determines other terms of option grants including, number of shares, restrictions and the vesting period. The number of reserved shares under the Employment Inducement Plan automatically increases annually by 0.25% of the number of shares of common stock outstanding on the date of the Annual Meeting of Stockholders unless otherwise determined by the Board of Directors.
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Millipore Plan
In addition to the Company’s plans, certain employees of Mykrolis were granted stock options under a predecessor’s share-based compensation plan. The Millipore 1999 Stock Incentive Plan (the Millipore Plan) provided for the issuance of stock options and restricted stock to key employees as incentive compensation. The exercise price of a stock option was equal to the fair market value of Millipore’s common stock on the date the option was granted and its term was generally ten years and vested over four years.
General Option Information
Option activity for the 1999 Plan and the Directors’ Plan for the three months ended April 1, 2006 is summarized as follows (share and aggregate intrinsic value amounts in thousands):
Options outstanding, beginning of period
Granted
Exercised
Canceled
Options outstanding, end of period
Options exercisable
Option activity for the 2001 Plan, the Employment Inducement Plan, the 2001 Directors Plan and the Millipore plan for the three months ended April 1, 2006 is summarized as follows (share and aggregate intrinsic value amounts in thousands):
The total number of shares available for future grant under the Company’s stock option plans was 3.4 million at April 1, 2006. For all plans, the total pretax intrinsic value of stock options exercised during the three months ended April 1, 2006 was $4.0 million. The aggregate intrinsic value in the preceding tables represent the total pretax intrinsic value, based on the Company’s closing stock price of $10.64 as of April 1, 2006, which theoretically could have been received by the option holders had all option holders exercised their options as of that date. The total number of in-the-money options exercisable as of April 1, 2006 was 10.1 million.
During the three months ended April 1, 2006, the Company received cash from the exercise of stock options totaling $3.9 million and $0.7 million in employee contributions to the Entegris, Inc. Employee Stock Purchase Plan. There was no excess tax benefit for the tax deductions related to stock options and restricted stock awards during the quarter ended April 1, 2006.
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Restricted Stock Awards
Restricted stock awards are awards of common stock that are subject to restrictions on transfer and to a risk of forfeiture if the awardee leaves the Company employ prior to the restrictions lapse. The value of such stock was established by the market price on the date of the grants. Compensation expense is being recorded over the applicable restricted stock vesting periods, generally four years, using graded vesting. A summary of the Company’s restricted stock activity as of April 1, 2006 and changes during the three months ended April 1, 2006 is presented in the following table:
Unvested, beginning of period
Vested
Forfeited
Unvested, end of period
During the first quarter of 2006, Entegris, Inc. also made awards of restricted stock to be issued upon the achievement of performance conditions (Performance Shares) under the Company’s stock incentive plans.
Up to 0.9 million shares, 25% of which will be awarded each of the next four years, if and to the extent that financial performance criteria for fiscal years 2006 through 2009 are achieved. The number of performance shares earned in a given year may vary based on the level of achievement of financial performance objectives for that year. If the Company’s performance for a year fails to achieve the specified performance threshold, then the performance shares allocated to that year are forfeited. Each annual tranche will have its own service period beginning at the date (the grant date) at which the Board of Directors establishes the annual performance targets for the applicable year. Once earned, Performance Shares are fully vested with no restrictions. Compensation expense to be recorded in connection with the Performance Shares will be based on the grant date fair value of the Company’s common stock. Awards of Performance Shares are expensed over the service period based on an evaluation of the probability of achieving the performance objectives.
Valuation and Expense Information under SFAS 123(R)
The following table summarizes share-based compensation expense related to employee stock options, restricted stock awards and grants under the employee stock purchase plan under SFAS 123(R) for the three months ended April 1, 2006 that was allocated as follows (in thousands):
Cost of good sold
Engineering, research and development
Selling, general and administrative
Share-based compensation expense included in operating expenses
Tax benefit
Share-based compensation expense, net of tax
Share-based compensation expense recognized for the three months ended April 2, 2005 was $0.6 million.
As of April 1, 2006 total compensation cost related to nonvested stock options and restricted stock awards not yet recognized was $22.0 million that is expected to be recognized over the next 15.2 months on a weighted-average basis. These figures exclude restricted stock awards for which performance criteria have yet to be determined and, accordingly, grant dates for those awards have not been established.
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No stock option grants were made to employees during the three months ended April 1, 2006. Prior to the adoption of SFAS 123(R), the value of each employee stock option was estimated on the date of grant using the Black-Scholes model for the purpose of the pro forma financial information in accordance with SFAS 123.
Pro Forma Information Under SFAS 123 for Periods Prior to Fiscal 2006
The following table illustrates the effect on net income and earnings per common share if the Company had applied the fair value recognition provisions of SFAS 123, Accounting for Stock-Based Compensation, to share-based employee compensation (in thousands, except per share data).
Net income, as reported
Add share-based compensation expense included in reported net earnings, net of tax
Deduct share-based compensation expense under the fair value based method for all awards, net of tax
Pro forma net earnings
Basic earnings per common share, as reported
Pro forma basic earnings per common share
Diluted earnings per common share, as reported
Pro forma diluted earnings per common share
For employee stock options granted during the three months ended April 2, 2005, the Company determined pro forma compensation expense under the provisions of SFAS No. 123 using the Black-Scholes pricing model and the following assumptions: 1) an expected dividend yield of 0%, 2) an expected stock price volatility of 75%, 3) a risk-free interest rate of 3.5% and 4) an expected life of 6 years. The weighted average fair value of options granted during the first four months of fiscal 2005 was $6.27.
4. EARNINGS PER COMMON SHARE
The following table presents a reconciliation of the denominators used in the computation of basic and diluted earnings per common share (in thousands).
Basic earnings per common share-weighted common shares outstanding
Weighted common shares assumed upon exercise of stock options and vesting of restricted common stock
Diluted earnings per common share-weighted common shares and common shares equivalent outstanding
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5. INVENTORIES
Inventories consist of the following (in thousands):
Raw materials
Work-in process
Finished goods
Supplies
Total inventories
6. INTANGIBLE ASSETS AND GOODWILL
As of April 1, 2006, goodwill amounted to approximately $402.4 million, about $1.9 million lower than the balance at December 31, 2005. The decrease mainly reflected changes to goodwill in connection with various purchase price adjustments related to the Mykrolis acquisition completed in August 2005. The Mykrolis purchase price has been preliminarily allocated based on estimates of the fair values of assets acquired and liabilities assumed. The final valuation of net assets is expected to be completed in the second calendar quarter of 2006.
The changes to the carrying amount of goodwill for the three months ended April 1, 2006 are as follows:
Three MonthsEnded
April 1, 2006
Beginning of period
Adjustment to Mykrolis purchase price allocation
Foreign currency translation adjustment
End of period
Other intangible assets, net of amortization, of approximately $84.1 million as of April 1, 2006, are being amortized over useful lives ranging from 2 to 10 years and are as follows (in thousands):
Gross carrying
amount
Net carrying
value
Patents
Unpatented technology
Developed technology
Trademarks and trade names
Customer relationships
Employment and noncompete agreements
Aggregate amortization expense for the three months ended April 1, 2006 amounted to $4.6 million. Estimated amortization expense for calendar years 2006 to 2010 and thereafter is approximately $18.2 million, $17.8 million, $16.0 million, $13.9 million, $8.5 million and $14.2 million, respectively.
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7. WARRANTY
The Company accrues for warranty costs based on historical trends and the expected material and labor costs to provide warranty services. The majority of products sold are covered by a warranty for periods ranging from 90 days to one year. The following table summarizes the activity related to the product warranty liability during the three-month periods ended April 1, 2006 and April 2, 2005 (in thousands):
Balance at beginning of period
Accrual for warranties issued during the period
Warranty costs during the period
Balance at end of period
8. RESTRUCTURING COSTS
On November 29, 2005, the Company announced that during 2006 it would close its manufacturing plant located in Bad Rappenau, Germany and relocate the production of products made in that facility to other existing manufacturing plants located in the United States and Asia. In connection with this closure, the Company recorded accruals for estimated expenditures for employee severance and retention costs of $1.7 million, and asset impairment and accelerated depreciation charges of $0.7 million during the quarter ended April 1, 2006.
9. RECENT ACCOUNTING PRONOUNCEMENTS
In May 2005, the FASB issued FASB Statement No. 154, Accounting Changes and Error Corrections(SFAS No. 154), which replaces APB Opinion No. 20, Accounting Changes, and SFAS No. 3, Reporting Accounting Changes in Interim Financial Statements. SFAS No. 154 requires retrospective application of changes in accounting principles to prior periods’ financial statements as of the earliest date practicable. This statement also redefines “restatement” as the revision of previously issued financial statements to reflect the correction of an error. The provisions of SFAS No. 154 were adopted in the current period with no material effect on the Company’s consolidated financial statements.
In November 2005, the Financial Accounting Standards Board (FASB) issued FASB Staff Position (FSP) FAS 115-1 and FSP FAS 124-1, The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments, which amends FASB Statement No. 115, Accounting for Certain Investments in Debt and Equity Securities, FASB Statement No. 124, Accounting for Certain Investments Held by Not-for-Profit Organizations, and APB Opinion No. 18, The Equity Method of Accounting for Investments in Common Stock. FSP FAS 115-1 and FSP FAS 124-1 provide guidance for determining whether impairments of certain debt and equity investments are deemed other-than-temporary. The provisions of FSP FAS 115-1 and FSP FAS 124-1 are effective for reporting periods beginning after December 15, 2005. No material impact on the Company’s financial statements resulted from the adoption of this standard.
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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Overview
Entegris, Inc. is a leading provider of materials integrity management products and services that purify, protect and transport the critical materials used in key technology-driven industries. Entegris derives most of its revenue from the sale of products and services to the semiconductor and other high-technology industries. The Company’s customers consist primarily of semiconductor manufacturers, semiconductor equipment and materials suppliers, and hard disk manufacturers which are served through direct sales efforts, as well as sales and distribution relationships, in the United States, Asia and Europe.
Effective August 6, 2005 Entegris, Inc., a Minnesota corporation, and Mykrolis Corporation, a Delaware corporation, completed a strategic merger of equals transaction, pursuant to which they were each merged into a new Delaware corporation named Entegris, Inc. to carry on the combined businesses. The transaction was accounted for as an acquisition of Mykrolis by Entegris.
With the merger with Mykrolis Corporation, the Company added liquid and gas filters, liquid delivery systems, components and consumables used to precisely measure, deliver, control and purify the process liquids, gases and chemicals that are used in the semiconductor manufacturing process to its materials integrity management product offerings.
After the merger with Mykrolis, the Company offers a diverse product portfolio which includes more than 13,000 standard and customized products that we believe provide the most comprehensive offering of materials integrity management products and services to the microelectronics industry. Entegris’ materials integrity management products purify, protect and transport critical materials in the semiconductor manufacturing process.
Forward-Looking Statements
The information in this Management’s Discussion and Analysis of Financial Condition and Results of Operations, except for the historical information, contains forward-looking statements. These statements are subject to risks and uncertainties. These forward-looking statements could differ materially from actual results. The Company assumes no obligation to publicly release the results of any revision or updates to these forward-looking statements to reflect future events or unanticipated occurrences. This discussion and analysis should be read in conjunction with the Consolidated Financial Statements and the related Notes, which are included elsewhere in this report.
Key operating factors Key factors, which management believes have the largest impact on the overall results of operations of Entegris, Inc. include:
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Overall Summary of Financial Results for the Three Months Ended April 1, 2006 On December 13, 2005, the registrant’s Board of Directors approved the change of the registrant’s fiscal year to the calendar year, ending on December 31st of each year. Accordingly, the registrant filed a transition report on Form 10-Q for the four months ended December 31, 2005, covering the period from August 27, 2005 though December 31, 2005.
For the three months ended April 1, 2006, net sales increased 84% from the comparable period last year, principally driven by the inclusion of sales from Mykrolis. The sales comparison is adversely affected by approximately $3.5 million due to the year-over-year weakening of international currencies versus the U.S. dollar, most notably in Japan. Sales were up 7% on a sequential basis over the fourth quarter of calendar 2005. Reflecting the year-over-year sales increase, the company reported higher gross profit and improved gross margins.
The company also had significantly higher year-over-year selling, general and administrative (SG&A) costs, by $27.7 million, also mainly the result of the Mykrolis merger compared to the year-ago quarter. These costs included the addition of SG&A expenses associated with Mykrolis’ infrastructure, increased amortization of intangibles and costs incurred by the Company in connection with the integration activities associated with the merger. As a result, the Company reported income from continuing operations of $9.8 million for the three-month period compared to income from continuing operations of $7.9 million in the year ago three-month period.
During the three months ended April 1, 2006, the Company used cash of $1.1 million for operations as increases in accounts receivable and inventory slightly exceeded the cash generated by the Company’s net earnings and non-cash charges. Cash, cash equivalents and short-term investments were approximately $283 million at April 1, 2006, compared with $274 million at December 31, 2005.
On September 12, 2005, the Company announced that it would divest its gas delivery, life science and tape and reel product lines. The life science and tape and reel product lines divestitures were completed in December 2005; the gas delivery divestiture was completed in February 2006 for net proceeds of $13.4 million. The assets and liabilities, and operating results of, the businesses divested have been classified as discontinued operations for all periods presented.
Critical Accounting Policies
Management’s discussion and analysis of financial condition and results of operations are based upon the Company’s consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these consolidated financial statements requires the Company to make estimates, assumptions and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosure of contingent assets and liabilities. At each balance sheet date, management evaluates its estimates, including, but not limited to, those related to accounts receivable, warranty and sales return obligations, inventories, long-lived assets, and income taxes. The Company
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bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions. The critical accounting policies affected most significantly by estimates, assumptions and judgments used in the preparation of the Company’s consolidated financial statements are discussed below.
Net Sales
The Company’s net sales consist of revenue from sales of products net of trade discounts and allowances. The Company recognizes revenue upon shipment, primarily FOB shipping point, when evidence of an arrangement exists, contractual obligations have been satisfied, title and risk of loss have been transferred to the customer and collection of the resulting receivable is probable based upon historical collection results and regular credit evaluations. In most transactions, the Company has no obligations to its customers after the date products are shipped other than pursuant to warranty obligations. In the event that significant post-shipment obligations or uncertainties exist such as customer acceptance, revenue recognition is deferred as appropriate until such obligations are fulfilled or the uncertainties are resolved.
Accounts Receivable-Related Valuation Accounts.
The Company maintains allowances for doubtful accounts and for sales returns and allowances. Significant management judgments and estimates must be made and used in connection with establishing these valuation accounts. Material differences could result in the amount and timing of the Company’s results of operations for any period if we made different judgments or utilized different estimates. In addition, actual results could be different from the Company’s current estimates, possibly resulting in increased future charges to earnings.
The Company provides an allowance for doubtful accounts for all individual receivables judged to be unlikely for collection. For all other accounts receivable, the Company records an allowance for doubtful accounts based on a combination of factors. Specifically, management considers the age of receivable balances and historical bad debts write-off experience when determining its allowance for doubtful accounts. The Company’s allowance for doubtful accounts was $1.5 million and $1.4 million at April 1, 2006 and December 31, 2005, respectively.
An allowance for sales returns and allowances is established based on historical trends and current trends in product returns. At April 1, 2006 and December 31, 2005, the Company’s reserve for sales returns and allowances was $1.2 million and $1.3 million, respectively.
Inventory Valuation The Company uses certain estimates and judgments to properly value inventory. In general, the Company’s inventories are recorded at the lower of manufacturing cost or market value. Each quarter, the Company evaluates its ending inventories for obsolescence and excess quantities. This evaluation includes analyses of inventory levels, historical write-off trends, expected product lives, and sales levels by product. Inventories that are considered obsolete are written off or a full valuation allowance is recorded. In addition, valuation allowances are established for inventory quantities in excess of forecasted demand. Inventory valuation allowances were $10.1 million and $8.1 million at April 1, 2006 and December 31, 2005, respectively.
The Company’s inventories comprise materials and products subject to technological obsolescence, which are sold in highly competitive industries. If future demand or market conditions are less favorable than current analyses, additional inventory write-downs or valuation allowances may be required and would be reflected in cost of sales in the period the revision is made.
Impairment of Long-Lived Assets The Company routinely considers whether indicators of impairment of its property and equipment assets, particularly its molding equipment, are present. If such indicators are present, it is determined whether the sum of the estimated undiscounted cash flows attributable to the assets in question is less than their carrying value. If less, an impairment loss is recognized based on the excess of the carrying amount of the assets over their respective fair values. Fair value is determined by discounting estimated future cash flows, appraisals or other methods deemed appropriate. If the assets determined to be impaired are to be held and used, the Company recognizes an impairment charge to the extent the present value of anticipated net cash flows attributable to the assets are less than the assets’ carrying value. The fair value of the assets then becomes the assets’ new carrying value, which we depreciate over the remaining estimated useful life of the assets.
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The Company assesses the impairment of indefinite life intangible assets and related goodwill at least annually, or whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Factors considered important which could trigger an impairment review, and potentially an impairment charge, include the following:
Income Taxes In the preparation of the Company’s consolidated financial statements, management is required to estimate income taxes in each of the jurisdictions in which the Company operates. This process involves estimating actual current tax exposures together with assessing temporary differences resulting from differing treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included in the Company’s consolidated balance sheet.
The Company intends to continue to reinvest its undistributed international earnings in its international operations; therefore, no U.S. tax expense has been recorded to cover the repatriation of such undistributed earnings.
The Company has significant amounts of deferred tax assets. Management reviews its deferred tax assets for recoverability on a quarterly basis and assesses the need for valuation allowances. These deferred tax assets are evaluated by considering historical levels of income, estimates of future taxable income streams and the impact of tax planning strategies. A valuation allowance is recorded to reduce deferred tax assets when it is determined that it is more likely than not that the Company would not be able to realize all or part of its deferred tax assets. The Company carried a valuation allowance of $0.6 million and $2.2 million against its deferred tax assets at April 1, 2006 and December 31, 2005, respectively, in connection with a portion of a capital loss carry forward that more likely than not will not be realized. The change in the valuation allowance resulted from the resolution of a matter with respect to the characterization of certain gains and losses.
Warranty Claims Accrual
The Company records a liability for estimated warranty claims. The amount of the accrual is based on historical claims data by product group and other factors. Estimated claims could be materially different from actual results for a variety of reasons, including a change in product failure rates and service delivery costs incurred in correcting a product failure, manufacturing changes that could impact product quality, or as yet unrecognized defects in products sold. At April 1, 2006 and December 31, 2005, the Company’s accrual for estimated future warranty costs was $2.3 million and $2.1 million, respectively.
Business Acquisitions
The Company accounts for acquired businesses using the purchase method of accounting which requires that the assets acquired and liabilities assumed be recorded at the date of acquisition at their respective fair values. The judgments made in determining the estimated fair value assigned to each class of assets acquired and liabilities assumed, as well as asset lives, can materially impact net income. Accordingly, for significant items, the Company typically obtains assistance from independent valuation specialists.
There are several methods that can be used to determine the fair value of assets acquired and liabilities assumed. For intangible assets, the Company normally utilizes the “income method.” This method starts with a forecast of all of the expected future net cash flows. These cash flows are then adjusted to present value by applying an appropriate discount rate that reflects the risk factors associated with the cash flow streams. Some of the more significant estimates and assumptions inherent in the income method or other methods include the projected future cash flows (including timing) and the discount rate reflecting the risks inherent in the future cash flows.
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Determining the useful life of an intangible asset also requires judgment. For example, different types of intangible assets will have different useful lives and certain assets may even be considered to have indefinite useful lives. All of these judgments and estimates can significantly impact net income.
Share-based Compensation Expense
Effective August 28, 2005, the Company adopted Statement of Financial Accounting Standards No. 123 (revised 2004), Share-Based Payment, (SFAS 123(R)) which requires the measurement and recognition of compensation expense for all share-based payment awards made to employees and directors including employee stock options and employee stock purchases related to the Employee Stock Purchase Plan (ESPP) based on estimated fair values. Share-based compensation expense recognized under SFAS 123(R) for the three months ended April 1, 2006 was $4.3 million which consisted of share-based compensation expense related to employee stock options, restricted stock awards and grants under the employee stock purchase plan, as well as share-based compensation expense related to the Mykrolis acquisition. Share-based compensation expense of $0.6 million for the three months ended April 2, 2005 was related to restricted stock awards granted to employees that the Company recognized under previous accounting standards. There was no share-based compensation expense related to employee stock options and grants under the employee stock purchase plan recognized during the three months ended April 2, 2005.
Under SFAS 123(R), the Company must estimate the value of employee stock options on the date of grant. There were no stock option grants awarded during the three months ended April 1, 2006. Prior to the adoption of SFAS 123(R), the value of each employee stock option was estimated on the date of grant using the Black-Scholes model for the purpose of the pro forma financial information in accordance with SFAS 123. The determination of fair value of share-based payment awards on the date of grant using an option-pricing model is affected by the Company’s stock price as well as assumptions regarding a number of highly complex and subjective variables. These variables include, but are not limited to the expected stock price volatility over the term of the awards, risk-free interest rate and dividend yield assumptions, and actual and projected employee stock option exercise behaviors and forfeitures. Restricted stock and restricted stock unit awards are valued based on the Company’s stock price on the date of grant.
Since share-based compensation expense recognized in the Consolidated Statement of Operations for the three months ended April 1, 2006 is based on awards ultimately expected to vest, it has been reduced for estimated forfeitures. SFAS 123(R) requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. Forfeitures were estimated based on historical experience.
If factors change and the Company employs different assumptions in the application of SFAS 123(R) in future periods, the compensation expense recorded under SFAS 123(R) may differ significantly from what was recorded in the current period.
Three Months Ended April 1, 2006 Compared Three Months Ended April 1, 2005
The following table compares continuing operating results with year-ago results, as a percentage of sales, for each caption.
Income before income taxes and other items below
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Net sales Net sales were $157.7 million for the three months ended April 1, 2006, up 84% compared to $85.6 million in the three months ended April 2, 2005. Sales from Mykrolis operations accounted for approximately 90% of the overall year-over-year increase. Sales were adversely affected by approximately $3.5 million due to the weakening of international currencies versus the U.S. dollar, most notably in Japan. On a geographic basis, total sales to North America were 30%, Asia Pacific 33%, Europe 16% and Japan 21%.
By product type, sales of unit-driven products represented 59% of sales and capital-driven products represented 41% of total sales. This ratio compared to a 63%/37% unit-driven vs. capital-driven split for the three months ended December 2005, reflecting the strong demand associated with capital infrastructure additions the industry experienced over the quarter. Unit-driven products include products which have average lives of less than 18 months or which need to be replaced based on usage levels. These include liquid filters, wafer shippers, and chip trays and disk shippers.
Semiconductor manufacturing capacity additions and new tool production contributed to strong demand for capital-driven products, including wafer carriers and transport products, gas microcontamination products and fluid handling components and systems. Sales of unit-driven products, such as liquid filters, also tracked positively during the quarter as fab utilization rates at integrated device manufacturer and foundry customers remained high.
Specifically, sales of gas contamination products, including gas filters and purifier components and systems, improved during the quarter. Many of these products are used in manufacturing infrastructure to deliver process gases to the tool and in gas-based tools, such as deposition and etch tools. Sales of purification systems for controlling airborne molecular contamination also did well, as these systems find increasing applications in advanced photolithography tools. Sales of fluid handling products were also very strong, particularly for valves and fittings and dispense pumps, as a result of fab build outs and higher OEM demand.
Sales of wafer handling products were strong in Asia, particularly for FOUPS and reticle PODS. Wafer shippers remained strong for 200mm wafer sizes. Sales of liquid filters grew sequentially, reflecting continued high fab utilization rates and production levels which drive demand for these products and the additions of new fab capacity particularly for flash memory. Finished electronics products rebounded from the prior quarter, reflecting strong orders for film frame shippers, chip trays and process carriers, as well as good demand for 95mm disk drive shippers.
Gross profit Gross profit in the three months ended April 1, 2006 increased by $36.7 million to $73.0 million, an increase of 101% from the $36.3 million for the three months ended April 2, 2005. The gross margin percentage for the first quarter of 2006 was 46.3 % versus 42.4% for the three months ended April 2, 2005.
The Company benefited from improved sales levels as well as the inclusion of sales of gas micro contamination and liquid micro contamination product lines added in the Mykrolis merger as these products typically carry higher gross margins than the Company’s other products.
Costs of $2.1 million associated with the consolidation of manufacturing facilities in the U.S., Germany and Japan reduced gross profit. Although prices for raw materials were relatively stable sequentially, on a year-over-year basis the Company’s gross margin was affected by higher material costs for certain products.
Selling, general and administrative expenses.Selling, general and administrative (SG&A) expenses increased $28.2 million, or 118%, to $52.1 million in the three months ended April 1, 2006, up from $23.9 million in the comparable three-month period a year earlier. Due to the magnitude of the increase, SG&A expenses, as a percent of net sales, rose to 33.0% from 27.9% a year earlier.
The increase in SG&A costs reflects the addition of SG&A expenses associated with Mykrolis’ infrastructure and increased amortization of intangibles of $3.5 million, as well as costs of $3.7 million incurred by the Company in connection with the integration activities associated with the Mykrolis merger. The costs included in this category generally relate to expenses incurred to integrate Mykrolis’ operations and systems into the Company’s pre-existing operations and systems. These costs include, but are not limited to, the integration of
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information systems, employee benefits and compensation, accounting/finance, tax, treasury, risk management, compliance, administrative services, sales and marketing and other functions and includes severance and retention costs. The year-over-year increase in SG&A expenses also includes incremental share-based compensation expense of $3.0 million.
The Company expects SG&A costs to be higher than normal through the middle of calendar 2006 as integration costs and related severance and retention costs of approximately $4 million are expected to be incurred during the second quarter of 2006. In addition, on a year-over-year basis, the Company expects that overall SG&A costs will be higher as the Company will have a full year of sales and operating expenses related to Mykrolis’ operations. The Company expects that the trend of overall SG&A costs will decline on a prospective basis resulting from the combination of various sales, marketing and other corporate functions during 2006. These savings are expected to be realized in the latter half of calendar 2006.
Engineering, research and development expenses Engineering, research and development (ER&D) expenses were $9.2 million in the three months ended April 1, 2006, up 162% from $3.5 million in the year-ago period. ER&D expenses, as a percent of net sales, increased to 5.8% from 4.1%, reflecting the inclusion of Mykrolis ER&D expenses. The Company continued to focus on the support of current product lines, and the development of new products and manufacturing technologies.
Interest income, net Net interest income was $2.0 million in the three months ended April 1, 2006 compared to $0.5 million in the year-ago period. The increase reflects the higher rates of interest available on the Company’s investments in short-term debt securities as well as the higher average net invested balance compared to the year-ago period, associated in part with the cash and short-term investments acquired in the Mykrolis merger.
Income tax expense The Company recorded income tax expense of $4.8 million in the three months ended April 1, 2006 compared to income tax expense of $3.3 million in the three months ended April 2, 2005. The effective tax rate was 33.0% in the 2006 period, compared to 29.2% in the 2005 period. In both periods, the Company’s tax rate was lower than statutory rates due to the benefits associated with export activities and tax holidays.
Discontinued operations The Company’s businesses classified as discontinued operations recorded a nominal net operating loss in the three months ended April 1, 2006. The results of discontinued operations included a tax benefit of $1.6 million related to the change in the deferred tax asset valuation allowance resulting from the resolution of a matter with respect to the characterization of certain gains and losses.
Net income The Company recorded net income of $11.4 million, or $0.08 per diluted share, in the three-month period ended April 1, 2006 compared to net income of $7.1 million, or $0.09 per diluted share, in the three-month period ended April 2, 2005. The net earnings from continuing operations for the three-month period were $9.8 million, or $0.07 per diluted share, compared to net income of $7.9 million, or $0.10 per diluted share, in the year ago period. The after-tax earnings of discontinued operations in the three-month period ended April 1, 2006 included a tax benefit of $1.6 million associated with a decrease in the company’s deferred tax asset valuation allowance.
Liquidity and Capital Resources
Operating activities Cash used by operating activities totaled $1.1 million in the three months ended April 1, 2006. Cash flow was provided by the Company’s net earnings from continuing operations of $9.8 million and various non-cash charges, including depreciation and amortization of $10.8 million, and share-based compensation expense of $4.3 million. Slightly more than offsetting such items was the significant impact of changes in operating assets and liabilities, including receivables and inventory increases aggregating $27.1 million.
Working capital at April 1, 2006 stood at $424.0 million, down from $394.4 million as of December 31, 2005, and included $283.2 million in cash, cash equivalents and short-term investments.
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Accounts receivable, net of foreign currency translation adjustments, increased by $11.4 million, reflecting the increase in sales from the previous quarter and an slight increase in the Company’s days sales outstanding which stood at 71 days compared to 69 days at the beginning of the period. Inventories rose by $15.7 million from December 31, 2005 due to a general increase in production activity associated with higher order and sales levels, increases in inventories at various locations worldwide related to a change in selling model and the build of inventories in anticipation of certain manufacturing consolidation activities.
Investing activities Cash flow used in investing activities totaled $2.4 million in the three-month period ended April 1, 2006. Acquisition of property and equipment totaled $7.5 million, primarily for additions of facility expansions, manufacturing equipment, tooling and information systems. The Company expects total capital expenditures of approximately $40 million for calendar 2006.
The company had maturities of short-term investments, net of purchases, of $4.9 million during the period. Short-term investments stood at $126.6 million at April 1, 2006.
Financing activities Cash provided by financing activities totaled $2.1 million during the three-month period ended April 1, 2006. The Company made payments of $2.5 million on borrowings. No proceeds from new borrowings were received during the quarter. The Company received proceeds of $4.6 million in connection with common shares issued under the Company’s stock option plans.
As of April 1, 2006, the Company’s sources of available funds comprised $156.7 million in cash and cash equivalents, $126.6 million in short-term investments, as well as funds available under various credit facilities. Entegris has an unsecured revolving credit agreement with one domestic commercial bank with aggregate borrowing capacity of $10 million, with no borrowings outstanding at April 1, 2006 and lines of credit with three international banks that provide for borrowings of currencies for the Company’s overseas subsidiaries, equivalent to an aggregate of approximately $6.1 million. There were no borrowings outstanding on these lines of credit at April 1, 2006.
The Company’s unsecured revolving credit agreement, which expires in May 2008, allows for aggregate borrowings of up to $10 million with interest at Eurodollar rates plus 0.875%. Under the unsecured revolving credit agreement, the Company is subject to, and is in compliance with, certain financial covenants requiring a leverage ratio of not more than 2.25 to 1.00. In addition, the Company must maintain a calculated consolidated tangible net worth, which, as of April 1, 2006, was $468 million, while also maintaining consolidated aggregate amounts of cash and cash equivalents (which under the agreement may also include auction rate securities classified as short-term investments) of not less than $75 million.
At April 1, 2006, the Company’s shareholders’ equity stood at $1,034.8 million, up from $1,012.8 million at the beginning of the period. This increase reflected the Company’s net earnings $11.4 million, the proceeds of $4.6 million received in connection with shares issued under the Company’s stock option and stock purchase plans, and the increase in additional paid-in capital of $4.3 million associated with the Company’s share-based compensation expense recorded during the period.
The Company expects to incur total expenses of approximately $30 million to $35 million in connection with the integration activities resulting from its merger with Mykrolis, of which approximately $29 million was recorded through April 1, 2006. Entegris expects that integration process following the merger will ultimately provide annualized cost savings of approximately $20 million. The Company expects these cost synergies to be fully in place by the middle of calendar year 2006.
The Company believes that its cash and cash equivalents, short-term investments, cash flow from operations and available credit facilities will be sufficient to meet its working capital and investment requirements for the next 12 months. However, future growth, including potential acquisitions, may require the Company to raise capital through additional equity or debt financing. There can be no assurance that any such financing would be available on commercially acceptable terms.
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Cautionary Statements This report contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements reflect the Company’s current views with respect to future events and financial performance. The words “believe,” “expect,” “anticipate,” “intends,” “estimate,” “forecast,” “project,” “should” and similar expressions are intended to identify these “forward-looking statements.” All forecasts and projections in this report are “forward-looking statements,” and are based on management’s current expectations of the Company’s near-term results, based on current information available pertaining to the Company. The risks which could cause actual results to differ from those contained in such “forward looking statements” include, without limit, (i) risks associated with the challenges of integration, restructuring, manufacturing transfers, and achieving anticipated synergies associated with the merger of the Company with Mykrolis; (ii) inability to meet rapidly increasing customer demand associated with an increase semiconductor industry spending; (iv) the transition to new products, the uncertainty of customer acceptance of new product offerings, and rapid technological and market change; (v) insufficient, excess or obsolete inventory; (vi) competitive factors, including but not limited to pricing pressures; and (vii) the risks described in the Company’s Annual Report on Form 10-K for the fiscal year ended August 27, 2005 under the headings “Risks Relating to our Business and Industry”, “Risks Associated with our Merger”, “Manufacturing Risks”, “International Risks”, and “Risks Related to the Securities Markets and Ownership of our Securities” as well as in the Company’s quarterly reports on Form 10-Q and current reports on Form 8-K as filed with the Securities and Exchange Commission: .
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Item 3: Quantitative and Qualitative Disclosures About Market Risk
Entegris’ principal financial market risks are sensitivities to interest rates and foreign currency exchange rates. The Company’s interest-bearing cash equivalents and short-term investments, and long-term debt and short-term borrowings are subject to interest rate fluctuations. Most of its long-term debt at April 1, 2006 carries fixed rates of interest. The Company’s cash equivalents and short-term investments are debt instruments with maturities of 24 months or less. A 100 basis point change in interest rates would potentially increase or decrease annual net income by approximately $1.8 million annually.
The cash flows and earnings of the Company’s foreign-based operations are subject to fluctuations in foreign exchange rates. The Company occasionally uses derivative financial instruments to manage the foreign currency exchange rate risks associated with its foreign-based operations. At April 1, 2006, the Company was party to forward contracts to deliver Japanese yen, Taiwanese dollars, Singapore dollars and Euros with notional values of approximately $4.8 million, $12.8 million, $4.0 million and $4.6 million, respectively.
Item 4: Controls and Procedures
(a) Evaluation of disclosure controls and procedures. Disclosure controls and procedures are designed to ensure that information required to be disclosed in the reports that are filed or furnished under the Securities Exchange Act of 1934, as amended (Exchange Act) is recorded, processed, summarized and reported, within the time periods specified in the rules and forms of the Securities & Exchange Commission (SEC). Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed in the reports that are filed under the Exchange Act is accumulated and communicated to management, including the chief executive officer and chief financial officer, as appropriate to allow timely decisions regarding required disclosure. Under the supervision of and with the participation of management, including the chief executive officer and chief financial officer, the Company has evaluated the effectiveness of the design and operation of its disclosure controls and procedures as of April 1, 2006. Based on its evaluation and with the exception of the material weakness in internal control over financial reporting referenced below, our management, including our chief executive officer and chief financial officer, concluded that our disclosure controls and procedures were effective as of April 1, 2006.
(b) Changes in internal control over financial reporting. As previously reported in the Company’s Annual Report on Form 10-K, as filed with the Securities & Exchange Commission on November 22, 2005, in connection with the Company’s assessment of the effectiveness of our internal control over financial reporting at the end of our last fiscal year, we identified a material weakness in our internal control over financial reporting as of August 27, 2005. This material weakness generally involved the failure of the Company to have effective policies and procedures, or personnel with sufficient knowledge of accounting for compensation related matters in purchase accounting transactions, to ensure that such transactions were accounted for in accordance with generally accepted accounting principles. Specifically, the Company’s policies and procedures did not provide for effective identification of, and consideration of, terms in compensation arrangements that impact the accounting for compensation arrangements. Because of the material weakness described above, management concluded that (i) the Company did not maintain effective internal control over financial reporting as of August 27, 2005, based on the criteria established in “Internal Control—Integrated Framework” issued by COSO. The Company’s registered independent public accounting firm concurred with management’s conclusion as to this material weakness as of August 27, 2005.
Under the oversight of the Company’s Audit & Finance Committee, management undertook the following actions to remediate this material weakness in the Company’s internal control over financial reporting during the fiscal quarter ended November 26, 2005:
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Although the Company’s remediation efforts were considered complete as of December 31, 2005, the Company’s material weakness will not be considered remediated until the new internal controls have been able to be tested for operating effectiveness. As of April 1, 2006, a significant purchase accounting transaction had not been made since the material weakness was identified. Therefore, the remediated controls related to the material weakness have been unable to be tested, and management and the Company’s registered independent public accounting firm have not been able to conclude that these controls are operating effectively.
Other than the changes associated with material weakness remediation efforts, there have been no significant changes in internal controls or in other factors that could significantly affect these controls subsequent to the date of the evaluation described. The Company completed the integration of the former Mykrolis financial system operations onto the Company’s SAP ERP platform during the quarter ended April 1, 2006. The Company continues to evaluate the associated financial reporting controls to ensure the operating effectiveness of these controls.
OTHER INFORMATION
Item 1. Legal Proceedings
The following discussion provides information regarding certain litigation to which the Company was a party that were pending as of April 1, 2006. Other information with respect to legal proceedings appears in the Company’s Report on Form 10-K for the fiscal year ended August 27, 2005.
As described in the Company’s Report on Form 10-K for the fiscal year ended August 27, 2005, on March 3, 2003 the Company’s predecessor, Mykrolis Corporation, filed a lawsuit against Pall Corporation in the United States District Court for the District of Massachusetts alleging infringement of two of the Company’s U.S. patents by a fluid separation device known as the Pall Photo Kleen EZD-2 filter assembly manufactured and sold by the defendant. The Company’s lawsuit also sought a preliminary injunction preventing the defendant from the manufacture, use, sale, offer for sale or importation into the U.S. of the infringing product. Cross appeals of rulings by the District Court to the U.S. Court of Appeals for the Federal Circuit are pending.
On December 16, 2005 Pall Corporation filed suit against the Company in U.S. District Court for the Eastern District of New York alleging patent infringement. Specifically, the suit alleges infringement of two of plaintiff’s patents by two of the Company’s filtration products. Both products and their predecessor products have been on the market for more than 10 years and are covered by numerous patents held by the Company. The Company believes that this action is without merit and intends to vigorously defend this suit.
As described in the Company’s Report on Form 10-K for the fiscal year ended August 27, 2005, on June 28, 2005, the Company’s predecessor, Entegris, Inc., a Minnesota corporation, filed a lawsuit against Miraial Co. Ltd. in the United States District Court for the District of Minnesota alleging the infringement, contributory infringement or inducement to infringe of five of the Company’s U.S. patents relating to containers for transporting and storing silicon wafers used in the manufacture of semiconductors. The lawsuit also sought preliminary and permanent injunctions preventing the defendant from directly infringing, infringing by inducement or contributing to the infringement of these patents. On September 23, 2005 defendant filed a motion to dismiss for lack of jurisdiction and insufficiency of service of process. On October 28, 2005 this case was transferred to the U.S. District Court for the Southern District of New York by stipulation of the parties and the defendant accepted service of process and submitted to the jurisdiction of that court. This suit is currently pending the U.S. District Court for the Southern District of New York.
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Item 6. Exhibits
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
/s/ John D. Villas
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