-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, D1OlwNzkqeznUHH4BnEMURDDht2bNHzWZWaYvOORh57pcIg4QzU8oMR6mfsO6gKB vZlZUmf2d/6toR2MAolENg== 0000950144-01-001758.txt : 20010205 0000950144-01-001758.hdr.sgml : 20010205 ACCESSION NUMBER: 0000950144-01-001758 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 20001224 FILED AS OF DATE: 20010202 FILER: COMPANY DATA: COMPANY CONFORMED NAME: CREE INC CENTRAL INDEX KEY: 0000895419 STANDARD INDUSTRIAL CLASSIFICATION: SEMICONDUCTORS & RELATED DEVICES [3674] IRS NUMBER: 561572719 STATE OF INCORPORATION: NC FISCAL YEAR END: 0627 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-21154 FILM NUMBER: 1522022 BUSINESS ADDRESS: STREET 1: 4600 SILICON DR CITY: DURHAM STATE: NC ZIP: 27703 BUSINESS PHONE: 9193135300 MAIL ADDRESS: STREET 1: 4600 SILICON DR CITY: DURHAM STATE: NC ZIP: 27703-8475 FORMER COMPANY: FORMER CONFORMED NAME: CREE RESEARCH INC /NC/ DATE OF NAME CHANGE: 19940224 10-Q 1 g66708e10-q.txt FORM 10-Q 1 SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10-Q QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended December 24, 2000 Commission file number: 0-21154 CREE, INC. (Exact name of registrant as specified in its charter) NORTH CAROLINA 56-1572719 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 4600 SILICON DRIVE DURHAM, NORTH CAROLINA 27703 (Address of principal executive offices) (Zip Code) (919) 313-5300 (Registrant's telephone number, including area code) 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. [X] Yes [ ] No The number of shares outstanding of the registrant's common stock, par value $0.00125 per share, as of January 23, 2001 was 74,253,849. 2 CREE, INC. FORM 10-Q For the Quarter Ended December 24, 2000 INDEX Page No. -------- PART I. FINANCIAL INFORMATION Item 1. Financial Statements Consolidated Balance Sheets at December 24, 2000 (unaudited) and June 25, 2000 3 Consolidated Statements of Income for the three and six months ended December 24, 2000 and December 26, 1999 (unaudited) 4 Consolidated Statements of Cash Flow for the six months ended December 24, 2000 and December 26, 1999 (unaudited) 5 Notes to Consolidated Financial Statements (unaudited) 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 13 Item 3. Quantitative and Qualitative Disclosures About Market Risk 19 PART II. OTHER INFORMATION Item 1. Legal Proceedings 19 Item 4. Submission of Matters to a Vote of Security Holders 20 Item 6. Exhibits and Reports on Form 8-K 21 SIGNATURES 22 2 3 PART I - FINANCIAL INFORMATION ITEM 1 - FINANCIAL STATEMENTS CREE, INC. CONSOLIDATED BALANCE SHEETS (In thousands, except per share data)
December 24, June 25, 2000 2000 ----------------- --------------- ASSETS (Unaudited) Current assets: Cash and cash equivalents $ 59,496 $103,843 Short-term investments held to maturity 190,392 142,461 Marketable securities 7,832 15,842 Accounts receivable, net 22,708 12,406 Interest receivable 4,393 3,893 Inventories 13,335 9,320 Deferred income tax 139 -- Prepaid expenses and other current assets 1,541 1,254 ----------------- --------------- Total current assets 299,836 289,019 Property and equipment, net 185,393 137,118 Long-term investments held to maturity -- 41,965 Deferred income taxes 10,624 10,624 Patent and license rights, net 2,618 2,324 Other assets 26,821 5,152 ----------------- --------------- Total assets $525,292 $486,202 ================= =============== LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Accounts payable, trade $ 18,119 $ 14,204 Accrued salaries and wages 1,775 3,133 Deferred income tax 10,174 455 Other accrued expenses 5,950 5,270 ----------------- --------------- Total current liabilities 36,018 23,062 Long term liabilities: Long term liability 437 -- ----------------- --------------- Total long term liabilities 437 -- Shareholders' equity: Preferred stock, par value $0.01; 3,000 shares authorized at December -- -- 24, 2000 and June 25, 2000; none issued and outstanding Common stock, par value $0.00125; 200,000 and 120,000 shares authorized 89 88 at December 24, 2000 and June 25, 2000, respectively; shares issued and outstanding 71,577 and 70,696 at December 24, 2000 and June 25, 2000, respectively Additional paid-in-capital 421,568 415,716 Deferred compensation expense (1,476) (1,755) Retained earnings 74,671 48,156 Accumulated other comprehensive income (loss), net of tax (6,015) 935 ----------------- --------------- Total shareholders' equity 488,837 463,140 ----------------- --------------- Total liabilities and shareholders' equity $525,292 $486,202 ================= ===============
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE CONSOLIDATED FINANCIAL STATEMENTS. 3 4 CREE, INC. CONSOLIDATED STATEMENTS OF INCOME (In thousands, except per share data) (Unaudited)
Three Months Ended Six Months Ended --------------------------------------- ---------------------------------------- December 24, December 26, December 24, December 26, 2000 1999 2000 1999 ----------------- ------------------ ------------------ ------------------ Revenue: Product revenue, net $37,587 $22,137 $71,898 $40,385 Contract revenue, net 3,907 2,677 7,238 5,290 ----------------- ------------------ ------------------ ------------------ Total revenue 41,494 24,814 79,136 45,675 Cost of revenue: Product revenue 16,163 10,075 30,652 19,571 Contract revenue 3,257 2,012 5,844 3,900 ----------------- ------------------ ------------------ ------------------ Total cost of revenue 19,420 12,087 36,496 23,471 ----------------- ------------------ ------------------ ------------------ Gross profit 22,074 12,727 42,640 22,204 Operating expenses: Research and development 2,295 1,911 4,396 2,842 Sales, general and administrative 3,010 2,767 6,967 4,823 Other (income) expense 62 (8) 62 93 ----------------- ------------------ ------------------ ------------------ Income from operations 16,707 8,057 31,215 14,446 Other non operating income (loss) (11) -- (99) -- Interest income, net 4,322 573 9,105 1,126 ----------------- ------------------ ------------------ ------------------ Income before income taxes 21,018 8,630 40,221 15,572 Income tax expense 7,157 2,983 13,706 5,371 ----------------- ------------------ ------------------ ------------------ Net income $13,861 $ 5,647 $26,515 $10,201 ================= ================== ================== ================== Other comprehensive income, net of tax: Unrealized holding gain (loss) (5,532) 1,981 (6,950) (437) ----------------- ------------------ ------------------ ------------------ Comprehensive income $ 8,329 $ 7,628 $19,565 $ 9,764 ================= ================== ================== ================== Earnings per share: Basic $0.19 $0.09 $0.37 $0.16 ================= ================== ================== ================== Diluted $0.18 $0.08 $0.35 $0.15 ================= ================== ================== ================== Shares used in per share calculation: Basic 71,495 62,870 71,154 62,620 ================= ================== ================== ================== Diluted 75,200 67,084 75,230 66,705 ================= ================== ================== ==================
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE CONSOLIDATED FINANCIAL STATEMENTS. 4 5 CREE, INC. CONSOLIDATED STATEMENTS OF CASH FLOW (In thousands)
Six Months Ended ------------------------------------------- December 24, December 26, 2000 1999 --------------------- ----------------- Operating activities: (Unaudited) Net income $ 26,515 $ 10,201 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 9,050 4,588 Loss on disposal of property, equipment and patents 62 44 Amortization of patent rights 87 70 Issuance and amortization of deferred compensation 279 (101) Deferred income taxes 13,161 -- Loss (gain) on available for sale securities (1,182) -- Changes in operating assets and liabilities: Accounts receivable (10,802) (2,152) Inventories (4,015) (632) Prepaid expenses and other assets (287) (35) Accounts payable , trade 3,915 (1,354) Accrued expenses and long-term liability (243) 5,847 --------------------- ----------------- Net cash provided by operating activities 36,540 16,476 --------------------- ----------------- Investing activities: Purchase of available for sale securities (7,176) -- Proceeds from sale of available for sale securities 5,837 -- Purchase of property and equipment (57,388) (23,042) Purchase of securities held to maturity (56,606) -- Proceeds from securities held to maturity 50,640 -- Increase in other long-term assets (21,670) -- Purchase of patent rights (381) (304) --------------------- ----------------- Net cash used in investing activities (86,744) (23,346) --------------------- ----------------- Financing activities: Acquisition fees for purchase accounting transaction (674) -- Net proceeds from the issuance of short-term debt -- 200 Net proceeds from issuance of common stock 6,531 2,459 --------------------- ----------------- Net cash provided by financing activities 5,857 2,659 --------------------- ----------------- Net decrease in cash and cash equivalents (44,347) (4,211) Cash and cash equivalents: Beginning of period 103,843 42,545 ===================== ================= End of period $ 59,496 $ 38,334 ===================== ================= Supplemental disclosure of cash flow information: Cash paid for interest, net amounts capitalized $ 0 $ 0 ===================== ================= Cash paid for income taxes $ 414 $ 268 ===================== =================
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE CONSOLIDATED FINANCIAL STATEMENTS. 5 6 CREE, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) BASIS OF PRESENTATION The consolidated balance sheet as of December 24, 2000, the consolidated statements of income for the three and six months ended December 24, 2000 and December 26, 1999, and the consolidated statements of cash flow for the six months ended December 24, 2000 and December 26, 1999 have been prepared by the Company and have not been audited. In the opinion of management, all normal and recurring adjustments necessary to present fairly the financial position, results of operations and cash flow at December 24, 2000, and all for periods presented have been made. The balance sheet at June 25, 2000 has been derived from the audited financial statements as of that date. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted. It is suggested that these condensed financial statements be read in conjunction with the financial statements and notes thereto included in the Company's fiscal 2000 Form 10-K. The results of operations for the period ended December 24, 2000 are not necessarily indicative of the operating results that may be attained for the entire fiscal year. ACCOUNTING POLICIES Business Combination On May 1, 2000 the Company acquired Nitres, Inc. in a business combination accounted for as a pooling of interests. Nitres, Inc., became a wholly owned subsidiary (Cree Lighting Company) of the Company through the exchange of 3,695,492 shares of the Company's common stock for all of the outstanding stock of Nitres, Inc. In addition, the Company assumed outstanding stock options and warrants, which after adjustment for the exchange represented a total of 304,446 options and warrants to purchase shares of Cree's common stock. All prior period consolidated financial statements have been restated to include the results of operations, financial position and cash flows of Nitres, Inc., as though Nitres, Inc. had been a part of the Company for all periods presented. Principles of Consolidation The consolidated financial statements include the accounts of Cree, Inc., and its wholly-owned subsidiaries, Cree Lighting Company ("Cree Lighting"), Cree Research FSC, Inc., Cree Funding LLC, Cree Employee Services Corporation and Cree Technologies, Inc. All material intercompany accounts and transactions have been eliminated in consolidation. 6 7 Reclassifications Certain 2000 amounts in the accompanying consolidated financial statements have been reclassified to conform to the 2001 presentation. These reclassifications had no effect on previously reported net income or shareholder's equity. Fiscal Year The Company's fiscal year is a 52 or 53 week period ending on the last Sunday in the month of June. Accordingly, all quarterly reporting reflects a 13-week period in fiscal 2001 and fiscal 2000. The Company's current fiscal year extends from June 26, 2000 through June 24, 2001. Cash and Cash Equivalents Cash and cash equivalents consist of unrestricted cash accounts and highly liquid investments with an original maturity of three months or less when purchased. Fair Value of Financial Instruments The carrying amounts of cash and cash equivalents, short-term and long-term investments, available for sale securities, accounts and interest receivable, accounts payable, debt and other liabilities approximate fair value at December 24, 2000 and June 25, 2000. Investments Investments are accounted for in accordance with Statement of Financial Accounting Standards No. 115, (SFAS No. 115) "Accounting for Certain Investments in Debt and Equity Securities". This statement requires certain securities to be classified into three categories: (a) Securities Held-to-Maturity -- Debt securities that the entity has the positive intent and ability to hold to maturity are reported at amortized cost. (b) Trading Securities -- Debt and equity securities that are bought and held principally for the purpose of selling in the near term are reported at fair value, with unrealized gains and losses included in earnings. (c) Securities Available-for-Sale -- Debt and equity securities not classified as either securities held-to-maturity or trading securities are reported at fair value with unrealized gains and losses excluded from earnings and reported as a separate component of shareholders' equity. As of December 24, 2000, the Company's short-term investments held to maturity included $190.4 million consisting of $134.2 million in high-grade corporate bonds, $26.6 million in government securities, and $29.6 million in a closed end mutual fund investing in high grade corporate securities. The company purchased the investments with a portion of the proceeds from its public stock offering in January 2000. The Company has the intent and ability to hold 7 8 these securities until maturity; therefore, they are accounted for as "securities held-to maturity" under SFAS 115. The securities are reported on the balance sheet at amortized cost, as a short-term investment with unpaid interest included in interest receivable. At December 24, 2000 and December 26, 1999, the Company held a short-term equity investment in common stock of Microvision, Inc. ("MVIS"). The Company purchased 268,600 common shares in a private equity transaction in May 1999 at a price of $16.75 per share, or $4.5 million. Pursuant to an agreement signed March 17, 2000, the Company committed to increase its equity position in MVIS by investing an additional $12.5 million in MVIS common stock. This additional investment was completed on April 13, 2000, when the Company purchased 250,000 shares at a price of $50.00 per share. In June 2000, 162,500 MVIS shares were sold for $6.3 million, with a gain for $3.6 million realized from the sale. The Company has also purchased other securities for investment purposes. Management views these transactions as investments, and the shares are accounted for as "available for sale" securities under SFAS 115. Therefore unrealized gains or losses are excluded from earnings and are recorded in other comprehensive income or loss, net of tax. During the first six months of fiscal 2001, the Company realized a gain of $1.2 million from the sale of available-for-sale securities. Inventories Inventories are stated at the lower of cost or market, with cost determined under the first-in, first-out (FIFO) method. Inventories consist of the following: December 24, June 25, 2000 2000 ---------------------- -------------------- (In thousands) Raw materials $ 2,850 $ 2,415 Work-in-progress 4,569 3,094 Finished goods 5,916 3,811 ---------------------- -------------------- Total Inventory $ 13,335 $ 9,320 ====================== ==================== Research and Development Accounting Policy The U.S. Government provides funding through research contracts for several of the Company's current research and development efforts. The contract funding may be based on either a cost-plus or a cost-share arrangement. The amount of funding under each contract is determined based on cost estimates that include direct costs, plus an allocation for research and development, general and administrative and the cost of capital expenses. Cost-plus funding is determined based on actual costs plus a set percentage margin. For the cost-share contracts, the actual costs are divided between the U.S. government and the Company based on the terms of the contract. The government's cost share is then paid to the Company. Activities performed under these arrangements include research regarding silicon carbide and gallium nitride materials. The contracts typically require the submission of a written report that documents the results of such research. 8 9 The revenue and expense classification for contract activities is based on the nature of the contract. For contracts where the Company anticipates that funding will exceed direct costs over the life of the contract, funding is reported as contract revenue and all direct costs are reported as costs of contract revenue. For contracts under which the Company anticipates that direct costs will exceed amounts to be funded over the life of the contract, costs are reported as research and development expenses and related funding as an offset of those expenses. The following table details information about contracts for which direct expenses exceed funding by period as included in research and development expenses:
Three Months Ended Six Months Ended ----------------------------------------- ------------------------------------------ December 24, December 26, December 24, December 26, 2000 1999 2000 1999 ----------------- ------------------- -------------------- ------------------ (In thousands) Net R&D costs $174 $ 134 $ 239 $ 174 Government funding 314 331 660 398 ----------------- ------------------- -------------------- ------------------ Total direct costs incurred $488 $ 465 $ 899 $ 572 ================= =================== ==================== ==================
Significant Sales Contract In July 2000, the Company entered into a new Purchase Agreement with Osram Opto Semiconductors GmbH & Co. ("Osram"), pursuant to which Osram agreed to purchase and the Company is obligated to ship certain quantities of standard brightness, high brightness and ultra-brightness LED chips and silicon carbide wafers through September 2001. The agreement calls for certain quantities of standard brightness, high brightness and ultra-brightness LED chips to be delivered by month. In the event the Company is unable to ship at least 85% of the cumulative quantity due to have been shipped each month, Osram is entitled to liquidated damages. These damages are calculated at one percent per week of the purchase price of the delayed product, subject to a maximum of ten percent of the purchase price. If product shipments are delayed six weeks or more due to circumstances within the Company's control, then in lieu of liquidated damages, Osram may claim damages actually resulting from the delay up to forty percent of the purchase price of delayed products. The contract also gives Osram limited rights to defer shipments. For products to be shipped in more than 24 weeks after initial notice, Osram can defer 30% and 25% of standard brightness LEDs and high brightness and ultra-brightness LEDs, respectively. For products to be shipped in more than 12 weeks, but less than 24 weeks, Osram may defer 10% of scheduled quantities for standard brightness, high brightness and ultra-brightness LEDs. In each case, Osram is required to accept all products within 90 days of the original shipment date. In all other cases, Osram may reschedule shipments only with the Company's mutual written agreement. Additionally, the Purchase Agreement provides for higher per unit prices early in the contract with reductions in unit prices being available as the cumulative volume shipped increases. The 9 10 higher prices were negotiated by the Company to offset higher per unit costs expected earlier in the contract. Income Taxes The Company has established an estimated tax provision based upon an effective rate of 34%. The estimated effective rate was based upon projections of income for the fiscal year and the Company's ability to utilize remaining net operating loss carryforwards and other tax credits. However, the actual effective rate may vary depending upon actual pre-tax book income for the year or other factors. EARNINGS PER SHARE The Company presents earnings per share in accordance with Statement of Financial Accounting Standards No. 128, "Earnings Per Share" ("SFAS 128"). SFAS 128 required the Company to change its method of computing, presenting and disclosing earnings per share information. The following computation reconciles the differences between the basic and diluted presentations:
Three Months Ended Six Months Ended ------------------ ---------------- December 24, December 26, December 24, December 26, 2000 1999* 2000 1999* --------------- ---------------- ---------------- ---------------- (In thousands, except per share amounts) Net income $ 13,861 $ 5,647 $26,515 $ 10,201 Weighted average common shares 71,495 62,870 71,154 62,620 --------------- ---------------- ---------------- ---------------- Basic earnings per common share $ 0.19 $0.09 $0.37 $0.16 =============== ================ ================ ================ Net income $13,861 $5,647 $ 26,515 $10,201 Diluted weighted average common shares: Common shares outstanding 71,495 62,870 71,154 62,620 Dilutive effect of stock options and warrants 3,705 4,214 4,076 4,085 --------------- ---------------- ---------------- ---------------- Total diluted weighted average common shares 75,200 67,084 75,230 66,705 --------------- ---------------- ---------------- ---------------- Diluted earnings per common share $0.18 $0.08 $0.35 $0.15 =============== ================ ================ ================
* Weighted average shares and per share amounts have been adjusted for the two for one stock split effective December 1, 2000. Potential common shares that would have the effect of increasing diluted income per share are considered to be antidilutive. In accordance with SFAS No. 128, 1,034,441 shares for the three and six months ended December 24, 2000, respectively, were not included in calculating diluted income per share for the periods presented. For the three and six months ended December 26, 1999, there were no potential shares considered antidilutive. 10 11 The Company effected a two-for-one split of its common stock in December 2000. The stock split was effected by an amendment to the Company's Articles of Incorporation that became effective at the close of business on December 1, 2000. Each issued and unissued authorized share of common stock, $0.0025 par value per share, was automatically split into two whole shares of common stock, $0.00125 par value per share. On December 8, 2000, the Company issued to each holder of record of common stock a certificate evidencing the additional shares of common stock resulting from the stock split. All references in this document to common stock and per common share data have been adjusted to reflect the common stock split, unless otherwise stated. NEW ACCOUNTING PRONOUNCEMENTS In June 1998, The Financial Accounting Standards Board issued Statement No. 133 "Accounting for Derivative Instruments and Hedging Activities" ("SFAS 133"). SFAS 133, as amended by SFAS 137 and SFAS 138, is effective for all fiscal quarters of fiscal years beginning after June 15, 2000. In the first six months of fiscal 2001, the Company adopted SFAS 133. Because of the Company's minimal use of derivatives, management does not anticipate that the adoption of the new Statement will have a significant effect on earnings or the financial position of the Company. SUBSEQUENT EVENT On December 29, 2000 the Company completed the acquisition of the UltraRF division ("business") of Spectrian Corporation ("Spectrian"), through the purchase of the assets of the business by Cree's wholly-owned subsidiary, Zoltar Acquisition, Inc. The subsidiary was renamed UltraRF, Inc. ("UltraRF") following the completion of the acquisition. UltraRF designs, manufactures and markets a line of bipolar transistors and laterally diffused metal oxide semiconductor ("LDMOS") radio frequency ("RF") power semiconductors. The asset purchase was consummated pursuant to an Asset Purchase Agreement dated November 20, 2000 (the "Asset Purchase Agreement") between Spectrian and UltraRF. Under the terms of the Asset Purchase Agreement, Cree's subsidiary, UltraRF, acquired substantially all of the assets of the business, including inventories, equipment and tangible property, intangible assets, contract rights, records, supplies, rights associated with prepaid expenses, certain rights against third parties, certain software and trade accounts receivable attributable to external sales (offset by accounts payable, with no obligation of Cree, to collect accounts receivable), and assumed certain specified liabilities of the business, including obligations and liabilities under certain contracts, warranty obligations and tax obligations and liabilities relating to the business, in exchange for a total of 2,656,917 shares of Cree common stock. Of the total shares issued, 191,094 shares were placed in escrow to secure Spectrian's representations, warranties and covenants under the Asset Purchase Agreement. The escrow period is one year, with 50% of the escrowed shares to be released after six months if there have been no indemnification claims. The acquired assets included equipment and other physical property used by the business is designing, manufacturing and marketing bipolar and LDMOS RF power semiconductors and Cree intends to continue such use through its UltraRF subsidiary. 11 12 The UltraRF facility is located in a building on one of two parcels of land in Sunnyvale, California, that Spectrian leased in November 1996 for a 15-year term (with three options to extend the lease for up to an additional fifteen years). In connection with the acquisition of the assets of the business, Spectrian and Cree's subsidiary, UltraRF, also entered into a sublease agreement with respect to the UltraRF facility. Under the sublease, if Spectrian exercises its option to extend the term of its master lease with its landlord, UltraRF may also exercise an option to extend its sublease of the UltraRF facility. Cree has guaranteed the obligations of its subsidiary under the sublease. In addition, at the closing of the acquisition, Cree's subsidiary, UltraRF signed a supply agreement with Spectrian. Under this agreement, Spectrian has committed to purchase semiconductor components having a minimum aggregate purchase price of approximately $58 million during the two years ended December 31, 2002. In addition, UltraRF agreed to allocate sufficient capacity to supply Spectrian with quantities in excess of its minimum commitment by up to 20%. The minimum purchase amounts are fixed for each quarter during the two-year term of the agreement, with the aggregate of the eight quarters equaling $58.0 million. Cree, UltraRF and Spectrian also entered into a development agreement, under which Spectrian has agreed to provide funding of $2.4 million during calendar 2001. This work will support development by Cree and UltraRF directed to improve high linearity and gain LDMOS power modules, and silicon carbide based RF power transistors for potential use in Spectrian's power amplifier products. The acquisition will be recorded using the purchase method of accounting. 12 13 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Information set forth in this Form 10-Q, including Management's Discussion and Analysis of Financial Condition and Results of Operations, contains various "forward looking statements" within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Act of 1934. These statements represent the Company's judgment concerning the future and are subject to risks and uncertainties that could cause our actual operating results and financial position to differ materially. Such forward-looking statements can be identified by the use of forward-looking terminology such as "may," "will," "anticipate," "believe," "plan," "estimate," "expect," and "intend" or the negative thereof or other variations thereof or comparable terminology. The Company cautions that such forward-looking statements are further qualified by important factors that could cause the Company's actual operating results to differ materially from those forward-looking statements. These factors include, but are not limited to, uncertainty whether we can achieve our targets for increased yields and cost reductions needed to permit lower product pricing without margin reductions; risks associated with the production ramp-up for our new ultra-bright LED chips, including the possibility of unexpected delays, increased costs and manufacturing difficulties or less than expected market acceptance; the risk of variability in our manufacturing processes that can adversely affect yields and product performance; uncertain product demand; concentration of our business among few customers; whether we can manage our growth and integrate acquired businesses effectively; uncertainty whether our intellectual property rights will provide meaningful protection; the possibility of adverse results in our pending intellectual property litigation and general economic conditions. See Exhibit 99.1 for further discussion of factors that could cause the Company's actual results to differ. Overview Cree, Inc. is the world leader in developing and manufacturing semiconductor materials and electronic devices made from silicon carbide ("SiC"). We recognize product revenue at the time of shipment or in accordance with the terms of the relevant contract. We derive the largest portion of our revenue from the sale of blue and green light emitting diode ("LED") products. The Company offers LEDs at three brightness levels: ultra-bright blue and green devices, high-brightness blue and green products and standard brightness blue products. Our LED devices are utilized by end users for automotive dashboard lighting, liquid crystal display ("LCD") backlighting, including wireless handsets and other consumer products, indicator lamps, miniature white lights, indoor sign and arena displays, outdoor full color displays, traffic signals and other lighting applications. The Company's ultra-bright LED products were introduced to customers in sample quantities in October 2000. During the second quarter of fiscal 2001, revenues derived from these products represented 8% of the total LED sales mix. We believe the ultra-bright chips are two-times brighter than our high-brightness devices, and they will replace some of the demand for our older products over time. The ultra-bright chips are priced slightly higher than the high-brightness devices; therefore, the cost per lumen of brightness to the customer has been substantially reduced with the introduction of this product. As a result, the ultra-bright devices have gained 13 14 strong initial acceptance from our customers, but will require a design-in cycle that is expected to continue for several months. The ultra-bright products may allow new applications for Cree customers, including additional outdoor displays and traffic signal designs as a result of the higher brightness level. We are targeting these products to ramp quickly, and we believe they may account for up to 25% of our LED chip volume in the March 2001 quarter if we meet our production milestones. Historically, we have experienced lower margins with many new product introductions, including the ultra-brightness products. We will strive to make improvements to output and yield over the next several quarters for these products. During the second quarter of fiscal 2001, our high-brightness chips made-up the largest portion of our revenue at 71% of LED sales. However, these sales have declined as a percentage of total LED revenue from 82% in the three months ended September 2000 due to the sales of our new ultra-bright products. We believe the high-brightness chips will continue to decline as a percentage of our LED sales if we meet our production targets for our ultra-bright devices. The standard-brightness products are targeted to maintain a range of 15-20% of our LED volume due to the low price and customers current designs requiring the device. Through the first half of fiscal 2001, average sales prices for LEDs have declined 13%. We target average sales prices for these products to decline at a rate of 25% for the entire fiscal year; however, greater declines may be necessary depending on future market conditions. In anticipation of these declines in average sales prices, our management team is focused on the execution of yield improvements in our LED production processes. We have continued to make improvements to our LED output and yield; however, during the first half of fiscal 2001, we did not meet our internal cost reduction goals, as declines in cost only kept pace with reductions in average sales prices. Wafer yield improvements will be critical to our success in the next few quarters. In addition, the Company must continue to ramp capacity for our ultra-bright LED products as we pursue market penetration and acceptance. During the remainder of fiscal 2001, Cree must continue to focus on adding capacity through yield improvements. If we are unable to meet yield improvement objectives, continue the production ramp of our ultra-bright products and gain new LED customers, future margins may decline or our revenue growth may slow. We derive additional revenue from the sale of advanced materials made from SiC that are used primarily for research and development for new semiconductor applications. During the second quarter of fiscal 2001, sales of SiC wafers increased by 40% over the September 2000 quarter. Strong demand from the corporate and research communities is driving this growth, including new interest in SiC for microwave and power devices from certain customers. During the first half of fiscal 2001, we also sold SiC crystals to Charles & Colvard, Ltd. ("C&C"), for use in gemstone applications. We anticipate little to no revenue from the gemstone business over the next several quarters as they balance their inventory levels. C&C sales made up approximately 5% of total revenue during the second quarter of fiscal 2001. The balance of our revenue is derived from government and customer research contract funding. 14 15 RESULTS OF OPERATIONS Three Months Ended December 24, 2000 and December 26, 1999 Revenue. Revenue grew 67% from $24.8 million in the second quarter of fiscal 2000 to $41.5 million in the second quarter of fiscal 2001. This increase was attributable to an increase in product revenue of 70% from $22.1 million in the second quarter of fiscal 2000 to $37.6 million in the second quarter of fiscal 2001. This rise in product revenue was a result of the 114% increase in sales of our LED products in the second quarter of fiscal 2001 compared to the second quarter of fiscal 2000. LED volume rose 161% over the prior year due to a significant increase in demand for ultra-bright and high-brightness blue and green LED products, as well as greater capacity from our manufacturing facility. Average sales prices for LED products have declined 18% in the second quarter of fiscal 2001 compared to fiscal 2000 due to expected contractual volume discounts and other factors. Revenue attributable to sales of SiC materials was 6% lower in the second quarter of fiscal 2001 than in the same period of fiscal 2000, due to a significant decline in sales to C&C for gemstone materials. C&C ramped up their gemstone business in the second quarter of fiscal 2000 and have since reduced their orders as they balance their inventory. We anticipate little to no revenue from the gemstone business over the next several quarters. SiC wafer sales have increased 89% in the second quarter of fiscal 2001 compared to the same period of fiscal 2000, due to demand from the corporate and research communities, including new interest in SiC for microwave and power devices from certain customers. Wafer units have increased 95%, while average sales prices have declined 2% in the second quarter of fiscal 2001 compared to the three months ended December 1999. Contract revenue received from U.S. Government agencies and customers increased 46% during the second quarter of fiscal 2001 compared to the second quarter of fiscal 2000 due to additional contract awards received in the first half of fiscal 2001. Gross Profit. Gross profit increased 73% to $22.1 million in the second quarter of fiscal 2001. Compared to the prior year, gross margin increased to 53% from 51% of revenue due primarily to the higher throughput and manufacturing yield on high brightness LEDs and materials products that have resulted in lower unit costs. During the second quarter of fiscal 2001, we increased wages for non-exempt employees one-dollar per hour. Without the hourly wage increase, product margins would have been 57.6% of product revenue for the quarter. For the remainder of fiscal 2001, we plan to continue the strategy of reducing LED costs through higher production yields. Wafer costs for SiC material sales also declined 23% in the second quarter of fiscal 2001 compared to the second quarter of fiscal 2000 due to improved yields and greater throughput of materials. Research and Development. Research and development expenses increased 20% in the second quarter of fiscal 2001 to $2.3 million from $1.9 million in the second quarter of fiscal 2000. Much of this increase was caused by greater investments for research in the RF and microwave and optoelectronics programs. We believe that research and development expenses will continue to grow during the remainder of fiscal 2001 due to increased funding necessary to develop products for future release; however, as a percentage of revenue theses expenses are targeted to remain relatively even. 15 16 Sales, General and Administrative. Sales, general and administrative expenses increased 9% in the second quarter of fiscal 2001 to $3.0 million from $2.8 million in the second quarter of fiscal 2000, due to greater spending to support the overall growth of the business and additional legal expenses resulting from the patent litigation. During the second quarter of fiscal 2001, the Company changed its employee profit sharing bonus program. This plan was changed to provide that, in lieu of a cash bonus, employees would be granted options to purchase common stock of the Company upon achieving quarterly financial objectives. This change reduced S,G&A expenses by $500,000 during the second quarter of fiscal 2001 as compared to the same quarter in the prior year. For the remainder of fiscal 2001, we anticipate that total sales, general and administrative costs will increase in connection with the growth of our business; however, we believe that as a percentage of revenue they will remain constant. Other (Income) Expense. Other expense has increased to $62,000 during the second quarter of fiscal 2001 from income of $8,000 recognized for the second quarter of fiscal 2000. In the second quarter of fiscal 2001, we instituted a physical tagging system for fixed assets that resulted in the write-down of $62,000 of assets. Interest Income, Net. Interest income, net has increased $3.7 million to $4.3 million in the second quarter of fiscal 2001 from $573,000 in the prior year period. This was due to higher average cash balances being available in the second quarter of fiscal 2001 as a result of the public stock offering completed in January 2000. Higher interest rates in the second quarter of fiscal 2001 also improved interest income. Income Tax Expense. Income tax expense for the second quarter of fiscal 2001 was $7.2 million compared to $3.0 million in the second quarter of fiscal 2000. This increase resulted from higher profitability during the second quarter of fiscal 2001 over the same period in fiscal 2000. Our tax rate provision was 34% for both periods. Six Months Ended December 24, 2000 and December 26, 1999 Revenue. Revenue increased 73% from $45.7 million in the first six months of fiscal 2000 to $79.1 million in the first six months of fiscal 2001. This increase resulted from a rise in product revenue of 78% from $40.4 million in the first six months of fiscal 2000 to $71.9 million in the first six months of fiscal 2001. Greater product revenue was largely a result of the 128% increase in sales of our LED products in the first six months of fiscal 2001 compared to the first six months of fiscal 2000. Our high brightness LED products experienced the heaviest demand; however, our standard brightness chips also increased 48% during the comparative period. Overall LED chip volume grew 140% in the first six months of fiscal 2001 over units shipped in the first six months of fiscal 2000, while our average sales prices for LEDs has declined 5% during this time frame. Revenue attributable to sales of SiC material was 4% lower in the first six months of fiscal 2001 than in the same period of fiscal 2000, due to a significant decline in sales to C&C for gemstone applications. C&C ramped up their gemstone business in the first half of fiscal 2000 and have since reduced their orders as they balance their inventory. We anticipate little to no revenue from 16 17 the gemstone business over the next several quarters. SiC wafer sales have increased 72% in the first six months of fiscal 2001 compared to the same period of fiscal 2000, due to heavy demand from the corporate and research communities, including new interest in SiC for microwave and power devices from certain customers. Wafer units have increased 106%, while average sales prices have declined 17% in the first half fiscal 2001 compared to the first six months of fiscal 2000. Average sales prices have declined due to a shift in mix of products sold. Contract revenue received from U.S. Government agencies and customers increased 37% during the first six months of fiscal 2001 compared to the first six months of fiscal 2000 due to new contract awards received in the first half of fiscal 2001. Gross Profit. Gross profit increased 92% from $22.2 million in the first six months of fiscal 2000 to $42.6 million in the first six months of fiscal 2001. This increase is due primarily to the rise in LED sales volumes combined with LED cost declines that stayed ahead of reductions in average sales prices. Average LED costs were lower due to higher throughput and manufacturing yield on high brightness LEDs and materials products. Margins on wafer products have also improved during the first six months of fiscal 2001 as higher yields have reduced costs 27% compared to the same period of the prior year. Research and Development. Research and development expenses increased 55% in the first six months of fiscal 2001 to $4.4 million from $2.8 million in the first six months of fiscal 2000. Much of this increase was caused by a greater investment made for research in the RF and microwave and optoelectronics programs. We anticipate that internal funding for development of new products will continue to grow in future periods, while we believe that government funding for our development activities will remain constant. Sales, General and Administrative. Sales, general and administrative expenses increased 44% in the first six months of fiscal 2001 to $7.0 million from $4.8 million in the first six months of fiscal 2000, due to greater spending to support the overall growth of the business. We anticipate that total sales, general and administrative costs will continue to increase in connection with the growth of the business; however, we believe that as a percentage of revenue theses costs will remain constant. Other Expense. Other expense decreased 33% to $62,000 during the first six months of fiscal 2001 from $93,000 for the first six months of fiscal 2000. In the first six months of fiscal 2000, the Company incurred a greater amount of fixed asset write-downs. Other Non-Operating Expense. Other non-operating expenses for the first six months of fiscal 2001 were $99,000 compared to $0 in the prior year period, due to additional costs associated with the acquisition of Nitres, Inc. In addition, during the first quarter of fiscal 2001, the Company realized a $1.2 million gain on the sale of marketable securities. This gain was offset by a one-time charitable contribution of $1.2 million made to the University of California at Santa Barbara to endow a Cree chair in solid state lighting and displays. Interest Income, Net. Interest income, net increased 709% to $9.1 million in the first six months of fiscal 2001 from $1.1 million in the first six months of fiscal 2000. This was due to higher average cash balances being available in the first half of fiscal 2001 as a result of the public stock 17 18 offering completed in January 2000. Higher interest rates in the first half of fiscal 2001 also improved interest income. Income Tax Expense. Income tax expense for the first half of fiscal 2001 was $13.7 million compared to $5.4 million in the six months ended December 1999. This increase resulted from higher profitability during the first half of fiscal 2001 over the same period in fiscal 2000. Our tax rate provision was 34% for both periods. LIQUIDITY AND CAPITAL RESOURCES We have funded our operations to date through sales of equity, bank borrowings and revenue from product and contract sales. As of December 24, 2000, we had working capital of $263.8 million, including $257.7 million in cash and short-term investments. Operating activities generated $36.5 million for the first six months of fiscal 2001 compared with $16.5 million generated during the comparative period in fiscal 2000. This increase was primarily attributable to higher profitability. Most of the $86.7 million used in investing activities in the first six months of fiscal 2001 was related to the purchase of held to maturity investments and capital improvements. We invested $57.4 million in capital expenditures during the first six months of fiscal 2001 compared to $23.0 million during the same period in the prior fiscal year. The majority of the increase in spending was due to new equipment additions to increase manufacturing capacity in our epitaxy, cleanroom and package and test areas. We are also nearing the completion of a 125,000 square foot facility expansion at our production site near Research Triangle Park, North Carolina. The increase in other long-term assets of $21.7 million in the first six months of fiscal 2001 represents strategic investments made in private companies such as Xemod, Inc. Cash provided by financing activities during the first six months of fiscal 2001 related primarily to the receipt of $6.5 million in proceeds from the exercise of stock options from the Company's employee stock option plan and the exercise of outstanding stock warrants. On January 18, 2001, Cree announced that its Board of Directors has authorized the repurchase of up to four million shares, or about five percent, of its outstanding common stock. The Company expects to use available cash to finance purchases under the program, which extends to January 2002. At the discretion of the Company's management, the repurchase program can be implemented through open market or privately negotiated transactions. The Company will determine the time and extent of repurchases based on its evaluation of market conditions and other factors. The Company may also issue additional shares of common stock for the acquisition of complementary businesses or other significant assets. From time to time we evaluate potential acquisitions of and investments in complementary businesses and anticipate continuing to make such evaluations. 18 19 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK QUANTITATIVE DISCLOSURES As of December 24, 2000, the Company maintains investments in equity securities that are treated for accounting purposes under SFAS 115 as ""available for sale" securities. These investments are carried at fair market value based on quoted market prices of the investments as of December 24, 2000, with net unrealized gains or losses excluded from earnings and reported as a separate component of stockholder's equity. These investments are subject to market risk of equity price changes. Management views these stock holdings as investments; therefore, the shares are accounted for as "available for sale" securities under SFAS 115. The fair market value of these investments as of December 24, 2000, using the closing sale price of December 22, 2000 was $7.8 million. During the first six months of fiscal 2001, the Company invested some of the proceeds from its January 2000 public offering into other investments at fixed interest rates that vary by security. No other material changes in market risk were identified during the most recent quarter. QUALITATIVE DISCLOSURES Investments in the common stock of other public companies are subject to the market risk of equity price changes. While the Company can not predict or manage the future market price for such stock, management continues to evaluate its investment position on an ongoing basis. PART II - OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS As reported in the Company's statement on Form 10-Q filed November 3, 2000, the Company filed a patent infringement lawsuit on September 22, 2000 against Nichia Corporation and Nichia America Corporation in the United States District Court for the Eastern District of North Carolina. The lawsuit seeks enforcement of a patent relating to gallium nitride-based semiconductor devices that are manufactured using lateral epitaxial overgrowth (LEO) technology. This technology permits the growth of high quality gallium nitride-based materials useful in manufacturing certain laser diodes and other devices ("the LEO patent"). The LEO patent was issued to North Carolina State University in April 2000 and is licensed to Cree under a June 1999 agreement pursuant to which Cree obtained rights to a number of LEO and related techniques. In its complaint, Cree alleges that Nichia is infringing the LEO patent by, among other things, importing, selling and offering for sale in the United States certain gallium nitride-based laser diodes covered by one or more claims of the LEO patent. The lawsuit seeks damages and an injunction against infringement. North Carolina State University is a co-plaintiff in the action. On November 30, 2000, Nichia America Corporation filed an answer and counterclaim seeking a declaratory judgement of non-infringement and invalidity of the LEO patent. On December 21, 2000, Nichia Corporation filed an answer and counterclaim against the Company also seeking a 19 20 declaratory judgement of non-infringement and invalidity of the LEO patent. The Nichia Corporation answer also included counterclaims asserting that Cree is infringing four U.S. patents relating to nitride semiconductor technology and further asserting misappropriation of trade secrets and related claims against Cree and a former Nichia researcher now employed by a Cree subsidiary on a part-time basis. The counterclaim filed by Nichia Corporation seeks damages and an injunction. Although there can be no assurance of success, management of the Company believes the counterclaims asserted in the case are without merit and intends to defend against them vigorously. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS The Company's Annual Meeting of Shareholders was held on October 31, 2000. The following proposals were introduced and voted upon: PROPOSAL NO. 1 -- Election of directors* Name Votes For Votes Withheld ---------------------- --------------------- --------------------- F. Neal Hunter 31,942,482 53,294 Charles M. Swoboda 31,940,912 54,864 John W. Palmour 31,942,353 53,423 Walter L. Robb 31,907,453 88,323 William J. O'Meara 31,938,728 57,048 Dolph W. von Arx 31,130,416 865,360 James E. Dykes 31,940,447 55,329 PROPOSAL NO. 2 -- Amendment of Articles of Incorporation to increase the number of authorized shares of common stock* FOR 31,518,990 AGAINST 446,233 ABSTENTIONS AND BROKER NON-VOTES 30,553 PROPOSAL NO. 3 -- Amendment to Equity Compensation Plan to increase the number of shares authorized for awards* FOR 13,676,584 AGAINST 7,789,950 ABSTENTIONS AND BROKER NON-VOTES 10,529,242 PROPOSAL NO. 4 -- Selection of Ernst & Young LLP as auditors for the fiscal year ending June 24, 2001* FOR 31,922,298 AGAINST 37,929 ABSTENTIONS AND BROKER NON-VOTES 35,549 * Prior to adjustment for the Company's two-for-one stock split that was effective December 1, 2000. 20 21 The matters listed above are described in detail in the Company's definitive proxy statement dated September 27, 2000, for the Annual Meeting of Shareholders held on October 31, 2000. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits: 3.1 Articles of Incorporation, as amended 10.1 Equity Compensation Plan, as amended and restated December 1, 2000 * 10.2 Management Incentive Compensation Program - Fiscal Year 2001 Plan * 99.1 Certain Business Risks and Uncertainties (b) Reports on Form 8-K: On December 14, 2000 the Company filed a Form 8-K announcing a two-for-one stock split of its outstanding common stock. * Compensatory Plan 21 22 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. CREE, INC. Date: February 1, 2001 /s/ Cynthia B. Merrell -------------------------------------------- Cynthia B. Merrell Chief Financial Officer and Treasurer (Authorized Officer and Chief Financial and Accounting Officer) 22 23 EXHIBIT INDEX Exhibit No. 3.1 Articles of Incorporation, as amended 10.1 Equity Compensation Plan, as amended and restated December 1, 2000* 10.2 Management Incentive Compensation Program - Fiscal Year 2001 Plan* 99.1 Certain Business Risks and Uncertainties * Compensatory Plan 23 EX-3.1 2 g66708ex3-1.txt ARTICLES OF INCORPORATION, AS AMENDED 1 EXHIBIT 3.1 ARTICLES OF INCORPORATION OF CREE, INC. (as amended through December 1, 2000) ARTICLE I The name of the Corporation is Cree, Inc. ARTICLE II The period of duration of the Corporation shall be perpetual. ARTICLE III The purpose for which the Corporation is organized is to engage in any lawful act or activity for which corporations may be organized under Chapter 55 of the General Statutes of North Carolina. ARTICLE IV The aggregate number of shares of capital stock which the Corporation shall have authority to issue is 203,000,000 shares divided into two classes consisting of 200,000,000 shares of Common Stock with a par value of $0.00125 per share and 3,000,000 shares of Preferred Stock with a par value of $0.01 per share. The Board of Directors is authorized from time to time to establish one or more series of Preferred Stock and to determine the preferences, limitations and relative rights of the Preferred Stock before issuance of any shares of that class and of any series of Preferred Stock before issuance of shares of that series. ARTICLE V The number of directors of the Corporation may be fixed by the bylaws. ARTICLE VI There shall be no preemptive rights with respect to the shares of the capital stock of the Corporation. ARTICLE VII No director of the Corporation shall have personal liability arising out of an action whether by or in the right of the Corporation or otherwise for monetary damages for breach of his or her duty as a director; provided, however, that the foregoing shall not limit or eliminate the personal liability of a director with respect to (i) acts or omissions not made in good faith that 2 such director at the time of such breach knew or believed were in conflict with the best interests of the Corporation, (ii) any liability under Section 55-8-33 of the North Carolina General Statutes or any successor provision, (iii) any transaction from which such director derived an improper personal benefit or (iv) acts or omissions occurring prior to the date of the effectiveness of this Article. As used in this Article, the term "improper personal benefit" does not include a director's compensation or other incidental benefit for or on account of his or her service as a director, officer, employee, independent contractor, attorney or consultant of the Corporation. Furthermore, notwithstanding the foregoing provision, in the event that Section 55-2-02 or any other provision of the North Carolina General Statutes is amended or enacted to permit further limitation or elimination of the personal liability of a director, the personal liability of the Corporation's directors shall be limited or eliminated to the fullest extent permitted by the applicable law. This Article shall not affect a charter or bylaw provision or contract or resolution of the Corporation indemnifying or agreeing to indemnify a director against personal liability. Any repeal or modification of this Article shall not adversely affect any limitation hereunder on the personal liability of a director with respect to acts or omissions occurring prior to such repeal or modification. ARTICLE VIII The name and address of the incorporator is Fred D. Hutchison, Suite 450, 2626 Glenwood Avenue, Raleigh, North Carolina 27608. EX-10.1 3 g66708ex10-1.txt EQUITY COMPENSATION PLAN, AS AMENDED AND RESTATED 1 EXHIBIT 10.1 CREE, INC. EQUITY COMPENSATION PLAN (As amended and restated December 1, 2000) ARTICLE I - GENERAL PROVISIONS 1.1 The Plan is designed, for the benefit of the Company, to attract and retain for the Company personnel of exceptional ability; to motivate such personnel through added incentives to make a maximum contribution to the Company; to develop and maintain a highly competent management team; and to be competitive with other companies with respect to executive compensation. 1.2 Awards under the Plan may be made to Participants in the form of Incentive Stock Options and Nonqualified Stock Options. 1.3 The Cree, Inc. Equity Compensation Plan was initially adopted effective August 2, 1989 and was amended and restated in the form of the Plan effective as of July 1, 1995 (the "Effective Date"). ARTICLE II - DEFINITIONS Except where the context otherwise indicates, the following definitions apply: 2.1 "Act" means the Securities Exchange Act of 1934, as now in effect or as hereafter amended. All citations to sections of the Act or rules thereunder are to such sections or rules as they may from time to time be amended or renumbered. 2.2 "Agreement" means the written agreement evidencing each Award granted to a Participant under the Plan. 2.3 "Award" means an award granted to a Participant in accordance with the provisions of the Plan, including an Incentive Stock Option or a Nonqualified Stock Option. 2.4 "Board" means the Board of Directors of Cree, Inc. 2.5 "Change in Control" means the occurrence of an event defined in Section 7.1 of the Plan. 2.6 "Code" means the Internal Revenue Code of 1986, as now in effect or as hereafter amended. 2.7 "Committee" means the Compensation Committee of the Board or such other committee consisting of two or more members of the Board as may be appointed by the Board to administer this Plan pursuant to Article III. Committee members may also be appointed for such limited purposes as may be provided by the Board. 2 2.8 "Company" means Cree, Inc., a North Carolina corporation, and its successors and assigns. The term "Company" shall include any corporation which is a member of a controlled group of corporations (as defined in Section 414(b) of the Code, as modified by Section 415(h) of the Code) which includes the Company; any trade or business (whether or not incorporated) which is under common control (as defined in Section 414(c) of the Code, as modified by Section 415(h) of the Code) with the Company; any organization (whether or not incorporated) which is a member of an affiliated service group (as defined in Section 414(m) of the Code) which includes the Company; and any other entity required to be aggregated with the Company pursuant to regulations under Section 414(o) of the Code. With respect to all purposes of the Plan, including, but not limited to, the establishment, amendment, termination, operation and administration of the Plan, Cree, Inc. shall be authorized to act on behalf of all other entities included within the definition of "Company." 2.9 "Disability" means (i) with respect to a Participant who is eligible to participate in the Company's program of long-term disability insurance, a condition with respect to which the Participant is entitled to commence benefits under such program of long-term disability insurance, and (ii) with respect to any Participant (including a Participant who is eligible to participate in the Company's program of long-term disability insurance), a disability as determined under procedures established by the Committee or in any Award. 2.10 "Early Retirement" shall mean retirement from active employment with the Company, with the express consent of the Committee, pursuant to early retirement provisions established by the Committee or in any Award. 2.11 "Eligible Participant" means any employee of the Company, as shall be determined by the Committee, as well as any other person, including directors, whose participation the Committee determines is in the best interest of the Company, subject to limitations as may be provided by the Code, the Act or the Committee. 2.12 "Fair Market Value" means, with respect to any given day, the following: (a) If the Stock is not listed for trading on a national securities exchange but is listed on the Nasdaq National Market or The Nasdaq Small-Cap Market of The Nasdaq Stock Market, then the Fair Market Value shall be the last sale price of the Stock on the date of reference, as reported by the Nasdaq-Amex Reporting Service, or such other source as the Board deems reliable. (b) If the Stock is listed for trading on any national securities exchange, then the Fair Market Value shall be the closing price of the Stock on such exchange on the date of reference. The Committee may establish an alternative method of determining Fair Market Value. 2.13 "Incentive Stock Option" means a Stock Option granted under Article IV of the Plan, and as defined in Section 422 of the Code. 3 2.14 "Nonqualified Stock Option" means a Stock Option granted under Article V of the Plan. 2.15 "Normal Retirement" shall mean retirement from active employment with the Company on or after age 65, or pursuant to such other requirements as may be established by the Committee or in any Award. 2.16 "Option Grant Date" means, as to any Stock Option, the latest of: (a) the date on which the Committee takes action to grant the Stock Option to the Participant; (b) the date the Participant receiving the Stock Option becomes an employee of the Company, to the extent employment status is a condition of the grant or a requirement of the Code or the Act; or (c) such other date (later than the dates described in (a) and (b) above) as the Committee may designate. 2.17 "Participant" means an Eligible Participant to whom an Award has been granted and who has entered into an Agreement evidencing the Award. 2.18 "Plan" means the Cree, Inc. Equity Compensation Plan as set forth herein and as further amended or amended and restated from time to time. 2.19 "Retirement" shall mean Early Retirement or Normal Retirement. 2.20 "Stock" means shares of the Common Stock of Cree, Inc., par value $.0025 per share, as may be adjusted pursuant to the provisions of Section 3.10. 2.21 "Stock Option" means an Award under Article IV or V of the Plan of an option to purchase Stock. A Stock Option may be either an Incentive Stock Option or a Nonqualified Stock Option. 2.22 "Termination of Employment" means the discontinuance of employment of a Participant with the Company for any reason. The determination of whether a Participant has discontinued employment shall be made by the Committee in its discretion. In determining whether a Termination of Employment has occurred, the Committee may provide that service as a consultant or service with a business enterprise in which the Company has a significant ownership interest shall be treated as employment with the Company. The Committee shall have the discretion, exercisable either at the time the Award is granted or at the time the Participant terminates employment, to establish as a provision applicable to the exercise of one or more Awards that during the limited period of exercisability following Termination of Employment, the Award may be exercised not only with respect to the number of shares of Stock for which it is exercisable at the time of the Termination of Employment but also with respect to one or more subsequent installments for which the Award would have become exercisable had the Termination of Employment not occurred. 4 ARTICLE III - ADMINISTRATION 3.1 This Plan shall be administered by the Committee. The Committee, in its discretion, may delegate to one or more of its members such of its powers as it deems appropriate. The Committee also may limit the power of any member to the extent necessary to comply with any law. Members of the Committee shall be appointed originally, and as vacancies occur, by the Board, to serve at the pleasure of the Board. The Board may serve as the Committee, if by the terms of the Plan all Board members are otherwise eligible to serve on the Committee. 3.2 The Committee shall meet at such times and places as it determines. A majority of its members shall constitute a quorum, and the decision of a majority of those present at any meeting at which a quorum is present shall constitute the decision of the Committee. A memorandum signed by all of its members shall constitute the decision of the Committee without necessity, in such event, for holding an actual meeting. 3.3 The Committee shall have the exclusive right to interpret, construe and administer the Plan, to select the persons who are eligible to receive an Award, and to act in all matters pertaining to the granting of an Award and the contents of the Agreement evidencing the Award, including without limitation, the determination of the number of Stock Options, shares of Stock subject to an Award, and the form, terms, conditions and duration of each Award, and any amendment thereof consistent with the provisions of the Plan. All acts, determinations and decisions of the Committee made or taken pursuant to grants of authority under the Plan or with respect to any questions arising in connection with the administration and interpretation of the Plan, including the severability of any and all of the provisions thereof, shall be conclusive, final and binding upon all Participants, Eligible Participants and their beneficiaries. 3.4 The Committee may adopt such rules, regulations and procedures of general application for the administration of this Plan, as it deems appropriate. 3.5 The number of shares of Stock which are available for Award under the Plan shall be Nineteen Million Eight Hundred Nineteen Thousand Eight Hundred (19,819,800). Such shares of Stock shall be made available from authorized and unissued shares. If, for any reason, any shares of Stock awarded or subject to purchase under the Plan are not delivered or purchased, or are reacquired by the Company, for reasons including, but not limited to, a termination, expiration or cancellation of a Stock Option, such shares of Stock shall not be charged against the aggregate number of shares of Stock available for Awards under the Plan, and may again be available for Award under the Plan. 3.6 Each Award granted under the Plan shall be evidenced by a written Agreement. Each Agreement shall be subject to and incorporate, by reference or otherwise, the applicable terms and conditions of the Plan, and any other terms and conditions, not inconsistent with the Plan, as may be imposed by the Committee. 3.7 The Company shall not be required to issue or deliver any certificates for shares of Stock prior to: 5 (a) the listing of such shares on any stock exchange on which the Stock may then be listed; and (b) the completion of any registration or qualification of such shares of Stock under any federal or state law, or any ruling or regulation of any government body which the Company shall, in its discretion, determine to be necessary or advisable. 3.8 All certificates for shares of Stock delivered under the Plan shall also be subject to such stop-transfer orders and other restrictions as the Committee may deem advisable under the rules, regulations, and other requirements of the Securities and Exchange Commission, any stock exchange upon which the Stock is then listed and any applicable federal or state laws, and the Committee may cause a legend or legends to be placed on any such certificates to make appropriate reference to such restrictions. In making such determination, the Committee may rely upon an opinion of counsel for the Company. 3.9 Except as provided otherwise in the Plan or in an Agreement, no Participant awarded a Stock Option shall have any right as a shareholder with respect to any shares of Stock covered by his or her Stock Option prior to the date of issuance to him or her of a certificate or certificates for such shares of Stock. 3.10 If any reorganization, recapitalization, reclassification, stock split-up, stock dividend, or consolidation of shares of Stock, merger or consolidation of the Company or sale or other disposition by the Company of all or a portion of its assets, any other change in the Company's corporate structure, or any distribution to shareholders other than a cash dividend results in the outstanding shares of Stock, or any securities exchanged therefor or received in their place, being exchanged for a different number or class of shares of Stock or other securities of the Company, or for shares of Stock or other securities of any other corporation; or new, different or additional shares or other securities of the Company or of any other corporation being received by the holders of outstanding shares of Stock, then equitable adjustments shall be made by the Committee in: (a) the limitation on the aggregate number of shares of Stock that may be awarded as set forth in Section 3.5 of the Plan; (b) the number and class of Stock that may be subject to an Award, and which have not been issued or transferred under an outstanding Award; (c) the terms, conditions or restrictions of any Award and Agreement, including the price payable for the acquisition of Stock; provided, however, that all adjustments made as the result of the foregoing in respect of each Incentive Stock Option shall be made so that such Stock Option shall continue to be an Incentive Stock Option, as defined in Section 422 of the Code; and (d) the limitations on grants of Stock Options set forth in Section 6.9 of the Plan. 6 3.11 In addition to such other rights of indemnification as they may have as directors or as members of the Committee, the members of the Committee shall be indemnified by the Company against reasonable expenses, including attorney's fees, actually and necessarily incurred in connection with the defense of any action, suit or proceeding, or in connection with any appeal therein, to which they or any of them may be a party by reason of any action taken or failure to act under or in connection with the Plan or any Award granted thereunder, and against all amounts paid by them in settlement thereof, provided such settlement is approved by independent legal counsel selected by the Company, or paid by them in satisfaction of a judgment or settlement in any such action, suit or proceeding, except as to matters as to which the Committee member has been negligent or engaged in misconduct in the performance of his duties; provided, that within 60 days after institution of any such action, suit or proceeding, a Committee member shall in writing offer the Company the opportunity, at its own expense, to handle and defend the same. 3.12 The Committee may require each person purchasing shares of Stock pursuant to an Award under the Plan to represent to and agree with the Company in writing that he is acquiring the shares of Stock without a view to distribution thereof and/or that he has met such other requirements as the Committee determines may be applicable to such purchase. The certificates for such shares of Stock may include any legend which the Committee deems appropriate to reflect any restrictions on transfer. 3.13 The Committee shall be authorized to make adjustments in performance-based criteria or in the terms and conditions of other Awards in recognition of unusual or nonrecurring events affecting the Company or its financial statements or changes in applicable laws, regulations or accounting principles. The Committee may correct any defect, supply any omission or reconcile any inconsistency in the Plan or any Agreement in the manner and to the extent it shall deem desirable to carry it into effect. In the event the Company shall assume outstanding employee benefit awards or the right or obligation to make future such awards in connection with the acquisition of another corporation or business entity, the Committee may, in its discretion, make such adjustments in the terms of Awards under the Plan as it shall deem appropriate. 3.14 The Committee shall have full power and authority to determine whether, to what extent and under what circumstances, any Award shall be canceled or suspended if the Participant (a) without the consent of the Committee, while employed by the Company or after termination of such employment, becomes associated with, employed by, renders services to, or owns any interest in, other than any insubstantial interest, as determined by the Committee, any business that is in competition with the Company as determined by the Committee in its discretion; or (b) is terminated for cause as determined by the Committee in its discretion. ARTICLE IV - INCENTIVE STOCK OPTIONS 4.1 Each provision of this Article IV and of each Incentive Stock Option granted hereunder shall be construed in accordance with the provisions of Section 422 of the Code, and any provision hereof that cannot be so construed shall be disregarded. 7 4.2 Incentive Stock Options shall be granted only to Eligible Participants who are in the active employment of the Company, each of whom may be granted one or more such Incentive Stock Options for a reason related to his or her employment at such time or times determined by the Committee following the Effective Date through the date which is ten (10) years following the Effective Date, subject to the following conditions: (a) The Incentive Stock Option price per share of Stock shall be set in the Agreement, but shall not be less than 100% of the Fair Market Value of the Stock on the Option Grant Date. If the Eligible Participant owns more than 10% of the outstanding Stock (as determined pursuant to Section 424(d) of the Code) on the Option Grant Date, the Incentive Stock Option price per share shall not be less than 110% of the Fair Market Value of the Stock on the Option Grant Date. (b) Subject to any conditions on exercise set forth in the corresponding Agreement, the Incentive Stock Option may be exercised in whole or in part from time to time within ten (10) years from the Option Grant Date (five (5) years if the Eligible Participant owns more than 10% of the Stock on the Option Grant Date), or such shorter period as may be specified by the Committee in the Award; provided, that in any event, the Incentive Stock Option shall lapse and cease to be exercisable upon a Termination of Employment or within such period following a Termination of Employment as shall have been specified in the Incentive Stock Option Agreement, which period shall not exceed three months unless: (i) employment shall have terminated as a result of death or Disability, in which event such period shall not exceed one year after the date of death or Disability; or (ii) death shall have occurred following a Termination of Employment and while the Incentive Stock Option was still exercisable, in which event such period shall not exceed one year after the date of death; provided, further, that such period following a Termination of Employment shall in no event extend the original exercise period of the Incentive Stock Option. (c) To the extent the aggregate Fair Market Value, determined as of the Option Grant Date, of the shares of Stock with respect to which Incentive Stock Options (determined without regard to this subsection) are first exercisable during any calendar year by any Eligible Participant exceeds $100,000, such options shall be treated as Nonqualified Stock Options granted under Article V. (d) The Committee may adopt any other terms and conditions which it determines should be imposed for the Incentive Stock Option to qualify under Section 422 of the Code, as well as any other terms and conditions not inconsistent with this Article IV as determined by the Committee. If, for any reason, an Incentive Stock Option fails to meet the requirements of Section 422 of the Code, the Option shall automatically be deemed a Nonqualified Stock Option granted under Article V herein. 8 4.3 The Committee may at any time offer to buy out for a payment in cash, or Stock an Incentive Stock Option previously granted, based on such terms and conditions as the Committee shall establish and communicate to the Participant at the time that such offer is made. 4.4 If the Incentive Stock Option Agreement so provides, the Committee may require that all or part of the shares of Stock to be issued upon the exercise of an Incentive Stock Option shall take the form of restricted stock, which shall be valued on the date of exercise, as determined by the Committee, on the basis of the Fair Market Value of such restricted stock without regard to the limitations on transfer and forfeiture restrictions involved. ARTICLE V - NONQUALIFIED STOCK OPTIONS 5.1 One or more Stock Options may be granted as Nonqualified Stock Options to Eligible Participants to purchase shares of Stock at such time or times determined by the Committee, following the Effective Date, subject to the terms and conditions set forth in this Article V. 5.2 The Nonqualified Stock Option price per share of Stock shall be established in the Agreement and shall not be less than 100% of the Fair Market Value at the time of the grant. 5.3 The Nonqualified Stock Option may be exercised in full or in part from time to time within such period as may be specified by the Committee or in the Agreement; provided, that, in any event, the Nonqualified Stock Option shall lapse and cease to be exercisable upon a Termination of Employment or within such period following a Termination of Employment as shall have been specified in the Nonqualified Stock Option Agreement, which period shall not exceed three months unless: (a) employment shall have terminated as a result of death or Disability, in which event such period shall not exceed one year after the date of death or Disability; or (b) death shall have occurred following a Termination of Employment and while the Nonqualified Stock Option was still exercisable, in which event such period shall not exceed one year after the date of death; or (c) the Committee, in its discretion at the time of the option grant, provides for a longer period, and such longer period is specified in the Nonqualified Stock Option Agreement; provided, further, that such period following a Termination of Employment shall in no event extend the original exercise period of the Nonqualified Stock Option. 5.4 The Nonqualified Stock Option Agreement may include any other terms and conditions not inconsistent with this Article V or in Article VI, as determined by the Committee. 9 ARTICLE VI - INCIDENTS OF STOCK OPTIONS 6.1 Each Stock Option shall be granted subject to such terms and conditions, if any, not inconsistent with this Plan, as shall be determined by the Committee, including any provisions as to continued employment as consideration for the grant or exercise of such Stock Option and any provisions which may be advisable to comply with applicable laws, regulations or rulings of any governmental authority. 6.2 Except as provided below, a Stock Option shall be exercisable during the lifetime of the Participant only by him or his guardian or legal representative and shall not be transferable by the Participant other than (i) by will or by the laws of descent and distribution, or (ii) to the extent otherwise allowed by applicable law, pursuant to a qualified domestic relations order as defined by the Code and the Employee Retirement Income Security Act of 1974, as amended, or the rules thereunder. However, the Committee may, in its sole discretion, either pursuant to an Agreement or otherwise, permit a Participant to transfer a Nonqualified Stock Option by gift or other donative transfer without payment of consideration, conditioned upon and subject to compliance with all applicable law (including, but not limited to, securities law). 6.3 Shares of Stock purchased upon exercise of a Stock Option shall be paid for in such amounts, at such times and upon such terms as shall be determined by the Committee, subject to limitations set forth in the Stock Option Agreement. Without limiting the foregoing, the Committee may establish payment terms for the exercise of Stock Options which permit the Participant to deliver shares of Stock, or other evidence of ownership of Stock satisfactory to the Company, with a Fair Market Value equal to the Stock Option price as payment. 6.4 No cash dividends shall be paid on shares of Stock subject to unexercised Stock Options. The Committee may provide, however, that a Participant to whom a Stock Option has been granted which is exercisable in whole or in part at a future time for shares of Stock shall be entitled to receive an amount per share equal in value to the cash dividends, if any, paid per share on issued and outstanding Stock, as of the dividend record dates occurring during the period between the date of the grant and the time each such share of Stock is delivered pursuant to exercise of such Stock Option. Such amounts (herein called "dividend equivalents") may, in the discretion of the Committee, be: (a) paid in cash or Stock either from time to time prior to, or at the time of the delivery of, such Stock, or upon expiration of the Stock Option if it shall not have been fully exercised; or (b) converted into contingently credited shares of Stock, with respect to which dividend equivalents may accrue, in such manner, at such value, and deliverable at such time or times, as may be determined by the Committee. Such Stock, whether delivered or contingently credited, shall be charged against the limitations set forth in Sections 3.5 and 6.9 hereof. 6.5 The Committee, in its sole discretion, may authorize payment of interest equivalents on dividend equivalents which are payable in cash at a future time. 10 6.6 In the event of Disability or death, the Committee, with the consent of the Participant or his legal representative, may authorize payment, in cash or in Stock, or partly in cash and partly in Stock, as the Committee may direct, of an amount equal to the difference at the time between the Fair Market Value of the Stock subject to a Stock Option and the option price in consideration of the surrender of the Stock Option. 6.7 If a Participant is required to pay to the Company an amount with respect to income and employment tax withholding obligations in connection with exercise of a Nonqualified Stock Option, and/or with respect to certain dispositions of Stock acquired upon the exercise of an Incentive Stock Option, the Committee, in its discretion and subject to such rules as it may adopt, may permit the Participant to satisfy the obligation, in whole or in part, by making an irrevocable election that a portion of the total Fair Market Value of the shares of Stock subject to the Nonqualified Stock Option and/or with respect to certain dispositions of Stock acquired upon the exercise of an Incentive Stock Option, be paid in the form of cash in lieu of the issuance of Stock and that such cash payment be applied to the satisfaction of the withholding obligations. The amount to be withheld shall not exceed the statutory minimum federal and state income and employment tax liability arising from the Stock Option exercise transaction. 6.8 The Committee may permit the voluntary surrender of all or a portion of any Stock Option granted under the Plan to be conditioned upon the granting to the Participant of a new Stock Option for the same or a different number of shares of Stock as the Stock Option surrendered, or may require such surrender as a condition precedent to a grant of a new Stock Option to such Participant. Subject to the provisions of the Plan, such new Stock Option shall be exercisable at such price, during such period and on such other terms and conditions as are specified by the Committee at the time the new Stock Option is granted. Upon surrender, the Stock Options surrendered shall be canceled and the shares of Stock previously subject to them shall be available for the grant of other Stock Options. 6.9 The following limitations shall apply to grants of Stock Options: (a) No Participant shall be granted, in any fiscal year of the Company, Options to purchase more than 400,000 Shares. (b) In connection with his or her initial service, a Participant may be granted Stock Options to purchase up to an additional 400,000 Shares that shall not count against the limit set forth in Section 6.9(a) above. ARTICLE VII - CHANGE IN CONTROL 7.1 A "Change in Control" shall be deemed to have occurred upon the happening of any of the following events: (a) Any "Person" as defined in Section 3(a)(9) of the Act, including a "group" (as that term is used in Sections 13(d)(3) and 14(d)(2) of the Act), but excluding the Company 11 (as defined in Section 2.8 of this Plan) and any employee benefit plan sponsored or maintained by the Company (including any trustee of such plan acting as trustee), who together with its "affiliates" and "associates" (as those terms are defined in Rule 12b-2 under the Act) becomes the "Beneficial Owner" (within the meaning of Rule 13d-3 under the Act) of 20% or more of the then-outstanding shares of Stock or the combined voting power of the then-outstanding securities of the Company entitled to vote generally in the election of its directors. For purposes of calculating the number of shares or voting power held by such Person and its affiliates and associates under this Section 7.1(a), there shall be excluded any securities acquired by such Person or its affiliates or associates directly from the Company. (b) A sale or other disposition of all or substantially all of the Company's assets is consummated, other than such a sale or disposition that would not have constituted a Change of Control under subsection (d) below had it been structured as a merger or consolidation. (c) The shareholders of the Company approve a definitive agreement or plan to liquidate the Company. (d) A merger or consolidation of the Company with and into another entity is consummated, unless immediately following such transaction (1) more than 50% of the members of the governing body of the surviving entity were Incumbent Directors (as defined in subsection (e) below) at the time of execution of the initial agreement providing for such transaction, (2) no "Person" (as defined in Section 7.1(a) above), together with its "affiliates" and "associates" (as defined in Section 7.1(a) above), is the "Beneficial Owner" (as defined in Section 7.1 (a) above), directly or indirectly, of 20% or more of the then-outstanding equity interests of the surviving entity or the combined voting power of the then-outstanding equity interests of the surviving entity entitled to vote generally in the election of members of its governing body, and (3) more than 50% of the then-outstanding equity interests of the surviving entity and the combined voting power of the then-outstanding equity interests of the surviving entity entitled to vote generally in the election of members of its governing body is "Beneficially Owned", directly or indirectly, by all or substantially all of the individuals and entities who were the "Beneficial Owners" of the shares of Stock immediately prior to such transaction in substantially the same proportions as their ownership immediately prior to such transaction. (e) During any period of 24 consecutive months during the existence of the Plan, the individuals who, at the beginning of such period, constitute the Board (the "Incumbent Directors") cease for any reason other than death to constitute at least a majority thereof; provided, however, that a director who was not a director at the beginning of such 24 month period shall be deemed to have satisfied such 24 month requirement, and be an Incumbent Director, if such director was elected by, or on the recommendation of or with the approval of, at least two-thirds of the directors who then qualified as Incumbent Directors either actually, because they were directors at the beginning of such 24 month period, or by prior operation of this Section 7.1 (e), but excluding for this purpose any such individual whose initial assumption of office is in connection with an actual or threatened election context subject to Rule 14a-11 of Regulation 14A promulgated under the Act or other actual or threatened solicitation of proxies or consents by or on behalf of a "Person" (as defined in Section 7.1(a) above) other than the Board. 12 7.2 In the event of a Change in Control: (a) any or all then outstanding Stock Options having an Option Grant Date on or before January 31, 1999, to the extent not previously fully vested and exercisable, shall automatically become fully vested and, except to the extent such Options are cashed out pursuant to Section 7.3 below, exercisable effective immediately prior to the Change in Control; and (b) outstanding Stock Options having an Option Grant Date after January 31, 1999 shall vest and become exercisable only to the extent and in such manner as is provided in the applicable Agreement evidencing the Stock Option. 7.3 Upon the occurrence of a Change in Control, the Committee may in its sole discretion and consistent with the requirements of applicable law decide to cash-out the value of all outstanding Stock Options, in each case to the extent vested pursuant to Sections 7.2 above or otherwise, on the basis of the "Change in Control Price" (as defined in Section 7.4) less the exercise price under such Award (if any) as of the date such Change in Control is determined to have occurred or such other date prior to the Change in Control as the Committee may determine. 7.4 For purposes of Section 7.3, "Change in Control Price" means the highest price per share of Stock paid in any transaction reported on the exchange on which the Stock is then traded or on the Nasdaq Stock Market, as the case may be, or paid or offered in any bona fide transaction related to a Change in Control, at any time during the 120 day period immediately preceding the occurrence of the Change in Control, as determined by the Committee. 7.5 The Committee is authorized to take such actions that are not inconsistent with Sections 7.2, 7.3 and 7.4 above as the Committee determines to be necessary or advisable, and fair and equitable to Participants, with respect to an Award in the event of a Change in Control. Such action may include, but shall not be limited to, establishing, amending or waiving the forms, terms, conditions and duration of an Award and the Agreement, so as to provide for earlier, later, extended or additional times for exercise or payment, differing methods for calculating payments and alternate forms and amounts of payment. The Committee may take such actions pursuant to this Section 7.5 by adopting rules and regulations of general applicability to all Participants or to certain categories of Participants, by including, amending or waiving terms and conditions in an Award and the Agreement, or by taking action with respect to individual Participants. ARTICLE VIII - AMENDMENT AND TERMINATION 8.1 The Board, upon recommendation of the Committee, or otherwise, at any time and from time to time, may amend or terminate the Plan. To the extent required by Code Section 422, no amendment, without approval by the Company's shareholders, shall: (a) alter the group of persons eligible to participate in the Plan; (b) except as provided in Section 3.5, increase the maximum number of shares of Stock or Stock Options which are available for Awards under the Plan; 13 (c) extend the period during which Incentive Stock Option Awards may be granted beyond the date which is ten (10) years following the Effective Date. (d) limit or restrict the powers of the Committee with respect to the administration of this Plan; (e) change the definition of an Eligible Participant for the purpose of an Incentive Stock Option or increase the limit or the value of shares of Stock for which an Eligible Participant may be granted an Incentive Stock Option; (f) materially increase the benefits accruing to Participants under this Plan; (g) materially modify the requirements as to eligibility for participation in this Plan; or (h) change any of the provisions of this Article VIII. 8.2 No amendment to or discontinuance of this Plan or any provision thereof by the Board or the shareholders of the Company shall, without the written consent of the Participant, adversely affect, as shall be determined by the Committee, any Award previously granted to such Participant under this Plan; provided, however, the Committee retains the right and power to: (a) annul any Award if the Participant is terminated for cause as determined by the Committee; (b) provide for the forfeiture of shares of Stock or other gain under an Award as determined by the Committee for competing against the Company; and (c) convert any outstanding Incentive Stock Option to a Nonqualified Stock Option. 8.3 If a Change in Control has occurred, no amendment or termination shall impair the rights of any person with respect to an outstanding Award as provided in Article VII. ARTICLE IX - MISCELLANEOUS PROVISIONS 9.1 Nothing in the Plan or any Award granted hereunder shall confer upon any Participant any right to continue in the employ of the Company, or to serve as a director thereof, or interfere in any way with the right of the Company to terminate his or her employment at any time. Unless specifically provided otherwise, no Award granted under the Plan shall be deemed salary or compensation for the purpose of computing benefits under any employee benefit plan or other arrangement of the Company for the benefit of its employees unless the Company shall determine otherwise. No Participant shall have any claim to an Award until it is actually granted under the Plan. To the extent that any person acquires a right to receive payments from the Company under the Plan, such right shall, except as otherwise provided by the Committee, be no greater than the right of an unsecured general creditor of the Company. All payments to be made 14 hereunder shall be paid from the general funds of the company, and no special or separate fund shall be established and no segregation of assets shall be made to assure payment of such amounts, except as otherwise provided by the Committee. 9.2 The Company may make such provisions and take such steps as it may deem necessary or appropriate for the withholding of any taxes which the Company is required by any law or regulation of any governmental authority, whether federal, state or local, domestic or foreign, to withhold in connection with any Stock Option or the exercise thereof, including, but not limited to, the withholding of payment of all or any portion of such Award or another Award under this Plan until the Participant reimburses the Company for the amount the Company is required to withhold with respect to such taxes, or canceling any portion of such Award or another Award under this Plan in an amount sufficient to reimburse itself for the amount it is required to so withhold, or selling any property contingently credited by the Company for the purpose of paying such Award or another Award under this Plan, in order to withhold or reimburse itself for the amount it is required to so withhold. 9.3 The Plan and the grant of Awards shall be subject to all applicable federal and state laws, rules, and regulations and to such approvals by any United States government or regulatory agency as may be required. 9.4 The terms of the Plan shall be binding upon the Company, and its successors and assigns. 9.5 No award shall be transferable except as provided for herein. Unless otherwise provided by the Committee or in an Agreement, transfer restrictions shall only apply to Incentive Stock Options as required in Article IV and to the extent otherwise required by federal or state securities laws. If any Participant makes such a transfer in violation hereof, any obligation of the Company shall forthwith terminate. 9.6 This Plan and all actions taken hereunder shall be governed by the laws of the State of North Carolina. 9.7 The Plan is intended to constitute an "unfunded" plan for incentive and deferred compensation. With respect to any payments not yet made to a Participant by the Company, nothing contained herein shall give any such Participant any rights that are greater than those of a general creditor of the Company. In its sole discretion, the Committee may authorize the creation of trusts or other arrangements to meet the obligations created under the Plan to deliver shares of Stock or payments in lieu of or with respect to Awards hereunder; provided, however, that, unless the Committee otherwise determines with the consent of the affected Participant, the existence of such trusts or other arrangements is consistent with the "unfunded" status of the Plan. 9.8 Each Participant exercising an Award hereunder agrees to give the Committee prompt written notice of any election made by such Participant under Section 83(b) of the Code, or any similar provision thereof. 15 9.9 If any provision of this Plan or an Agreement is or becomes or is deemed invalid, illegal or unenforceable in any jurisdiction, or would disqualify the Plan or any Agreement under any law deemed applicable by the Committee, such provision shall be construed or deemed amended to conform to applicable laws or if it cannot be construed or deemed amended without, in the determination of the Committee, materially altering the intent of the Plan or the Agreement, it shall be stricken and the remainder of the Plan or the Agreement shall remain in full force and effect. EX-10.2 4 g66708ex10-2.txt MANAGEMENT INITIATIVE COMPENSATION PROGRAM 1 EXHIBIT 10.2 CREE, INC. MANAGEMENT INCENTIVE COMPENSATION PROGRAM FISCAL YEAR 2001 PLAN 1.0 INTENT The intention of the Cree, Inc. Management Incentive Compensation Program (the "Program") for Fiscal Year 2001 ("FY 2001") is to provide incentives to eligible members of the management team for achieving or surpassing established after-tax earnings per share ("EPS") goals for FY 2001. 2.0 MANAGEMENT PARTICIPANT QUALIFICATIONS 2.1 Participation shall be limited to a small group of senior management employees who have an important influence on the operation, profits and future of the Company. Generally, only executive officers and managers of major staff or line functions shall be eligible to participate in the Program. 2.2 Participation shall be determined by the CEO of the Company. 2.3 An invitation to participate and the information divulged in connection with the Program shall be considered private and may not be discussed with others. 2.4 Participants in the Program shall not be eligible to participate in the Company's Employee Profit-Sharing Program (the "Employee Program") or in any successor arrangement to the Employee Program. Participants in the Program shall remain eligible to receive other discretionary cash bonuses and to participate in any retirement savings plans sponsored by the Company for which they are otherwise eligible. 3.0 FUNDING OF THE INCENTIVE PLAN POOL 3.1 General: A pool (the "Pool") shall be funded upon the achievement of the goals for after-tax EPS goals for FY 2001 as approved by the Compensation Committee of the Board of Directors. The Pool shall not be funded unless such goals are met at the pre-established threshold level of achievement fixed by the Compensation Committee. In addition, the Pool shall not be funded to the extent that such funding would reduce the amount of the Pool funded under the Employee Program for any fiscal quarter of FY 2001. 2 Upon admission to the Program, each participant shall be assigned an individual target award percentage to be applied to the individual's Base Salary for FY 2001 for calculating funding of the Pool and payouts as described below. 3.2 Calculation of Pool Funding: The Pool at 100% of the target level shall be the aggregate Base Salaries of the participants as of the end of FY 2001 times their respective target award percentages. (A participant's Base Salary as of the end of FY 2001 times his or her target award percentage shall be the participant's "Target Payout Amount".) The Pool at 100% of the target level shall be adjusted in two steps. In Step One, the Pool shall be adjusted on the basis of the percentage of the EPS goals for FY 2001 actually achieved. Such adjustment shall be made according to the schedule approved by the Compensation Committee. In Step Two, the Pool as calculated in Step One shall be reduced to the extent necessary to prevent any reduction in the amount of the pool funded under the Employee Program for any fiscal quarter during FY 2001 that would otherwise result from funding the Pool at the level determined Step One. 3.3 Calculation for Individual Payout: Each participant's payout amount shall be a pro rata portion of the Pool as funded under Section 3.2 above. Each payout amount shall be determined by multiplying the Pool times a fraction where (i) the numerator is the participant's Target Payout Amount and (ii) the denominator is the aggregate sum of all participants' Target Payout Amounts. 4.0 RULES 4.1 EPS resulting from unusual or non-recurring charges or from system changes shall be excluded for purposes of this Program. 4.2 "Base Salary" shall mean a participant's total base compensation paid as of the end of FY 2001, including any amounts deferred under any deferred compensation plans of the Company but excluding any incentive pay, bonus payments, commission payments, income resulting from stock option exercises, etc. 4.3 The Company recognizes that certain unforeseen events or inequities could develop in the Program as established. The Compensation Committee shall have the discretion to consider unusual circumstances. Such consideration shall be given only at the end of the Fiscal Year, and any decision of the Compensation Committee shall be final. 4.4 Payments shall be made based on final annual financial statements as audited by the Company's independent certified public accountants. Individual payouts shall be paid on or prior to August 1, 2001, or as soon thereafter as practicable. 3 4.5 The Compensation Committee shall determine an individual target award percentage for the Chief Executive Officer of the Company (the "CEO"). The CEO shall determine the individual target award for each other participant. No individual target award percentage shall be greater than that of the CEO unless approved by the Compensation Committee. 4.6 Only those who remain employees of the Company and members of the eligible management group through the date of payout will receive payments. No amount shall be deemed earned under this Program unless and until actually paid. 4.7 As business conditions, participants' positions and the Company's needs change, the Compensation Committee shall have the sole and absolute discretion to modify or cancel this Program, or any individual's participation in the Program, at any time prior to payment upon notice to the affected participants. Participants should not presume continued participation in the Program. 4.8 The Program shall not confer on any participant any right to continued employment with the Company, nor shall it interfere with the participant's right or the Company's right to terminate the participant's employment at any time, with or without cause. EX-99.1 5 g66708ex99-1.txt CERTAIN BUSINESS RISKS AND UNCERTAINTIES 1 EXHIBIT 99.1 CERTAIN BUSINESS RISKS AND UNCERTAINTIES Described below are various risks and uncertainties that may affect our business. These risks and uncertainties are not the only ones we face. Additional risks and uncertainties not presently known to us, that we currently deem immaterial or that are similar to those faced by other companies in our industry or business in general may also affect our business. If any of the risks described below actually occurs, our business, financial condition or results of future operations could be materially and adversely affected. OUR OPERATING RESULTS AND MARGINS MAY FLUCTUATE SIGNIFICANTLY. Although we have had significant revenue and earnings growth in recent years, we may not be able to sustain such growth or maintain our margins, and we may experience significant fluctuations in our revenue, earnings and margins in the future. Our operating results and margins may vary significantly in the future due to many factors, including the following: - our ability to develop, manufacture and deliver products in a timely and cost-effective manner; - variations in the amount of usable product produced during manufacturing (our "yield"); - our ability to improve yields and reduce costs in order to allow lower product pricing without margin reductions; - our ability to expand our production capacity for our new LED products; - our ability to produce higher brightness and more efficient LED products; - demand for our products and our customers' products; - declining average sales prices for our products; - changes in the mix of products we sell; and - changes in manufacturing capacity and variations in the utilization of that capacity. These or other factors could adversely affect our future operating results and margins. If our future operating results or margins are below the expectations of stock market analysts or our investors, our stock price may decline. IF WE EXPERIENCE POOR PRODUCTION YIELDS, OUR MARGINS COULD DECLINE AND OUR OPERATING RESULTS MAY SUFFER. Our silicon carbide (SiC) material products and our LED and RF device products are manufactured using technologies that are highly complex. We manufacture our SiC wafer products from bulk SiC crystals, and we use these SiC wafers to manufacture our LED products and SiC-based RF power semiconductors. Our UltraRF subsidiary manufactures its RF power semiconductors on silicon wafers purchased from others. During manufacturing, each wafer is processed to contain numerous "die," which are the individual semiconductor devices, and the RF power devices are further processed by incorporating them into a package for sale as a 2 packaged component. The number of usable crystals, wafers, die and packaged components that result from our production processes can fluctuate as a result of many factors, including but not limited to the following: - impurities in the materials used; - contamination of the manufacturing environment; - equipment failure, power outages or variations in the manufacturing process; - losses from broken wafers or other human error; and - defects in packaging. We refer to the proportion of usable product produced at each manufacturing step relative to the gross number that could be constructed from the materials used as our manufacturing "yield." Because many of our manufacturing costs are fixed, if our yields decrease our margins could decline and our operating results would be adversely affected. In the past, we have experienced difficulties in achieving acceptable yields on new products, which has adversely affected our operating results. We may experience similar problems in the future and we cannot predict when they may occur or their severity. In some instances, we also offer products for future delivery at prices based on planned yield improvements. Reduced yields or failure to achieve planned yield improvements could significantly affect our future margins and operating results. OUR BUSINESS AND OUR ABILITY TO PRODUCE OUR PRODUCTS MAY BE IMPAIRED BY CLAIMS WE INFRINGE INTELLECTUAL PROPERTY OF OTHERS. The semiconductor industry is characterized by vigorous protection and pursuit of intellectual property rights, which have resulted in significant and often protracted and expensive litigation. Litigation to determine the validity of patents or claims by third parties of infringement of patents or other intellectual property rights could result in significant expense and divert the efforts of our technical personnel and management, even if the litigation results in a determination favorable to us. In the event of an adverse result in such litigation, we could be required to: - pay substantial damages; - indemnify our customers; - stop the manufacture, use and sale of products found to be infringing; - discontinue the use of processes found to be infringing; - expend significant resources to develop non-infringing products and processes; and/or - obtain a license to use third party technology. Where we consider it necessary or desirable, we may seek licenses under patents or other intellectual property rights. However, we cannot be certain that licenses will be available or that we would find the terms of licenses offered acceptable or commercially reasonable. Failure to obtain a necessary license could cause us to incur substantial liabilities and costs and to suspend the manufacture of products. In addition, if adverse results in litigation made it necessary for us to seek a license or to develop non-infringing products or processes, there is no assurance we would be successful in developing such products or processes or in negotiating licenses upon 3 reasonable terms or at all. Our results of operations, financial condition and business could be harmed if such problems were not resolved in a timely manner. Our distributor in Japan is presently a party to patent litigation in Japan, brought by Nichia Corporation, in which the plaintiff claims that certain of our LED products infringe two Japanese patents it owns. The complaints in the proceedings seek injunctive relief that would prohibit our distributor from further sales of these products in Japan. An adverse result in these cases would impair our ability to sell the affected LED products in Japan and could cause customers not to purchase other LED products from us. Subject to contractual limitations, we have an obligation to indemnify our distributor for patent infringement claims. We have also initiated patent infringement litigation in the United States against Nichia Corporation and one of its subsidiaries, asserting patent infringement with respect to certain Nichia nitride semiconductor products, including laser diode products. Nichia has responded with counterclaims alleging, among other things, patent infringement claims against us based on four U.S. patents directed to nitride semiconductor technology and trade secret misappropriation and related claims against us and a former Nichia researcher who is now employed by of one of our subsidiaries on a part-time basis. The litigation in Japan and the U.S. remains pending as of January 31, 2001. We believe the claims asserted against our products in the Japanese cases and the counterclaims asserted by the defendants in the U.S. case are without merit, and we intend to vigorously defend against the charges. However, we cannot be certain that we will be successful, and litigation may require us to spend a substantial amount of time and money and could distract management from our day-to-day operations. THERE ARE LIMITATIONS ON OUR ABILITY TO PROTECT OUR BUSINESS THROUGH INTELLECTUAL PROPERTY RIGHTS. Our intellectual property position is based in part on patents owned by us and patents exclusively licensed to us by N.C. State and others. The licensed patents include patents relating to the SiC crystal growth process that is central to our SiC materials and device business. We intend to continue to file patent applications in the future, where appropriate, and to pursue such applications with U.S. and foreign patent authorities, but we cannot be sure that patents will be issued on such applications or that our existing or future patents will not be successfully contested. Also, since issuance of a valid patent does not prevent other companies from using alternative, non-infringing technology, we cannot be sure that any of our patents (or patents issued to others and licensed to us) will provide significant commercial protection. In addition to patent protection, we also rely on trade secrets and other non-patented proprietary information relating to our product development and manufacturing activities. We try to protect this information with confidentiality agreements with our employees and other parties. We cannot be sure that these agreements will not be breached, that we would have adequate remedies for any breach or that our trade secrets and proprietary know-how will not otherwise become known or independently discovered by others. 4 Where necessary, we may initiate litigation to enforce our patent or other intellectual property rights, but there is no assurance that we will be successful in any such litigation. Moreover, litigation may require us to spend a substantial amount of time and money and could distract management from our day-to-day operations. IF WE ARE UNABLE TO PRODUCE ADEQUATE QUANTITIES OF OUR HIGH BRIGHTNESS AND ULTRA BRIGHT LEDs WITH IMPROVED YIELDS, OUR OPERATING RESULTS MAY SUFFER. We believe that higher volume production and lower production costs for our high brightness and ultra bright blue and green LEDs will be important to our future operating results. We must reduce costs of these products to avoid margin reductions from the lower selling prices we may offer to meet the competition and prior contractual commitments. Achieving greater volumes and lower costs requires improved manufacturing yields for these products. In addition, in the case of our ultra bright LED products, we only recently begun manufacturing these products in volume and may encounter delays and manufacturing difficulties as we ramp up our capacity to make these products. Failure to produce adequate quantities and improve the yields of our high brightness and ultra bright LED products could have a material adverse effect on our business, results of operations and financial condition. OUR OPERATING RESULTS ARE SUBSTANTIALLY DEPENDENT ON THE DEVELOPMENT OF NEW PRODUCTS BASED ON OUR CORE SIC TECHNOLOGY. Our future success will depend on our ability to develop new SiC solutions for existing and new markets. We must introduce new products in a timely and cost-effective manner, and we must secure production orders from our customers. The development of new SiC products is a highly complex process, and we have historically experienced delays in completing the development and introduction of new products. Products currently under development include high power RF and microwave devices, power devices, blue laser diodes, high temperature devices and higher brightness LED products. The successful development and introduction of these products depends on a number of factors, including the following: - achievement of technology breakthroughs required to make commercially viable devices; - the accuracy of our predictions of market requirements and evolving standards; - acceptance of our new product designs; - the availability of qualified development personnel; - our timely completion of product designs and development; - our ability to develop repeatable processes to manufacture new products in sufficient quantities for commercial sales; - our customers' ability to develop applications incorporating our products; and - acceptance of our customers' products by the market. If any of these or other factors become problematic, we may not be able to develop and introduce these new products in a timely or cost-efficient manner. 5 WE RELY ON A LIMITED NUMBER OF CUSTOMERS FOR A SUBSTANTIAL PART OF OUR REVENUES. Historically, a substantial portion of our revenue has come from large purchases by a small number of customers. We expect that trend to continue. For example, for fiscal 2000 our top five customers accounted for 82% of our total revenue. Accordingly, our future operating results depend on the success of our largest customers and on our success in selling large quantities of our products to them. The concentration of our revenues with a few large customers makes us particularly dependent on factors affecting those customers. For example, if demand for their products decreases, they may stop purchasing our products and our operating results will suffer. If we lose a large customer and fail to add new customers to replace lost revenue, our operating results may not recover. WE FACE CHALLENGES RELATING TO EXPANSION OF OUR PRODUCTION AND MANUFACTURING FACILITY. In order to increase production at our new facility, we must add critical new equipment, move existing equipment and complete the construction and upfit of buildings. Expansion activities such as these are subject to a number of risks, including unforeseen environmental or engineering problems relating to existing or new facilities or unavailability or late delivery of the advanced, and often customized, equipment used in the production of our products, and delays in bringing production equipment on-line. These and other risks may affect the construction of new facilities, which could adversely affect our business, results of operations and financial condition. THE MARKETS IN WHICH WE OPERATE ARE HIGHLY COMPETITIVE. The markets for our LED and RF power semiconductor products are highly competitive. Our competitors currently sell LEDs made from sapphire wafers that are brighter than the high brightness LEDs we currently produce and similar in brightness to our newest ultra bright LED products. In addition, new firms have begun offering or announced plans to offer blue and green LEDs. In the RF power semiconductor field, both the products manufactured by our UltraRF subsidiary and our SiC-based RF devices compete with products offered by substantially larger competitors. The market for SiC wafers is also becoming competitive as other firms have in recent years begun offering SiC wafer products or announced plans to do so. We also expect significant competition for products we are currently developing, such as near ultraviolet LEDs targeted for the solid state white lighting market. We expect competition to increase. This could mean lower prices for our products, reduced demand for our products and a corresponding reduction in our ability to recover development, engineering and manufacturing costs. Any of these developments could have an adverse effect on our business, results of operations and financial condition. 6 WE FACE SIGNIFICANT CHALLENGES MANAGING OUR GROWTH. We have experienced a period of significant growth that has strained our management and other resources. We have grown from 188 employees on December 31, 1996 to 680 employees on June 25, 2000 and from revenues of $44.0 million for the fiscal year ended June 28, 1998 to $108.6 million for the fiscal year ended June 25, 2000. In December 2000, we added another 139 employees in connection with our acquisition of the assets of the UltraRF business from Spectrian Corporation. To manage our growth effectively, we must continue to: - implement and improve operation systems; - maintain adequate manufacturing facilities and equipment to meet customer demand; - add experienced senior level managers; and - attract and retain qualified people with experience in engineering, design and technical marketing support. We will spend substantial amounts of money in supporting our growth and may incur additional unexpected costs. Our systems, procedures or controls may not be adequate to support our operations, and we may not be able to expand quickly enough to exploit potential market opportunities. Our future operating results will also depend on expanding sales and marketing, research and development, and administrative support. If we cannot attract qualified people or manage growth effectively, our business, operating results and financial condition could be adversely affected. OUR OPERATING RESULTS COULD BE ADVERSELY AFFECTED IF WE ENCOUNTER PROBLEMS TRANSITIONING LED PRODUCTION TO A LARGER WAFER SIZE. We currently plan to begin shifting LED production from two-inch wafers to three-inch wafers in fiscal 2002. We must first qualify our production processes on systems designed to accommodate the larger wafer size, and some of our existing production equipment must be refitted for the larger wafer size. Delays in this process could have an adverse effect on our business. In addition, in the past we have experienced lower yields for a period of time following a transition to a larger wafer size until use of the larger wafer is fully integrated in Production and we begin to achieve production efficiency. We anticipate that we will experience similar temporary yield reductions during the transition to the three-inch wafers, and we have factored this into our plan for production capacity. If this transition phase takes longer than we expect or if we are unable to attain expected yield improvements, our operating results may be adversely affected. WE RELY ON A FEW KEY SUPPLIERS. We depend on a limited number of suppliers for certain raw materials, components and equipment used in manufacturing our products, including key materials and equipment used in critical stages of our manufacturing processes. We generally purchase these limited source items with purchase orders, and we have no guaranteed supply arrangements with such suppliers. If we were to lose such key suppliers, our manufacturing efforts could be hampered significantly. Although we believe our relationship with our suppliers is good, we cannot assure you that we 7 will continue to maintain good relationships with such suppliers or that such suppliers will continue to exist. IF GOVERNMENT AGENCIES OR OTHER CUSTOMERS DISCONTINUE THEIR FUNDING FOR OUR RESEARCH AND DEVELOPMENT OF SIC TECHNOLOGY, OUR BUSINESS MAY SUFFER. In the past, government agencies and other customers have funded a significant portion of our research and development activities. If this support is discontinued or reduced, our ability to develop or enhance products could be limited and our business; results of operations and financial condition could be adversely affected. IF OUR PRODUCTS FAIL TO PERFORM OR MEET CUSTOMER REQUIREMENTS, WE COULD INCUR SIGNIFICANT ADDITIONAL COSTS. The manufacture of our products involves highly complex processes. Our customers specify quality, performance and reliability standards that we must meet. If our products do not meet these standards, we may be required to replace or rework the products. In some cases our products may contain undetected defects that only become evident after shipment. We have experienced product quality, performance or reliability problems from time to time. Defects or failures may occur in the future. If failures or defects occur, we could: - lose revenue; - incur increased costs such as warranty expense and costs associated with customer support; - experience delays, cancellations or rescheduling of orders for our products; or - experience increased product returns. WE ARE SUBJECT TO RISKS FROM INTERNATIONAL SALES. Sales to customers located outside the U.S. accounted for about 69%, 59% and 58% of our revenue in fiscal 2000, 1999 and 1998, respectively. We expect that revenue from international sales will continue to be a significant part of our total revenue. International sales are subject to a variety of risks, including risks arising from currency fluctuations, trends in use of the Euro, trading restrictions, tariffs, trade barriers and taxes. Also, U.S. Government or military export restrictions could limit or prohibit sales to customers in certain countries because of their uses in military or surveillance applications. Because all of our foreign sales are denominated in U.S. dollars, our products become less price competitive in countries with currencies that are low or are declining in value against the U.S. dollar. Also, we cannot be sure that our international customers will continue to place orders denominated in U.S. dollars. If they do not, our reported revenue and earnings will be subject to foreign exchange fluctuations. IF WE FAIL TO INTEGRATE ACQUISITIONS SUCCESSFULLY, OUR BUSINESS WILL BE HARMED. We completed two strategic acquisitions during calendar year 2000. We will continue to evaluate strategic opportunities available to us and we may pursue other product, technology or 8 business acquisitions. Such acquisitions can present many types of risks, including the following: - we may fail to successfully integrate the operations and personnel of newly acquired companies with our existing business; - we may experience difficulties integrating our financial and operating systems; - our ongoing business may be disrupted or receive insufficient management attention; - we may not cost effectively and rapidly incorporate acquired technology; - we may not be able to recognize cost savings or other financial benefits we anticipated; - acquired businesses may fail to meet our performance expectations; - we may lose key employees of acquired businesses; - we may not be able to retain the existing customers of newly acquired operations; - our corporate culture may clash with that of the acquired businesses; and - we may incur undiscovered liabilities associated with acquired businesses that are not covered by indemnification we may obtain from the seller. We may not successfully address these risks or other problems that arise from our recent or future acquisitions. In addition, in connection with future acquisitions, we may issue equity securities that could dilute the percentage ownership of our existing stockholders, we may incur debt and we may be required to amortize expenses related to intangible assets that may negatively affect our results of operations. -----END PRIVACY-ENHANCED MESSAGE-----