10-K

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

FORM 10-K

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended June 27, 2004

CREE, INC.

(Exact name of registrant as specified in its charter)

North Carolina	0-21154	56-1572719
(State or other jurisdiction of incorporation)	(Commission File No.)	(I.R.S. Employer Identification Number)

4600 Silicon Drive, Durham, North Carolina 27703

(Address of principal executive offices)

(919) 313-5300

(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act:

Common Stock, $0.00125 par value

(Title of Class)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  ¨

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes x No ¨

The aggregate market value of common stock held by non-affiliates of the registrant as of December 26, 2003 was approximately $1,065,738,993 (based on the closing sale price of $17.50 per share).

The number of shares of the registrant’s Common Stock, $0.00125 par value per share, outstanding as of July 28, 2004 was 73,296,397.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the definitive Proxy Statement to be delivered to shareholders in connection with the Annual Meeting of Shareholders to be held November 4, 2004 are incorporated by reference into Part III.

CREE, INC.

FORM 10-K

For the Fiscal Year Ended June 27, 2004

INDEX

		Page
Part I
Item 1.	Business	3
Item 2.	Properties	16
Item 3.	Legal Proceedings	16
Item 4.	Submission of Matters to a Vote of Security Holders	17
Part II
Item 5.	Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities	18
Item 6.	Selected Financial Data	19
Item 7.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	20
Item 7A.	Quantitative and Qualitative Disclosures About Market Risk	38
Item 8.	Financial Statements and Supplementary Data	48
Item 9.	Changes in and Disagreements with Accountants on Accounting and Financial Disclosure	80
Item 9A.	Controls and Procedures	80
Part III
Item 10.	Directors and Executive Officers of the Registrant	81
Item 11.	Executive Compensation	81
Item 12.	Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters	81
Item 13.	Certain Relationships and Related Transactions	83
Item 14.	Principal Accountant Fees and Services	83
Part IV
Item 15.	Exhibits, Financial Statement Schedules, and Reports on Form 8-K	84
SIGNATURES		88

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PART I

Information set forth in this Annual Report on Form 10-K contains various “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, (Securities Act), and Section 21E of the Securities Exchange Act of 1934, as amended, (Exchange Act). All information contained in the following discussion relative to future markets for our products and trends in and anticipated levels of revenue, gross margins, and expenses, as well as other statements containing words such as “may,” “will,” “anticipate,” “target,” “plan,” “estimate,” “expect,” and “intend” and other similar expressions constitute forward-looking statements. These forward-looking statements are subject to business, economic and other risks and uncertainties, both known and unknown, and actual results may differ materially from those contained in the forward-looking statements.

Factors that could cause or contribute to such differences include: our ability to complete development and commercialization of products under development, such as our pipeline of brighter light emitting diodes (LEDs); our ability to lower costs; potential changes in demand; the risk that price stability, improved operational efficiencies, and the favorable product mix we have recently experienced will not continue; the risk that, due to the complexity of our manufacturing processes, we may experience production delays that preclude us from shipping sufficient quantities to meet customer orders or that result in higher production costs and lower margins; risks associated with the ramp up of our production for our new products; risks resulting from the concentration of our business among few customers, including the risk that customers may reduce or cancel orders or fail to honor purchase commitments; the rapid development of new technology and competing products that may impair demand or render our products obsolete; the potential lack of customer acceptance for our products; and risks associated with our pending securities and other litigation. See, “Certain Business Risks and Uncertainties” in Item 7 of this report, as well as other risks and uncertainties referenced in this report, for additional risk factors that could cause actual results to differ.

Item 1.    Business

Introduction

Cree, Inc., a North Carolina corporation established in 1987, develops and manufactures semiconductor materials and devices based on silicon carbide (SiC), Group III nitrides (GaN), silicon, and related compounds. Our SiC and GaN materials technology is the basis for many of the devices that we develop and produce. The physical and electronic properties of SiC and GaN offer technical advantages over traditional silicon, gallium arsenide (GaAs), sapphire and other materials for certain electronic applications, which enable devices to attain a higher voltage level and higher thermal conductivity. We focus our expertise in SiC and GaN materials on four product areas: LEDs, including blue, green and near ultraviolet (UV) LED chips and high power packaged LEDs, power switching products, radio frequency (RF) and microwave devices, and near UV lasers. We have products commercially available in each of these categories except for near UV lasers. We also manufacture silicon RF transistors and modules.

As of the end of fiscal 2004, we derive the majority of our revenues from sales of our LED products. We also generate revenue from sales of SiC and GaN materials, and we earn revenue under government contracts that support certain of our research and development programs to the extent the contract funding exceeds our direct cost of performing those activities. In addition, we derive a small portion of revenue from our sales of materials used for gemstones and devices for wireless infrastructure and power switching applications. We currently are working to develop near UV lasers that are targeted for future optical storage markets.

Most semiconductor devices are fabricated on wafers made from silicon crystals. Silicon evolved as the dominant semiconductor material because it is relatively easy to grow into large, high quality single crystals that are suitable for fabricating many types of electronic devices. Alternative semiconductors such as GaAs were developed to enable the fabrication of improved RF devices and optoelectronic products such as red

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LEDs and lasers. Wide bandgap semiconductors, such as SiC and GaN, have emerged to provide improved capabilities for solid-state devices. SiC is most commonly targeted for power and RF devices, while GaN is generally targeted for optoelectronic applications such as blue, green or UV LEDs and near UV lasers, as well as higher frequency microwave devices.

We operate our business in two segments, the Cree segment, which consists of our SiC and GaN-based products and research contracts, and the Cree Microwave segment, which includes silicon-based RF transistors and RF transistor modules. Our Cree Microwave segment began operations with the December 2000 acquisition of the UltraRF business from Spectrian Corporation (Spectrian). The UltraRF acquisition was accounted for under the purchase method. We renamed the UltraRF business Cree Microwave during fiscal 2002. Additionally, our Cree segment acquired Nitres, Inc. (Nitres) in May 2000 in a business combination accounted for as a pooling of interests. In the fourth quarter of fiscal 2004, the Cree segment acquired the GaN substrate and epitaxy business of Advanced Technology Materials, Inc. (ATMI). We accounted for this acquisition under the purchase method.

The majority of our Cree segment products are manufactured in Durham, North Carolina in a six-part process, which includes: SiC crystal growth, wafering, polishing, epitaxial deposition, fabrication and testing. The GaN substrate and epitaxy business acquired from ATMI in the fourth quarter of fiscal 2004 is currently operating at an ATMI facility in Danbury, Connecticut. We anticipate moving this business to Durham, North Carolina during fiscal 2005. The Cree segment also operates a research and development facility called the Santa Barbara Technology Center (SBTC) in Goleta, California. Our Cree Microwave products are produced in Sunnyvale, California at our silicon wafer fabrication facility, where we buy silicon wafers from third parties, fabricate devices in a clean room environment and test and package finished products. Subcontractors located domestically and in foreign countries also package some of our products.

Products and Products under Development

Cree Segment:

The Cree segment produces LEDs, SiC and GaN materials products, SiC-based power devices and RF microwave transistors using our SiC and GaN materials. In addition, we currently are developing near UV laser devices in this segment.

LEDs

Blue, Green and Near UV LED Chips.    Our LED chip products include blue, green and near UV devices made from GaN and related materials grown on SiC substrates. LEDs are solid-state electronic components used in a number of applications, including backlighting for handheld mobile appliances such as cell phones and automotive dashboards. In addition, groups of LEDs make up single or full-color electronic displays, including display signs or traffic signals, or they can be used as indicator lights for gaming equipment, consumer products and other electronic equipment. Some of our customers package our blue LEDs with a phosphor coating to create white LEDs. Our customers’ white LED products are used in various applications for mobile appliances, including the backlight for full color display screens; white keypads and the camera flash function. Our customers’ white LEDs also are used as a light source for a number of specialized lighting applications. LEDs offer several advantages over small incandescent bulbs, including longer life, lower maintenance cost and energy consumption, and smaller space requirements. We currently sell the majority of our LEDs in chip form to customers who package them in a variety of applications. LEDs represented 78%, 75% and 58% of our revenue for the fiscal years ended June 27, 2004, June 29, 2003 and June 30, 2002, respectively.

Our LED chips are currently available in three brightness ranges, which we refer to as standard brightness, mid-brightness and our high-brightness range. Our standard brightness LED chips, offered in blue wavelengths only, target applications requiring high quality and high volume availability at a lower price

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point. End customers use this product for applications where higher brightness may not be required, such as for indoor applications, certain automotive designs or as indicator lights. In fiscal 2004, these products comprised 8% of our LED revenues.

Our mid-brightness range includes our UltraBright^® and SuperBright^™ LEDs. Our mid-brightness LEDs provide an option for applications that require a higher level of brightness than provided by our standard brightness LEDs, but still need a low price point. End user applications include the backlight source for mobile appliances, which includes the keypad area of mobile phones and other small hand-held devices, and automotive dashboards. Our customers also use mid-brightness LEDs in gaming displays, consumer products, office equipment and full color video displays. In order to respond to market demand for keypad handset applications, we released the UT230 product in the fourth quarter of fiscal 2004. This product provides a thin form factor and a lower forward voltage, which is designed to extend battery life over standard LEDs. The UT230 is targeted for the mobile appliance market as it offers a lower selling price than our other mid-brightness LEDs. Our mid-brightness LEDs are offered in blue, traffic green, and true green. In fiscal 2004, this category of product comprised 43% of our LED revenue.

Our high-brightness products include our MegaBright^®, XBright^® and XThin^™ and our XBright XB900 and XB500 power chip LED products. Some of our customers use our high-brightness LEDs to create white light from blue LEDs by combining them with phosphors. Target applications for blue LEDs that are converted to white light consist of mobile appliances, including backlighting for full color displays, white keypads and camera flashes, as well as miniature white lights and other illumination applications. Some of our customers also use our high-brightness LEDs for traffic signals, video screens and automotive backlighting. In order to address the markets for higher power LEDs, we developed the XB900 power chip. These LEDs are approximately nine times larger than industry standard size (300 x 300 microns) LEDs and aim to deliver approximately 10 times the light output due to operation at a much higher input power than our standard XBright chips. As a result, these chips could be used in a new range of lighting applications. In fiscal 2004, we announced the release of an XBright XB500 power chip for applications in the one-half watt power range. Both the XB900 and XB500 chips are currently available. Our high-brightness LEDs are offered in blue, traffic green, true green and near UV wavelengths. In fiscal 2004, this category of LEDs comprised 49% of our LED revenue.

High Power Packaged LEDs.    We are developing high power packaged LEDs that are designed to compete with incandescent lighting technology for certain specialty lighting applications. In the near term, we do not anticipate that our LEDs will be able to compete with incandescent and fluorescent bulbs for conventional lighting markets due to their cost, efficiency, brightness and other factors. However, in some applications, such as architectural lighting, LEDs can be advantageous because of their design flexibility and can be less expensive than incandescent bulbs due to lower energy requirements, longer life and reduced maintenance costs.

In October 2003, we announced the introduction of our XLamp^™ family of high power packaged LEDs, which are designed for emerging lighting applications. We started shipping the 7090 series XLamp product in June 2004. The 7090 series product combines our XB900 power chip with a high power surface mount package that is designed to operate up to one watt of power. We also introduced our 4550 series XLamp product, which incorporates our XB500 chip and is targeted to operate at up to one half watt of electrical power. The 7090 and 4550 XLamp series are designed for architectural lighting and specialty illumination applications such as channel letter lighting, appliance lighting and reading lamps. The future targeted applications for our power chip and XLamp packaged products include solid-state illumination applications, automotive lighting and backlighting for large format liquid crystal display (LCD) screens.

Materials Products

Our materials products consist of SiC and GaN wafer and epitaxy products and bulk SiC materials used for gemstone applications.

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SiC and GaN Wafers.    We manufacture SiC wafers for sale to corporate customers who use the wafers in manufacturing products for optoelectronic and power device applications. Corporate, government and university programs also buy SiC and GaN wafers for research and development directed to optoelectronic, microwave and high power devices. We sell our wafers as a bare wafer or a customized wafer with epitaxial films of SiC or GaN materials, depending upon the nature of our customer’s needs. We currently sell both two-inch and three-inch wafers. Wafer products represented 7%, 9% and 11% of our revenue for the fiscal years ended June 27, 2004, June 29, 2003 and June 30, 2002, respectively.

Over the past few years, we have continued to expand our product line of three-inch wafers, which are better suited for the manufacture of power and microwave devices. We continue to develop SiC wafers that are larger and of higher quality. These wafers have potential for higher yield and lower cost for devices made from them. As a result, we plan to migrate the majority of the manufacture of our LED products to a three-inch wafer platform during fiscal 2005.

Bulk Materials Used for Gemstones.    We manufacture SiC crystals in near colorless form for use in gemstone applications. Single crystalline SiC has characteristics that are similar to diamond, including properties relating to color, hardness and brilliance. We sell SiC in bulk crystal form exclusively to Charles & Colvard, Ltd. (C&C), which produces and markets gemstone products made from SiC crystals. SiC materials sold for gemstone applications represented 2%, 3%, and 2% of our revenue for the fiscal years ended June 27, 2004, June 29, 2003 and June 30, 2002, respectively.

SiC-based Power Devices

SiC-based power devices can operate at significantly higher breakdown voltages than silicon-based power devices and provide faster switching speeds than comparable silicon-based power devices at similar breakdown voltages. These attributes create a lower switching loss, which yields power savings due to higher efficiency, enabling smaller and more efficient systems.

Our SiC-based power products are 300-volt Schottky diodes for output rectifiers and power factor correction in power supplies. We also offer 600-volt Schottky diodes for applications such as power supplies used in computer servers and 1200-volt Schottky diodes targeted for motor control applications. We are marketing these products to manufacturers of power conditioning and power switching equipment as potential replacements for silicon-based power devices in certain applications. SiC-based power devices represented 1% of our revenue for the fiscal year ended June 27, 2004. SiC-based power devices represented less than 1% of our revenue for the fiscal years ended June 29, 2003 and June 30, 2002.

We are developing additional prototype SiC-based power devices, including PIN diodes and power MOSFETs, which could have many potential uses such as power conditioning and power switching applications.

RF and Microwave Transistors

RF and microwave devices made from SiC can operate at higher voltages, which allows for higher power densities as compared to silicon or GaAs-based devices. Additionally, this characteristic allows SiC-based devices to be significantly smaller while carrying the same or greater power levels than silicon-based or GaAs-based devices. Currently, there is a higher cost associated with SiC than silicon or GaAs-based devices for RF and microwave transistors.

We currently offer a 10-watt SiC transistor product, or metal-semiconductor field effect transistor (MESFET) product. We also have sampled 60-watt SiC MESFET chips to select customers. Additionally, we provide a foundry service for wide bandgap monolithic microwave integrated circuits (MMICs). These SiC-based RF circuits can be used in a variety of wide bandwidth communications applications, high-power radar amplifiers, electronic warfare, and wireless infrastructure. The MMIC foundry service allows a

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customer to design its own custom SiC RF circuit to be fabricated in our MMIC foundry, or have us provide custom MMIC design for the customer and fabricate the chips. We intend to focus future development efforts in this area on creating higher power SiC MESFETs and GaN RF devices. SiC MESFET and MMIC devices represented less than 1% of revenue for each of the fiscal years ended June 27, 2004, June 29, 2003 and June 30, 2002.

Near UV Laser Diodes

We have demonstrated near UV lasers (sometimes referred to as blue lasers) that operate at power levels ranging from 3 milliwatts to greater than 100 milliwatts. Our development activity continues to focus on developing more reliable and higher performance devices. The primary target market for our lasers is optical disk drives for next generation digital versatile disk (DVD) and computer data storage applications. The shorter wavelength of near UV products enables significantly higher storage capacity than the current generation of optical drives, which employ red lasers. At this point, numerous standards are being proposed for the next generation of DVDs including Blu-ray and High Density Digital Versatile Disk (HD-DVD).

Cree Microwave Segment:

Our Cree Microwave segment produces bipolar and laterally diffused metal oxide semiconductor (LDMOS) devices made from silicon substrates. These products enable us to offer our customers an array of power transistors designed to meet a broad spectrum of the current and potential wireless infrastructure markets. These products represent the main semiconductor content of a power amplifier, which is used in a base station to boost the power of a signal so that it can reach a wireless phone or other device within a designated geography. During fiscal 2004, Cree Microwave also began to sell products targeted for the military and aeronautics (mil-aero) markets. Cree Microwave’s RF products represented 3%, 1%, and 16% of our revenue for the fiscal years ended June 27, 2004, June 29, 2003 and June 30, 2002, respectively.

Prior to fiscal 2003, sales to Spectrian represented 99% of Cree Microwave’s revenue. In November 2002, we entered into an agreement with Spectrian to terminate our supply contract. During fiscal 2004, the majority of the segment’s revenues represented sales to new customers for LDMOS designs for wireless infrastructure and mil-aero business.

Financial Information about Segments and Geographic Areas of Customers and Assets

For financial information about business segments and geographical areas of customers, please see Note 2, “Summary of Significant Accounting Policies and Other Matters” to our consolidated financial statements included in Item 8 of this report. All of our long-lived tangible assets currently are maintained in the United States.

Government Contract Funding

We derive a portion of our revenue from funding that we receive pursuant to research contracts with various agencies of the U.S. Government. We had 33, 19 and 18 government contracts in effect during the fiscal years ended June 27, 2004, June 29, 2003 and June 30, 2002, respectively.

These contracts typically cover work performed over several months up to five years. These contracts may be modified or terminated at the convenience of the government and typically are subject to appropriation and allocation of the required funding on an annual basis. The revenue that we recognize pursuant to these contracts represents reimbursement by various U.S. Government entities that aid in the development of new technology. The applicable contracts generally provide that we may elect to retain ownership of inventions made in performing the work, subject to a non-exclusive license retained by the U.S. Government to use the inventions for government purposes.

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Contract funding may be based on either a fixed price or cost type award. Cost awards include cost, cost-plus fixed fee or cost-share arrangements. The amount of funding under each contract is determined based on cost estimates that include direct costs, plus an allocation for research and development expenses, general and administrative expenses and cost of capital expenses. The specific reimbursement provisions of the contracts, including the portion of our general and administrative expenses and other operating expenses that are reimbursed, vary by contract. Cost-plus funding is determined based on actual costs plus a fixed fee. For the cost-share contracts, based on the terms of the contract, the actual costs relating to activities we are to perform under the contract are divided between the U.S. Government and us. The U.S. Government’s cost share is then paid to us. The contracts typically require the submission of a written report that documents the results of the research, as well as some material deliverables.

The revenue and expense classification for contract activities is based on the nature of the contract. For contracts where we anticipate that the U.S. Government funding will exceed our direct costs relating to the program 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 we anticipate that direct costs of the activities subject to the contract will exceed the amounts to be funded over the life of the contract, costs are reported as research and development expenses and related funding is reported as an offset of those expenses. For the fiscal years ended June 27, 2004, June 29, 2003 and June 30, 2002, U.S. Government funding represented 9%, 12% and 12% of total revenue, respectively.

We generally must compete with other companies for funding awards from the U.S. Government. In certain cases, such as when the value of a U.S. Government contract exceeds $100,000 and when highly technical research is required, the U.S. Government issues a request for proposal (RFP). In a typical RFP, the U.S. Government requests a product or service and solicits proposals from prospective contractors on how they intend to carry out that request, and at what price. Proposals received in response to an RFP can be subject to negotiation after they have been submitted. Many U.S. Government contracts are awarded on a type of RFP called a broad agency announcement (BAA). In a BAA, the U.S. Government requests a broad range of research and development services. Contractors submit bids for research in any of the technical areas mentioned in the BAA. Then the U.S. Government may select winners of the awards and negotiate contracts with those parties. The U.S. Government uses many methods to select contractors to receive awards. Some of these methods include choosing vendors who offer products or services that provide the best value, lowest price and highest level of technology. We also may be the recipients of a sole source contract from the U.S. Government if the U.S. Government determines that we are the only viable source for the work to be performed. In this case, the U.S. Government would publish its intent to award a sole source contract to us, and if there are no viable challenges made to that publication, the U.S. Government might award the contract to us without a competitive bid process.

In May 2004, the Army Research Laboratories (ARL) awarded us a contract through the Robert Morris Acquisition Center, providing for funding up to $15.9 million over five years. This contract focuses on the development of manufacturing technology for high-temperature high-power SiC semiconductor material and power devices for use in electric traction drive power components and associated power conditioning and control electronics for the next-generation of combat vehicles. The contract contemplates research regarding the manufacture, processing, and performance of high-temperature SiC high power devices for electric traction drive systems. Specifically, our research efforts under the contract will focus on improving the quality of SiC material (substrates and epi-layers) and the design, development, and operation of SiC power devices for high-temperature, high power motor drive applications. For the year ended June 27, 2004, we recorded $351,000 of revenue associated with this contract.

Also in May 2004, through the ARL Robert Morris Acquisition Center we were awarded a contract providing up to $9.9 million of funding over five years. This contract focuses on the development of high-temperature SiC semiconductor high power devices and power modules for use in electric traction drive power components and associated power conditioning and control electronics for the next-generation of

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combat vehicles. The contract also contemplates research regarding device development of SiC power devices and power modules for electric traction drive systems, including SiC power device and power module design, fabrication and operation at high-temperature and high power in motor drive power conditioning, control and power distribution applications. The overall goal of this program is to provide high-temperature power modules with a 1200 V, 600 A rating. For the year ended June 27, 2004, we recorded $161,000 of revenue associated with this contract.

In June 2002, the Office of Naval Research (ONR) awarded us two contracts with a total value of approximately $14.4 million as part of the Wide Bandgap Semiconductor Technology Initiative of the Defense Advance Research Projects Agency (DARPA). The first contract provided for up to $8.8 million in U.S. Government funding over an 18-month period for work directed to microwave and related technologies. This contract focuses on the development of high quality four-inch semi-insulating substrates, SiC MESFET and GaN HEMT epitaxial processes on large diameter wafers, and studies correlating material advances with device performance. In December 2003, DARPA committed an additional $2.9 million to the program for a six-month extension, bringing its total funding commitment under the contract to $11.7 million.

The second ONR/DARPA contract provided for up to $5.6 million in U.S. Government funding over an 18-month period for work directed to SiC high voltage, high power switching devices for high power conversion and distribution technology. This contract focuses on the development of low defect density four-inch, n-type 4H-SiC substrates, more uniform, thick SiC epitaxial processes, and power device development focused on high reliability, high voltage SiC PIN rectifiers and MOSFETs. In December 2003, DARPA committed an additional $1.9 million to the program for a six-month extension. In June 2004, DARPA awarded an expanded effort to the program, committing an additional $800,000. This additional funding brings the total funding commitment under the contract to $8.3 million.

We may enter into a number of contracts for different projects with a single agency or enter into contracts addressing different parts of the same project with more than one agency. For example, we currently have several large contracts with the ONR and the Air Force Research Laboratories (AFRL). In July 2002, we were awarded U.S. Government contracts totaling $26.5 million, if fully funded, over a three-year period from ONR and AFRL for SiC MMIC process development. The U.S. Navy, the Missile Defense Agency and the Department of Defense’s Title III program jointly fund these contracts. Under our previously existing Title III contract with AFRL, the project added $3.2 million through a contract modification for additional tasks focused on improving yields of the three-inch diameter high purity semi-insulating SiC substrates to be used for MMIC devices. The remaining $23.3 million is being provided through the contract with ONR. The goal of this contract is to provide enhanced producibility of SiC materials, both substrates and epitaxy, and clean room processing, in support of high-power MMIC amplifiers used in military radar applications. The majority of the work is directed to yield enhancement and cost reduction for MMICs fabricated on three-inch diameter SiC wafers. In fiscal 2004, revenues under the specific contracts (DARPA, MMIC Producibility and AFRL) with the ONR, AFRL and ARL combined were approximately 4% of total revenue.

Additionally, we were awarded with another contract in June 2002 funded by DARPA through the ARL Robert Morris Acquisition Center to pursue the development of UV LEDs and lasers for a variety of military communications and bio-threat detection applications under DARPA’s Semiconductor Ultraviolet Optical Sources (SUVOS) program. This DARPA SUVOS contract provides for up to $14.4 million in U.S. Government funding over a four-year period. In fiscal 2004, DARPA committed an additional $3.0 million toward this program, bringing the total funding commitment under the contract to $17.4 million. In fiscal 2004, this DARPA SUVOS contract accounted for approximately 2% of total revenue.

The specific contracts mentioned above are all cost share arrangements. The contracts require us to conduct the research effort described in the statement of work section of the contract. The contracts also require that we pay a contractually agreed upon portion of the costs of the work with the U.S. Government

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paying the balance. There are no milestones to be reached for payments from the U.S. Government. We invoice the U.S. Government monthly for their share of the costs of the work performed based on costs incurred for that month.

Distributorship Agreement with Sumitomo Corporation

In April 2002, we entered into a distributorship agreement with Sumitomo Corporation (Sumitomo), which was amended in March 2003, amended and restated in May 2004 and amended in July 2004. Under the agreement, as amended, Sumitomo became our strategic partner and is now the exclusive distributor of our LED and wafer products in Japan through fiscal 2007. Prior to the beginning of each fiscal year, the distributorship agreement requires Sumitomo to commit in advance to purchase a specified dollar value of our products during the next fiscal year. For fiscal year 2004, Sumitomo’s advance purchase commitment was approximately $100 million, and revenue recognized from Sumitomo was $101.8 million. For fiscal year 2005, Sumitomo’s current advance purchase commitment is approximately $160 million; however, Sumitomo’s purchase commitment may vary under certain circumstances subject to end customer demand and other terms and conditions. For example, the distributorship agreement provides that Sumitomo may decrease its advance purchase commitment and/or terminate the agreement if its inventory of Cree products reaches a specified level. If Sumitomo does not purchase at least half of its advance purchase commitment for any fiscal quarter as a result of this inventory limitation, we have the option of terminating the distributorship agreement.

The distributorship agreement also requires us to establish two rolling reserves at the time we ship LED products to Sumitomo, each based upon a percentage of the total purchase price of the products. We defer revenue recognition on the amounts added to both rolling reserves each fiscal quarter. These reserves are used to reimburse Sumitomo for certain sales costs incurred in selling our products and for managing its inventory, up to the balance in these reserves. If Sumitomo makes a valid claim against these reserves, we write off or reduce the amount of the claim against the applicable reserve. Except to the extent Sumitomo makes a valid claim against the reserves, amounts added to these reserves during a fiscal quarter will expire on a rolling basis by at least the end of the second following fiscal quarter, and we recognize revenue equal to the expired amount at that time.

Research and Development

We invest significant resources in research and development aimed at improving our semiconductor materials and developing new device and production technology. Our core materials research is directed to improving the quality and diameter of our SiC and GaN substrates. We also are working to improve the quality of the SiC and nitride epitaxial materials we grow to produce devices and to improve device yields by reducing variability in our processes. These efforts are in addition to ongoing projects focused on brighter LED chips, high power packaged LEDs, higher power/higher linearity RF and microwave devices, near UV laser devices and higher power diodes/switches as discussed above.

We recorded $36.9 million in fiscal 2004, $31.2 million in fiscal 2003 and $28.0 million in fiscal 2002 for direct expenditures relating to research and development activities. The amount of recorded expenditures is supplemented by funding received from our customers and the U.S. Government, in certain cases, which is recorded as a reduction in research and development expenditures. When we receive payments from our customers for sponsoring research and development programs, we offset those payments against direct research and development expenditures. In addition, when we receive payments from the U.S. Government under contracts where direct expenses of the contract are estimated to exceed the funding award over the life of the program, we offset the payment against reported research and development expenditures. In fiscal 2004, 2003 and 2002, customers funded zero, $500,000 and $9.0 million, respectively for programs that offset research and development costs. The majority of this funding was received from companies in which we have made investments. For example, an affiliate of Lighthouse Technologies, Limited (Lighthouse) in

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which we have an investment, was our only source of customer funding in fiscal 2003. In fiscal 2002, Microvision, Inc. (Microvision), the Lighthouse affiliate and Xemod, Inc. (Xemod) funded $4.4 million, $3.0 million and $492,000, respectively, of our research and development. We held an investment in each of these companies at the time that they provided research and development funding to us. In addition, Spectrian, historically the largest customer for our Cree Microwave segment, also participated in funding our research and development programs for $1.1 million in fiscal 2002. When customers participate in funding our research and development programs, we record the amount funded as a reduction of research and development expenses. At this time, we do not expect funding for research and development during fiscal 2005 from these or any other customers or any third parties in which we invested. U.S. Government funding that offset costs included as research and development was zero, zero and $276,000 for fiscal 2004, 2003 and 2002, respectively.

Sales and Marketing

We actively market our LED, wafer, RF, microwave and power products through targeted promotions, select advertising and attendance at trade shows. Our direct sales force and senior management work with customers around the world. The production of lamp and display products incorporating LED chips is concentrated among a relatively small number of LED packaging manufacturers. Our sales and marketing team is based in our Durham, North Carolina facility with additional sales support offices in Hong Kong and Tokyo, Japan. We also have a salesperson based in Taiwan. We believe that our sales in Asia have increased as a direct result of localizing our Asian sales presence.

Supported by our Japan office, Sumitomo is our exclusive distribution partner for nitride LED chips and SiC and GaN wafers in Japan. We also use distributors to market our LED products in Hong Kong, China and Taiwan in coordination with our sales support office in Hong Kong and our salesperson based in Taiwan. We use a separate network of distributors and sales representatives to market our GaN materials, RF and microwave devices, power devices and high power packaged LED products in North America, Japan, Europe and Asia. We sell SiC crystal materials for use in gemstone applications directly to C&C under an exclusive supply agreement.

Customers

During fiscal 2004, revenues from Sumitomo (which represent sales to approximately 20 Japanese LED customers as well as a number of wafer customers) accounted for 33% of our total revenue. Sumitomo assists in managing customer relationships and imports, handles orders, distributes our products and manages accounts receivable for the Japanese customer base. For fiscal 2004, four of our top ten end customers were located in Japan and their sales, as well as sales to our other Japanese customers, are reported as sales to Sumitomo. Cree Japan’s sales team is actively involved with Sumitomo in the sales process to accounts in Japan. Our relationship with our end customers in Japan is critical to our future success. Sales to OSRAM Opto Semiconductors GmbH (OSRAM) and Agilent Technologies (Malaysia) Sdn Bhd, (Agilent) during fiscal 2004 were 13% and 13%, of revenue, respectively.

Sumitomo, OSRAM and Agilent were our only customers that comprised 10% or more of our revenue for fiscal 2004. In October 2003, we signed an agreement with OSRAM, which was amended in March 2004. Under the agreement, OSRAM committed to purchase at least 500 million LEDs through June 2005. The loss of OSRAM, Agilent or any of Sumitomo’s large customers could have a material adverse effect on our business and results of operation. Revenue from the U.S. Government, representing funding from several agencies, made up 9% of total revenue for fiscal 2004. As our U.S. Government contracts are with multiple agencies, the U.S. Government does not act as a single customer, and we do not regard it as such. During fiscal 2003, revenues from three customers, Sumitomo, OSRAM and Agilent were 24%, 21%, and 10%, of total revenue, respectively. Revenue from the U.S. Government, representing funding from several agencies, made up 12% of total revenue for fiscal 2003. During fiscal 2002, revenues from three customers, OSRAM,

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Spectrian and Sumitomo, were 19%, 16% and 14%, of total revenue, respectively. Revenue from the U.S. Government, representing funding from several agencies, made up 12% of total revenue for fiscal 2002. Prior to fiscal 2003, sales to Spectrian, which was purchased in 2002 by Remec, Inc. (REMEC), were 99% of Cree Microwave’s revenue. In fiscal 2004, sales to Remec made up 43% of Cree Microwave sales. We continue to pursue new customers for our Cree Microwave business and have had some recent success on designs with our newer products serving the wireless infrastructure and mil-aero markets. Based upon conversations with our customer, we target sales to Remec to decline in fiscal 2005 and therefore new customer orders will be critical to continue to grow revenue for this segment. For further financial information about foreign and domestic sales, please see Note 2, “Summary of Significant Accounting Policies and Other Matters,” to our consolidated financial statements included in Item 8 of this report.

Backlog

As of June 27, 2004, we had a backlog of approximately $248.5 million, consisting of approximately $192.8 million of product orders and $55.7 million under research contracts signed with the U.S. Government, for which a portion of the contracted funds have not yet been appropriated. The backlog includes the full amount of Sumitomo’s purchase commitment for fiscal 2005, which may vary under certain circumstances subject to end customer demand and other terms and conditions described above under the caption “Distributorship Agreement with Sumitomo Corporation.” We estimate our entire backlog could be filled during fiscal 2005, with the exception of approximately $33.7 million in U.S. Government funded contracts. As of June 29, 2003, we had a backlog of approximately $152.5 million consisting of approximately $108.9 million of product orders and $43.6 million under research contracts signed with the U.S. Government, for which a portion of the contracted funds had not yet been appropriated. This backlog included the full amount of Sumitomo’s purchase commitment. Our backlog could be adversely affected if Sumitomo or other customers fail to honor their purchase commitments or reduce or cancel orders or if the U.S. Government exercises its rights to terminate the government contracts or does not appropriate and allocate all of the funding contemplated by the contracts.

In May 2004, we amended and restated our existing distributorship agreement with Sumitomo extending the term of the agreement through 2007. For fiscal year 2005, Sumitomo’s current advance purchase commitment is approximately $160 million, subject to adjustment and cancellation provisions and end customer demand. The orders cover demand for our products in Japan and represent sales to over twenty LED packagers including Stanley Electric Co., Ltd. (Stanley), Citizen Electronics Co., Ltd. (Citizen), Sharp Corporation (Sharp) and Rohm Co., Ltd. (Rohm). In October 2003, we signed a purchase agreement with OSRAM, which was amended in March 2004. The agreement covers shipments through June 2005, but does not specify specific products to be purchased by OSRAM each quarter. Therefore, we only account for amounts set forth in purchase orders from OSRAM as firm backlog. As of June 27, 2004 we had approximately six weeks of orders from OSRAM as firm backlog.

Sources of Raw Materials

We depend on a limited number of suppliers for certain raw materials, components and equipment used in our products, including certain key materials and equipment used in our crystal growth, wafering, polishing, epitaxial deposition, device fabrication and device assembly processes. We generally purchase these limited source items pursuant to purchase orders and have limited guaranteed supply arrangements with our suppliers.

Competition

Our success depends on our ability to keep pace with the evolving technology standards of the industries that we serve. These industries are characterized by rapid technological change, frequent introduction of new products, short product life cycles and changes in end-user and customer requirements.

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The evolving nature of these industries may render our existing or future products obsolete, noncompetitive or unmarketable. Any of these developments could have an adverse effect on our business, results of operations and financial condition.

LEDs

Blue, Green and Near UV LED Chips.    The primary competition for our LED chip products comes from companies that manufacture and or sell nitride-based LED chips. We expect many LED competitors to substantially increase their capacity to manufacture LED chips during the next twelve months. We also consider Nichia Corporation (Nichia), which sells packaged LEDs and most often competes directly with our chip customers, to be a competitor. Nichia currently sells the majority of its packaged LED products to markets requiring white LEDs, which Nichia fabricates using its efficient phosphor solution for blue LEDs. We believe that Nichia currently has the largest market share for nitride-based LEDs based on conversations with our customers. We see an opportunity to improve our customers’ ability to compete with Nichia’s white LED products and increase our chip sales with our recently introduced XT-21 chip, based on reports from customers that they are able to produce a white LED with our XT-21 chip that is similar in output to Nichia’s white LED. However, this opportunity also depends upon our customers’ ability to source or develop efficient phosphor solutions for the conversion to white light that can compete with Nichia’s solution.

Many Asia-based chip producers also produce blue, green and near UV LED products. They have been successful in securing new business, primarily in Asia for the blue keypad backlight for mobile appliances and other cost sensitive applications. Some of these Asia-based competitors offer chips with brightness similar to our existing high-brightness products.

Our customers indicate that they base their nitride LED purchases on a combination of factors. These factors include price, performance, reliability, quality, usability and stability of supply, intellectual property, customer service and overall customer relationships. Based on conversations with our customers, we believe that our products have an advantage over our competitors’ chips in many of these areas and that we are more successful when end customers value a combination of these factors. The particular combination and importance of specific factors that drive customers’ purchasing decisions at any time varies, depending on market conditions, requirements for end user applications and demand for those applications. Overall, we believe that price and performance are the most significant factors to compete successfully in the nitride LED market and that our products are well positioned to meet the market demands. We continually strive to improve our competitive position by developing brighter and higher performance LED chips and focusing on lowering costs. For example, we target to migrate the majority of our LED production to three-inch wafers from two-inch wafers during fiscal 2005, which is intended to increase our LED production yield and lower our overall LED chip cost.

High Power Packaged LEDs.    The market for power chip products and high power packaged lamps is currently limited to specialty lighting applications. Lumileds Lighting, LLC (Lumileds) currently is positioned as the leader in this market since they have been the only production supplier of high power packaged LEDs for the last few years. Lumileds sells high power packaged LEDs that compete indirectly with our target customers for power chip products and directly with our XLamp family of high power packaged lamps. Several other companies have announced intentions to enter this market with products designed to compete with our XLamp products. We are positioning our XLamp product to compete in this market based on price, performance and usability.

SiC and GaN Materials Products

The market for SiC wafers has become more competitive in recent years, as other companies have begun to offer SiC wafer products or have announced plans to do so. To our knowledge, none of these competitors currently offer SiC wafers that are being used for device production. We sell SiC wafers to

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OSRAM and Infineon, which compete with us in the LED and power diode markets, respectively. In addition to being a large customer of our LED chips, OSRAM, which licensed certain LED technology from us in 1995, currently is producing LEDs using nitride materials on SiC substrates for use in their packages. We are not aware of any other company who produces SiC materials for use in gemstones although we believe there are some companies pursuing research and development in this area. The market for bulk GaN wafers is becoming increasingly competitive as Sumitomo Electric and others are currently selling wafers to these markets.

SiC-based Power Devices

Our SiC-based power devices compete with similar devices offered by Infineon. There are also a number of other companies developing SiC-based power devices. Our products also compete with existing silicon-based power devices offered by a variety of manufacturers.

RF and Microwave Transistors

Currently, there are no companies offering products that compete directly with our SiC MESFET products and MMIC foundry service although a few companies have products under development. Although there are no direct competitors using SiC technology, our products face competition from existing silicon and GaAs-based products. We do not currently offer GaN microwave devices, but we are working to develop these products. In the GaN microwave area, there are a number of companies working to develop these products.

The markets served by Cree Microwave’s LDMOS and bipolar products are highly competitive. Currently Motorola’s LDMOS business (which was recently spun out into Freescale Semiconductor, Inc.) dominates this marketplace, which we believe is due to the performance and pricing of its products in comparison to our products and others currently available in the market.

Near UV Laser Diodes

We currently do not offer any laser products commercially. The major competitors in the near UV laser market are Nichia and Sony Corporation, as well as a number of other companies that have announced development activities in this area. The market for blue laser products is just beginning to emerge. In addition to our development efforts, there are also a number of companies working on developing near UV laser diodes.

Patents and Proprietary Rights

We seek to protect our proprietary technology by applying for patents where appropriate and in other cases by preserving the technology and related know-how and information as trade secrets. We have also from time to time acquired, through license grants or assignments, rights to patents on inventions originally developed by others. As of July 15, 2004, we owned or held exclusive rights licensed under a total of 251 issued U.S. patents, subject in some cases to non-exclusive license rights held by third parties. These patents expire between 2007 and 2022. We jointly own four of these patents with third parties. Thirty-six of these patents relate primarily to our Cree Microwave segment. In addition, we own or hold exclusive license rights under corresponding patents and patent applications in various foreign countries.

Among the patent licenses we hold are exclusive licenses granted by North Carolina State University (NCSU) to its U.S. and corresponding foreign patents and patent applications that relate to SiC materials and device technology and to GaN growth technology. These licenses include rights under patents and patent applications relating to processes for growing single crystal SiC and low defect GaN materials. The licenses are worldwide, exclusive licenses to manufacture, use and sell products and processes covered by the claims

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of patents issued on applications filed by NCSU relating to the licensed inventions. The U.S. Government holds non-exclusive licenses from us to use for government purposes certain of our inventions that were developed under contracts with them. The licenses relating to the growth of bulk single crystal SiC and to other SiC materials and device technology are fully-paid, while the licenses relating to growth of low defect GaN materials require us to pay NCSU royalties on sales of products made using the licensed processes.

The patents that we have licensed from NCSU relating to bulk SiC growth expire beginning in 2007, and we may face increased competition in the market for SiC materials as these patents expire. In addition, in the event our licenses to the U.S. patents owned by NCSU relating to SiC growth were to be terminated under the terms of our license agreement, we could potentially be enjoined from practicing the patented process. In that event the business of our entire Cree segment could be disrupted since the segment is critically dependent on our ability to manufacture bulk single crystal SiC material. Similarly, if our license to the patents relating to growth of low defect GaN materials were to be terminated, it could have a material adverse effect on our ability to produce GaN-based laser diodes or other future products we expect to manufacture using the patented processes.

We also have entered into license agreements with the licensing agencies of other universities, and with other companies, under which we have obtained exclusive or non-exclusive rights to practice inventions claimed in various patents and applications issued or pending in the U.S. and other foreign countries. We do not believe the financial obligations under any of these agreements, or the loss of the licensed rights under any of these agreements, would have a material adverse effect on our business, financial condition or results of operation. These license agreements include a patent cross-license agreement covering GaN-based optoelectronic technology that we entered into with Nichia in November 2002 in connection with a settlement of patent and related litigation then pending between the parties in the United States and Japan. These license agreements also include license rights granted to us by the Trustees of Boston University (Boston University) under certain U.S. patents and corresponding foreign patents and patent applications which relate to the manufacture of certain GaN-based structures on sapphire and other substrates. The license agreement with Boston University grants us an exclusive, worldwide royalty-bearing license under these patents and patent applications, subject to royalty payments and other obligations under the license agreement. Termination of the license to this patent by Boston University would end our right to assert the patent against future infringements.

For proprietary technology that is not patented or otherwise published, we seek to protect the technology and related know-how and information as trade secrets and to maintain it in confidence through appropriate non-disclosure agreements with employees and others to whom the information is disclosed. There can be no assurance that these agreements will provide meaningful protection against unauthorized disclosure or use of our confidential information or that our proprietary technology and know-how will not otherwise become known or independently discovered by others. We also rely upon other intellectual property rights such as trademarks and copyright where appropriate.

Environmental Regulation

We are subject to a variety of federal, state and local provisions enacted or adopted regulating the discharge of materials into the environment or otherwise relating to the protection of the environment. These include statutory and regulatory provisions under which we are responsible for the management of hazardous materials we use and the disposition of hazardous wastes resulting from our manufacturing processes. Failure to comply with such provisions, whether intentional or inadvertent, could result in fines and other liabilities to the government or third parties, injunctions requiring us to suspend or curtail operations or other remedies, and could have a material adverse effect on our business.

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Employees

As of June 27, 2004, we employed 1,235 people, consisting of regular full time and temporary employees, including 965 in manufacturing operations, 196 in research and development and 74 in sales and general administration. None of our employees are represented by a labor union or subject to collective bargaining agreements.

Available Information

We maintain a website at the address www.cree.com. We are not including the information contained on our website as a part of, or incorporating it by reference into, this Annual Report on Form 10-K. We make available free of charge through our website our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q and Current Reports on Form 8-K, and amendments to these reports, as soon as reasonably practicable after we electronically file such material with, or furnish such material to, the Securities and Exchange Commission (SEC). These reports may be accessed by following the link under “News & Investor—SEC Filings” on our website.

Item 2.    Properties

We own our facilities in Durham, North Carolina where the business for our Cree segment is conducted. We presently maintain approximately 48 acres of developed land, with total facility square footage of 521,747. This includes 289,772 square feet for production, 81,751 square feet for service and warehousing, and 150,224 square feet for administrative support. We also own approximately 80 acres of undeveloped land near our production facilities potentially for future expansion.

We maintain a three-year lease through our Cree Japan subsidiary for an office in Tokyo, Japan for sales and marketing activities that expires in June 2005. We also contract the use of a facility for sales and marketing efforts for our Cree Asia-Pacific subsidiary in Kowloon, Hong Kong that expires in July 2005.

The facility used for our Cree Microwave segment is approximately 49,600 square feet of administrative and manufacturing space located in Sunnyvale, California. Our Cree Microwave subsidiary currently maintains this space under a sublease agreement that expires in 2011. We have guaranteed the obligations of our subsidiary under the sublease.

We lease a facility for our Santa Barbara Technology Center in Goleta, California (formerly Cree Lighting Company) for our Cree segment. The lease for this facility, which covers 35,840 square feet, has been extended until August 2010. This facility is used for research and development and administration. Our previously reported sublease of 10,217 square feet of this facility to a third party expired in July 2004.

Item 3.    Legal Proceedings

In re Cree, Inc. Securities Litigation

Between June 16 and August 18, 2003, nineteen purported class action lawsuits were filed in the United States District Court for the Middle District of North Carolina by certain alleged purchasers of our stock. The lawsuits name us, certain of our officers and current and former directors as defendants. On December 17, 2003, the court entered an order consolidating these actions and appointing a lead plaintiff and lead counsel for the consolidated cases. The lead plaintiff filed a consolidated amended complaint on January 16, 2004. The amended complaint asserts, among other claims, violations of federal securities laws, including violations of Section 10(b) of the Securities Exchange Act of 1934, as amended, and Rule 10b-5, and violations of Section 20(a) and Section 18 of the Exchange Act against the individual defendants and also asserts claims against certain of our officers under Section 304 of the Sarbanes-Oxley Act of 2002. The amended complaint alleges that we made false and misleading statements concerning our investments in

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certain public and privately held companies, our acquisition of the UltraRF division of Spectrian, our supply agreement with Spectrian, our agreements with C&C, and our employment relationship with Eric Hunter and that our financial statements did not comply with the requirements of the securities laws during the class period. The amended complaint requests certification of a plaintiff class consisting of purchasers of Cree stock between August 12, 1998 and June 13, 2003 and seeks, among other relief, unspecified damages and disgorgement of profits by the individual defendants, plus costs and expenses, including attorneys’, accountants’ and experts’ fees. In February 2004, we moved that the court dismiss the consolidated amended complaint on the grounds that it fails to state a claim upon which relief can be granted and does not satisfy the pleading requirements under applicable law. The motion is currently pending.

We believe that the claims set forth in the amended complaint are without merit. However, we are unable to predict the final outcome of these matters with certainty. Our failure to successfully defend against these allegations could have a material adverse effect on our business, financial condition and results of operations.

SEC and Nasdaq Inquiries

In July 2003, the SEC initiated an informal inquiry regarding us and requested that we voluntarily provide certain information. We have cooperated with the SEC in this informal inquiry. In August 2003, the Nasdaq National Market (Nasdaq) requested information from us regarding the informal inquiry being conducted by the SEC and our then pending litigation, and we have provided information to Nasdaq in response to these requests. We are unable to predict whether these inquiries will continue or result in any adverse action.

Other Matters

We are currently a party to other legal proceedings incidental to our business. Although the final resolution of these other matters cannot be predicted with certainty, management’s present judgment is that the final outcome of these matters will not likely have a material adverse effect on our consolidated financial condition or results of operations. If an unfavorable resolution occurs in these legal proceedings, our business, results of operations and financial condition could be materially adversely affected.

Item 4.    Submission of Matters to a Vote of Security Holders

No matters were submitted to a vote of security holders during the fourth quarter of fiscal 2004.

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PART II

Item 5.    Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Common Stock Market Information.    Our common stock is traded in the Nasdaq National Market and is quoted under the symbol CREE. The following table sets forth, for the quarters indicated, the high and low sales prices as reported by Nasdaq. Quotations represent interdealer prices without an adjustment for retail markups, markdowns or commissions.

	FY 2004				FY 2003
	High		Low		High		Low
First Quarter	$	23.640	$	11.700	$	17.720	$	10.870
Second Quarter		22.750		16.000		25.420		8.989
Third Quarter		29.000		17.500		20.640		14.701
Fourth Quarter		23.450		18.060		26.880		15.500

Holders and Dividends.    There were approximately 777 holders of record of our common stock as of July 29, 2004.

We have never paid cash dividends on our common stock and do not anticipate that we will do so in the foreseeable future. There are no contractual restrictions in place that currently materially limit, or are likely in the future to materially limit, us from paying dividends on our common stock, but applicable state law may limit the payment of dividends. Our present policy is to retain earnings, if any, to provide funds for the operation and expansion of our business.

Sale of Unregistered Securities.    There were no sales of unregistered securities during fiscal 2004, 2003 or 2002.

Purchases of Equity Securities by the Company and Affiliated Purchasers.    The following table lists all repurchases (both open market and private transactions) during the fourth quarter of fiscal 2004 of any of our securities registered under Section 12 of the Exchange Act, by or on behalf of us, or any affiliated purchaser.

Issuer Purchases of Equity Securities

Period	Total Number of Shares Purchased	Average Price Paid Per Share		Total Number of Shares Purchased as Part of Publicly Announced Programs(1)	Maximum Number of Shares that May Yet Be Purchased Under the Programs
March 29-April 25, 2004	230,000	$	20.3443	230,000	2,767,498
April 26-May 23, 2004	833,500	$	18.8144	833,500	7,000,000
May 24-June 27, 2004	100,000	$	19.8586	100,000	6,900,000
Total	1,163,500	$	19.9230	1,163,500	6,900,000

(1) On January 18, 2001, we announced the authorization by our Board of Directors of a program to repurchase up to four million shares of our outstanding common stock. In March 2001, the Board of Directors increased the repurchase limits by an additional three million shares. In May 2004 the Board of Directors authorized an additional five million shares for repurchase under the program. As of June 27, 2004, there are an aggregate of 6.9 million shares remaining that are authorized for future repurchases. The repurchase program will expire on February 5, 2005 unless extended by the Board of Directors.

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Item 6.    Selected Financial Data

The consolidated statement of operations data set forth below with respect to the fiscal years ended June 27, 2004, June 29, 2003 and June 30, 2002 and the consolidated balance sheet data at June 27, 2004 and June 29, 2003 are derived from, and are qualified by reference to, the audited consolidated financial statements included elsewhere in this report and should be read in conjunction with those financial statements and notes thereto. The consolidated statement of operations data for the fiscal years ended June 24, 2001 and June 25, 2000 and the consolidated balance sheet data at June 30, 2002, June 24, 2001 and June 25, 2000 are derived from audited consolidated financial statements not included herein. All consolidated statement of operations and consolidated balance sheet data shown below are adjusted to reflect the acquisition of Nitres, effective May 1, 2000. This transaction was accounted for under the pooling of interests method. We acquired the business comprising the Cree Microwave segment in December 2000. This transaction was accounted for under the purchase method. We acquired the GaN substrate and epitaxy business of ATMI in the fourth quarter of 2004. This acquisition was accounted for under the purchase method. All share amounts have been restated to reflect our two-for-one stock splits effective July 26, 1999 and December 1, 2000.

Selected Consolidated Financial Data

(In thousands, except per share data)

	Years Ended
	June 27, 2004		June 29, 2003		June 30, 2002			June 24, 2001		June 25, 2000
Statement of Operations Data:
Product revenue, net	$	279,923	$	202,962	$	136,230		$	159,533	$	96,742
Contract revenue, net		26,947		26,860		19,204			17,694		11,820
Total revenue		306,870		229,822		155,434			177,227		108,562
Net income (loss)	$	57,960	$	34,901	$	(101,723	)	$	27,843	$	30,520
Net income (loss) per share, basic	$	0.78	$	0.48	$	(1.40	)	$	0.39	$	0.46
Net income (loss) per share, diluted	$	0.77	$	0.46	$	(1.40	)	$	0.37	$	0.43
Weighted average shares outstanding:
Basic		74,008		73,196		72,718			72,243		65,930
Diluted		75,745		75,303		72,718			75,735		70,434
	As of
	June 27, 2004		June 29, 2003		June 30, 2002			June 24, 2001		June 25, 2000
Balance Sheet Data:
Working capital	$	189,911	$	181,063	$	151,851		$	244,178	$	265,957
Total assets		628,000		563,694		504,195			615,123		486,202
Long-term obligations		—		—		—			—		—
Shareholders’ equity	$	579,132	$	535,371	$	482,104		$	589,097	$	463,142

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Item 7.    Management’s Discussion and Analysis of Financial Condition and Results of Operation

Business Overview

We develop and manufacture semiconductor materials and electronic devices made from SiC, GaN, silicon and related compounds. The majority of our products are currently produced in our factory in Durham, North Carolina. We derive the largest portion of our revenue from the sale of blue, green and near UV LED chips. We currently offer LED chips at three brightness levels:

• high-brightness blue, traffic green, true green and near UV products, which include our MegaBright^®, XBright^® and XThin chips and our XB900 and XB500 power chip devices;

• mid-brightness blue, traffic green and true green products, which include UltraBright^™ and SuperBright^™ devices; and

• standard brightness blue products.

Our LED chips are packaged by our customers and used by manufacturers as a lighting source for mobile appliances such as cell phones, automotive dashboard lighting, indicator lamps, miniature white lights, indoor and outdoor full color displays, traffic signals and other lighting applications. Some of our customers package our blue LEDs with a phosphor coating to create white LEDs. In July 2004, we released a family of new high power packaged LEDs called our XLamp products, that are designed to compete with conventional lighting technology for certain specialty lighting applications. We currently are marketing these products for use in architectural lighting, appliance lighting, channel letters and reading lamps and target that future versions of XLamp will be used in emerging applications such as automotive headlamps and backlighting for large format LCD screens. LED products represented 78% of our revenue in fiscal 2004 and 75% in fiscal 2003.

We also derive revenue from the sale of semiconductor wafers and epitaxy products made from SiC and GaN that our customers use for manufacturing LEDs and power devices or for research and development. Sales of SiC and GaN wafer and epitaxy products represented 7% of our revenue in fiscal 2004 and 9% of our revenue in fiscal 2003. We also sell SiC materials in bulk crystal form to C&C for use in gemstones. Sales of SiC crystals for gemstones represented 2% of our revenue in fiscal 2004 and 3% of our revenue in fiscal 2003. Our other products include SiC-based power and RF devices. We received 1% of our revenue in fiscal 2004 and less than 1% of total revenue in fiscal 2003 from sales of power devices or SiC-based RF devices.

Through our Cree Microwave segment, based in Sunnyvale, California, we also develop and manufacture RF power transistors and modules using silicon technology. During fiscal 2004 and fiscal 2003, approximately 3% and 1%, respectively, of our revenue came from the sale of RF devices from our Cree Microwave segment. These RF power transistors are a key semiconductor component for power amplifiers that are used in base stations to boost the power of a signal so that it can reach a wireless phone or other device within a designated geography.

The balance of our revenue, 9% for fiscal 2004 and 12% for fiscal 2003, is derived from contract research funding. Under various programs, U.S. Government entities assist us in the development of new technology by funding our research and development efforts. Contract revenue includes funding for direct research and development costs and a portion of our general and administrative expenses and other operating expenses for contracts under which we expect funding to exceed direct costs over the life of the contract. For contracts under which we anticipate that direct costs will exceed amounts to be funded over the life of the contract, we report direct costs as research and development expenses with related reimbursements recorded as an offset to those expenses.

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Fiscal 2004 Overview

We reported our highest annual revenue and earnings in fiscal 2004 primarily due to customer demand for our LED chip products for the mobile appliance, automotive and LED display markets. Our LED revenue and units sold increased 40% and 65%, respectively, in fiscal 2004 over the previous fiscal year. We saw the most significant increase in sales of our high-brightness LED chips, which we estimate were used mostly in the keypads and LCD backlights of mobile appliances, LED video screens and automobile dashboards. We introduced new higher performance chips during fiscal 2004, including the XThin family, which is targeted for white LED applications in mobile appliances. We also introduced the MegaBright Plus LED, which is designed to provide our customers with a higher level of brightness than our standard chip design. LED revenue also benefited from continued growth in sales of our original MegaBright product line, which was introduced in fiscal 2003. Our high-brightness products made up 49% and 35% of our LED revenue in fiscal 2004 and 2003, respectively.

Although total revenue for our mid-brightness LED chips increased in fiscal 2004, mid-brightness products represented 43% of LED revenue in fiscal 2004 as compared to 55% in fiscal 2003. Our increase in sales of mid-brightness LEDs primarily was due to chip products that are used for blue keypad backlighting applications, including the introduction in fiscal 2004 of our RazerThin LED chip. The RazerThin product offers a smaller and thinner design and a lower forward voltage than our standard chips. The thin design offers more flexibility for smaller phones, while the lower forward voltage extends the battery lifetime for mobile appliances.

Revenue for our standard brightness devices increased 23% in fiscal 2004 in comparison to fiscal 2003. These standard brightness devices are used for automotive and indicator light applications requiring high quality and a competitive price point. Standard brightness products were approximately 8% and 10% of our LED revenue in fiscal 2004 and 2003, respectively.

During fiscal 2004, SiC and GaN materials revenue increased 11% over the prior fiscal year due to a 17% increase in the average sales price received for our wafers and epitaxy products. The higher average sales price resulted from a change in our product mix. Additionally, materials revenue included $398,000 of GaN wafer and epitaxy sales, which is part of the business we acquired from ATMI in April 2004. Revenue from sales of SiC materials for use in gemstones was 32% lower in fiscal 2004 due to lower yields and reduced customer demand. SiC gemstone materials sales were 2% of our overall fiscal 2004 revenue. Sales of our SiC-based power devices and SiC RF and microwave devices combined increased 338% in fiscal 2004; however, these sales only made up 1% of our total revenue.

Cree Microwave’s revenue for silicon-based microwave products increased 176% in fiscal 2004. This growth was achieved due to new design wins for bipolar and LDMOS devices that service the wireless infrastructure and mil-aero markets.

Government contract revenue was flat in fiscal 2004 as compared to fiscal 2003, as increased cost-sharing provisions on existing and new contracts offset new awards realized during fiscal 2004. In May 2004, we were awarded two contracts through the Robert Morris Acquisition Center, providing for up to $25.8 million over five years. These contracts focus on the development of manufacturing technology for high-temperature, high-power SiC semiconductor material and power devices for use in electric traction drive power components and associated power conditioning and control electronics for the next-generation of combat vehicles. Additionally, fiscal 2004 revenues included $782,000 of fourth quarter contract sales from the business unit we acquired from ATMI in April 2004.

In fiscal 2005, we anticipate that selling blue LED chips for white LED lamps in mobile appliances and other applications will be an important growth opportunity. Based on trends in the industry, we believe that a greater percentage of cell phones and other handheld electronics will use white LEDs as a backlight for the keypad and for full color screens in fiscal 2005. We recently have introduced a family of XThin LED devices

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that target these and other applications. We also are working to increase the brightness for the XThin family of products from 21 milliwatts to 27 milliwatts in the first half of fiscal 2005. If we are successful in developing brighter LEDs, we believe that we have an opportunity to gain market share in the color LCD backlight market for cell phones that use white LEDs. We believe that we currently have low penetration in this particular market because previously, when our customers packaged our LEDs as white LEDs, they were not as bright as some of the packaged white products sold by Nichia. Nichia currently has an efficient phosphor solution that makes its white conversion products brighter than our customers’ products. With our higher performance XThin chips, we target that white products packaged by some of our customers can be as bright or brighter than products sold by Nichia. Based on information available to us, we believe markets for our high-brightness LED applications, such as specialty lighting, displays, automotive and other applications, will continue to grow in fiscal 2005.

We also recently introduced our XLamp family of high-power packaged LED products in July 2004. We target these new products for specialty lighting markets, including channel letters, appliance lights and reading lights. As automotive headlight and large screen LED applications emerge, we intend to position our XLamp products to serve these markets.

We believe that our competitors around the world are increasing their capacity for the LED market and we factor these considerations into our expansion plans. Despite the evolving competitive pressures and additional capacity that is anticipated to come on-line in the next year from us and our competitors, we target that our business will increase if we are successful in developing higher performance, low cost LED chips. We believe our proprietary SiC platform and vertically integrated factory provides us with the opportunity to increase our brightness and lower our cost by scaling to larger sized wafers. Currently, some of our significant challenges for fiscal 2005 include increasing the output from our factory and expanding our facilities, migrating LED production to three-inch wafers and developing brighter XThin and other LED products. We are planning to invest $100-120 million during fiscal 2005 in capital equipment additions and increasing employee headcount to expand our factory output and to improve our yields. We plan to migrate the majority of our LED production from two-inch to three-inch SiC wafers over the next four quarters, which we target to greatly increase the number of LED chips per wafer and therefore lower our overall LED chip cost. However, the initial three-inch conversion may cause short-term yield challenges as we work to fully integrate the larger wafer size into production. We also target to increase the brightness for the XThin family of products in fiscal 2005, and we must work with our customers to get these and other products designed into key applications so that we can assist them to gain market share with these products.

Critical Accounting Policies

The following discussion and analysis of our financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. In preparing our financial statements, we must make estimates and judgments that affect the reported amounts of assets and liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities at the date of our financial statements. Critical accounting policies include those policies that are reflective of significant judgments and uncertainties, which potentially could produce materially different results under different assumptions and conditions. We believe that our critical accounting policies are limited to those described below.

Valuation of Long-Lived Assets, Intangible Assets and Goodwill.    We have approximately $393.1 million of long-lived assets as of June 27, 2004, including approximately $293.2 million related to fixed assets and capitalized patents, $72.7 million in long-term investments held to maturity, $22.0 million in long-term marketable securities available for sale and $5.2 million of other long term assets, including net investments in privately held companies of $2.9 million and long-term deposits of $2.3 million. In addition to the original cost of these assets, their recorded value is impacted by a number of management estimates that are determined based on our judgment, including estimated useful lives, salvage values and, in 2002, impairment charges. In accordance with Statement of Financial Accounting Standards (SFAS) No. 144,

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“Accounting for the Impairment or Disposal of Long-Lived Assets” (SFAS 144), we record impairment charges on long-lived assets used in operations when events and circumstances indicate that the assets have been impaired. In making these determinations, we utilize certain assumptions, including, but not limited to: (i) estimations of the fair market value of the assets, and (ii) estimations of future cash flows expected to be generated by these assets, which are based on additional assumptions such as asset utilization, length of service the asset will be used in our operations and estimated salvage values. For example, we recorded an impairment charge for long-lived assets of $790,000 for the three months ended June 27, 2004 for obsolete production equipment that was taken out of service and destroyed. During the second and third quarters of fiscal 2004, our Cree Microwave segment identified certain equipment that was written off because we determined the equipment would not be used and it was unable to sell the equipment to a third party. The total amount of this write-off was $173,000. We also recorded a $1.4 million impairment charge for the three months ended December 29, 2002, due to the election by management to discontinue a novel epitaxy reactor project. During fiscal 2002, we determined certain property and equipment was impaired under SFAS No.121, “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed of”, which was the relevant accounting pronouncement at the time, and as a result, we recorded impairment charges of $19.0 million.

During the third quarter of fiscal 2002, we completed an impairment analysis of the intangible assets and goodwill related to the acquisition of Cree Microwave. This analysis was performed due to significant changes in business conditions at the operating segment. First, Cree Microwave amended its supply agreement with Spectrian effective March 31, 2002, which resulted in a significant reduction in quarterly revenue expectations. In addition, Cree Microwave’s outlook for acquiring additional customers in the near term weakened due to delays in the development of LDMOS8 technology, the overall deteriorating economic conditions and long product qualification cycles. Also, the principal products that Spectrian indicated it would consider purchasing from Cree Microwave in the future were not fully qualified and, subsequently not released to production at the time. As a result of this impairment analysis, we estimated that the future cash flows of the Cree Microwave business would not be sufficient to provide for recovery of the carrying value of its intangible assets and goodwill. Therefore, the remaining balance of intangible assets and goodwill of $76.5 million was deemed fully impaired and was written off in March 2002. In November 2002, we entered into an agreement terminating our supply contract with Spectrian, and, due to the changed circumstances, management performed an impairment analysis of the tangible assets at Cree Microwave as of June 27, 2004 and June 29, 2003 in accordance with SFAS 144. Based on estimations of the fair market value of the assets, and estimations of future cash flows, we determined that the estimated undiscounted cash flow exceeded the amount of the book value of the long-term tangible assets. As a result, no additional Cree Microwave assets were deemed impaired or written down at that time.

We also review our capitalized patent portfolio and record impairment charges when circumstances warrant, such as when issued patents have been abandoned or patent applications are no longer being pursued. As of June 27, 2004, June 29, 2003 and June 30, 2002, we had no impairments of our patents.

Accounting for Non-Marketable and Marketable Equity Securities.    From time to time, we make strategic investments in the equity securities of privately held companies. Since we do not have the ability to exercise significant influence over the operations of these companies, these investment balances are carried at cost and accounted for using the cost method of accounting. The shares of stock we received in these investments are not presently publicly traded and there is no other established market value for these securities. We have a policy in place to estimate the fair value of these investments on a regular basis to evaluate the carrying value of such investments. This policy includes, but is not limited to, reviewing each company’s cash position, estimates of the company’s market capitalization based on recent financing transactions, its earnings and revenue outlook, operational performance, management or ownership changes and competition. The evaluation process is based on information that we are provided by these privately held companies. Since these companies are not subject to the same disclosure regulations as U.S. public companies, the basis for these evaluations is subject to the timing and the accuracy of the data received from these companies. If the carrying value of an investment is determined to be an amount in excess of our

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estimate of fair value, and we have determined that the decline is other-than-temporary, it is our policy to record a write-down of the investment. This write-down is estimated based on the information described above, and it is recorded as an investment loss on our consolidated statements of operations. During fiscal 2002, we recorded a write-down on these investments of $20.4 million, representing our estimate of other-than-temporary declines in value based on a review of these factors described above. Estimating the fair value of non-marketable investments in early-stage technology companies is inherently subjective and may contribute to significant volatility in our reported results of operations. There were no adjustments made to investment losses on our consolidated statements of operations during fiscal 2004 and 2003 relating to our investments in privately held companies. In June 2004, the common stock of one of the privately held companies in which we held an investment, Color Kinetics Incorporated (Color Kinetics), became publicly traded. As a result, we reclassified our investment, valued at cost at $12.7 million, from other long-term assets to a long-term marketable security on our consolidated balance sheet.

From time to time, we evaluate strategic opportunities and potential investments in complementary businesses, and as a result we may invest in marketable equity securities. We classify marketable securities that are not trading or held-to-maturity securities as available-for-sale. We carry these investments at fair value, based on quoted market prices, and unrealized gains and losses, net of taxes, are included in accumulated other comprehensive income, which is reflected as a separate component of shareholders’ equity on the consolidated balance sheet. Realized gains and losses are recognized when realized upon sale or disposition. Declines in value that are deemed to be other-than-temporary in accordance with SFAS No. 115, “Accounting for Investments in Certain Debt and Equity Securities,” (SFAS 115) are recorded as an investment loss on our consolidated statements of operations. We have a policy in place to review our equity holdings on a periodic basis to evaluate whether or not each security has experienced an other-than-temporary decline in fair value. Our policy requires, among other things, a review of each company’s cash position, stock price performance, liquidity, ability to raise capital and any management changes. Based on this review, if we believe that an other-than-temporary decline exists in the value of one of our marketable equity securities, it is our policy to write-down these equity investments to the market value. In addition, we record a write-down for investments in publicly held companies for an other-than-temporary impairment any time the market price of the security has remained below our average cost for two consecutive fiscal quarters, unless strong positive evidence exists that makes it clear that an other-than-temporary write-down would be inappropriate under the guidance of SFAS 115. Any related write-down would then be recorded as an investment loss on our consolidated statements of operations.

During the fourth quarter of fiscal 2004, the common stock of Color Kinetics became publicly traded and as a result, we have accounted for this investment as a marketable security that is available-for-sale under SFAS 115 as of June 27, 2004. Our investment in Color Kinetics is valued at $22.0 million, which represents the $12.7 million cost, plus a $9.3 million unrealized gain in the security based on the closing share price on June 25, 2004. As an available-for-sale security, any unrealized gain or loss is accounted for as a comprehensive income item in the equity section of the consolidated balance sheet and on the consolidated statement of shareholders’ equity and is not recorded through earnings. At June 29, 2003, we held no marketable equity securities. During the second quarter of fiscal 2003, we sold our entire position in two publicly traded companies. We sold 356,000 common shares in Microvision, Inc. (Microvision) for $1.8 million, with a net loss on the sale of $36,000 recognized during the second quarter of fiscal 2003. We also sold 691,000 common shares in Emcore Corporation (Emcore) for $2.1 million, with a net loss on the sale of $2.0 million recognized during the second quarter of fiscal 2003. During fiscal 2002, we recorded an other-than-temporary investment loss of $22.0 million related to available-for-sale marketable securities based primarily on sustained reductions in stock price performance for our investments in Microvision and Emcore.

Inventories.    Inventories are stated at the lower of cost or market, cost being determined using the first-in, first-out method for finished goods and work in process accounts and the average cost method is used for raw materials for the Cree segment. The Cree Microwave segment uses a standard cost inventory costing method. We evaluate our ending inventories for excess quantities, impairment of value and obsolescence on

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a monthly basis. This evaluation includes analysis of sales levels by product and projections of future demand based upon input received from our customers, sales team and management estimates. We reserve for inventories on hand that are greater than twelve months old, unless there is an identified need for the inventory. In addition, we write-off inventories that are considered obsolete based upon changes in customer demand, manufacturing process changes that result in existing inventory obsolescence or new product introductions, which eliminate demand for existing products. Remaining inventory balances are adjusted to approximate the lower of our manufacturing cost or market value. If future demand or market conditions are less favorable than our estimates, additional inventory write-downs may be required and would increase cost of revenue in the period the revision is made.

During fiscal 2004, we recorded a $258,000 reserve for slow moving inventory in Cree Microwave and a $252,000 reserve for slow moving inventory in the Cree segment. In fiscal 2003, as a result of the termination of the supply agreement with Spectrian, we recorded a $1.3 million reserve in the Cree Microwave segment for inventory that was slow moving or specifically identified to be sold to Spectrian, including customized parts. We also reserved an additional $522,000 of other slow moving inventory at Cree Microwave. This inventory charge was taken because of change in demand from Spectrian, as Spectrian initially indicated that it would have strong demand for a type of transistor and later determined that the demand had significantly weakened. During the three months ended December 29, 2002, we reserved $784,000 in the Cree segment for slow moving LED and wafer inventory. In the third quarter of fiscal 2002, we recorded a $4.5 million reserve at our Cree Microwave segment for non-LDMOS and older LDMOS devices as a result of contract negotiations with Spectrian that identified these devices as obsolete. All of these adjustments were recorded through cost of revenue. In addition, we also wrote off $1.0 million of costs associated with initial XBright products and $417,000 of costs associated with LDMOS devices as research and development expenses in the first quarter of fiscal 2003. The $1.0 million write-down was attributable to early generation XBright devices that were later determined to be non-saleable because of design deficiencies. The $417,000 write-down was associated with LDMOS products that were on hand and determined not to be saleable for similar reasons. In both cases, our customers had initially accepted the devices and we produced initial amounts of the product. Based on history with our customers, normally once products are accepted, they are ultimately qualified. Thus we concluded that capitalizing the cost of these items as inventory was appropriate. However, in both cases, our customers later rejected the products. Therefore, we wrote off the entire amount of inventory as research and development expenses, because the materials were never qualified as completed devices or ultimately sold to customers. In the case of the LED devices, our customers returned all products shipped of that technology.

Revenue Recognition and Accounts Receivable.    Revenue on product sales is recognized when persuasive evidence of a contract exists, such as when a purchase order or contract is received from the customer, the price is fixed, title of the goods has transferred and there is a reasonable assurance of collection of the sales proceeds. We obtain written purchase authorizations from our customers for a specified amount of product at a specified price and consider delivery to have occurred at the time of shipment. The majority of our products have shipping terms that are free on board (FOB) or free carrier alongside (FCA) shipping point, which means that we fulfill the obligation to deliver when the goods are handed over and into the charge of the carrier at our shipping dock. This means that the buyer bears all costs and risks of loss of or damage to the goods from that point. The difference between FOB and FCA is that under FCA terms, the customer designates a shipping carrier of choice to be used. In certain cases, we ship our product cost insurance and freight (CIF). Under this arrangement, revenue is recognized under FOB shipping point terms, however, we are responsible for the cost of insurance to transport the product as well as the cost to ship the product. For all of our sales other than those with CIF terms, we invoice our customers only for shipping costs necessary to physically move the product from our place of business to the customer’s location. The costs primarily consist of overnight shipping charges. We incur the direct shipping costs on behalf of the customer and invoice the customer to obtain direct reimbursement for such costs. We currently account for our shipping costs by recording the amount of freight that is invoiced to customers as revenue, with the corresponding cost recorded as cost of revenue. In fiscal 2004, we recognized $117,000 as revenue for shipping and handling costs. In fiscal years 2003 and 2002, we accounted for such costs as a cost of revenue

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with the reimbursement of these costs reflected as a direct offset and reduction of cost of revenue. Such shipping costs were not material in those fiscal years. Except for consigned inventory, revenue is recognized from our customers at shipment. If inventory is maintained at a consigned location, revenue is recognized when our customer pulls product for its use and the title of the goods is transferred to the customer. We provide our customers with limited rights of return for non-conforming shipments and warranty claims for up to 36 months for Cree Microwave products. We accrue estimated warranty expense as a cost of revenue. We also record a reserve for estimated sales returns as a reduction of revenue at the time of revenue recognition. Significant judgments and estimates made by management are used in connection with establishing the allowance for sales returns. Material differences may result in the amount and timing of our revenue for any period if management made different judgments or utilized different estimates. The allowance for sales returns at June 27, 2004 was $798,000. For two customers, Sumitomo and OSRAM, we defer revenue equal to levels specified in contractual arrangements. This deferred revenue, which predominantly arises under the Sumitomo contract, amounted to $8.4 million and $5.5 million as of June 27, 2004 and June 29, 2003, respectively. Please see the discussion in Item 1 of this report under “Distributorship Agreement with Sumitomo Corporation” for further information.

Revenue from government contracts and certain private entities is recorded on the proportional performance method as contract expenses are incurred. Contract revenue represents reimbursement by various U.S. Government entities to aid in the development of new technology. The applicable contracts generally provide that we may elect to retain ownership of inventions made in performing the work, subject to a non-exclusive license retained by the government to practice the inventions for government purposes. 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 relating to the activities to be performed by us under the contract are divided between the U.S. Government and us based on the terms of the contract. The government’s cost share is then paid to us. Activities performed under these arrangements include research regarding SiC and Group III nitride materials and devices. The contracts typically require the submission of a written report that documents the results of such research, as well as some material deliverables.

The revenue and expense classification for contract activities is based on the nature of the contract. For contracts where we anticipate 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 we anticipate that direct costs of the activities subject to the contract will exceed amounts to be funded over the life of the contract, costs are reported as research and development expenses and related funding is reported as an offset of those expenses.

Accruals for Liabilities and Warranties.    We make estimates for the amount of costs that have been incurred but not yet billed for general services, including legal and accounting fees, costs pertaining to our self-funded medical insurance, warranty costs and other expenses. Many of these expenses are estimated based on historical experience or information gained directly from the service providers.

Valuation of Deferred Tax Assets and Liabilities.    As of June 27, 2004, we had $2.6 million recorded as a short-term deferred tax asset and $3.9 million as a long-term deferred tax liability. This asset was recorded as a result of tax benefits associated with write-downs and reserves recorded for accounts receivable and inventory reserves that are deferred for tax purposes. The liability provides amounts due as a result of the timing difference for depreciation between book and tax purposes being offset by deferred tax benefits associated with write-downs taken for goodwill and other intangible assets, other-than-temporary charges taken on our investments and other write-downs taken in prior years. We have a reserve for taxes that may become payable in the future included in deferred tax liabilities. A valuation allowance has been established on capital loss carryforwards and unrealized losses on certain securities as we believe that it is more likely than not that the tax benefits of the items will not be realized.

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It is our policy to establish reserves for taxes that may become payable in future years, and we currently have a reserve of $8.5 million for such deferred tax liabilities. We establish the reserves based upon management’s assessment of exposure associated with the tax return deduction. We analyze the tax reserves at least annually and make adjustments as events occur that warrant adjustment to the reserve. For example, if the statutory period for assessing tax on a given tax return lapses, we reduce the reserve associated with that period. Similarly, if tax authorities provide administrative guidance or a decision is rendered in the courts, we make appropriate adjustments to our tax reserve. The tax reserve was unchanged in fiscal 2004. The tax reserve increased by $3.0 million for the year ended June 29, 2003.

The above listing is not intended to be a comprehensive list of all of our accounting policies. In many cases, the accounting treatment of a particular transaction is specifically dictated by generally accepted accounting principles, with no need for management’s judgment in its application. There are also areas in which management’s judgment in selecting any available alternative would not produce a materially different result. See our audited consolidated financial statements and notes thereto included in this Annual Report on Form 10-K which contain a discussion of our accounting policies and other disclosures required by accounting principles generally accepted in the United States.

Results of Operations

The following table shows our consolidated statements of operations data expressed as a percentage of total revenue for the periods indicated:

	Years Ended
	June 27, 2004		June 29, 2003		June 30, 2002
Revenue:
Product revenue, net	91.2	%	88.3	%	87.6	%
Contract revenue, net	8.8		11.7		12.4
Total revenue	100.0		100.0		100.0
Cost of Revenue:
Product revenue, net	44.4		47.7		50.3
Contract revenue, net	7.2		9.1		8.9
Total cost of revenue	51.6		56.8		59.2
Gross margin	48.4		43.2		40.8
Operating expenses:
Research and development	12.0		13.6		18.0
Sales, general and administrative	10.3		11.5		16.5
Intangible asset amortization	—		—		4.4
Impairment of goodwill	—		—		49.2
Loss on disposal of fixed assets	0.4		0.7		12.2
Other expense	—		0.1		1.2
Total operating expense	22.7		25.9		101.5
(Gain) on termination of supply agreement	—		(2.2	)	—
Income (loss) from operations	25.7		19.5		(60.7	)
Non-operating income (expense):
(Loss) gain on investments in marketable securities	—		(0.9	)	(13.8	)
(Loss) on long term investments	—		—		(13.1	)
Other non-operating income	0.3		0.1		—
Interest income, net	1.2		1.8		3.7
Income (loss) before income taxes	27.2		20.5		(83.9	)
Income tax expense (benefit)	8.3		5.3		(18.5	)
Net income (loss)	18.9	%	15.2	%	(65.4	)%

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Comparison of Fiscal Years Ended June 27, 2004 and June 29, 2003

Revenue.    Revenue increased 34% to $306.9 million in fiscal 2004 from $229.8 million in fiscal 2003. Higher revenue was primarily attributable to greater product revenue, which increased 38% to $279.9 million in fiscal 2004 from $203.0 million in fiscal 2003. Much of the increase in revenue resulted from significantly higher unit shipments of our LED products due to stronger demand from our customers primarily for mobile appliance, display and automotive applications. LED revenue was $241.3 million and $172.3 million for fiscal 2004 and 2003, respectively. The most significant increase in revenue in fiscal 2004 came from sales to our Japanese distributor, Sumitomo. Revenue from sales to Sumitomo increased by 86% or $47.6 million in fiscal 2004 as compared to fiscal 2003 due to strong demand among Japanese manufacturers for our products for mobile appliance, displays, automotive, consumer products and indicator light applications. During fiscal 2004, four of our top ten end customers were located in Japan. The sales to these companies were reported in our revenue from Sumitomo. For fiscal year 2004, Sumitomo’s advance purchase commitment was approximately $100 million, and revenue recognized from Sumitomo was $101.8 million. For fiscal year 2005, Sumitomo’s advance purchase commitment is approximately $160 million; however, Sumitomo’s purchase commitment is subject to end customer demand and other terms and conditions.

Revenue from sales to Agilent increased by 71% or $16.5 million, in fiscal 2004 over the prior fiscal year. Much of this increased business resulted from demand for our products to be used in mobile appliance keypads, displays and other consumer product applications. Revenue from sales to OSRAM declined by 14%, or $6.5 million in fiscal 2004 due to changes in their customer’s demand and other factors. During fiscal 2004, we continued to see an increase in business from a number of Asian LED packagers who serve a variety of mobile appliance and other consumer applications. With respect to our Cree Microwave segment, sales to Remec increased $2.7 million, or 460%, for fiscal 2004 as compared to fiscal 2003. A portion of our sales to Remec in fiscal 2004 was for legacy Spectrian designs under “last time buy” arrangements that may not continue after the first quarter of fiscal 2005.

Two of our customer arrangements provide for product exchanges and reimbursement of certain sales costs. For these customers, we defer revenue equal to the level specified in these contractual arrangements and recognize the related revenue less any claims made against the reserves when the customers’ exchange rights expire and the deferred revenue reserves are released. The reserve expires no later than two quarters from the date of the original sale. In connection with our distributorship agreement with Sumitomo, such deferred revenue amounted to $7.9 million and $5.3 million as of June 27, 2004 and June 29, 2003, respectively. In connection with our purchase agreement with OSRAM, such deferred revenue amounted to $471,000 and zero as of June 27, 2004 and June 29, 2003, respectively.

Our LED revenue increased 40% in fiscal 2004 as compared to fiscal 2003 and made up 78% of our total revenue in fiscal 2004. Our blended average LED sales price declined 16% for the twelve months ended June 2004 compared to the prior fiscal year. Our average sales price for LEDs was lower due to increasing price competitiveness in the marketplace, which was somewhat offset by a change in the product mix of our sales toward higher brightness products that have a higher average sales price. For fiscal 2004, our LED chip volume increased 65% over prior year shipments. Sales of our high-brightness LED products more than doubled in fiscal 2004 over fiscal 2003 as our customers designed them into more LED packages for white light applications such as for keypads in mobile appliances, LCD backlights and camera flashes. High-brightness products also are used for automotive, displays and other illumination applications. These products include our XThin, XBright, MegaBright and power chip LED products. The majority of these products were introduced in the last two fiscal years.

Revenue from our mid-brightness products, including our UltraBright and SuperBright chips, also increased in fiscal 2004 as compared to fiscal 2003 due to new designs for keypads in mobile appliances, as well as automotive applications, displays and consumer product applications. In fiscal 2004, we introduced the RazerThin and UT230 chips for mobile appliances that offer a smaller and thinner design and a lower

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forward voltage than our standard chips. The thin design offers more flexibility for smaller phones, while the lower forward voltage extends the battery lifetime for mobile appliances. Shipments of our standard brightness products were slightly higher in fiscal 2004 in comparison to the prior fiscal year due to stable demand for automotive and indicator light applications.

SiC wafer and epitaxy revenue was $21.7 million and $19.5 million for fiscal 2004 and 2003, respectively. Wafer revenue increased 11% over the prior year due to increased sales to corporate and university research customers for wafers with epitaxy layers. Wafer units declined 5% while the average sales price increased 17% during fiscal 2004. Additionally, fiscal 2004 revenues included $398,000 of fourth quarter GaN product sales from the unit we acquired from ATMI in April 2004. Wafer revenue made up 7% of our total revenue in fiscal 2004.

SiC materials revenue for gemstone use was $5.0 million and $7.4 million for fiscal 2004 and 2003, respectively. Revenue from sales of our SiC materials for use in gemstones decreased 32% during fiscal 2004 as compared to fiscal 2003 due to a combination of lower demand and lower overall product yields. We achieved improvements in our product yield in the second half of fiscal 2004. Revenue from gemstone materials was 2% of our total sales for fiscal 2004.

Revenue from Cree Microwave products was $7.7 million and $2.8 million for fiscal 2004 and 2003, respectively. Cree Microwave revenue made up 3% of our total revenue for fiscal 2004. Revenue from these products increased 176% during fiscal 2004 over fiscal 2003 due to incremental orders from new customers for our newer LDMOS devices designed for wireless infrastructure and mil-aero markets. In addition, Cree Microwave’s sales to Remec were $2.7 million in fiscal 2004 compared to $587,000 in fiscal 2003. Some of these sales to Remec were for legacy Spectrian applications under “last time buy” arrangements that may not continue after the first quarter of fiscal 2005. During fiscal 2004, we had better success in gaining new customers for our Cree Microwave products as the economic environment for wireless infrastructure spending improved.

Product sales mix for our LDMOS devices made up 55% of microwave revenue for fiscal 2004 and fiscal 2003, respectively. Revenue attributable to bipolar devices was 41% and 23% for fiscal 2004 and 2003, respectively. Engineering service revenue decreased to 4% in fiscal 2004 from 22% in fiscal 2003 due to the prior year’s work achieving design wins and generating product sale growth in fiscal 2004. Overall, our average sales price for Cree Microwave products decreased 14% compared to the prior fiscal year while our unit shipments increased 222%.

Contract revenue was 9% of total revenue for fiscal 2004. Contract revenue received from U.S. Government agencies increased by less than 1% during fiscal 2004 compared to fiscal 2003, as we continued to perform under multi-year contract awards that we received at the end of fiscal 2002 and the beginning of fiscal 2003. In May 2004, we were awarded two contracts through the Robert Morris Acquisition Center, providing for up to $25.8 million over five years. These contracts focus on the development of manufacturing technology for high-temperature high-power SiC semiconductor material and power devices for use in electric traction drive power components and associated power conditioning and control electronics for the next-generation of combat vehicles. In fiscal 2004, we recorded $512,000 of revenue associated with these two new contracts. Additionally, fiscal 2004 revenues included $782,000 of fourth quarter contract sales from the business unit we acquired from ATMI in April 2004.

We target contract revenue to increase slightly during fiscal 2005 as a result of the award of additional funding under existing contracts and the award of the new contracts in the fourth quarter of fiscal 2004.

Gross Profit.    Gross profit increased 50% to $148.4 million in fiscal 2004 from $99.2 million in fiscal 2003. Compared to the prior fiscal year, gross margins increased from 43% to 48% of revenue. In fiscal 2004, our blended average sales prices declined 16% while our blended average LED costs decreased 22%

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compared to fiscal 2003. Therefore, gross margins improved in fiscal 2004 primarily because of these significantly lower costs for LEDs. LED costs declined faster than blended average prices due to improved yields, greater scale and throughput and other process improvements.

Our wafer sales also were more profitable in fiscal 2004 than fiscal 2003 due to a higher percentage of wafers sold with epitaxy. Wafer costs for our SiC materials sales were 9% lower in fiscal 2004 than fiscal 2003, due to the shift in product mix and a $169,000 reduction in wafer inventory reserves. Contract margins declined from 22% in fiscal 2003 to 17% in fiscal 2004 due to a higher percentage of cost-share work performed during the year.

Our Cree Microwave segment reported negative gross profit of $2.9 million and $9.3 million for fiscal 2004 and fiscal 2003, respectively. Higher revenue in fiscal 2004 contributed to reduce the segment’s negative gross profit. Factory throughput due to increased sales volume also has improved our cost per unit. During fiscal 2004, Cree Microwave’s gross margin also benefited from adjustments totaling $398,000 for a revision of standard costs and a prior year reversal of the warranty expense accrual.

In fiscal 2004, we increased our allowance for sales returns by $154,000 due to business growth, and the Cree segment established a $507,000 reserve for potential future product warranty claims, which lowered gross profit by $661,000. In fiscal 2003, gross profit included a $1.8 million write-down of inventory at Cree Microwave due to the termination of the supply agreement with Spectrian and other slow moving products. We also recorded a $1.0 million increase to inventory reserves for LED and wafer products in fiscal 2003. In addition, reserves for allowance for sales returns were increased by $189,000 in fiscal 2003.

Research and Development.    Research and development expenses increased 18% in fiscal 2004 to $36.9 million from $31.2 million in fiscal 2003. The increase in research and development spending supported our three-inch process development, our thin chip products (XThin, RazerThin and UT230), X-class and power chip LEDs (XB900 and XB500), our XLamp^™ high power packaged LEDs and other high brightness LED research programs. In addition, we funded ongoing development for higher power/higher linearity RF and microwave devices, near UV laser devices and higher power diodes/switches. During fiscal 2003, we included a $1.0 million charge for costs associated with initial XBright chips that were made in previous quarters and were never fully qualified by customers. From time to time, our customers and companies that we invest in participate in research and development funding for specific programs. We record this customer and third party funding as an offset against research and development expenses. Customers and third parties in whom we invested funded zero and $500,000 in fiscal 2004 and fiscal 2003, respectively. The funding we received in fiscal 2003 came from an affiliate of Lighthouse, in which we hold a private company equity investment. At this time, we do not expect funding for research and development during fiscal 2005 from this or any other customer or third party in which we invested.

Sales, General and Administrative.    Sales, general and administrative expenses increased 20% in fiscal 2004 to $31.7 million from $26.3 million in fiscal 2003. The increase in expenses primarily resulted from the increasing general expense associated with the growth of our business and a higher level of funding for our employee profit sharing program. During fiscal 2004, we incurred approximately $800,000 of incremental legal and other costs associated with litigation and costs of a special committee investigation conducted by the Board of Directors. Fiscal 2003 includes legal costs associated with the patent infringement case with Nichia, which was settled in November 2002.

Loss on Disposal of Fixed Assets.    Loss on the disposal of fixed assets decreased 35% to $1.0 million in fiscal 2004 from $1.6 million recorded in fiscal 2003. During fiscal 2004, we identified certain equipment that was obsolete and no longer in service. We wrote-off the value of these assets and disposed of them. During fiscal 2003, we recorded a $1.4 million write-down for fixed assets associated with a novel epitaxy equipment project that we discontinued before the vendor delivered the equipment to us. The amount represented a deposit that we paid for the equipment. We also disposed of $200,000 of other assets during fiscal 2003.

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Severance Charges.    In the first quarter of fiscal 2003, we incurred $400,000 of severance charges at our Cree Microwave segment for employees who were laid off and received their severance payments during the same period.

Gain on Termination of Supply Agreement.    In the second quarter of fiscal 2003, we received a $5.0 million one-time payment from Spectrian associated with the termination of the supply agreement between Cree Microwave and Spectrian. We did not receive any similar payments in fiscal 2004.

Loss on Investments in Marketable Securities.    We recorded a $2.1 million loss in fiscal 2003 related to marketable securities that we sold during the second quarter of fiscal 2003. There were no realized gains or losses on investments in marketable securities recorded in fiscal 2004.

Other Non-operating Income.    Other non-operating income increased 128% to $1.0 million in fiscal 2004 from $442,000 in fiscal 2003. During fiscal 2004, we recorded non-operating income for a contractually agreed upon payment from one of our customers for a foreign currency translation adjustment included in the applicable sales contract. During the third quarter of fiscal 2004, we recognized a one-time technology license fee. In the fourth quarter of fiscal 2003, we recorded and received a contractually agreed upon payment from one of our customers for a foreign currency translation adjustment included in the applicable sales contract.

Interest Income, Net.    Interest income, net decreased 10% to $3.7 million in fiscal 2004 from $4.1 million in fiscal 2003. The reduction resulted primarily from lower interest rates available for our liquid cash and securities-held-to-maturity over the applicable period.

Income Tax Expense.    Income tax expense for fiscal 2004 was $25.6 million compared to $12.3 million in fiscal 2003, an increase of 109%. The increase resulted mainly from our greater pre-tax profitability in fiscal 2004, which increased 77% over fiscal 2003. In addition, our effective income tax rate increased to 30.7% for fiscal 2004 compared to a 26% rate for fiscal 2003. The fiscal 2004 effective rate was higher than the fiscal 2003 effective tax rate as we benefited from tax credits and other permanent tax differences in fiscal 2003. Historically, our reported taxable income has been significantly lower than income reported for financial reporting purposes. The primary reasons for this difference are the timing differences for depreciation, stock option deductions for tax purposes and other tax planning strategies which are net of impairment charges expensed for financial accounting purposes that are not tax deductible.

Comparison of Fiscal Years Ended June 29, 2003 and June 30, 2002

Revenue.    Revenue increased 48% to $229.8 million in fiscal 2003 from $155.4 million in fiscal 2002. Higher revenue was primarily attributable to greater product revenue, which increased 49% to $203.0 million in fiscal 2003 from $136.2 million in fiscal 2002. Much of the increase in revenue resulted from significantly higher unit shipments of our LED products due to stronger demand from our customers primarily for mobile appliance and automotive applications. LED revenue was $172.3 million and $90.5 million, for fiscal 2003 and 2002, respectively. The most significant increase in revenue in fiscal 2003 came from sales to our Japanese distributor, Sumitomo. Revenue from sales to Sumitomo increased by 153% or $33.3 million in fiscal 2003 as compared to fiscal 2002 due to strong demand among Japanese manufacturers for our products for mobile appliance, automotive, consumer products and indicator light applications. Revenue from sales to OSRAM and Agilent also increased by 63% or $19.4 million and 64% or $8.9 million, respectively, in fiscal 2003 over the prior year comparative period. Much of this increased business was caused by demand for our products used in mobile appliances as well as automotive and other applications. During fiscal 2003, we also noted an increase in business from several Asian LED packagers as our customer base became more diversified. The only significant decline in revenue came from Spectrian, which was acquired by Remec in December 2002, where revenue from sales declined 96% or $23.5 million in fiscal 2003 as compared to fiscal 2002. Spectrian or Remec purchases silicon RF transistors from our Cree Microwave segment.

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Certain of our customer arrangements provide for product exchanges and reimbursement of certain sales costs. For Sumitomo, we defer revenue equal to the level specified in these contractual arrangements and recognize the related revenue less any claims made against the reserves when the customers’ exchange rights expire and the deferred revenue reserves are released. The reserve expires no later than two quarters from the date of the original sale. Deferred revenue amounted to $5.3 million and $741,000 as of June 29, 2003 and June 30, 2002, respectively.

Our LED revenue increased 90% in fiscal 2003 as compared to fiscal 2002 and made up 75% of our total revenue in fiscal 2003. Our average LED sales price declined 9% for the twelve months ended June 2003 compared to the prior year. Our average sales price for LEDs also was lower due to increasing price competitiveness in the marketplace and a change in the product mix of our sales to customers. For fiscal 2003, our LED chip volume increased 111% over prior year shipments. The most significant increase to revenue occurred in our mid-brightness range of LED products. Our lower range mid-brightness LED products have been incorporated into new designs in the keypads of several mobile phone models that feature a blue color as well as blue LEDs that are used as the backlight for blue displays. In addition, these LED chips are now used in other products targeting gaming equipment, consumer products and office automation applications. The introduction of the MegaBright blue, green and UV products in fiscal 2002 also generated new design wins for our customers. MegaBright’s product performance in fiscal 2003 generated new opportunities in other markets, particularly mobile appliance applications for blue and white LED backlight designs. Blue and white LEDs replaced a portion of the yellow-green LEDs that have traditionally backlit mobile handsets as more handsets began offering blue backlit keypads and full color displays backlit by white LEDs. The MegaBright product line also was used in new automotive designs from both European and Asian manufacturers for the 2003 model year.

During fiscal 2002, we introduced our XBright family of LEDs, including blue, green and near UV devices. These products offer a higher brightness than our MegaBright products. We completed the introduction of these devices in the second half of fiscal 2002; however, we continued to work with customers to optimize our chip design for use in their packages. Shipments of our standard brightness products were flat in fiscal 2003 in comparison to the prior year due to stable demand for automotive and indicator light applications.

SiC wafer revenue was $19.5 million and $17.5 million, for fiscal 2003 and 2002, respectively. Wafer revenue increased 11% over the prior year due to greater sales to corporate and university research customers. Wafer units declined 6% while the average sales price increased 19% during fiscal 2003, due to a lower mix of shipments to OSRAM, which uses wafers in commercial production. Since OSRAM uses the wafers in commercial high volume production, it receives volume discounts on its purchases; therefore, these sales have a lower average sales price. We also sold more wafers with epitaxial layers during fiscal 2003 to customers such as Infineon Technologies (Infineon), which contributed to a higher average sales price. Wafer revenue made up 9% of our total revenue in fiscal 2003.

Revenue from sales of our SiC materials for use in gemstones increased 190% during fiscal 2003 as compared to fiscal 2002 as C&C increased its orders to us. SiC materials revenue from materials sold for gemstone use was $7.4 million and $2.6 million for fiscal 2003 and 2002, respectively. Revenue from gemstone materials was 3% of our total sales for fiscal 2003.

Revenue from silicon-based microwave products was $3.0 million and $25.1 million, for fiscal 2003 and 2002, respectively. Microwave revenue made up 1% of our total revenue for fiscal 2003. Revenue from these products decreased 88% to $3.0 million in fiscal 2003 from $24.8 million in fiscal 2002. The decrease in revenue resulted from the termination of the supply agreement with Spectrian in November 2002. Approximately 99% of Cree Microwave revenues were derived from shipments to Spectrian in fiscal 2002. Prior to the termination of the supply agreement, Spectrian had reduced its purchase obligations beginning in March 2002 because our LDMOS8 products had not been qualified. We amended our agreement with Spectrian in March 2002, which resulted in Spectrian ordering fewer products each quarter until the

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agreement was terminated in November 2002. We also had little success in gaining new customers in fiscal 2003 due to the poor economic environment for wireless infrastructure spending. Our LDMOS8 products were released to production in November 2002, but these products did not contribute significantly to revenue since design cycles can be 12 to 18 months for wireless infrastructure applications.

Product sales mix for our Cree Microwave products remained constant as LDMOS made up 55% and 54% of microwave revenue for fiscal 2003 and fiscal 2002, respectively. Revenue attributable to bipolar devices was 23% and 45% for fiscal 2003 and 2002, respectively. Approximately 22% of Cree Microwave’s revenue was from engineering services for fiscal 2003 as we continued to work with new customers toward design wins. Overall, our average sales price for Cree Microwave products was fairly stable compared to the prior fiscal year. The most significant factor impacting revenue for our Cree Microwave segment was the 89% decline in units sold as a result of the termination of the Spectrian supply agreement and the overall slowdown in Spectrian’s business prior to the termination of the supply agreement.

Contract revenue was 12% of total revenue for fiscal 2003. Contract revenue received from U.S. Government agencies increased 40% during fiscal 2003 compared to fiscal 2002, due to additional contract awards that we received in fiscal 2002. In June 2002, we were awarded two contracts by ONR, with a total value of approximately $14.4 million as part of the Wide Bandgap Semiconductor Technology Initiative of DARPA. In July 2002, we were awarded government contracts totaling $26.5 million, if fully funded, over a three-year period from ONR and the AFRL. In fiscal 2003, we recognized approximately $16.1 million in revenue from these contracts. Additionally, we were awarded with another contract in June 2002 funded by DARPA, through the United States Army Robert Morris Acquisition Center, to pursue the development of UV LEDs and lasers for a variety of military communications and bio-threat detection applications under DARPA’s SUVOS program. In fiscal 2003, this DARPA SUVOS contract from ARL accounted for approximately $5.7 million in total revenue.

Gross Profit.    Gross profit increased 57% to $99.2 million in fiscal 2003 from $63.4 million in fiscal 2002. Compared to the prior year, gross margins increased from 41% to 43% of revenue. In fiscal 2003, gross profit included a $1.3 million write-down of inventory at Cree Microwave due to the termination of the supply agreement with Spectrian. In fiscal 2002, gross profit included a $5.1 million charge relating to an inventory write-off and other related costs that were recorded as a part of the downsizing of Cree Microwave’s operations. In fiscal 2003, gross margins were impacted by higher LED margins being offset by negative margins from the Cree Microwave segment. LED margins improved as our average sales price decreased by 9% while the average cost of our LEDs decreased by 17% due to higher throughput in the factory and improved yields. Because a significant portion of our factory cost is fixed, higher throughput typically results in lower costs per unit produced. In addition, during fiscal 2002, our LED costs per unit were higher than during fiscal 2003 due to inefficiencies typically associated with new product introductions as we released both the MegaBright and XBright family of products during the year.

Negative gross profits were $9.3 million for our Cree Microwave business during fiscal 2003 as compared to gross profits of $10.1 million recorded during fiscal 2002, despite the $5.1 million write-off of inventory discussed above. Low factory throughput due to significantly reduced sales volume dramatically impacted our cost per unit.

Wafer costs for our SiC materials sales were 19% higher in fiscal 2003 than 2002, due to the shift in product mix of wafers sold with epitaxy as compared to production volume wafers sold to OSRAM. Contract margins declined from 28% in fiscal 2002 to 22% in fiscal 2003 due to a higher percentage of cost-share contracts being worked on during the year.

Research and Development.    Research and development expenses increased 11% in fiscal 2003 to $31.2 million from $28.0 million in fiscal 2002. The increase in research and development spending supported our XBright, MegaBright Plus, XBright Plus, and RazerThin product lines; and our power chip

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LEDs as well as higher brightness LED research programs. In addition, we funded development of our LDMOS, SiC and Group III nitride microwave devices, our Schottky diode power program and our near UV lasers. While research and development spending increased, customer support of certain research and development programs decreased by $8.5 million, thereby further increasing costs. From time to time, our customers and companies that we invest in participate in research and development funding for specific programs. We record this third party funding as an offset against research and development expenses. Customers and third parties in whom we invested funded $500,000 and $9.0 million in fiscal 2003 and fiscal 2002, respectively. The majority of this funding was received from companies in which we have made investments. In fiscal 2003, the entire customer funding we received came from an affiliate of Lighthouse, in which we hold a private company equity investment. In fiscal 2002, Microvision, the Lighthouse affiliate, and Xemod funded $4.4 million, $3.0 million and $492,000, respectively, of our research and development. We held an investment in each of these companies at the time that they provided research and development funding to us. In addition, Spectrian, our largest customer for our Cree Microwave segment, also participated in funding our research and development programs for $1.1 million. When customers participate in funding our research and development programs, we record the amount funded as a reduction of research and development expenses.

Sales, General and Administrative.    Sales, general and administrative expenses increased 3% in fiscal 2003 to $26.3 million from $25.6 million in fiscal 2002. The increase in expenses was due mostly to higher premiums for insurance and greater spending to support the growth of the business, including increased performance based compensation plans for all employees.

Intangible Asset Amortization.    Intangible asset amortization decreased 100% to zero during fiscal 2003 from $6.8 million during fiscal 2002. Nine months of intangible asset amortization was included in fiscal 2002 resulting from the acquisition of Cree Microwave in December 2000. In March 2002 an analysis of goodwill and other intangible assets indicated that the carrying values of such assets had been fully impaired under SFAS 121, “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of” (see “Impairment of Goodwill and Loss on Disposal of Fixed Assets” below). Therefore, we wrote off the entire amount of goodwill and other intangible assets in March 2002. Prior to the write-off of goodwill and intangible assets, we were amortizing these assets over periods ranging from five to ten years.

Impairment of Goodwill and Loss on Disposal of Fixed Assets.    Impairment of goodwill decreased 100% to zero during fiscal 2003 from $76.5 million during fiscal 2002. In March 2002, we determined that impairment existed and wrote off the entire balance of goodwill and other intangible assets. An analysis was performed at that date and indicated that the carrying values of such assets had been fully impaired under SFAS 121. The analysis was performed as several impairment indicators had occurred during the March 2002 quarter as discussed below. One of the significant impairment indicators related to a change in outlook for business at Cree Microwave related to the supply agreement between Cree Microwave and Spectrian. Under the original terms of the agreement, if Cree Microwave were unable to supply components deemed competitive with components available from third party suppliers within a certain period, Spectrian’s quarterly minimum purchase commitment would be reduced each quarter by the dollar volume of the component that Spectrian purchased from other vendors. Cree Microwave and Spectrian agreed to enter into the first amendment to the supply agreement in October 2001 because Cree Microwave was delayed in fully qualifying and completing development of its new LDMOS8 technology. Technology similar to LDMOS8 was made available to Spectrian from a competitor in early 2001. As a result, Cree Microwave agreed to reduce Spectrian’s commitments for the December 2001 quarter. In addition, we amended the supply agreement to provide that if competitive components meeting the applicable requirements were not available from Cree Microwave on or after April 1, 2002, Spectrian’s quarterly minimum purchase commitment thereafter would be reduced by any purchases of such products from other vendors.

By March 2002, Cree Microwave had not yet completed development and qualification testing of any of the components using its LDMOS8-based transistors and thus had not released the components to

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production. Cree Microwave then executed a second amendment to the supply agreement with Spectrian in March 2002 and agreed to reduce minimum quarterly purchase commitments from Spectrian in return for additional time in which to complete development and qualification testing of the LDMOS8 components. In addition, many of the products that Spectrian indicated that it would purchase in the future had not yet been released to production. Under the amended supply agreement with Spectrian if Cree Microwave was not able to produce LDMOS8 devices in a timely manner, revenue from Spectrian would be significantly reduced after the June 2002 quarter. In addition, the outlook for acquiring additional customers decreased due to the overall weakened economy and the length of qualification cycles. Due to the change in outlook for business at Cree Microwave and the reduction in expected revenue per quarter, we performed an asset impairment analysis under SFAS 121. As a result of this analysis, the full amount of goodwill and intangible assets of $76.5 million was written off and recorded as “impairment of goodwill” under operating expenses on our consolidated statements of operations. Please refer to the Business Combinations section under Goodwill and Intangible Assets Note 2, “Summary of Significant Accounting Policies and Other Matters,” in the consolidated financial statements included in Item 8 of this report for further information about the valuation of Cree Microwave.

Loss on the disposal of fixed assets decreased 92% to $1.6 million in fiscal 2003 from $19.0 million recorded in fiscal 2002. During fiscal 2003, we recorded a $1.4 million write-down for fixed assets associated with a novel epitaxy equipment project that we discontinued before the equipment was delivered to us. The amount represented a deposit that we paid for the equipment. We also disposed of $200,000 of other assets during the year. During fiscal 2002, we took a $19.0 million charge to write down fixed assets due to decisions made based on changes in technology. This impairment reflected management’s decision to focus our technology in certain directions based on feedback from our research and development teams. After extensively testing certain reactor technology equipment, we narrowed a preference for certain processes, and as a result, we wrote-off non-producing reactor equipment that did not use the preferred processes. Also, in December 2001, management prepared for a three-inch wafer transition and as a result, wrote-off non-convertible two-inch crystal growth equipment that was not being used. Finally, yield improvements in our existing facility also resulted in the obsolescence of certain other equipment. All equipment written off in the second quarter of fiscal 2002 was dismantled and destroyed, if proprietary in nature, or sold by June 2002.

Severance Charges and Other Operating Expense.    Severance charges declined from $875,000 in fiscal 2002 to $400,000 in fiscal 2003. In the first quarter of fiscal 2003, we incurred $400,000 of severance charges at our Cree Microwave segment. In the third quarter of fiscal 2002, we recorded an $875,000 severance charge also associated with Cree Microwave. In both periods we recorded the severance charge in the same period that the employees were laid off and received their severance payments.

Other operating expense decreased to zero in fiscal 2003 from $840,000 in fiscal 2002. This reduction was primarily caused by a $700,000 one-time retention bonus paid to Cree Microwave employees pursuant to a contractual commitment made as a part of the acquisition of Cree Microwave from Spectrian in the second quarter of fiscal 2002.

Other Operating Income-Gain on Termination of Supply Agreement.    Gain on termination of supply agreement increased to $5.0 million in fiscal 2003 from zero in fiscal 2002. In the second quarter of fiscal 2003, we received a $5.0 million one-time payment from Spectrian associated with the termination of the supply agreement between Cree Microwave and Spectrian.

Loss on Investments in Marketable Securities and Loss on Long-term Investments.    Loss on investments in marketable securities declined 90% to $2.1 million in fiscal 2003 from $21.5 million recorded in fiscal 2002. The $2.1 million recorded in fiscal 2003 related to marketable securities that we sold during the second quarter of fiscal 2003. The $21.5 million loss recorded in fiscal 2002 related to an entry to reclassify other comprehensive losses from equity to “loss on investments in marketable securities” in our

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consolidated statements of operations. In addition, we also recorded additional write-downs for “other-than-temporary” declines in the market value of these investments in these companies as well as the overall stock market decline. This charge was partially offset by a gain on the sale of marketable trading securities of $558,000.

Loss on long-term investments declined to zero in fiscal 2003 from $20.4 million recorded in fiscal 2002. In fiscal 2002, we recorded write-downs for some investments we had made in privately held companies as many of the companies were experiencing deteriorating financial conditions and/or an inability to raise additional capital, which represented significant indicators of value impairment. In the second quarter of fiscal 2002, we recorded a write-down of $12.4 million in privately held investments. The majority of the write-down was taken on our investment in Xemod based on data regarding the company’s valuation. We recorded an $8.4 million write-down on the investment to bring the market capitalization estimate for the entire company to $3.8 million. In 2002, a third party purchased Xemod for approximately $4.5 million. We also took an additional $1.8 million write down on our investment in Lighthouse based on data regarding the company’s valuation. A $2.1 million write-down was also taken on our investment in World Theatre, Inc. (World Theatre) based on data regarding the company’s valuation. World Theatre also attempted to raise capital during the December 2001 quarter and only raised one half of the amount expected in a convertible debt round.

In the fourth quarter of 2002, we wrote down an additional $8.0 million related to our privately held investments. Our investment in EMF Ireland Limited (EMF) was fully written down by $1.1 million based on data regarding the company’s valuation. We further wrote down our Lighthouse investment by $3.4 million, based on data regarding the company’s valuation. During the fourth quarter of 2002, we also fully wrote down our investment in World Theatre based on data regarding the company’s valuation. The amount of the additional write-down was $2.1 million. World Theatre filed for bankruptcy protection in 2003. A $1.4 million charge was also taken to fully write down our investment in Kyma Technologies Inc. (Kyma) based on data regarding the company’s valuation.

Other Non-operating Income.    Other non-operating income increased to $442,000 in fiscal 2003 from zero in fiscal 2002. In the fourth quarter of fiscal 2003, we received a contractually agreed upon payment from one of our customers, representing a settlement for a foreign currency translation adjustment included in our sales contract.

Interest Income, Net.    Interest income, net decreased 28% to $4.1 million in fiscal 2003 from $5.7 million in fiscal 2002. The reduction resulted primarily from lower interest rates available for our liquid cash over the applicable period.

Income Tax Expense (Benefit).    Income tax expense for fiscal 2003 was $12.3 million compared to a $28.7 million tax benefit recorded in fiscal 2002. The income tax benefit resulted from the $130.4 million net pre-tax loss resulting mainly from the charges taken during the period. These charges included write-downs for the impairment of fixed assets of $19.0 million, a $20.4 million charge to reserve for the decline in value of investments in privately held companies, a $21.4 million write down for “other than temporary” declines in the fair market value of our marketable securities, a $76.5 million write down of goodwill and other intangibles and a $5.1 million reserve taken for inventory and other items. Our effective income tax rate was 26% for fiscal 2003 compared to a 22% rate during fiscal 2002 due to greater tax benefits in fiscal 2002 associated with the losses reported in that year. At June 29, 2003, we recorded $22.8 million in net deferred tax assets.

Liquidity and Capital Resources

We have funded our operations, to date, through sales of equity, bank borrowings and from product and contract gross profits. As of June 27, 2004, we had working capital of $189.9 million, including $158.2 million in cash, cash equivalents and short-term investments held to maturity. As of June 27, 2004, we held

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investments of $72.7 million in long-term securities held to maturity in order to receive a higher interest rate on our cash and investments. Operating activities generated $152.4 million in fiscal 2004 compared with $89.6 million generated during fiscal 2003. This increase was primarily attributable to our increased profitability in fiscal 2004 as net income grew 66% to $58.0 million. Included in the increase in cash from operations is a non-cash charge of $20.4 million related to deferred income taxes. During fiscal 2004, we generated $10.6 million from managing our working capital. We normally target our accounts receivable balance to average between 45 and 60 days outstanding; however, through focused collection efforts we decreased our days sales outstanding to 34 days at June 27, 2004 versus 57 days outstanding at June 29, 2003, based on our monthly revenue profile calculation. Therefore, while our overall revenues increased 34% for fiscal 2004, our accounts receivable balance only grew 9% or $3.9 million. Our inventory remained low at 41 days on hand versus 46 days at June 29, 2003, and therefore our inventory balance only grew $1.1 million or 10% during fiscal 2004. Depreciation and amortization increased by $12.9 million in fiscal 2004 due to new equipment purchased to support our business growth.

Cash used in investing activities in fiscal 2004 was $112.4 million. Net investments of $18.6 million were made in securities held to maturity and $77.3 million was invested in property and equipment and in additional deposits for property and equipment. The majority of the increase in spending related to new equipment additions to increase manufacturing capacity in our crystal growth, epitaxy, clean room, die test and XLamp manufacturing areas. We spent $10.7 million on the ATMI GaN business acquisition in the fourth quarter of fiscal 2004. Finally, $5.9 million was invested in patents and the purchase of patent rights resulting mostly from the purchase of patents from Asea Brown Boveri, Ltd. and other patent investments.

Cash used in financing activities included the repurchase of $34.7 million of our common stock and was partly offset by the receipt of $11.4 million for the exercise of stock options and shares issued under our employee stock purchase program.

We target approximately $100 to $120 million in capital spending in fiscal 2005, which is greater than fiscal 2004. The capital additions will be primarily for equipment to increase our LED chip production capacity and continued investment in the high power packaged LED XLamp line. We also target to spend $300 million and hire 300 new employees over the next five years. We anticipate that cash from operations will fund the majority of our expenditures. We target that our cash from operations will be higher in fiscal 2005 than it was in fiscal 2004 due to higher profitability resulting from greater targeted revenue. Therefore, we plan to meet the cash needs for the business for fiscal 2005 through cash from operations and cash on hand. We also anticipate that long term cash needs will be met with cash flow from operations or cash on hand over the next two fiscal years. Actual results may differ from our targets for a number of reasons as we discuss herein. We 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 in complementary businesses as strategic opportunities and anticipate continuing to make such evaluations.

As of June 27, 2004, our cash and cash equivalents and short-term investments held to maturity combined increased by $18.1 million or 13% over balances reported as of June 29, 2003 due to increased cash flow from operations. Our accounts receivable balance increased by $3.9 million or 9% over the accounts receivable balance as of June 29, 2003, which resulted from the overall increase in revenue offset partly by strong collections management during fiscal 2004. Our revenue in the fourth quarter of fiscal 2004 was $90.9 million, which was 42% higher than the fourth quarter of fiscal 2003 revenue of $64.1 million. Our net property and equipment has also increased by $22.0 million or 9% since June 29, 2003 due to investments made to expand production capacity. These investments are intended to aid us in meeting current and what we view as increasing future customer product demands on a cost-effective basis. We target that these investments in additional equipment will allow us to meet any increase in demand for our products and thus may lead to higher revenue for us. The higher property investment will also result in higher depreciation expense. Net deferred income taxes changed by $20.2 million due to accelerated depreciation and taxes on unrealized gains. Other assets declined by $10.9 million or 68% since June 29, 2003, while marketable

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securities available for sale increased by $22.0 million or 100% since the end of fiscal 2003 due to the reclassification of our Color Kinetics investment, subsequent to the public offering of Color Kinetics common stock, from “other assets” on our consolidated balance sheet valued at cost of $12.7 million to marketable securities available for sale. Consequently, the investment is now recorded at fair market value under SFAS No. 115. The net unrecognized gain of $9.3 million has been recorded as a comprehensive income item in the shareholders’ equity section of our consolidated balance sheet. This $12.7 million reclassification from other assets was offset by a $1.9 million increase in deposits that were related to fixed asset additions. Our deferred revenue account increased by $2.9 million to $8.4 million at June 27, 2004 as a result of the terms of our agreements with Sumitomo and OSRAM, which require us to establish reserves at the time we ship LED products to Sumitomo and OSRAM based upon a percentage of the total purchase price of such products.

Contractual Obligations

At June 27, 2004, payments to be made pursuant to significant contractual obligations are as follows (000’s omitted):

Contractual Obligations	Total		Less Than One Year		One to Three Years		Three to Five Years		More Than Five Years
Long-term debt obligations	$	—	$	—	$	—	$	—	$	—
Capital lease obligations		—		—		—		—		—
Operating lease obligations		11,931		2,103		3,340		3,338		3,150
Purchase obligations		26,310		25,626		684		—		—
Other long-term liabilities		—		—		—		—		—
Total	$	38,241	$	27,729	$	4,024	$	3,338	$	3,150

Purchase obligations are generally for the purchase of goods and services in the ordinary course of business such as raw materials, supplies and capital equipment. We use blanket purchase orders to communicate expected requirements to certain of our vendors. Purchase obligations reflect vendor commitments under purchase orders where the commitments are firm.

Operating leases include rental amounts due on our four leased facilities. These facilities are comprised of both office and manufacturing space. The first facility has a remaining lease term for approximately seven and one half years. The second facility lease expires in approximately six years. The third and fourth leases are for sales offices that expire in June 2005 and July 2005, respectively. We are also subject to a transition services agreement with ATMI, pursuant to which ATMI licensed a portion of its facility to us for our use through April 2005. All of the remaining lease agreements provide for rental adjustments for increases in base rent (up to specific limits) property taxes and general property maintenance that would be recorded as rent expense if applicable.

Item 7A.    Quantitative and Qualitative Disclosures About Market Risk

As of June 27, 2004, we held a long-term investment in the equity securities of Color Kinetics, which is treated for accounting purposes under SFAS 115 as available-for-sale securities. This investment is carried at fair market value based upon quoted market price of that investment as of June 27, 2004, with net unrealized gains or losses excluded from earnings and reported as a separate component of shareholders’ equity.

It is our policy to write down these types of equity investments to their market value and record the related write down as an investment loss on our consolidated statements of operations if we believe that an other-than-temporary decline existed in our marketable equity securities. As of June 27, 2004, we do not believe that an other-than-temporary decline existed in our investment in Color Kinetics as the market value of the security was above our cost. This investment is subject to market risk of equity price changes. The fair market value of this investment as of June 27, 2004, using the closing sale price as of June 25, 2004, was $22.0 million.

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As of June 27, 2004, we hold investments in the equity of private companies valued at $2.9 million, with our investment in Lighthouse being the only remaining investment that has a net carrying value recorded on our consolidated balance sheet. An adverse movement of equity market prices would likely have an impact on our investment in Lighthouse, although the impact cannot be directly quantified. Such a movement and the related underlying economic conditions could negatively affect the prospects of Lighthouse, its ability to raise additional capital and the likelihood of our being able to realize this investment through liquidity events such as initial public offerings, mergers and private sales.

We hold and expect to continue to consider investments in minority interests in companies having operations or technology in areas within our strategic focus. We generally are not subject to material market risk with respect to our investments classified as marketable securities as such investments are readily marketable, liquid and do not fluctuate substantially from stated values. Many of our investments are in early stage companies or technology companies where operations are not yet sufficient to establish them as profitable concerns. One of our investments is in a publicly traded company whose share prices are subject to market risk. Management continues to evaluate its investment positions on an ongoing basis. See Note 7, “Investments” in the consolidated financial statements included in Item 8 of this report for further information on our policies regarding investments in private and public companies.

We have invested some of the proceeds from our January 2000 public offering into high-grade corporate debt, commercial paper, government securities and other investments at fixed interest rates that vary by security. These investments are A grade or better in accordance with our cash management policy. At June 27, 2004, we had $149.4 million invested in these securities. Although these securities generally earn interest at fixed rates, the historical fair values of such investments have not differed materially from the amounts reported on our consolidated balance sheets. Therefore, we believe that potential changes in future interest rates will not create material exposure for us from differences between the fair values and the amortized cost of these investments.

We currently have no debt outstanding. With two of our larger customers, we maintain a foreign currency adjustment to our sales price if certain exchange rates against the U.S. dollar are not maintained. During fiscal 2004 and fiscal 2003, we recognized $489,000 and $442,000, respectively, of other non-operating income associated with proceeds received from one of these customers for foreign currency adjustments. These revenue adjustments represent our main risk with respect to foreign currency, since our contracts and purchase orders are denominated in U.S. dollars. We have no commodity risk.

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, both known and unknown, including ones 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 occur, our business, financial condition or results of operations could be materially and adversely affected.

Our operating results and margins may fluctuate significantly.

Although we experienced significant revenue and earnings growth in the past year, 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. For example, historically, the prices of our LEDs have declined based on market trends. We attempt to maintain our margins by constantly developing improved or new products, which command higher prices or by lowering the cost of our LEDs. If we are unable to do so, our margins will decline. 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);

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• our ability to improve yields and reduce costs in order to allow lower product pricing without margin reductions;

• our ability to ramp up production for our new products;

• our ability to convert our substrates used in our volume manufacturing to larger diameters;

• our ability to produce higher brightness and more efficient LED products that satisfy customer design requirements;

• our ability to develop new products to specifications that meet the evolving needs of our customers;

• our ability to generate customer demand for our LDMOS products and ramp up production of those products accordingly;

• changes in demand for our products and our customers’ products;

• effects of an economic slow down on consumer spending on such items as cell phones, electronic devices and automobiles.

• changes in the competitive landscape, such as higher brightness LED products, higher volume production and lower pricing from Asian competitors;

• declining average sales prices for our products;

• changes in the mix of products we sell;

• inventions by others companies of new technology that may make our products obsolete;

• product returns or exchanges that could impact our short-term results;

• changes in purchase commitments permitted under our contracts with large customers;

• changes in production capacity and variations in the utilization of that capacity;

• disruptions of manufacturing as a result of damage to our manufacturing facilities from causes such as fire, flood or other casualties, particularly in the case of our single site for SiC wafer and LED production;

• our policy to fully reserve for all accounts receivable balances that are more than 90 days past due, which could impact our short-term results; and

• changes in Federal budget priorities could adversely affect our contract revenue.

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 will likely decline.

Our LED revenues are highly dependent on our customers’ ability to source or develop efficient phosphor solutions to enable them to use our LED chips to produce competitive white LED products.

Some of our customers package our blue LEDs with a phosphor coating to create white LEDs. Nichia currently has the majority of the market share for white LEDs because it has developed a white LED lamp solution that includes an efficient phosphor solution to create a bright white output and it has a number of patents that cover portions of the technology. The phosphor solutions that our customers use in their products are generally not as efficient as the phosphor solution that Nichia uses in its products. As a result, the white LEDs that our customers produce historically have not been as bright as Nichia’s white LEDs. We are assisting our customers in their efforts to develop or gain access to more competitive phosphor solutions. Even if our customers are able to develop or secure more competitive phosphor solutions, there can be no assurance that they will be able to compete with Nichia, which has an established market presence. Growth in sales of our high-brightness LED chips used in these applications is dependant upon our customers’ ability to develop, secure and implement more competitive phosphor solutions.

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We are highly dependent on trends in mobile appliances to drive a substantial percentage of LED demand.

Our results of operations could be adversely affected by reduced customer demand for LED products for use in mobile appliances. In the fourth quarter of fiscal 2004, we derived nearly one-half of our LED revenue and approximately 40% of our overall revenue from sales of our products into mobile appliance applications. Our ability to maintain or increase our LED product revenue depends in part on the number of models into which our customers design our products and the overall demand for these products. Also, design cycles in the handset industry are short and demand is volatile, which makes production planning difficult to forecast. However, our design wins are spread over a broad model and customer base.

If we experience poor production yields, our margins could decline and our operating results may suffer.

Our SiC and GaN materials products and our LED, power 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 our SiC-based RF and power semiconductors. Our Cree Microwave subsidiary manufactures its RF semiconductors on silicon wafers purchased from others. During our manufacturing process, each wafer is processed to contain numerous die, which are the individual semiconductor devices, and the RF, power devices and XLamp products are further processed by incorporating them into packages for sale as packaged components. The number of usable crystals, wafers, dies 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;

• lack of adequate quality and quantity of piece parts and other raw materials;

• losses from broken wafers or human errors; and

• defects in packaging either within our control or at our subcontractors.

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.

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. For example, in the upcoming fiscal year, we may encounter short-term yield challenges in our LED production as we convert the majority of our production from two-inch wafers to three-inch wafers. In some instances, we may 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.

The markets in which we operate are highly competitive and have evolving technology standards.

The markets for our LED, RF and microwave, and power semiconductor products are highly competitive. In the LED market, we compete with companies that manufacture or sell nitride-based LED chips as well as those that sell packaged LEDs. Competitors are offering new UV, blue, green and white LEDs with aggressive prices and improved performance. In the RF power semiconductor field, the products manufactured by Cree Microwave compete with products offered by substantially larger competitors who

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have dominated the market to date based on product quality and pricing. The market for SiC wafers is also becoming competitive as other firms in recent years have begun offering SiC wafer products or announced plans to do so. We also expect significant competition for our other products, such as those for use in microwave communications and power switching.

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. Competitors also could invent new technologies that may make our products obsolete. Any of these developments could have an adverse effect on our business, results of operations and financial condition.

Litigation and SEC matters could adversely affect our operating results and financial condition.

We and certain of our officers and current or former directors are defendants in pending litigation (as described in Item 3. Legal Proceedings of this report) that alleges, among other things, violations of federal securities laws. Defending against existing and potential securities and class action litigation will likely require significant attention and resources and, regardless of the outcome, result in significant legal expenses, which will adversely affect our results unless covered by insurance or recovered from third parties. If our defenses are ultimately unsuccessful, or if we are unable to achieve a favorable resolution, we could be liable for damage awards that could materially adversely affect our results of operations and financial condition.

In addition, the SEC in July 2003 initiated an informal inquiry of us and requested that we voluntarily provide certain information to the SEC staff. We have cooperated with the SEC in this informal inquiry. If the SEC elects to pursue a formal investigation of us, responding to any such investigation and any resulting enforcement action could require significant diversion of management’s attention and resources in the future as well as significant legal expense and exposure to possible penalties or fines that could materially adversely affect our results of operations.

Our business and our ability to produce our products may be impaired by claims that we infringe intellectual property rights of others.

Vigorous protection and pursuit of intellectual property rights characterize the semiconductor industry. These traits 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.

There can be no assurance that third parties will not attempt to assert infringement claims against us with respect to our current or future products. From time to time we receive correspondence asserting that our products or processes are or may be infringing patents or other intellectual property rights of others. Our practice is to investigate such claims to determine whether the assertions have merit and, if so, we take appropriate steps to seek to obtain a license or to avoid the infringement. However, we cannot predict

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whether a license will be available or that we would find the terms of any license 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.

There are limitations on our ability to protect our intellectual property.

Our intellectual property position is based in part on patents owned by us and patents exclusively licensed to us by NCSU, Boston University 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.

However, we cannot be sure that patents will be issued on such applications or that our existing or future patents will not be successfully contested by third parties. 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, especially as new competitors enter the market.

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 through appropriate efforts to maintain its secrecy, including requiring employees and third parties to sign confidentiality agreements. We cannot be sure that these efforts will be successful or that the confidentiality agreements will not be breached. We also cannot be sure that we would have adequate remedies for any breach of such agreements or other misappropriation of our trade secrets, or that our trade secrets and proprietary know-how will not otherwise become known or be independently discovered by others.

Where necessary, we may initiate litigation to enforce our patent or other intellectual property rights. For example, this past fiscal year we settled a patent infringement action that our Cree Lighting subsidiary and the Trustees of Boston University filed against AXT, Inc., seeking enforcement of a patent relating to semiconductor devices manufactured using a GaN-based buffer technology. Any such litigation may require us to spend a substantial amount of time and money and could distract management from our day-to-day operations. Moreover, there is no assurance that we will be successful in any such litigation.

If we are unable to produce and sell adequate quantities of our high-brightness and mid-brightness LED chip products and improve our yields, our operating results may suffer.

We believe that our ability to gain customer acceptance of our high-brightness and mid-brightness LED chip products and to achieve higher volume production and lower production costs for those products, 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 due to our competitive environment and/or to satisfy prior contractual commitments. Achieving greater volumes and lower costs requires improved production yields for these products. We are continuing to work with our customers to develop and expand our XBright products to help meet their market and packaging requirements. We may encounter manufacturing difficulties as we ramp up our capacity to make our newest products. Our failure to produce adequate quantities and improve the yields of any of these products could have a material adverse effect on our business, results of operations and financial condition. Some of our customers may encounter difficulties with their manufacturing processes using our XBright and XThin devices due to the non-standard die attachment processes required, which could increase product returns and impact customer demand, each of which would have a material adverse effect on our business, results of operations and financial condition.

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Our operating results are substantially dependent on the development of new products based on our SiC and GaN technology.

Our future success will depend on our ability to develop new SiC and GaN 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 and GaN products is a highly complex process, and we historically have experienced delays in completing the development and introduction of new products. Products currently under development include larger, higher quality substrates and epitaxy, high power RF and microwave devices in both SiC and GaN, SiC power devices, near UV laser diodes, higher brightness, thinner LED products and high powered packaged LEDs. 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.

We must generate new customer demand for our LDMOS products in order to offset expenses of our Cree Microwave segment.

Revenues of our Cree Microwave segment will depend on our ability to attract new customers for our LDMOS products. Due to the current market environment for microwave devices and the lengthy customer design-in and qualification process for our LDMOS products, it may take many quarters to develop new customers for our Cree Microwave segment and we may not succeed in doing so. Until we develop sufficient new business for Cree Microwave’s products, our expenses for this segment will exceed its revenues.

We depend on a few large customers and our revenues can be affected by their contract terms.

Historically, a substantial portion of our revenue has come from large purchases by a small number of customers. 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 limit or stop purchasing our products and our operating results could suffer. In addition, our Sumitomo contract provides that Sumitomo may decrease its purchase commitment or terminate the contract if its inventory of our products reaches a specified level. The contract also requires us to establish two rolling reserves based upon a percentage of the total purchase price of our products. We defer revenue recognition on the amounts added to reserves. If claims are made against reserves, we may recognize lesser amounts of revenue or no revenue on substitute sales to Sumitomo and any product returned may not be salable at the same price or at all. Another example is our OSRAM contract, which allows OSRAM to decrease its purchase commitment if we do not offer prices at certain specified levels or as agreed to by the parties. Contract terms with other large customers also operate in a manner that could have a negative impact on our financial results.

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We face significant challenges managing our growth.

We have experienced a period of significant growth that has challenged our management and other resources. We have grown from 390 employees on June 27, 1999 to 1,235 employees on June 27, 2004 and from revenues of $60.1 million for the fiscal year ended June 27, 1999 to $306.9 million for the fiscal year ended June 27, 2004. To manage our growth effectively, we must continue to:

• implement and improve operating systems;

• maintain adequate manufacturing facilities and equipment to meet customer demand;

• improve the skills and capabilities of our current management team;

• 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 have additional unexpected costs. 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.

Performance of our investments in other companies could negatively affect our financial condition.

From time to time, we have made investments in public and private companies that engage in complementary businesses. Should the value of any such investments we hold decline, the related write-down in value could have a material adverse effect on our financial condition as reflected in our consolidated balance sheets. In addition, if the decline in value is determined to be other-than-temporary, the related write-down could have a material adverse effect on our reported net income. For example, in the fourth quarter of fiscal 2002 we recorded a non-operating charge of $22 million (pre-tax) relating to the declines in the value of equity investments determined to be other-than-temporary as a result of continued depressed market conditions. On June 27, 2004, we held interests in one public company as well as several private companies. Each of these investments is subject to the risks inherent in the business of the company in which we have invested and to trends affecting the equity markets as a whole. Our private company investments are subject to additional risks relating to the limitations on transferability of our interests due to the lack of a public market and to other transfer restrictions. Our investment in a publicly held company exposes us to market risks and could be subject to contractual limitations on transferability. For example, we are restricted from selling our shares in Color Kinetics for a period of 180 days from June 22, 2004, the date of their initial public offering. As a result, we may not be able to reduce the size of our positions or liquidate our investments when we deem appropriate to limit our downside risk.

Our manufacturing capacity may not be sufficient to keep up with customer demand.

We experienced significant growth in fiscal 2004 and are operating near capacity for LED products. Although we are taking steps to address our manufacturing capacity concerns, if we are not able to increase our capacity quickly enough to respond to customer demand or if our expansion plans are not adequate enough to address our capacity constraints, or if ramping up new capacity costs more than we anticipate, our business and results of operation could be adversely affected.

As part of our initiative to address these capacity concerns, we are in the process of transitioning our production process in several ways. First, we are shifting production of the majority of our LED products from two-inch wafers to three-inch wafers over the course of fiscal 2005. We must first qualify our production processes for each product on systems designed to accommodate the larger wafer size, and some of our existing production equipment must be refitted for the larger wafer size. 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

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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. If we experience delays in the qualification process, the 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 also are in the process of qualifying our Sunnyvale, California location to produce SiC Schottky diode products and transitioning production of Schottky diode products to that location over the next several quarters. We may experience a transition period as we start to ramp up production in which our yields are low or our production costs do not meet our expectations. If we experience delays in qualifying this facility for production of SiC Schottky diodes, if this transition period extends longer than we expect, or if we are not able to achieve the production levels and margins we expect, our operating results could be adversely affected.

We also are exploring ways to expand our manufacturing capacity and plan to make certain expenditures in the coming fiscal year to acquire new equipment. Any potential expansion projects may be delayed, cost more than we anticipate or require long transition periods, any of which could impact our ability to meet our customers’ demands and affect our operating results.

We rely on a few key suppliers.

We depend on a limited number of suppliers for certain raw materials, components, services 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 operations could be interrupted or hampered significantly.

If government agencies or other customers discontinue or curtail their funding for our research and development programs our business may suffer.

Changes in Federal budget priorities could adversely affect our contract revenue. In the past, government agencies and other customers have funded a significant portion of our research and development activities. Government contracts are subject to the risk that the government agency may not appropriate and allocate all funding contemplated by the contract. In addition, our government contracts generally permit the contracting authority to terminate the contracts for the convenience of the government, and the full value of the contracts would not be realized if they are prematurely terminated. Furthermore, we may be unable to incur sufficient allowable costs to generate the full estimated contract values, and there is some risk that any technologies developed under these contracts may not have commercial value. If government and customer funding 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 or flaws 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;

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• experience delays, cancellations or rescheduling of orders for our products;

• write-down existing inventory; or

• experience product returns.

We are subject to risks from international sales.

Sales to customers located outside the U.S. accounted for approximately 83%, 80% and 65% of our revenue in fiscal 2004, 2003 and 2002, respectively. We expect that revenue from international sales will continue to be the majority of our total revenue. International sales are subject to a variety of risks, including risks arising from currency fluctuations, trading restrictions, tariffs, trade barriers and taxes. Also, U.S. Government export controls could restrict or prohibit the exportation of products with defense applications. Because all of our foreign sales are denominated in U.S. dollars, our prices become less competitive in countries with currencies that are low or are declining in value against the U.S. dollar.

If we fail to evaluate and implement strategic opportunities successfully, our business may suffer.

From time to time we evaluate strategic opportunities available to us for product, technology or business acquisitions. For example, in fiscal 2004 we acquired the gallium nitride substrate and epitaxy business of ATMI. If we choose to make an acquisition, we face certain risks, such as failure of the acquired business in meeting our performance expectations, diversion of management attention, retention of existing customers of the acquired business, and difficulty in integrating the acquired business’s operations, personnel and financial and operating systems into our current business. We may not be able to successfully address these risks or any other problems that arise from our recent or future acquisitions. Any failure to successfully evaluate strategic opportunities and address risks or other problems that arise related to any acquisition could adversely affect our business, results of operations and financial condition.

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.

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Item 8.    Financial Statements and Supplementary Data

Index to Consolidated Financial Statements

	Page
Report of Independent Registered Public Accounting Firm	49
Consolidated Balance Sheets as of June 27, 2004 and June 29, 2003	50
Consolidated Statements of Operations for the years ended June 27, 2004, June 29, 2003 and June 30, 2002	51
Consolidated Statements of Cash Flow for the years ended June 27, 2004, June 29, 2003 and June 30, 2002	52
Consolidated Statements of Shareholders’ Equity for the years ended June 27, 2004, June 29, 2003 and June 30, 2002	53
Notes to Consolidated Financial Statements	54

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Board of Directors and Shareholders

Cree, Inc.

We have audited the accompanying consolidated balance sheets of Cree, Inc. as of June 27, 2004 and June 29, 2003, and the related consolidated statements of operations, shareholders’ equity and cash flows for each of the three years in the period ended June 27, 2004. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Cree, Inc. at June 27, 2004 and June 29, 2003, and the consolidated results of its operations and its cash flows for each of the three years in the period ended June 27, 2004, in conformity with U.S. generally accepted accounting principles.

As discussed in Note 2 to the consolidated financial statements, in fiscal 2003 the Company adopted Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets and changed its method of accounting for goodwill.

Raleigh, North Carolina

July 23, 2004

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CREE, INC.

CONSOLIDATED BALANCE SHEETS

(In thousands, except per share amounts)

	June 27, 2004		June 29, 2003
ASSETS
Current assets:
Cash and cash equivalents	$	81,472	$	64,795
Short-term investments held to maturity		76,691		75,242
Accounts receivable, net		47,766		43,901
Interest receivable		1,752		1,650
Inventories, net		19,428		17,674
Deferred income taxes		2,560		1,863
Prepaid expenses and other current assets		5,224		4,230
Total current assets		234,893		209,355
Property and equipment, net		273,342		251,346
Long-term investments held to maturity		72,730		58,794
Marketable securities available for sale		22,002		—
Deferred income taxes		—		20,934
Patent and license rights, net		19,831		7,146
Other assets		5,202		16,119
Total assets	$	628,000	$	563,694
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Accounts payable, trade	$	25,102	$	14,916
Accrued salaries and wages		8,125		5,756
Deferred revenue		8,437		5,533
Other accrued expenses		3,318		2,087
Total current liabilities		44,982		28,292
Long term liabilities:
Deferred income taxes		3,886		—
Other long-term liabilities		—		31
Total long-term liabilities		3,886		31
Commitments and contingencies (Notes 12 and 14)
Shareholders’ equity:
Preferred stock, par value $0.01; 3,000 shares authorized at June 27, 2004 and June 29, 2003; none issued and outstanding		—		—
Common stock, par value $0.00125; 200,000 shares authorized at June 27, 2004 and June 29, 2003; 73,245 and 74,127 shares issued and outstanding at June 27, 2004 and June 29, 2003, respectively		91		92
Additional paid-in-capital		506,275		526,318
Deferred compensation		—		(218	)
Other comprehensive income, net of taxes		5,627		—
Retained earnings		67,139		9,179
Total shareholders’ equity		579,132		535,371
Total liabilities and shareholders’ equity	$	628,000	$	563,694

The accompanying notes are an integral part of the consolidated financial statements.

50

CREE, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share amounts)

	Year Ended
	June 27, 2004		June 29, 2003			June 30, 2002
Revenue:
Product revenue, net	$	279,923	$	202,962		$	136,230
Contract revenue, net		26,947		26,860			19,204
Total revenue		306,870		229,822			155,434
Cost of revenue:
Product revenue, net		136,112		109,726			78,249
Contract revenue, net		22,342		20,926			13,827
Total cost of revenue		158,454		130,652			92,076
Gross profit		148,416		99,170			63,358
Operating expenses:
Research and development		36,886		31,203			28,026
Sales, general and administrative		31,654		26,326			25,618
Intangible asset amortization		—		—			6,765
Impairment of goodwill		—		—			76,489
Loss on disposal of property and equipment		1,016		1,569			19,019
Severance charges		—		400			875
Gain on termination of supply agreement		—		(5,000	)		—
Other expense		—		—			840
Total operating expenses		69,556		54,498			157,632
Income (loss) from operations		78,860		44,672			(94,274	)
Non-operating income (expense):
(Loss) gain on investments in marketable securities		—		(2,067	)		(21,471	)
Loss on long term investments		—		—			(20,377	)
Other non-operating income		1,008		442			—
Interest income, net		3,725		4,117			5,708
Income (loss) before income taxes		83,593		47,164			(130,414	)
Income tax expense (benefit)		25,633		12,263			(28,691	)
Net income (loss)	$	57,960	$	34,901		$	(101,723	)
Earnings (loss) per share:
Basic	$	0.78	$	0.48		$	(1.40	)
Diluted	$	0.77	$	0.46		$	(1.40	)
Shares used in per share calculation:
Basic		74,008		73,196			72,718
Diluted		75,745		75,303			72,718

The accompanying notes are an integral part of the consolidated financial statements.

51

CREE, INC.

CONSOLIDATED STATEMENTS OF CASH FLOW

(In thousands)

	Year Ended
	June 27, 2004			June 29, 2003			June 30, 2002
Net income (loss)	$	57,960		$	34,901		$	(101,723	)
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Depreciation and amortization		54,570			41,705			32,400
Loss on disposal of property and equipment and patents		1,065			1,512			18,298
Amortization of patent rights		994			394			293
Amortization of intangible assets		—			—			6,796
Amortization of premium on investments held to maturity		3,224			2,328			157
Write-off of goodwill and other intangible assets		—			—			76,488
Write-down of long-term investments		—			—			20,377
Purchase of marketable trading securities		—			—			(1,546	)
Proceeds from sale of marketable trading securities		—			—			2,104
Loss on available for sale securities		—			2,067			21,470
Deferred income taxes		20,448			5,709			(31,200	)
Income tax benefits from stock option exercises		3,142			5,188			2,712
Stock based compensation		393			478			515
Changes in operating assets and liabilities:
Accounts and interest receivable		(3,967	)		(13,289	)		(555	)
Inventories		(1,107	)		292			(2,764	)
Prepaid expenses and other current assets		(994	)		1,764			(3,773	)
Other long-term assets		—			368			(833	)
Accounts payable, trade		10,186			1,840			(1,073	)
Accrued expenses and other liabilities		6,474			4,392			987
Net cash provided by operating activities		152,388			89,649			39,130
Investing activities:
Purchase of available for sale securities		—			—			(13,761	)
Proceeds from sale of available for sale securities		—			3,921			—
Purchase of ATMI assets		(10,684	)		—			—
Purchase of long-term investments held to maturity		(128,683	)		(118,934	)		(118,807	)
Proceeds from maturities of investments held to maturity		110,072			84,253			66,965
Purchase of and deposits for property and equipment		(77,280	)		(77,643	)		(41,635	)
Proceeds from sale of property and equipment		8			635			721
Purchase of patent rights		(5,916	)		(3,289	)		(1,318	)
Decrease (increase) in other long-term assets		133			(241	)		(9,051	)
Net cash used in investing activities		(112,350	)		(111,298	)		(116,886	)
Financing activities:
Net proceeds from issuance of common stock		11,376			12,700			7,235
Repurchase of common stock		(34,737	)		—			(20,297	)
Net cash (used in) provided by financing activities		(23,361	)		12,700			(13,062	)
Net increase (decrease) in cash and cash equivalents		16,677			(8,949	)		(90,818	)
Cash and cash equivalents:
Beginning of year		64,795			73,744			164,562
End of year	$	81,472		$	64,795		$	73,744
Supplemental disclosure of cash flow information:
Cash paid for income taxes	$	3,047		$	800		$	1,901
Non-cash investing and financing activities:
Deferred compensation	$	393		$	478		$	515

The accompanying notes are an integral part of the consolidated financial statements.

52

CREE, INC.

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

(In thousands)

	Common Stock Par Value			Additional Paid-in Capital			Deferred Compensation			Retained Earnings (Accumulated Deficit)			Accumulated Other Comprehensive Income/(Loss)			Total Shareholders’ Equity
Balance at June 24, 2001	$	91		$	518,781		$	(1,211	)	$	76,001		$	(4,565	)	$	589,097
Common stock options exercised for cash, 1,053 shares		1			4,229			—			—			—			4,230
Issuance of common stock for cash, 245 shares		—			3,005			—			—			—			3,005
Purchase and retirement of 1,489 treasury shares		(2	)		(20,295	)		—			—			—			(20,297	)
Income tax benefits from stock option exercises		—			2,712			—			—			—			2,712
Amortization of deferred compensation		—			—			515			—			—			515
Net loss		—			—			—			(101,723	)		—			(101,723	)
Unrealized loss on securities available for sale, net of tax of $3,174		—			—			—			—			(11,253	)		(11,253	)
Losses on available for sale securities reclassified from other comprehensive income, net of taxes of $6,210 due to an other than temporary decline in value		—			—			—			—			15,818			15,818
Comprehensive loss		—			—			—			—			—			(97,158	)
Balance at June 30, 2002		90			508,432			(696	)		(25,722	)		—			482,104
Common stock options exercised for cash, 1,093 shares		2			9,591			—			—			—			9,593
Issuance of common stock for cash, 306 shares		—			3,107			—			—			—			3,107
Income tax benefits from stock option exercises		—			5,188			—			—			—			5,188
Amortization of deferred compensation		—			—			478			—			—			478
Net income and comprehensive income		—			—			—			34,901			—			34,901
Balance at June 29, 2003		92			526,318			(218	)		9,179			—			535,371
Common stock options exercised for cash, 701 shares		1			7,684			—			—			—			7,685
Issuance of common stock for cash, 245 shares		—			3,691			—			—			—			3,691
Purchase and retirement of 1,828 treasury shares		(2	)		(34,735	)		—			—			—			(34,737	)
Income tax benefits from stock option exercises		—			3,142			—			—			—			3,142
Stock based compensation		—			175			(175	)		—			—			—
Amortization of deferred compensation		—			—			393			—			—			393
Net income		—			—			—			57,960			—			57,960
Unrealized gain on marketable securities, net of tax of $3,674		—			—			—			—			5,627			5,627
Comprehensive income		—			—			—			—			—			63,587
Balance at June 27, 2004	$	91		$	506,275		$	—		$	67,139		$	5,627		$	579,132

The accompanying notes are an integral part of the consolidated financial statements.

53

CREE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

JUNE 27, 2004

1.    Nature of Business

Cree, Inc., the “Company,” or “Cree,” a North Carolina corporation, develops, manufactures, and markets silicon carbide (SiC) and group III nitrides (GaN) including gallium nitride based semiconductor materials and devices, as well as radio frequency (RF) and microwave devices made from silicon. Revenues are primarily derived from the sale of blue, green and near ultra-violet, (UV) light emitting diodes (LEDs) and SiC and GaN based materials. The Company markets its blue, green and near UV LED products principally to customers who incorporate them into packaged lamps for resale to original equipment manufacturers. The Company also sells SiC and GaN material products primarily to corporate, government, and university research laboratories. In addition, the Company is engaged in a variety of research programs related to the advancement of SiC and GaN process technology and the development of electronic and optoelectronic devices that take advantage of these materials’ unique physical and electronic properties.

2.    Summary of Significant Accounting Policies and Other Matters

Principles of Consolidation

The consolidated financial statements include the accounts of Cree, Inc., and its wholly-owned subsidiaries, Cree Microwave, Inc. (Cree Microwave), Cree Lighting Company (Cree Lighting), Cree Research FSC, Inc. (FSC), Cree Funding, LLC (Cree Funding), Cree Employee Services Corporation, Cree Technologies, Inc., CI Holdings, Limited, Cree Asia-Pacific, Inc and Cree Japan, Inc. FSC was dissolved effective July 10, 2002, Cree Lighting was merged into the Company effective June 29, 2003 and Cree Funding was merged into the Company effective June 27, 2004. All material intercompany accounts and transactions have been eliminated in consolidation.

Business Combination

The Company acquired the GaN substrate and epitaxy business of Advanced Technology Materials, Inc. (ATMI) effective March 31, 2004. The Company signed a definitive agreement to purchase the intellectual property, fixed assets and inventory of this business for $10.3 million in cash. The Company accounted for this transaction under the purchase method and there was no resulting goodwill. The operating results of the assets acquired from ATMI are included in the accompanying consolidated statement of operations from the date of acquisition.

Business Segments

The Company operates in two business segments, Cree and Cree Microwave. The Cree segment incorporates its proprietary technology to produce wide bandgap compound semiconductors using SiC and GaN technology. Products from this segment are used in mobile appliances, automotive backlighting, indicator lamps, full color LED displays and other lighting applications as well as microwave and power applications. The Cree segment also sells SiC and GaN material products to corporate, government and university research laboratories and generates revenue from contracts with agencies of the U.S. Federal government.

The Cree Microwave segment designs, manufactures and markets a line of silicon-based laterally diffused metal oxide semiconductors (LDMOS) and bipolar radio frequency power semiconductors and modules, a critical component utilized in building power amplifiers for wireless infrastructure applications as well as products serving military and aeronautics markets.

54

CREE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

June 27, 2004

Summarized financial information concerning the reportable segments as of and for the years ended June 27, 2004, June 29, 2003 and June 30, 2002 is shown in the following table. There were no intercompany sales between the Cree segment and the Cree Microwave segment during fiscal 2004, 2003 or 2002. The “Other” column represents amounts excluded from specific segments such as interest income, write-downs for investments made in marketable equity securities or long-term investments held to maturity and gains or losses on the sale of marketable securities. In addition, the “Other” column also includes corporate assets such as cash and cash equivalents, short-term investments held to maturity, marketable securities, interest receivable and long-term investments held to maturity which have not been allocated to a specific segment.

As of and for the Year Ended June 27, 2004 (in 000’s)	Cree		Cree Microwave			Other		Total
Highlights from the Statement of Operations:
Product revenue	$	272,205	$	7,718		$	—	$	279,923
Contract revenue		26,947		—			—		26,947
Total revenue		299,152		7,718			—		306,870
Cost of revenue		147,858		10,596			—		158,454
Gross profit (loss)		151,294		(2,878	)		—		148,416
Research and development		32,878		4,008			—		36,886
Selling, general and administrative		28,718		2,936			—		31,654
Interest income		—		—			3,725		3,725
Income (loss) before income taxes		89,835		(9,967	)		3,725		83,593
Income tax expense (benefit)		27,548		(3,058	)		1,143		25,633
Depreciation and amortization	$	51,947	$	2,623			—	$	54,570
Other financial information:
Inventories, net	$	17,588	$	1,840		$	—	$	19,428
Property and equipment, net		264,123		9,219			—		273,342
Additions to property and equipment		77,007		273			—		77,280
Total assets	$	372,246	$	13,621		$	242,133	$	628,000
As of and for the Year Ended June 29, 2003 (in 000’s)	Cree		Cree Microwave			Other		Total
Highlights from the Statement of Operations:
Product revenue	$	200,165	$	2,797		$	—	$	202,962
Contract revenue		26,860		—			—		26,860
Total revenue		227,025		2,797			—		229,822
Cost of revenue		118,677		11,975			—		130,652
Gross profit (loss)		108,348		(9,178	)		—		99,170
Research and development		26,682		4,521			—		31,203
Selling, general and administrative		23,558		2,768			—		26,326
Interest income		—		—			4,117		4,117
Income (loss) before income taxes		57,000		(11,886	)		2,050		47,164
Income tax expense (benefit)		14,820		(3,090	)		533		12,263
Depreciation and amortization	$	39,450	$	2,255		$	—	$	41,705
Other financial information:
Inventory, net	$	17,257	$	417		$	—	$	17,674
Property and equipment, net		239,525		11,821			—		251,346
Additions to property and equipment		76,385		1,258			—		77,643
Total assets	$	334,049	$	13,576		$	216,069	$	563,694

55

CREE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

June 27, 2004

As of and for the Year Ended June 30, 2002 (in 000’s)	Cree			Cree Microwave			Other			Total
Highlights from the Statement of Operations:
Product revenue	$	111,435		$	24,795		$	—		$	136,230
Contract revenue		19,204			—			—			19,204
Total revenue		130,639			24,795			—			155,434
Cost of revenue		71,994			20,082			—			92,076
Gross profit		58,645			4,713			—			63,358
Research and development		22,699			5,327			—			28,026
Selling, general and administrative		21,920			3,698			—			25,618
Amortization of purchased intangibles		—			6,765			—			6,765
Write-off of intangible assets		—			76,489			—			76,489
Write-off of fixed assets		18,917			102			—			19,019
Loss on marketable securities and long term asset investments		—			—			(41,848	)		(41,848	)
Interest income		—			—			5,708			5,708
Loss before income taxes		(4,891	)		(89,384	)		(36,139	)		(130,414	)
Income tax benefit		(1,076	)		(19,664	)		(7,951	)		(28,691	)
Depreciation and amortization	$	30,168		$	2,232		$	—		$	32,400
Other financial information:
Inventory, net	$	14,835		$	3,131		$	—		$	17,966
Property and equipment, net		198,855			12,830			—			211,685
Additions to property and equipment		34,617			7,018			—			41,635
Total assets	$	289,921		$	19,187		$	195,087		$	504,195

Reclassifications

Certain fiscal 2003 and 2002 amounts in the accompanying consolidated financial statements have been reclassified to conform to the fiscal 2004 presentation. These reclassifications had no effect on previously reported net income (loss) or shareholders’ 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. The Company’s 2004 fiscal year extended from June 30, 2003 through June 27, 2004 and was a 52-week fiscal year. The Company’s 2003 fiscal year extended from July 1, 2002 through June 29, 2003 and was a 52-week fiscal year. The Company’s 2005 fiscal year will extend from June 28, 2004 to June 26, 2005 and will be a 52-week fiscal year.

Estimates

The preparation of the consolidated financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, and the disclosure of contingent assets and liabilities, at June 27, 2004 and June 29, 2003, and the reported amounts of revenues and expenses during the years ended June 27, 2004, June 29, 2003 and June 30, 2002. Actual amounts could differ from those estimates.

56

CREE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

June 27, 2004

Revenue Recognition

Revenue on product sales is recognized when persuasive evidence of a contract exists, such as when a purchase order or contract is received from the customer, the price is fixed, title of the goods has transferred and there is a reasonable assurance of collection of the sales proceeds. The Company obtains written purchase authorizations from its customers for a specified amount of product at a specified price and considers delivery to have occurred at the time of shipment. The majority of the Company’s products have shipping terms that are free on board (FOB) or free carrier alongside (FCA) shipping point, which means that the Company fulfills the obligation to deliver when the goods are handed over and into the charge of the carrier at our shipping dock. This means that the buyer bears all costs and risks of loss of or damage to the goods from that point. The difference between FOB and FCA is that under FCA terms, the customer designates a shipping carrier of choice to be used. In certain cases, the Company ships its products cost insurance and freight (CIF). Under this arrangement, revenue is recognized under FOB shipping point terms, however, the Company is responsible for the cost of insurance to transport the product as well as the cost to ship the product. For all of our sales other than those with CIF terms, the Company invoices its customers only for shipping costs necessary to physically move the product from its place of business to the customer’s location. The costs primarily consist of overnight shipping charges. The Company incurs the direct shipping costs on behalf of the customer and invoices the customer to obtain direct reimbursement for such costs. The Company accounts for its shipping costs by recording the amount of freight that is invoiced to customers as revenue, with the corresponding cost recorded as cost of revenue. In fiscal 2004, the Company recognized $117,000 as revenue for shipping and handling costs. In fiscal years 2003 and 2002, the Company accounted for such costs as a cost of revenue with the reimbursement of these costs reflected as a direct offset and reduction of cost of revenue. Such shipping costs were not material in those fiscal years. If inventory is maintained at a consigned location, revenue is recognized when the Company’s customer pulls product for use and the title of the goods is transferred to the customer. The Company provides its customers with limited rights of return for non-conforming shipments and warranty claims for up to 36 months for Cree Microwave products. The Company accrues estimated warranty expense as a cost of revenue. The Company also records a reserve for estimated sales returns as a reduction of revenue at the time of revenue recognition. Significant judgments and estimates made by management are used in connection with establishing the allowance for sales returns. Material differences may result in the amount and timing of the Company’s revenue for any period if management made different judgments or utilized different estimates. The allowance for sales returns at June 27, 2004 and June 30, 2003 was $798,000 and $644,000, respectively. For two customers, Sumitomo and OSRAM, the Company defers revenue equal to levels specified in contractual arrangements. This deferred revenue amounted to $8.4 million and $5.5 million as of June 27, 2004 and June 29, 2003, respectively, which predominantly related to amounts deferred under the Sumitomo contract.

Revenue from government contracts and certain private entities is recorded on the proportional performance method as contract expenses are incurred. Contract revenue represents reimbursement by various U.S. Government entities to aid in the development of new technology. The applicable contracts generally provide that the Company may elect to retain ownership of inventions made in performing the work, subject to a non-exclusive license retained by the government to practice the inventions for government purposes. 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 relating to the activities to be performed by the Company under the contract 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

57

CREE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

June 27, 2004

research regarding SiC and Group III nitride materials and devices. The contracts typically require the submission of a written report that documents the results of such research, as well as some material deliverables.

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 of the activities subject to the contract will exceed amounts to be funded over the life of the contract, costs are reported as research and development expenses and related funding is reported as an offset of those expenses.

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, available for sale securities, accounts and interest receivable, accounts payable and other liabilities approximate fair values at June 27, 2004 and June 29, 2003.

Inventories

Inventories are stated at the lower of cost or market, with cost determined using the first-in, first-out (“FIFO”) method for finished goods and work in process accounts. The Company uses the average cost method to value raw materials for the Cree segment. The Cree Microwave segment uses a standard cost method to value its inventory. It is the Company’s policy to record a reserve against inventory once it has been determined that conditions exist which may not allow the Company to sell the inventory for its intended purpose, the inventory’s value is determined to be less than cost or it is determined to be obsolete. The charge for the inventory reserves is recorded in cost of revenue on the consolidated statements of operations. The Company evaluates inventory levels at least quarterly against sales forecasts on a part-by-part basis, in addition to determining its overall inventory risk. Reserves are adjusted monthly to reflect inventory values in excess of forecasted sales, as well as overall inventory risk assessed by management.

Property and Equipment

Property and equipment are recorded at cost and depreciated on a straight-line basis over the assets’ estimated useful lives, which range from three to forty years. Leasehold improvements are amortized over the lesser of the asset life or the life of the related lease. Expenditures for repairs and maintenance are charged to expense as incurred. The costs for major renewals and improvements are capitalized and depreciated over their estimated useful lives. The cost and related accumulated depreciation of the assets are removed from the accounts upon disposition and any resulting gain or loss is reflected in operations. During the years ended June 27, 2004, June 29, 2003 and June 30, 2002, the Company recorded $1.0 million, $1.6 million, and $19.0 million, respectively, as losses on disposals or impairments of property and equipment. These charges are reflected in loss on disposal of property and equipment in the accompanying consolidated statements of operations.

58

CREE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

June 27, 2004

Impairment of Long-Lived Assets

In accordance with Statement of Financial Accounting Standards (SFAS) No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets”, the Company records impairment charges on long-lived assets used in operations when events and circumstances indicate that the assets have been impaired. In making these determinations, the Company utilizes certain assumptions, including, but not limited to: (i) estimations of the fair market value of the assets, and (ii) estimations of future cash flows expected to be generated by these assets, which are based on additional assumptions such as asset utilization, length of service the asset will be used in our operations and estimated salvage values. The Company recorded an impairment charge for long-lived assets of $790,000 for the three months ended June 27, 2004 for obsolete production equipment that was taken out of service and destroyed. During the second and third quarters of fiscal 2004, the Cree Microwave segment identified certain equipment that was written off because the Company determined the equipment would not be used and it was unable to sell the equipment to a third party. The total amount of this write-off was $173,000. The Company also recorded a $1.4 million impairment charge for the three months ended December 29, 2002, due to the election by management to discontinue a novel epitaxy reactor project. During fiscal 2002, the Company determined certain property and equipment was impaired under SFAS No. 121, “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed of”, which was the relevant accounting pronouncement at the time, and as a result, it recorded impairment charges of $19.0 million.

The Company also reviews its capitalized patent portfolio and records impairment charges when circumstances warrant, such as when patents have been abandoned or are no longer being pursued. During the years ended June 27, 2004, June 29, 2003 and June 30, 2002, the Company had no impairments of its patents.

Patent and License Rights

Patent rights reflect costs incurred to enhance and maintain the Company’s intellectual property position. License rights reflect costs incurred to use the intellectual property of others. Both are amortized on a straight-line basis over the lesser of 20 years from the date of patent application or over the license period. The related amortization expense was $994,000, $394,000 and $293,000 for the years ended June 27, 2004, June 29, 2003 and June 30, 2002, respectively. Total accumulated amortization for patents and license rights was approximately $2.7 million and $1.7 million at June 27, 2004 and June 29, 2003, respectively.

Goodwill and Intangible Assets

During the third quarter of fiscal 2002, the Company completed an impairment analysis of the intangible assets and goodwill related to the acquisition of Cree Microwave. This analysis was performed due to significant changes in business conditions at the operating segment. First, Cree Microwave amended its supply agreement with Spectrian effective March 31, 2002, which resulted in a significant reduction in quarterly revenue expectations. In addition, Cree Microwave’s outlook for acquiring additional customers in the near term weakened due to delays in the development of LDMOS8 technology, the overall deteriorating economic conditions and long product qualification cycles. Also, the principal products that Spectrian indicated it would consider purchasing from Cree Microwave in the future were not fully qualified and, subsequently not released to production at the time. As a result of this impairment analysis, the Company estimated that the future cash flows of the Cree Microwave business would not be sufficient to provide for recovery of the carrying value of its intangible assets and goodwill. Therefore, the remaining balance of intangible assets and goodwill of $76.5 million was deemed fully impaired and was written off in March 2002. This write-off was recorded as impairment of goodwill in the accompanying consolidated statements of operations.

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June 27, 2004

In November 2002, the Company entered into an agreement terminating its supply contract with Spectrian, and, due to the changed circumstances, management performed an impairment analysis of the tangible assets at Cree Microwave as of June 27, 2004 and June 29, 2003 in accordance with SFAS 144. Based on estimations of the fair market value of the assets, and estimations of future cash flows, the Company determined that the estimated undiscounted cash flow exceeded the amount of the book value of the long-term tangible assets. As a result, no additional Cree Microwave assets were deemed impaired or written down at that time.

Prior to the impairment charge described in the preceding paragraph, intangible assets included goodwill, current technology and workforce-in-place associated with the acquisition of Cree Microwave accounted for under the purchase method in December 2000. Goodwill was capitalized at $81.5 million and represented the excess of cost over the fair value of assets acquired and was amortized using the straight-line method over ten years. Other intangible assets included current technology and workforce-in-place which were assigned values of $5.5 million and $800,000, respectively. These intangibles were being amortized using the straight-line method over eight and five years, respectively. During the first three-quarters of fiscal 2002, prior to the impairment charge, the expense for intangible asset amortization was $6.8 million.

Research and Development

The U.S. Government and certain private entities have provided 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 SiC and GaN materials and devices. The contracts typically require the submission of a written report that documents the results of such research, as well as some material deliverables.

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 exceeded funding by period as included in research and development expenses:

	Year Ended (in 000’s)
	June 27, 2004		June 29, 2003		June 30, 2002
Net research and development costs	$	—	$	—	$	17
Government funding		—		—		276
Total direct costs incurred	$	—	$	—	$	293

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June 27, 2004

Non-government contract related research and development is expensed as incurred. Customers contributed zero in fiscal 2004, $500,000 in fiscal 2003 and $9.0 million in fiscal 2002 toward product research and development activities. These amounts were recorded as an offset to research and development expense. As of June 27, 2004, there were no customer commitments to fund future research and development activities for the Company.

Credit Risk, Major Customers and Major Suppliers

Financial instruments, which may subject the Company to a concentration of credit risk, consist principally of short-term and long-term investments, marketable securities, cash equivalents and accounts receivable. Short-term and long-term investments consist primarily of high-grade corporate debt, commercial paper, government securities and other investments at interest rates that vary by security. The Company’s cash equivalents consist primarily of money market funds. Certain bank deposits may at times be in excess of the FDIC insurance limits.

The Company sells its products on account to manufacturers and researchers worldwide and generally requires no collateral. When title has transferred and the earnings process is complete, the Company records revenue and related accounts receivable. In addition, at the time of sale, the Company records an allowance for sales returns, which is recorded as an offset to accounts receivable and reduction in revenue. Such returns, in the aggregate, have generally been within management’s expectations. The Company presently derives its contract revenue from contracts with the U.S. Government.

The Company has the following percentage of its accounts receivable due from the following customers as of each year-end:

	As of
	June 27, 2004		June 29, 2003
Sumitomo Corporation	22	%	29	%
OSRAM Semiconductors GmbH	12	%	20	%
Agilent Corporation	9	%	6	%
U.S. Government	12	%	5	%

The Company has derived its product and contract revenue from sales in the United States, Malaysia, Japan, Other Asian countries, and Europe based on ship-to locations for its products as follows:

	Year ended
	June 27, 2004		June 29, 2003		June 30, 2002
United States	17	%	20	%	35	%
Malaysia	23	%	28	%	23	%
Japan	33	%	24	%	14	%
Other Asian Countries	21	%	21	%	20	%
Europe	6	%	7	%	8	%

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June 27, 2004

The Company has derived its product and contract revenue from sales to 10% customers as follows:

	Year ended
	June 27, 2004		June 29, 2003		June 30, 2002
Sumitomo Corporation	33	%	24	%	14	%
OSRAM Semiconductors GmbH	13	%	21	%	19	%
Agilent Corporation	13	%	10	%	9	%
Remec, Inc. (purchased Spectrian Corporation)	1	%	1	%	16	%
U.S. Government	9	%	12	%	12	%

In May 2004, the Company amended and restated its supply agreement with Sumitomo extending the term of the agreement to 2007. The amount of Sumitomo’s purchase commitment for fiscal 2005 is $160 million, subject to adjustments and cancellation provisions and end customer demand. Sumitomo orders cover demand for the Company’s products in Japan and represent sales to approximately 20 LED packagers including Stanley Electronics, Citizen Electronics, Sharp Corporation and Rohm, Inc. The Company also has a purchase agreement with OSRAM that expires in June 2005. Agilent sales are placed with the Company through purchase orders that are received quarterly. The loss of OSRAM, Agilent or any of Sumitomo’s large customers could have a material adverse effect on the Company.

The Company depends on single or limited source suppliers for a number of raw materials, equipment and components used in manufacturing its products. Any interruption in the supply of these key materials or components could have a significant adverse effect on the Company’s operations.

Investments

Investments are accounted for using the specific identification method and in accordance with Statement of Financial Accounting Standards 115 “Accounting for Certain Investments in Debt and Equity Securities” (“SFAS 115”). 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 or losses excluded from earnings and reported as a separate component of shareholders’ equity.

Earnings (Loss) Per Share

Basic earnings (loss) per common share is computed using the weighted average number of common stock shares outstanding. Diluted earnings (loss) per common share is computed using the weighted average number of common stock shares outstanding adjusted for the incremental shares attributed to outstanding options and warrants to purchase common stock, unless such incremental shares would be antidilutive.

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June 27, 2004

Accounting for Stock Based Compensation

In accordance with Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”), no compensation expense is recorded for stock options or other stock-based awards that are granted to employees with an exercise price equal to or above the common stock price on the grant date.

In October 1995, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards 123, “Accounting for Stock Based Compensation” (“SFAS 123”). SFAS 123 establishes fair value as the measurement basis for equity instruments issued in exchange for goods or services and stock-based compensation plans. Fair value may be measured using quoted market prices, option-pricing models or other reasonable estimation methods. SFAS 123 permits the Company to choose between adoption of the fair value based method or disclosing pro forma net income (loss) information. The Statement is effective for transactions entered into after December 31, 1995. The Company continues to account for stock-based compensation in accordance with APB 25, as amended, and provides the pro forma disclosures required by SFAS 123 as amended by Statements of Financial Accounting Standards 148 “Accounting for Stock-Based Compensation Incentive and Disclosure” (“SFAS 148”).

Pro forma information regarding net income (loss) and net income (loss) per share is required by SFAS 123. The Company computes fair value for this purpose using the Black-Scholes option valuation model. The Black-Scholes model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions, including the expected stock price volatility. The Company’s options have characteristics significantly different from traded options, and the input assumptions used in the model can materially affect the fair value estimate. The assumptions used in this model to estimate fair value and resulting values are as follows:

	Stock Option Plans									Employee Stock Purchase Plan
	June 27, 2004			June 29, 2003			June 30, 2002			June 27, 2004			June 29, 2003			June 30, 2002
Expected dividend yield		0.0	%		0.0	%		0.0	%		0.0	%		0.0	%		0.0	%
Risk-free interest rate		3.4	%		2.8	%		4.6	%		1.3	%		1.2	%		2.2	%
Expected volatility		70.0	%		90.0	%		90.0	%		70.0	%		90.0	%		90.0	%
Expected life (in years)		5.5			5.0			4.8			0.8			0.8			0.8
Weighted-average fair value per share	$	12.51		$	9.64		$	14.52		$	7.36		$	8.96		$	6.50

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June 27, 2004

The following table illustrates the effect on net income (loss) and net income (loss) per share if the Company had applied the fair value recognition provisions of SFAS 123 (in thousands, except per share amounts):

	Year ended
	June 27, 2004			June 29, 2003			June 30, 2002
Net income (loss), as reported	$	57,960		$	34,901		$	(101,723	)
Add: Stock-based employee compensation expense included in reported net income (loss), net of related tax effects		152			317			341
Deduct: Stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects		(32,174	)		(44,865	)		(62,269	)
Pro forma net income (loss)	$	25,938		$	(9,647	)	$	(163,651	)
Basic earnings (loss) per share as reported	$	0.78		$	0.48		$	(1.40	)
Pro forma basic net income (loss) per share	$	0.35		$	(0.13	)	$	(2.25	)
Diluted earnings (loss) per share as reported	$	0.77		$	0.46		$	(1.40	)
Pro forma diluted net income (loss) per share	$	0.34		$	(0.13	)	$	(2.25	)

Income Taxes

Income taxes have been accounted for using the liability method in accordance with Statement of Financial Accounting Standards 109 “Accounting for Income Taxes” (“SFAS 109”). Deferred tax assets and liabilities are recognized for the expected tax consequences of temporary differences between the tax bases of assets and liabilities and their reported amounts.

3.    Earnings (Loss) Per Share

The following computation reconciles the differences between the basic and diluted earnings per share presentations:

	Year Ended (in 000’s, except per share data)
	June 27, 2004		June 29, 2003		June 30, 2002
Basic:
Net income (loss)	$	57,960	$	34,901	$	(101,723	)
Weighted average common shares		74,008		73,196		72,718
Basic earnings (loss) per share	$	0.78	$	0.48	$	(1.40	)
Diluted:
Net income (loss)	$	57,960	$	34,901	$	(101,723	)
Weighted average common shares-basic		74,008		73,196		72,718
Dilutive effect of stock options and warrants		1,737		2,107		—
Weighted average common shares-diluted		75,745		75,303		72,718
Diluted earnings (loss) per share	$	0.77	$	0.46	$	(1.40	)

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June 27, 2004

Potential common shares that would have the effect of increasing diluted earnings per share are considered to be antidilutive. In accordance with Statement of Financial Accounting Standards 128, “Earnings Per Share”, (“SFAS 128”) these shares were not included in calculating diluted earnings per share. As of June 27, 2004, June 29, 2003 and June 30, 2002, there were 7.7 million, 9.2 million and 10.4 million shares, respectively, that are not included in calculating diluted earnings per share because their effect was antidilutive.

4.    Accounts Receivable, Net

The following is a summary of the components of accounts receivable, net:

	As of (in 000’s)
	June 27, 2004			June 29, 2003
Billed trade receivables	$	44,972		$	42,702
Unbilled contract receivables		3,592			1,843
		48,564			44,545
Allowance for sales returns		(798	)		(644	)
Total accounts receivable, net	$	47,766		$	43,901

The following table summarizes the changes in the Company’s allowance for sales returns for the years ended June 27, 2004, June 29, 2003 and June 30, 2002:

	Year Ended (in 000’s)
	June 27, 2004		June 29, 2003		June 30, 2002
Balance at beginning of year	$	644	$	455	$	350
Charges to cost and expenses		154		189		105
Balance at end of year	$	798	$	644	$	455

5.    Inventories, Net

The following is a summary of inventories:

	As of (in 000’s)
	June 27, 2004			June 29, 2003
Raw materials	$	4,227		$	4,410
Work-in-progress		8,083			5,397
Finished goods		7,813			9,944
		20,123			19,751
Inventory reserve		(695	)		(2,077	)
Total inventories, net	$	19,428		$	17,674

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June 27, 2004

The following table summarizes the changes in the Company’s inventory reserve for the years ended June 27, 2004, June 29, 2003 and June 30, 2002:

	Year Ended (in 000’s)
	June 27, 2004			June 29, 2003			June 30, 2002
Balance at beginning of year	$	2,077		$	2,295		$	793
Charges to cost and expenses		510			2,659			6,234
Disposals (write-offs to reserve)		(1,892	)		(2,877	)		(4,732	)
Balance at end of year	$	695		$	2,077		$	2,295

The majority of the inventory reserve at Cree Microwave as of June 29, 2003 was recorded during the second quarter of fiscal 2003 resulting from the termination of the supply agreement with Spectrian Corporation (Spectrian). In exchange for a one-time payment of $5.0 million recorded as “other operating income” on the consolidated statements of operations, the Company relieved Spectrian of further obligations to purchase product under the supply agreement that was originally signed in December 2000. For the three months ended December 29, 2002, Cree Microwave recorded an additional reserve of $1.3 million for inventory targeted for sale to Spectrian, which included some customized parts. The Company destroyed the majority of the inventory reserved during fiscal 2003 and 2004, and as a result, the related items were taken out of inventory and the related reserve. There was no financial impact to the consolidated statements of operations when these items were destroyed. The Company still maintains some inventory included in the reserve that are no longer available from third party suppliers or are available only with lengthy lead timeframes. The Company also has “last time buy” contracts with Remec, Inc. (which purchased Spectrian) for devices that use this inventory. However, the Company plans to dispose of this remaining inventory when the “last time buy” rights expire. Therefore, with the exception of certain inventory covered under “last time buy” obligations, all items previously reserved have now been scrapped and removed from inventory along with the related reserve account. These reserves were recorded as a cost of revenue when they were established. In addition, $417,000 of LDMOS8 product was also written off as a research and development expenditure during the first quarter of fiscal 2003 as it related to prototype devices that were initially accepted by Spectrian and later rejected. These parts were never sold.

Cree segment results for fiscal 2003 include a $784,000 additional reserve for LED and wafer inventories; as management assessed the inventory to be slow moving or obsolete. The Company also recorded a $185,000 lower of cost or market adjustment to certain LED products based on management’s estimate of an average sales price for the products. These adjustments were recorded to cost of revenue. During fiscal 2003, the Company also wrote off $1.0 million of the initial XBright^® chips that were developed during fiscal 2002. An improved chip had replaced these devices and this write-down was recorded as a research and development expense as the initial devices were prematurely launched and not commercially viable. In addition, customers had returned the entire product line that was initially shipped after determining that the chips did not meet their specifications.

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June 27, 2004

6.    Property and Equipment, Net

The following is a summary of property and equipment:

	As of (in 000’s)
	June 27, 2004			June 29, 2003
Furniture and fixtures	$	6,736		$	5,552
Land and buildings		116,523			99,917
Machinery and equipment		267,727			210,872
Computer hardware and software		9,023			7,160
Leasehold improvements & other		5,691			5,903
		405,700			329,404
Accumulated depreciation		(162,887	)		(111,483	)
		242,813			217,921
Construction in progress		30,529			33,425
Property and equipment, net	$	273,342		$	251,346

Depreciation and amortization of property and equipment totaled $54.6 million, $41.7 million and $32.4 million for the years ended June 27, 2004, June 29, 2003 and June 30, 2002, respectively.

7.    Investments

As of June 27, 2004, the Company held a long-term equity investment in the common stock of Color Kinetics, Incorporated (Color Kinetics). In fiscal 2001 and 2002, the Company purchased an aggregate of 2,202,442 shares of Color Kinetics stock in private investment rounds for an aggregate of $12.7 million. On June 22, 2004, the shares of Color Kinetics’ stock were approved for quotation on the Nasdaq National Market. The Company accounts for its shares in Color Kinetics as available-for-sale securities under SFAS 115 because management views the purchase of the shares as a long-term investment and the Company has the intent and the ability to hold these shares. Accordingly, unrealized gains or losses on Color Kinetics’ shares are excluded from earnings and are recorded in other comprehensive income, net of tax. For the year ended June 27, 2004, the Company had recorded a cumulative unrealized holding gain on its investment in Color Kinetics of $9.3 million (or $5.6 million, net of tax). This unrealized gain was based on the fair market value of the Company’s investment as of June 27, 2004 of $22.0 million, using the closing stock price as of June 25, 2004. The Company is restricted from selling its shares in Color Kinetics for a period of 180 days from June 22, 2004, the date of Color Kinetics’ initial public offering and considers its investment in Color Kinetics as a long-term investment. The Company has recorded sales to Color Kinetics of $761,000, $1,681,000 and $164,000 for the fiscal years ended June 27, 2004, June 29, 2003 and June 30, 2002, respectively. The Company does not have any sales contract with Color Kinetics and believes that its sales to Color Kinetics were made on no more favorable terms than to any third party. Color Kinetics also buys LED products from competitors of the Company. As of June 29, 2003, the Company’s investment in Color Kinetics was carried at cost and included in other assets.

During the second quarter of fiscal 2003, the Company sold its remaining positions in Microvision, Inc. (“Microvision”) and Emcore Corporation (“Emcore”), two publicly traded companies. The Company recorded a charge through non-operating expense on the consolidated statements of operations in June 2002, for an other-than-temporary decline in value, which reduced the value of the Microvision investment to

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June 27, 2004

$1.9 million, which was the market value as of June 28, 2002. These shares were sold during the three months ended December 29, 2002 for $1.9 million, with a net loss on the sale recognized for $36,000 during the second quarter of fiscal 2003.

During the second quarter of fiscal 2003, the Company also sold 691,000 common shares of Emcore. These shares were purchased between June 2001 and October 2001. The Company recorded a charge through non-operating expense on the consolidated statements of operations in June 2002, for an other-than-temporary decline in value, which reduced the value of this investment to $4.1 million, which was the market value as of June 28, 2002. These shares were sold during the three months ended December 29, 2002 for $2.1 million, with a net loss on the sale recognized for $2.0 million during the second quarter of fiscal 2003.

Management viewed both of these investments as strategic in nature, and therefore, the shares were accounted for as available-for-sale securities under SFAS 115. The Company carried these investments at fair value, based on quoted market prices, while unrealized gains and losses, net of taxes, were included in accumulated other comprehensive income (loss), which is a separate component of shareholders’ equity. Realized gains and losses were recognized upon sale. Declines in value, which were deemed to be other-than-temporary, were recognized as losses on the consolidated statements of operations. The Company reviews equity holdings on a regular basis to evaluate whether or not each security has experienced an other-than-temporary decline in fair value. The Company’s policy requires, among other things, the Company to review each company’s cash position, stock price performance, liquidity, ability to raise capital and management and ownership and other relevant considerations. If the Company determines that an other-than-temporary decline existed in the value of marketable equity securities, it is the Company’s policy to write-down these equity investments to the respective market value. Any related write-down is recorded as an investment loss in the Company’s consolidated statements of operations. In the fourth quarter of fiscal 2002, the Company determined that an other-than-temporary decline in market value had occurred in Microvision and Emcore marketable equity investments. Accordingly, the Company wrote down these equity investments to their market values at June 30, 2002 and recorded the unrealized losses, most of which had previously been recorded as a comprehensive loss in shareholders’ equity, as a non-operating loss on the Company’s consolidated statements of operations for the year then ended. The total amount of the charge to non-operating expenses in the consolidated statements of operations for the year ended June 30, 2002 relating to these investments was $22.0 million on a pre-tax basis. A corresponding amount that would have been recorded through other comprehensive income (loss) was $17.2 million on an after-tax basis. The amount reported through other comprehensive income (loss) on an after-tax basis was $15.8 million as the losses from the June 2002 period were directly charged to non-operating loss on the statement of operations. The Company recorded a combined realized net loss of $2.1 million to non-operating expense in the consolidated statement of operations for the fiscal year ended June 29, 2003 for the sale of these securities. The Company also recorded a $558,000 realized gain on the sale of other marketable trading securities in the second quarter of fiscal 2002.

When the Company performed its review to determine whether an other-than-temporary decline had occurred in the fair value of the Company’s investments in Emcore and Microvision, the Company considered that both investments had been made with a long-term investment horizon. The Emcore stock was determined to have experienced an other-than-temporary decline after Emcore indicated declining revenue as well as charges for write-downs taken in the quarter for inventory and other restructuring charges. Although Emcore’s stock price was less than the Company’s average cost for a period of time at the end of March 2002, the Company determined that the decline was not other-than-temporary at that time in light of the high volatility of Emcore’s stock trading price, the significant potential advancements represented by its core technologies, its growth potential, the overall decline in the NASDAQ market, and the fact that none of the analysts following Emcore downgraded the stock during the quarter ended in March 2002.

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June 27, 2004

The Company determined that the decline in its investment in Microvision was other-than-temporary at June 30, 2002 because the stock began trading negatively when compared to the NASDAQ market at that time. Moreover, a number of analysts forecasted in June 2002 that the technology sector would not rebound until after the third quarter of 2002. Prior to that time, the Microvision stock had traded below the Company’s average cost for a prolonged time but the Company determined that the decline in Microvision’s stock prior to June 30, 2002 was not other-than-temporary for a number of reasons. First, the Company concluded that there were no Microvision specific factors that indicated that Microvision was not executing on its plan as expected. Microvision was incurring losses, but they were expected and the Company concluded that Microvision’s product development efforts were on track. The downward trend in Microvision’s stock price was reflective of the technology sector in general and, to the Company’s knowledge, did not result from reduced expectations of Microvision’s performance. Furthermore, each quarter prior to June 30, 2002, Microvision made public statements positively and aggressively promoting its current results and future prospects. The Company also considered that the Microvision stock price was highly volatile. Thus, the Company concluded that with high volatility and continued positive performance, a rapid rise in the stock price was possible.

The Company weighed these factors against the Microvision stock price decline and the decline in the overall market. The Company noted that the Microvision stock had experienced 100% volatility and that the analysts’ recommendations at the time included upgrades, not merely maintaining a buy rating. As far as the overall market, the events of September 11, 2001 required the Company to determine whether an other-than-temporary decline in the overall market had occurred. In September 2001, it was clear that the market and Microvision’s stock price had reacted to the events of that day. What was not clear, however, was whether the decline caused by September 11 was other-than-temporary. In fact, in the fourth quarter of calendar 2001, both the overall market and Microvision’s stock rose significantly. At year-end, Microvision’s stock price was at its quarterly high, with the prospects that the overall market and the Microvision stock price could continue to improve in the first quarter of calendar 2002. Accordingly, it was not until a number of analysts concluded in June 2002 that the technology sector would not rebound until after the third quarter of 2002 and the Microvision stock price fell below the NASDAQ trendline that the Company concluded that an other-than-temporary decline had occurred in the overall stock market and in the Company’s Microvision investment.

Microvision entered into a contract with the Company to fund a research and development project for custom light emitting diodes, or LEDs, and laser diodes. The amount of funding received by the Company in connection with the contracts was $4.4 million for the fiscal year ended June 30, 2002. The amount of the research and development funding received from Microvision was recorded as an offset to research and development expense. The Company received no funding from Microvision during the fiscal years ending June 27, 2004 and June 29, 2003 as the contract expired during fiscal 2002. The Company does not anticipate additional funding for research and development from this company in the future.

As of June 27, 2004, the Company’s short-term investments held to maturity included $76.7 million in high-grade corporate bonds and other debt securities that mature within one year. As of June 29, 2003, the Company’s short-term investments held to maturity totaled $75.2 million consisting of high-grade corporate bonds and other debt securities that mature within one year. The Company purchased these investments with a portion of the proceeds from its public stock offering in January 2000 and cash flow from operations. The Company has the intent and ability to hold these securities until maturity; therefore, they are accounted for as securities held-to-maturity under SFAS 115. The securities are reported on the consolidated balance sheets at amortized cost, as a short-term investment with unpaid interest included in interest receivable. The Company believes that there is no difference between the amortized cost of these securities and their fair value at the

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

June 27, 2004

time the security is purchased because premiums or discounts are assigned to the securities if a different interest rate is paid than the current prevailing market rate. This premium or discount is amortized or accreted over the remaining life of the security and charged as an increase or decrease to interest income. If interest rates continue to decline, the fair value of the security may be higher than the book value as the interest rate less the premium may be higher than current interest rates. As of June 27, 2004, the Company calculated market value to be less than book value by approximately $0.8 million on combined short-term and long-term asset balances of $149.4 million. The Company does not consider this reduction in value to be other-than-temporary as the market value of these type of securities fluctuates and the Company plans to hold these investments until maturity. At that time, the securities will be redeemed for the full book value. As of June 29, 2003, the Company calculated market value to be in excess of book value by approximately $1.1 million, on combined short-term and long-term asset balances of $134.0 million.

As of June 27, 2004, the Company’s long-term investments held to maturity consisted of $72.7 million in high-grade corporate bond holdings and other debt securities that mature after June 26, 2005. As of June 29, 2003, the Company’s long-term investments held to maturity consisted of $58.8 million in high-grade corporate bond holdings and other debt securities that mature after June 28, 2004. The Company purchased the corporate bonds with a portion of the proceeds from the public stock offering in January 2000 and cash from operations. The Company has the intent and ability to hold these securities until maturity; therefore, they are accounted for as securities held-to-maturity under SFAS 115. The securities are reported on the consolidated balance sheets at amortized cost, as a long-term held to maturity investment with unpaid interest included in interest receivable if interest is due in less than 12 months, and as a long-term other asset if interest is due in more than 12 months. These investments mature over periods ranging from 13 to 36 months.

As of June 27, 2004, the Company maintained $2.9 million of net investments in privately held companies, which are included in other assets on the consolidated balance sheets. Since the Company does not have the ability to exercise significant influence over the operations of these companies, these investment balances are carried at cost and accounted for using the cost method of accounting. Because the shares of stock the Company received in these investments are not publicly traded, there is no established market for these securities. The Company reviews the fair value of these investments on a regular basis to evaluate the carrying value of such investments. This review includes, but is not limited to, an analysis of each of the companies’ cash position, financing needs, earnings and revenue outlook, operational performance, management or ownership changes and competition. The evaluation process is based on information requested from the privately held companies by the Company. These companies are not subject to the same disclosure regulations as U.S. public companies, and as such, the basis for these evaluations is subject to the timing and the accuracy of the data received from these companies. If the Company determines that the carrying value of an investment is at an amount in excess of fair value, it is the Company’s policy to record a write-down of the investment. This write-down is estimated based on the information described above, and it is recorded as an investment loss on the Company’s consolidated statement of operations. During fiscal 2002, the Company recorded write-downs of these investments of $20.4 million pre-tax, representing the Company’s best estimate of other-than-temporary declines in value. These impairment charges were included as an “other non-operating loss” on the consolidated statements of operations. During the fiscal year ended June 29, 2003, there were no additional write-downs taken on these investments and one of the private companies was sold to another company during the second quarter of fiscal 2003 with proceeds of $636,000 received from the sale. The Company’s investment in this company was written down to reflect the fair value based on the expected sales proceeds in the fourth quarter of fiscal 2002. During the fiscal years ended June 27, 2004 or June 29,2003, there were no additional write-downs taken on these investments.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

June 27, 2004

Two of these private companies, of which the Company was a shareholder, entered into contracts to fund development programs conducted by the Company. During the first quarter of fiscal 2003, one of these companies, Lighthouse Technologies, Limited (“Lighthouse”), completed funding of a development program that commenced in a prior year and was directed to the development of brighter LEDs. Another of these companies, Xemod, Inc. (“Xemod”) also commenced a research and development-funding project in a prior year directed to the development of SiC RF transistors. The total amount of funding received by the Company from these companies was zero, $500,000 and $3.5 million for the fiscal years ended June 27, 2004, June 29, 2003 and June 30, 2002, respectively. The amount of the research and development funding received from the companies was recorded as an offset to research and development expense. The Company does not anticipate additional funding from these companies in the future as both programs have now ended.

8.    Accrued Expenses

The following table reflects the components of other accrued expenses:

	As of (in 000’s)
	June 27, 2004		June 29, 2003
Accrued legal fees	$	598	$	444
Accrued taxes		1,118		805
Accrued warranty costs		680		341
Accrued relocation liability for former ATMI business and employees		285		—
Other accrued liabilities		637		497
Total accrued expenses	$	3,318	$	2,087

Accrued expenses include amounts accrued for product warranty expenses at both the Cree, Inc. and Cree Microwave segments. Cree Microwave accrues 0.5% of product revenue as a warranty liability each month and maintains the reserve for 36 months after the date of sale pursuant to our warranty terms with our customers. The Cree segment records warranty expense up to 21 months based on an experience factor for product returns and pursuant to warranty terms with its customers. During fiscal year 2004, approximately $547,000 was accrued for additional warranty expense, while $208,000 was reversed out of the liability due to the use or expiration of the warranty period.

9.    Shareholders’ Equity

As of June 27, 2004, there remained approximately 6.9 million shares of the Company’s common stock approved for repurchase under a repurchase program authorized by the Board of Directors that extends through May 4, 2005. During fiscal year ended June 27, 2004, the Company repurchased 1,828,000 shares at an average price of $19.01 per share with an aggregate value of approximately $34.7 million. Since the inception of the stock repurchase program in January 2001, Cree has repurchased 5.2 million shares of its common stock at an average price of $16.59 per share, with an aggregate value of $85.7 million.

The Company intends to use available cash to finance purchases under the program. 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.

71

CREE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

June 27, 2004

On May 29, 2002, the Company’s Board of Directors adopted a shareholder rights plan, pursuant to which stock purchase rights were distributed to shareholders at a rate of one right with respect to each share of common stock held of record as of June 10, 2002. The rights plan is designed to enhance the board’s ability to prevent an acquirer from depriving shareholders of the long-term value of their investment and to protect shareholders against attempts to acquire the Company by means of unfair or abusive takeover tactics. The rights become exercisable based upon certain limited conditions related to acquisitions of stock, tender offers and certain business combinations involving the Company. The Company amended the Articles of Incorporation to designate 200,000 shares of preferred stock as “Series A Preferred Stock” in connection with the implementation of the shareholders’ rights plan. At June 30, 2002, rights to purchase 100,000 shares of Preferred Stock had been distributed to shareholders.

At June 27, 2004, the Company had reserved a total of 15,886,558 shares of its common stock and 100,000 shares of its Series A preferred stock for future issuance as follows:

	Number of shares
For exercise of outstanding common stock options	13,517,870
For future common stock option awards	2,006,773
For future issuance to employees under the Employee Stock Purchase Plan	361,915
Total common shares reserved	15,886,558
Series A Preferred Stock reserved for exercise of rights issued under shareholders’ rights plan	100,000

10.    Employee Stock Purchase Plan

The Company adopted an Employee Stock Purchase Plan (the “ESPP”) on November 2, 1999. The ESPP provides employees of the Company, and its majority-owned subsidiaries, the opportunity to purchase common stock, through payroll deductions. The purchase price is set at the lower of 85% of the fair market value of common stock at the beginning of the participation period or 85% of the price on the purchase date. Contributions are limited to 15% of an employee’s compensation. The participation periods have a 12-month duration, with new participation periods beginning in November and May of each year. Each participation period has two purchase dates, one in October and the other in April. The Board of Directors has reserved 1,350,000 shares of common stock for issuance under the ESPP. As of June 27, 2004, 988,085 shares of common stock had been purchased under the ESPP.

11.    Stock Options and Stock Warrants

The Company has stock option plans to provide incentives to eligible employees, officers, and directors in the form of non-qualified stock options. The Board of Directors determines the option price (not to be less than fair market value) at the date of grant. Options, particularly those assumed as a result of acquisitions, have various vesting schedules and expiration dates. Most of the options vest and become exercisable over three to five years and have seven to ten year terms.

72

CREE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

June 27, 2004

Stock option activity during the periods ending as indicated is as follows (in 000’s, except per share data):

	June 27, 2004				June 29, 2003				June 30, 2002
	Number of Options		Weighted Average Price		Number of Options		Weighted Average Price		Number of Options		Weighted Average Price
Outstanding—beginning of year	12,804		$	21.77	14,684		$	25.86	13,522		$	26.93
Granted	2,128		$	20.00	1,521		$	13.64	3,375		$	20.48
Exercised	(701	)	$	10.96	(1,093	)	$	8.67	(1,054	)	$	4.01
Forfeited	(713	)	$	25.31	(2,308	)	$	48.65	(1,159	)	$	42.50
Outstanding—end of year	13,518		$	21.86	12,804		$	21.77	14,684		$	25.86
Exercisable—end of year	8,705		$	22.71	6,628		$	21.35	5,947		$	20.39

As permitted by SFAS 123, the Company has elected to follow APB 25 and related interpretations and amendments in accounting for its employee stock option plans. In connection with restricted stock grants and discounted stock options assumed by the Company in its acquisition of Nitres, Inc. (Nitres) on May 1, 2000, the Company recognized compensation expense of $218,000, $478,000 and $515,000 during the years ended June 27, 2004, June 29, 2003 and June 30, 2002, respectively. As of June 27, 2004, June 29, 2003 and June 30, 2002, the Company had deferred compensation balances of zero, $218,000 and $696,000, respectively. This amount represents the difference between the grant price and the deemed fair value of stock and stock options granted previously. As of June 27, 2004, the Company has fully expensed all deferred compensation associated with the acquisition of Nitres.

The Company recognized compensation expense of $175,000 and $50,000 during the fiscal years ended June 27, 2004 and June 29, 2003, respectively as the Company accelerated the vesting of stock options for a terminated employee in connection with the settlement of a lawsuit, and granted stock options to another employee within six months of canceling other stock options held by the employee. Both of these transactions were subject to variable accounting rules. The Company recognized compensation expense and has included zero and $11,000 in deferred compensation as of June 27, 2004 and June 29, 2003, respectively. The aforementioned options were exercised or forfeited during the year ending June 27, 2004.

Selected information regarding stock options as of June 27, 2004 is as follows (in 000’s, except per share data):

	Options Outstanding				Options Exercisable
Range of Exercise Prices	Number of Options	Weighted-Average Remaining Life in Years	Weighted-Average Exercise Price		Number of Options	Weighted-Average Exercise Price
$   0.01-$ 12.49	2,510	3.91	$	4.78	2,234	$	4.22
$ 12.50-$ 18.88	2,946	5.18	$	15.35	1,492	$	16.31
$ 18.89-$ 21.75	2,724	5.58	$	20.06	928	$	20.16
$ 21.76-$ 33.50	2,795	4.53	$	25.09	1,750	$	25.12
$ 34.63-$ 71.53	2,543	6.14	$	44.66	2,301	$	44.00
	13,518	5.07	$	21.86	8,705	$	22.71

73

CREE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

June 27, 2004

On March 17, 2003, the Company made an offer to exchange options to purchase an aggregate of 3,482,128 shares of the Company’s common stock held by eligible employees (“the Offer”). Directors and executive officers were not eligible to participate in the Offer. The options subject to the Offer were granted under the Company’s Equity Compensation Plan and 2001 Stock Option Bonus Plan granted at exercise prices greater than $30.00 per share. On April 12, 2003, the Company accepted for cancellation options to purchase 1,663,600 shares of its common stock, tendered by 91 eligible employees, representing approximately 48% of the options that were eligible to be tendered in the Offer. Subject to the terms and conditions of the Offer, the Company granted new options to purchase approximately 559,998 shares of its common stock on October 13, 2003 in exchange for the options tendered and accepted. The new options were granted under the Company’s Equity Compensation Plan with an exercise price equal to the last sale price of the Company’s common stock reported by the Nasdaq National Market on the new option grant date or $19.88 per share. The new options remained not vested until April 13, 2004. After this date, the vesting schedule of each new option became the same as the corresponding canceled option in percentage terms.

12.    Lease Commitments

The Company currently leases four facilities. These facilities are comprised of both office and manufacturing space. The first facility has a remaining lease term for approximately seven and one half years. The second facility lease expires in approximately six years. The third and fourth leases are for sales offices that expire in June 2005 and July 2005, respectively. The Company is also subject to a transition services agreement with ATMI, pursuant to which ATMI licensed a portion of its facility to the Company for its use through April 2005. All of the remaining lease agreements provide for rental adjustments for increases in base rent (up to specific limits) property taxes and general property maintenance that would be recorded as rent expense if applicable. The Company had subleased a portion of one of its leased facilities to a third party; however, that sublease expired in July 2004.

Rent expense associated with these and other expired operating leases totaled $1.9 million, $1.8 million and $1.7 million for the years ended June 27, 2004, June 29, 2003 and June 30, 2002, respectively. Sublease income was $198,000, $173,000 and $224,000 for the years ended June 27, 2004, June 29, 2003 and June 30, 2002, respectively. Future minimum rentals as of June 27, 2004 under these leases are as follows:

Fiscal Years Ended	Minimum Rental Amount (in 000’s)
June 26, 2005	$	2,103
June 25, 2006		1,671
June 24, 2007		1,669
June 30, 2008		1,669
June 28, 2009		1,669
Thereafter		3,150
Total	$	11,931

During July 2003, Cree entered into an agreement to lease certain research and development equipment to a customer for the following twelve-month period. In May 2004, this agreement was amended and extended for an additional three months. Thereafter, the agreement will continue on a month-to-month basis until cancelled. As of June 27, 2004, the equipment cost is $1.7 million with accumulated depreciation of $976,000. During fiscal 2004, Cree received $484,000 in payments for the lease of this equipment. The future minimum rental income as of June 27, 2004 under this lease is $128,000 for fiscal 2005.

74

CREE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

June 27, 2004

13.    Income Taxes

The Company accounts for its income taxes under the provisions of SFAS 109. Under the asset and liability method of SFAS 109, deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates in effect for the year in which those temporary differences are expected to be recovered or settled. Under SFAS 109, the effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.

The actual income tax expense for the years ended June 27, 2004, June 29, 2003 and June 30, 2002, differed from the amounts computed by applying the U.S. federal tax rate of 35% to pretax earnings as a result of the following:

	Year Ended (in 000’s)
	June 27, 2004			June 29, 2003			June 30, 2002
Federal income tax provision at statutory rate	$	29,258		$	16,507		$	(45,644	)
State tax provision		2,547			318			(3,009	)
Increase (decrease) in income tax expense Resulting from:
Foreign sales corporation		(5,270	)		(1,800	)		—
Investments		—			—			20,562
Research and development		(593	)		(2,285	)		(600	)
Amortization		(406	)		(406	)		—
Other		97			(71	)		—
Income tax expense (benefit)	$	25,633		$	12,263		$	(28,691	)

The following are the components of the provision for income taxes for the years ended June 27, 2004, June 29, 2003 and June 30, 2002:

	Year Ended (in 000’s)
	June 27, 2004		June 29, 2003		June 30, 2002
Current:
Federal	$	4,385	$	1,874	$	(2,200	)
State		955		388		—
		5,340		2,262		(2,200	)
Deferred:
Federal		18,596		9,291		(23,482	)
State		1,697		710		(3,009	)
		20,293		10,001		(26,491	)
Income tax expense (benefit)	$	25,633	$	12,263	$	(28,691	)

75

CREE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

June 27, 2004

The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities are as follows:

	As of (in 000’s)
	June 27, 2004			June 29, 2003
Current deferred tax asset:
Compensation	$	660		$	578
Inventory		1,585			1,068
Bad debt		315			275
Marketable equity securities and other		—			(58	)
Net current deferred tax asset		2,560			1,863
Non current deferred tax asset (liability):
Alternative minimum tax		5,965			2,448
Federal capital loss carryforward		13,916			13,916
Impairments on investments		3,678			3,678
State net operating loss carryforwards		1,384			4,150
Research tax credits		3,849			5,046
Fixed assets		(33,389	)		(16,421	)
Goodwill		26,587			28,898
Unrealized gains on marketable securities		(3,674	)		—
Reserves, state tax credits and other		(4,607	)		(3,187	)
		13,709			38,528
Valuation allowance		(17,594	)		(17,594	)
Net non current deferred tax (liability)		(3,885	)		20,934
Net deferred tax (liability) asset	$	(1,325	)	$	22,797

As of June 27, 2004, the Company has a federal capital loss carryover of $39.8 million and state net economic loss carryovers of approximately $30.9 million. The state net economic loss carryforward will expire beginning in 2011. Research and development tax credits begin to expire in 2011. State incentive tax credits begin to expire in 2004. A valuation allowance has been established on capital loss carryforwards and unrealized losses on certain securities as the Company believes that it is more likely than not that the tax benefits of the items will not be realized.

It is the Company’s policy to establish reserves for taxes that may become payable in future years, and it currently has a reserve of $8.5 million for such deferred tax liabilities. The Company establishes the reserves based upon management’s assessment of exposure associated with the tax return deduction. The Company analyzes the tax reserves at least annually and makes adjustments as events occur that warrant adjustment to the reserve. For example, if the statutory period for assessing tax on a given tax return lapses, the Company expects to reduce the reserve associated with that period. Similarly, if tax authorities provide administrative guidance or a decision is rendered in the courts, the Company makes appropriate adjustments to the tax reserve. The tax reserve was unchanged in fiscal 2004. The tax reserve increased by $3.0 million for the year ended June 29, 2003.

76

CREE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

June 27, 2004

14.    Contingencies

In re Cree, Inc. Securities Litigation

Between June 16 and August 18, 2003, nineteen purported class action lawsuits were filed in the United States District Court for the Middle District of North Carolina by certain alleged purchasers of the Company’s stock. The lawsuits names the Company, certain of its officers and current and former directors as defendants. On December 17, 2003, the court entered an order consolidating these actions and appointing a lead plaintiff and lead counsel for the consolidated cases. The lead plaintiff filed a consolidated amended complaint on January 16, 2004. The amended complaint asserts, among other claims, violations of federal securities laws, including violations of Section 10(b) of the Securities Exchange Act of 1934, as amended, and Rule 10b-5, and violations of Section 20(a) and Section 18 of the Exchange Act against the individual defendants and also asserts claims against certain of the Company’s officers under Section 304 of the Sarbanes-Oxley Act of 2002. The amended complaint alleges that the Company made false and misleading statements concerning its investments in certain public and privately held companies, its acquisition of the UltraRF division of Spectrian, its supply agreement with Spectrian, its agreements with Charles & Colvard, and its employment relationship with Eric Hunter and that the Company’s financial statements did not comply with the requirements of the securities laws during the class period. The amended complaint requests certification of a plaintiff class consisting of purchasers of Cree stock between August 12, 1998 and June 13, 2003 and seeks, among other relief, unspecified damages and disgorgement of profits by the individual defendants, plus costs and expenses, including attorneys’, accountants’ and experts’ fees. In February 2004, we moved that the court dismiss the consolidated amended complaint on the grounds that it fails to state a claim upon which relief can be granted and does not satisfy the pleading requirements under applicable law. The motion is currently pending.

The Company believes that the claims set forth in the amended complaint are without merit. However, the Company is unable to predict the final outcome of these matters with certainty. The Company’s failure to successfully defend against these allegations could have a material adverse effect on our business, financial condition and results of operations.

SEC and Nasdaq Inquiries

In July 2003, the SEC initiated an informal inquiry regarding the Company and requested that the Company voluntarily provides certain information. The Company has cooperated with the SEC in this informal inquiry. In August 2003, the Nasdaq National Market (Nasdaq) requested information from the Company regarding the informal inquiry being conducted by the SEC and its then pending litigation, and the Company has provided information to Nasdaq in response to these requests. The Company is unable to predict whether these inquiries will continue or result in any adverse action.

Other Matters

The Company is currently a party to other legal proceedings incidental to its business. Although the final resolution of these other matters cannot be predicted with certainty, management’s present judgment is that the final outcome of these matters will not likely have a material adverse effect on the Company’s consolidated financial condition or results of operations. If an unfavorable resolution occurs in these legal proceedings, the Company business, results of operations and financial condition could be materially adversely affected.

77

CREE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

June 27, 2004

15.    Retirement Plan

The Company maintains an employee benefit plan (“the Plan”) pursuant to Section 401(k) of the Internal Revenue Code. Under the Plan, there is no fixed dollar amount of retirement benefits, and actual benefits received by employees will depend on the amount of each employee’s account balance at the time of retirement. All employees are eligible to participate under the Plan on the first day of a new fiscal month after date of hire. The Pension Benefit Guaranty Corporation does not insure the Plan. The Company may, at its discretion, make contributions to the Plan. However, the Company did not make any contributions to the Plan during the years ended June 27, 2004, June 29, 2003 and June 30, 2002.

16.    Recent Accounting Pronouncements

Effective July 1, 2002, the Company adopted Statement of Financial Accounting Standards No. 142, “Goodwill and Other Intangible Assets”, (“SFAS 142”). Under SFAS 142, goodwill and intangible assets with indefinite lives are no longer amortized but are reviewed annually, or more frequently if impairment indicators arise for impairment. Separable intangible assets that are not deemed to have an indefinite life will continue to be amortized over their estimated useful lives. The non-amortization provisions of SFAS 142 apply to goodwill and indefinite lived intangible assets acquired after June 30, 2001. In March 2002, the Company wrote-off all of its existing goodwill and intangible assets and in April 2002 ceased amortizing goodwill and intangible assets. The Company has not recorded any new goodwill or intangible assets since the write-off.

Actual results of operations and proforma results of operations for the years ended June 27, 2004, June 29, 2003 and June 30, 2002 had we applied the non-amortization provisions of SFAS 142 in the period are as follows:

	Year Ended
	June 27, 2004		June 29, 2003		June 30, 2002
	(in 000’s, except per share data)
Reported net income (loss)	$	57,960	$	34,901	$	(101,723	)
Goodwill and intangible asset amortization, net of tax		—		—		5,277
Pro forma net income (loss)	$	57,960	$	34,901	$	(96,446	)
Basic net income (loss) per share:
Reported net income (loss)	$	0.78	$	0.48	$	(1.40	)
Goodwill and intangible asset amortization, net of tax		—		—		0.07
Pro forma net income (loss)	$	0.78	$	0.48	$	(1.33	)
Diluted net income (loss) per share:
Reported net income (loss)	$	0.77	$	0.46	$	(1.40	)
Goodwill and intangible asset amortization, net of tax		—		—		0.07
Pro forma net income (loss)	$	0.77	$	0.46	$	(1.33	)

In January 2003, the FASB issued Interpretation No. 46, “Consolidation of Variable Interest Entities” (“FIN 46”), an interpretation of Accounting Research Bulletin (ARB) No. 51, which requires a new approach in determining if a reporting entity should consolidate certain legal entities, including partnerships, limited liability companies, or trusts, among others, collectively defined as variable interest entities, or VIE’s. A legal entity is considered a VIE if it does not have sufficient equity at risk to finance its own activities

78

CREE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

June 27, 2004

without relying on financial support from other parties. If the legal entity is a VIE, then the reporting entity that is the primary beneficiary must consolidate it. Even if a reporting entity is not obligated to consolidate a VIE, then certain disclosures must be made about the VIE if the reporting entity has a significant variable interest. Certain transaction disclosures are required for all financial statements issued after January 31, 2003. The on-going disclosure and consolidation requirements are effective for all interim financial periods beginning after March 31, 2004. The Company completed its evaluation and has not identified any VIE’s. Therefore, the adoption of FIN 46 did not impact our results of operations or financial position.

17.    Quarterly Results of Operations—Unaudited

The following is a summary of the Company’s consolidated quarterly results of operations for each of the fiscal years ended June 27, 2004 and June 29, 2003 (in thousands, except per share data).

	September 28, 2003		December 28, 2003			March 28, 2004		June 27, 2004		Fiscal Year 2004
Net revenue	$	66,211	$	72,684		$	77,113	$	90,862	$	306,870
Cost of revenue		37,995		38,839			38,282		43,338		158,454
Net income		8,879		13,007			15,089		20,985		57,960
Earnings per share:
Basic	$	0.12	$	0.18		$	0.20	$	0.28	$	0.78
Diluted	$	0.12	$	0.17		$	0.20	$	0.28	$	0.77
	September 29, 2002		December 29, 2002			March 30, 2003		June 29, 2003		Fiscal Year 2003
Net revenue	$	48,811	$	56,727		$	60,223	$	64,061	$	229,822
Cost of revenue		30,106		33,187	(1)		32,176		35,183		130,652
Net income		3,883		8,996	(2)		10,631		11,391		34,901
Earnings per share:
Basic	$	0.05	$	0.12		$	0.15	$	0.16	$	0.48
Diluted	$	0.05	$	0.12		$	0.14	$	0.15	$	0.46

(1) Includes a $1.3 million write-down of inventory at Cree Microwave due to the termination of the supply agreement with Spectrian.

(2) Includes a $5.0 million pre-tax ($3.7 million after-tax) one-time gain as we received a payment from Spectrian associated with the termination of the supply agreement between Spectrian and Cree Microwave.

79

Item 9.    Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

None.

Item 9A.    Controls and Procedures

Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934), as amended (the “Exchange Act”) as of the end of the period covered by this Form 10-K. Based on such evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of the end of the period covered by Form 10-K, our disclosure controls and procedures provide reasonable assurances that the information we are required to disclose in the reports we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time period required by the United States Securities and Exchange Commission’s rules and forms. From time to time, we make changes to our internal controls over financial reporting that are intended to enhance the effectiveness of our internal controls and which do not have a material effect on our overall internal controls. We will continue to evaluate the effectiveness of our disclosure controls and procedures and internal controls over financial reporting on an ongoing basis and will take action as appropriate There have been no changes in our internal controls over financial reporting as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act during the fourth quarter of fiscal 2004 that we believe materially affected, or will be reasonably likely to materially affect, our internal controls over financial reporting.

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PART III

Certain information called for in items 10, 11,12, 13 and 14 is incorporated by reference from our definitive proxy statement relating to our annual meeting of shareholders, which will be filed with the Securities and Exchange Commission within 120 days after the end of fiscal 2004.

The Company has adopted a Code of Ethics applicable to its senior financial officers, including its Chief Executive Officer and Chief Financial Officer. The full text of our Code of Ethics is published on our website at www.cree.com. The Company intends to disclose future amendments to, or waivers from, the Code of Ethics consistent with Item 5.05 of Form 8-K on its web site within four business days following the date of such amendment or waiver. The Company will also provide a copy of our Code of Ethics to any person, without charge. All such requests should be in writing and sent to the attention of the Manager, Investor Relations and Corporate Communications, Cree, Inc. 4600 Silicon Drive, Durham, NC 27703.

Item 10.    Directors and Executive Officers

Item 11.    Executive Compensation

Item 12.    Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

Equity Compensation Plans

The following table provides information, as of June 27, 2004, for all of the Company’s compensation plans (including individual compensation arrangements) under which we are authorized to issue equity securities.

Equity Compensation Plan Information

Plan Category	(a) Number of securities to be issued upon exercise of outstanding options, warrants and rights (1)		(b) Weighted average exercise price of outstanding options, warrants and rights		(c) Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a))(1)
Equity compensation plans approved by security holders	10,522,961	(2)	$	22.57	2,368,688	(3)
Equity compensation plans not approved by security holders	2,994,909	(4)	$	19.39	—
Total	13,517,870		$	21.86	2,368,688

(1) Refers to shares of the Company’s common stock. All amounts are as of June 27, 2004.

(2) Includes shares issuable upon exercise of outstanding options under the following plans in the amounts indicated: Equity Compensation Plan—10,342,961 shares; and Stock Option Plan for Non-Employee Directors—180,000 shares.

(3) Includes shares remaining for future issuance under the following plans in the amounts indicated: Equity Compensation Plan—2,006,773 shares and 1999 Employee Stock Purchase Plan—361,915 shares.

(4) Includes shares issuable upon exercise of outstanding options under the following plans in the amounts indicated: 2001 Nonqualified Stock Option Plan—2,622,283 shares; Fiscal 2002 Stock Option Bonus Plan—48,237 shares; Fiscal 2001 Stock Option Bonus Plan—220,075 shares; and Nitres, Inc. 1999 Stock Option/Issuance Plan—104,314 shares. The options outstanding under the Nitres, Inc. 1999 Stock Option/Issuance Plan, which have a weighted average exercise price of $0.005 per share, were assumed by the Company in connection with its acquisition of Nitres, Inc. in May 2000.

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Other than the 1999 Employee Stock Purchase Plan, the only compensation plans or arrangements under which the Company is authorized to issue equity securities are the following (collectively, the “Option Plans”): (1) the Equity Compensation Plan; (2) the 2001 Nonqualified Stock Option Plan; (3) the Fiscal 2002 Stock Option Bonus Plan; (4) the Fiscal 2001 Stock Option Bonus Plan; (5) the Stock Option Plan for Non-Employee Directors; and (6) options assumed under the Nitres, Inc. 1999 Stock Option/Issuance Plan in connection with the Company’s acquisition of Nitres, Inc. in May 2000. The only Option Plan under which the Company remains authorized to make future awards is the Equity Compensation Plan.

The 1999 Employee Stock Purchase Plan and all of the Option Plans, have been previously approved by the shareholders with the exception of the 2001 Nonqualified Stock Option Plan, the two Stock Option Bonus Plans, and the options assumed under the Nitres, Inc. 1999 Stock Option/Issuance Plan. The Equity Compensation Plan was originally adopted by the Board of Directors in 1989 and approved by the shareholders in 1995. As permitted by its terms, the Equity Compensation Plan was amended by the Board of Directors in 1999 and 2000, without a shareholder vote, to authorize an additional 859,800 shares for nonqualified stock option grants to newly hired employees where the grants were deemed essential to induce such individuals to accept employment with the Company. A further amendment of the Equity Compensation Plan, increasing the shares authorized for issuance under the plan since its adoption to a total of 19,819,800 shares (including the 859,800 shares previously authorized by the Board of Directors) was approved by the shareholders in October 2000.

The following description of the Company’s Option Plans is merely a summary of some of their respective terms and provisions, is not intended to be a complete description and is qualified in its entirety by reference to the full text of the applicable plan.

Option Plans—General.    The Option Plans are administered under the direction of the Compensation Committee of the Board of Directors, which is comprised entirely of directors not employed by the Company. The Committee has broad discretion to determine the terms and conditions of options granted under the Option Plans and must approve, among other things, recommendations regarding grants and grant guidelines with respect to: (1) the individuals to whom option grants are to be made; (2) the time or times at which options are granted; (3) the number of shares subject to each option; (4) the vesting terms of each option; and (5) the term of each option. The Option Plans prohibit the grant of options with an exercise price less than the fair market value of the Company’s common stock on the date of grant.

Each of the Option Plans provides that the option price, as well as the number of shares subject to options granted or to be granted under the plan, shall be appropriately adjusted in the event of any stock split, stock dividend, recapitalization or other specified events involving a change in the capitalization of the Company. The terms of the Option Plans generally permit the Board of Directors to amend or terminate the plans, provided that no modification or termination may adversely affect prior awards without the participant’s approval and subject, in the case of the Equity Compensation Plan, to obtaining shareholder approval to the extent required for incentive stock option grants under Section 422 of the Internal Revenue Code (the “Code”).

Equity Compensation Plan.    The Equity Compensation Plan provides for grants to participants in the form of both incentive stock options and nonqualified stock options. Incentive stock options are awards intended to qualify for certain favorable tax treatment under Section 422 of the Code. To date no incentive stock options have been granted under the plan and none are presently contemplated. The Compensation Committee has the exclusive right to determine those persons eligible to participate in the Equity Compensation Plan. Subject to the foregoing, any of the Company’s employees (including employees of our controlled subsidiaries) or any other person, including directors, may participate in the Equity Compensation Plan if the Committee determines such participation is in the best interest of the Company. As of June 27, 2004, there were outstanding nonqualified stock options to purchase 10,342,961 shares, and 2,006,773 shares remained available for future awards under the plan. During fiscal 2004, options to purchase a total of 2,128,248 shares were granted under the Equity Compensation Plan at an average exercise price of $20.00 per share.

82

Non-Employee Director Stock Option Plan.    The Stock Option Plan for Non-Employee Directors (the “Director Plan”) was adopted by the Board of Directors and approved by the shareholders in 1995. The Director Plan provided for fixed annual grants to the Company’s non-employee directors of nonqualified stock options to purchase shares of the Company’s common stock. The Director Plan was terminated as to future grants in 1997. As of June 27, 2004, there were options to purchase 180,000 shares outstanding under the Director Plan.

2001 Nonqualified Stock Option Plan.    The 2001 Nonqualified Stock Plan (the “Nonqualified Plan”) was adopted by the Board of Directors in April 2001. The Nonqualified Plan provided for grants to eligible participants of nonqualified stock options to purchase shares of the Company’s common stock. None of the Company’s directors or officers were eligible to receive awards under the Nonqualified Plan. The Nonqualified Plan terminated as to additional grants in January 2003. As of June 27, 2004, there were options to purchase 2,622,283 shares outstanding under the Nonqualified Plan.

Fiscal 2001 and Fiscal 2002 Stock Option Bonus Plans.    The Board of Directors adopted the Fiscal 2001 Stock Option Bonus Plan (“Fiscal 2001 Bonus Plan”) in October 1999 in order to provide for grants of nonqualified stock options to the Company’s eligible employees (including employees of its controlled subsidiaries) for each quarter of fiscal 2001 if the Company achieved pre-established financial targets for the quarter. None of the Company’s directors or officers were eligible to receive awards under the plan, and employees participating in the Company’s cash incentive compensation programs did not participate in the plan. Participants in the Fiscal 2001 Bonus Plan received stock option grants for all four quarters of fiscal 2001 representing rights to purchase a total of 372,400 shares at an average exercise price of $27.85 per share. The Fiscal 2001 Bonus Plan terminated as to additional grants in September 2001. As of June 27, 2004, there were options to purchase 220,075 shares outstanding under the Fiscal 2001 Bonus Plan.

The Fiscal 2002 Stock Option Bonus Plan (“Fiscal 2002 Bonus Plan”) was adopted by the Company’s Board of Directors in July 2001 with substantially the same terms as the Fiscal 2001 Bonus Plan. Under the Fiscal 2002 Bonus Plan, participants received only the first of the four potential option grants for fiscal 2002, with the options awarded representing rights to purchase a total of 84,306 shares at an average exercise price of $18.75 per share. The Fiscal 2002 Bonus Plan terminated as to additional grants in September 2002. As of June 27, 2004, there were options to purchase 48,237 shares outstanding under the Fiscal 2002 Bonus Plan.

Nitres, Inc. 1999 Stock Option/Issuance Plan.    In connection with the acquisition of Nitres, Inc. in May 2000, pursuant to which Nitres became a wholly-owned subsidiary of the Company and changed its name to Cree Lighting Company, the Company assumed certain outstanding stock options granted under the Nitres, Inc. 1999 Stock Option/Issuance Plan (the “Nitres Plan”). Since the closing of the acquisition, no additional stock options have been awarded, nor are any authorized to be awarded, under the Nitres Plan. As of June 27, 2004, there were 104,314 nonqualified stock options outstanding under the Nitres Plan.

Item 13.    Certain Relationships and Related Transactions

Item 14.    Principal Accountant Fees and Services

83

PART IV

Item 15.    Exhibits, Financial Statement Schedules, and Reports on Form 8-K

(a) (1) and (2) Financial statements and financial statement schedule—the financial statements and reports of independent auditors are filed as part of this report (see index to Consolidated Financial Statements at Part II Item 8). The financial statement schedules are not included in this item as they are either not applicable or are included as part of the consolidated financial statements.

(a) (3) The following exhibits have been or are being filed herewith and are numbered in accordance with Item 601 of Regulation S-K:

Exhibit No.	Description
3.1	Articles of Incorporation, as amended (1)
3.2	Bylaws, as amended (2)
4.1	Specimen Common Stock Certificate (1)
4.2	Rights Agreement dated as of May 30, 2002 between the Company and American Stock Transfer & Trust Company, including the form of Rights Certificate and the Summary of Rights to Purchase Preferred Stock, attached thereto as Exhibits B and C, respectively (3)
10.1	Equity Compensation Plan, as amended and restated December 1, 2000 (4)*
10.2	Stock Option Plan for Non-Employee Directors (terminated as to future grants pursuant to Board action dated September 1, 1997) (5)*
10.3	Nitres, Inc. 1999 Stock Option/Issuance Plan (terminated as to future grants—following the acquisition of Nitres, Inc. by the Registrant effective May 1, 2000) (1)*
10.4	2001 Nonqualified Stock Option Plan (plan expired in January 2003) (1)*
10.5	Fiscal 2001 Stock Option Bonus Plan (plan expired September 30, 2001) (1)*
10.6	Fiscal 2002 Stock Option Bonus Plan (plan expired September 30, 2002) (1)*
10.7	Management Incentive Compensation Program—Fiscal Year 2001 Plan (4)*
10.8	Fiscal 2002 Management Incentive Plan (6)*
10.9	Fiscal Year 2003 Management Incentive Plan (7)*
10.10	Fiscal 2004 Management Incentive Compensation Plan (8)*
10.11	License Agreement between the Company and North Carolina State University, dated December 3, 1987 (9)
10.12	Amendment to License Agreement between the Company and North Carolina State University, dated September 11, 1989 (9)
10.13	Sublease Agreement, dated December 29, 2000, between Zoltar Acquisition Inc. (now Cree Microwave, Inc.) and Spectrian Corporation (10)
10.14	Purchase and Supply Agreement, dated December 29, 2000, between Spectrian Corporation and Zoltar Acquisition, Inc. (now Cree Microwave, Inc.) (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.15	Amendment of Purchase and Supply Agreement, dated October 19, 2001, between Spectrian Corporation and UltraRF, Inc. (now Cree Microwave, Inc.) (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)

84

Exhibit No.	Description
10.16	Amendment No. 2 to Purchase and Supply Agreement, effective as of March 31, 2002, between Spectrian Corporation and UltraRF, Inc. (now Cree Microwave, Inc.) (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.17	Settlement Agreement and Release, effective as of November 15, 2002, among Spectrian Corporation, the Company and Cree Microwave, Inc. (8)
10.18	Letter Agreement, dated January 31, 1996, between C3 Diamante, Inc. and the Company (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.19	Letter Agreement, dated February 12, 1996, between C3 Diamante, Inc. and the Company (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.20	Amended and Restated Exclusive Supply Agreement, effective as of June 6, 1997, between C3, Inc. and the Company (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.21	Letter Agreement, dated July 14, 1997, between C3, Inc. and the Company (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.22	Letter Agreement, dated July 14, 1997, between C3, Inc. and the Company (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.23	Letter Agreement, dated August 5, 2002, between Charles & Colvard, Ltd. and Cree, Inc. (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.24	Contract No. N00014-02-C-0302, dated June 28, 2002, between the Company and the Office of Naval Research, as amended (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.25	Contract No. N00014-02-C-0306, dated June 28, 2002, between the Company and the Office of Naval Research, as amended (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.26	Contract No. N00014-02-C-0250, dated July 3, 2002, between the Company and the Office of Naval Research, as amended (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.27	Contract No. F33615-99-C-5316, dated August 30, 1999, between the Company and Air Force Research Laboratories, as amended (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.28	Contract No. DAAD17-02-C-0073, dated March 20, 2002, between the Company and US Army Robert Morris Acquisition Center, as amended (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)

85

Exhibit No.	Description
10.29	Letter Agreement, dated December 14, 2003, between Charles & Colvard, Ltd. and the Company (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (11)
10.30	Amendment to Contract No. N00014-02-C-0302, dated December 23, 2003, between the Company and the Office of Naval Research (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission)
10.31	Amendment to Contract No. N00014-02-C-0302, dated June 30, 2004, between the Company and the Office of Naval Research (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission)
10.32	Amendment to Contract No. N00014-02-C-0306, dated December 23, 2003, between the Company and the Office of Naval Research (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission)
10.33	Cooperative Agreement (Agreement No. W911NF-04-2-0021), dated April 29, 2004, between the Company and the U.S. Army Research Laboratory (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission)
10.34	Cooperative Agreement (Agreement No. W911NF-04-2-0022), dated May 13, 2004, between the Company and the U.S. Army Research Laboratory (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission)
10.35	Amended and Restated Distributorship Agreement, dated May 14, 2004, between the Company and Sumitomo Corporation (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission)
10.36	Letter Agreement, dated July 12, 2004, between the Company and Sumitomo Corporation (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission)
21.1	Subsidiaries of the Registrant
23.1	Consent of Registered Public Accounting Firm
31.1	Certification by Chief Executive Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2	Certification by Chief Financial Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1	Certification by Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2	Certification by Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

  (1) Incorporated by reference herein. Filed as an exhibit to the Company’s Annual Report filed on Form 10-K with the Securities and Exchange Commission on August 19, 2002.

  (2) Incorporated by reference herein. Filed as an exhibit to the Company’s Annual Report filed on Form 10-K with the Securities and Exchange Commission on August 27, 2001.

86

  (3) Incorporated by reference herein. Filed as an exhibit to the Company’s Registration Statement filed on Form 8-A with the Securities and Exchange Commission on May 30, 2002.

  (4) Incorporated by reference herein. Filed as an exhibit to the Company’s Quarterly Report filed on Form 10-Q with the Securities and Exchange Commission on February 2, 2001.

  (5) Incorporated by reference herein. Filed as an exhibit to the Company’s Registration Statement filed on Form S-8, Registration No. 33-98958, and effective with the Securities and Exchange Commission on November 3, 1995.

  (6) Incorporated by reference herein. Filed as an exhibit to the Company’s Quarterly Report filed on Form 10-Q with the Securities and Exchange Commission on February 5, 2002.

  (7) Incorporated by reference herein. Filed as an exhibit to the Company’s Quarterly Report filed on Form 10-Q with the Securities and Exchange Commission on October 29, 2002.

  (8) Incorporated by reference herein. Filed as an exhibit to the Company’s Annual Report filed on Form 10-K with the Securities and Exchange Commission on September 25, 2003.

  (9) Incorporated by reference herein. Filed as an exhibit to the Company’s Registration Statement filed on Form SB-2, Registration No. 33-55998, and declared effective by the Securities and Exchange Commission on February 8, 1993.

(10) Incorporated by reference herein. Filed as an exhibit to the Company’s Current Report filed on Form 8-K with the Securities and Exchange Commission on January 12, 2001.

(11) Incorporated by reference herein. Filed as an exhibit to the Company’s Quarterly Report filed on Form 10-Q with the Securities and Exchange Commission on February 4, 2004.

  * Management Contract or Compensatory Plan

(b) Reports on Form 8-K.

On April 15, 2004, the Company furnished a Current Report on Form 8-K containing its press release on its earnings results for the quarter ended March 28, 2004. Information furnished in the Form 8-K referenced in the prior sentence is not deemed to be filed with the SEC.

87

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.

Date:    August 20, 2004

CREE, INC.
By:	/S/    CHARLES M. SWOBODA
	Charles M. Swoboda Chief Executive Officer

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.

Signature	Title	Date
/S/    F. NEAL HUNTER         F. Neal Hunter	Chairman	August 20, 2004
/S/    CHARLES M. SWOBODA         Charles M. Swoboda	Chief Executive Officer and Director	August 20, 2004
/S/    CYNTHIA B. MERRELL         Cynthia B. Merrell	Chief Financial Officer and Chief Accounting Officer	August 20, 2004
/S/    JAMES E. DYKES         James E. Dykes	Director	August 20, 2004
/S/    WILLIAM J. O’MEARA         William J. O’Meara	Director	August 20, 2004
/S/    JOHN W. PALMOUR, PH.D.         John W. Palmour, Ph.D.	Director	August 20, 2004
/S/    ROBERT J. POTTER, PH.D.         Robert J. Potter, Ph.D.	Director	August 20, 2004
/S/    DOLPH W. VON ARX         Dolph W. von Arx	Director	August 20, 2004
/S/    HARVEY A. WAGNER         Harvey A. Wagner	Director	August 20, 2004

88

EXHIBIT INDEX

Exhibit No.	Description
3.1	Articles of Incorporation, as amended (1)
3.2	Bylaws, as amended (2)
4.1	Specimen Common Stock Certificate (1)
4.2	Rights Agreement dated as of May 30, 2002 between the Company and American Stock Transfer & Trust Company, including the form of Rights Certificate and the Summary of Rights to Purchase Preferred Stock, attached thereto as Exhibits B and C, respectively (3)
10.1	Equity Compensation Plan, as amended and restated December 1, 2000 (4)*
10.2	Stock Option Plan for Non-Employee Directors (terminated as to future grants pursuant to Board action dated September 1, 1997) (5)*
10.3	Nitres, Inc. 1999 Stock Option/Issuance Plan (terminated as to future grants—following the acquisition of Nitres, Inc. by the Registrant effective May 1, 2000) (1)*
10.4	2001 Nonqualified Stock Option Plan (plan expired in January 2003) (1)*
10.5	Fiscal 2001 Stock Option Bonus Plan (plan expired September 30, 2001) (1)*
10.6	Fiscal 2002 Stock Option Bonus Plan (plan expired September 30, 2002) (1)*
10.7	Management Incentive Compensation Program—Fiscal Year 2001 Plan (4)*
10.8	Fiscal 2002 Management Incentive Plan (6)*
10.9	Fiscal Year 2003 Management Incentive Plan (7)*
10.10	Fiscal 2004 Management Incentive Compensation Plan (8)*
10.11	License Agreement between the Company and North Carolina State University, dated December 3, 1987 (9)
10.12	Amendment to License Agreement between the Company and North Carolina State University, dated September 11, 1989 (9)
10.13	Sublease Agreement, dated December 29, 2000, between Zoltar Acquisition Inc. (now Cree Microwave, Inc.) and Spectrian Corporation (10)
10.14	Purchase and Supply Agreement, dated December 29, 2000, between Spectrian Corporation and Zoltar Acquisition, Inc. (now Cree Microwave, Inc.) (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.15	Amendment of Purchase and Supply Agreement, dated October 19, 2001, between Spectrian Corporation and UltraRF, Inc. (now Cree Microwave, Inc.) (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.16	Amendment No. 2 to Purchase and Supply Agreement, effective as of March 31, 2002, between Spectrian Corporation and UltraRF, Inc. (now Cree Microwave, Inc.) (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.17	Settlement Agreement and Release, effective as of November 15, 2002, among Spectrian Corporation, the Company and Cree Microwave, Inc. (8)
10.18	Letter Agreement, dated January 31, 1996, between C3 Diamante, Inc. and the Company (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.19	Letter Agreement, dated February 12, 1996, between C3 Diamante, Inc. and the Company (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.20	Amended and Restated Exclusive Supply Agreement, effective as of June 6, 1997, between C3, Inc. and the Company (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)

Exhibit No.	Description
10.21	Letter Agreement, dated July 14, 1997, between C3, Inc. and the Company (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.22	Letter Agreement, dated July 14, 1997, between C3, Inc. and the Company (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.23	Letter Agreement, dated August 5, 2002, between Charles & Colvard, Ltd. and Cree, Inc. (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.24	Contract No. N00014-02-C-0302, dated June 28, 2002, between the Company and the Office of Naval Research, as amended (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.25	Contract No. N00014-02-C-0306, dated June 28, 2002, between the Company and the Office of Naval Research, as amended (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.26	Contract No. N00014-02-C-0250, dated July 3, 2002, between the Company and the Office of Naval Research, as amended (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.27	Contract No. F33615-99-C-5316, dated August 30, 1999, between the Company and Air Force Research Laboratories, as amended (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.28	Contract No. DAAD17-02-C-0073, dated March 20, 2002, between the Company and US Army Robert Morris Acquisition Center, as amended (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (8)
10.29	Letter Agreement, dated December 14, 2003, between Charles & Colvard, Ltd. and the Company (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission) (11)
10.30	Amendment to Contract No. N00014-02-C-0302, dated December 23, 2003, between the Company and the Office of Naval Research (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission)
10.31	Amendment to Contract No. N00014-02-C-0302, dated June 30, 2004, between the Company and the Office of Naval Research (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission)
10.32	Amendment to Contract No. N00014-02-C-0306, dated December 23, 2003, between the Company and the Office of Naval Research (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission)
10.33	Cooperative Agreement (Agreement No. W911NF-04-2-0021), dated April 29, 2004, between the Company and the U.S. Army Research Laboratory (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission)

2

Exhibit No.	Description
10.34	Cooperative Agreement (Agreement No. W911NF-04-2-0022), dated May 13, 2004, between the Company and the U.S. Army Research Laboratory (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission)
10.35	Amended and Restated Distributorship Agreement, dated May 14, 2004, between the Company and Sumitomo Corporation (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission)
10.36	Letter Agreement, dated July 12, 2004, between the Company and Sumitomo Corporation (asterisks located within the exhibit denote information which has been deleted pursuant to a request for confidential treatment filed with the Securities and Exchange Commission)
21.1	Subsidiaries of the Registrant
23.1	Consent of Registered Public Accounting Firm
31.1	Certification by Chief Executive Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2	Certification by Chief Financial Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1	Certification by Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2	Certification by Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

(1) Incorporated by reference herein. Filed as an exhibit to the Company’s Annual Report filed on Form 10-K with the Securities and Exchange Commission on August 19, 2002.

(2) Incorporated by reference herein. Filed as an exhibit to the Company’s Annual Report filed on Form 10-K with the Securities and Exchange Commission on August 27, 2001.

(3) Incorporated by reference herein. Filed as an exhibit to the Company’s Registration Statement filed on Form 8-A with the Securities and Exchange Commission on May 30, 2002.

(4) Incorporated by reference herein. Filed as an exhibit to the Company’s Quarterly Report filed on Form 10-Q with the Securities and Exchange Commission on February 2, 2001.

(5) Incorporated by reference herein. Filed as an exhibit to the Company’s Registration Statement filed on Form S-8, Registration No. 33-98958, and effective with the Securities and Exchange Commission on November 3, 1995.

(6) Incorporated by reference herein. Filed as an exhibit to the Company’s Quarterly Report filed on Form 10-Q with the Securities and Exchange Commission on February 5, 2002.

(7) Incorporated by reference herein. Filed as an exhibit to the Company’s Quarterly Report filed on Form 10-Q with the Securities and Exchange Commission on October 29, 2002.

(8) Incorporated by reference herein. Filed as an exhibit to the Company’s Annual Report filed on Form 10-K with the Securities and Exchange Commission on September 25, 2003.

(9) Incorporated by reference herein. Filed as an exhibit to the Company’s Registration Statement filed on Form SB-2, Registration No. 33-55998, and declared effective by the Securities and Exchange Commission on February 8, 1993.

(10) Incorporated by reference herein. Filed as an exhibit to the Company’s Current Report filed on Form 8-K with the Securities and Exchange Commission on January 12, 2001.

(11) Incorporated by reference herein. Filed as an exhibit to the Company’s Quarterly Report filed on Form 10-Q with the Securities and Exchange Commission on February 4, 2004.

  * Management Contract or Compensatory Plan

3

EX-10.30

Exhibit 10.30

AMENDMENT OF SOLICITATION/MODIFICATION OF CONTRACT			CONTRACT ID CODE D	PAGE OF 1	PAGES 2
2. AMENDMENT/MODIFICATION NO.	3. EFFECTIVE DATE	4. REQUISITION/PURCHASE REG. NO		5. PROJECT NO. (if applicable)
P00005	SEE BLOCK 16C	04PR04936-01		N.A.
6. ISSUED BY CODE	N00014	7. ADMINISTERED BY (if other than item 6)		CODE SCD-C	S1103A
OFFICE OF NAVAL RESEARCH ONR 251: Cheryl De Lisle (703)696-2571 E-mail cheryl_delisle@onr.navy.mil BALLSTON CENTRE TOWER ONE 800 NORTH QUINCY STREET ARLINGTON, VA 22217-5660			DCM ATLANTA 805 WALKER STREET, SUITE 1 MARIETTA, GA 30060-2789
8. NAME AND ADDRESS OF CONTRACTOR (No., street, county, State and ZIP Code)			(Ö)  9.A. AMENDMENT OF SOLICITATION NO.         N.A.
CREE INC 4600 SILICON DRIVE DURHAM, NC 27703			¨   9B. DATED (SEE ITEM 11)
			¨   10A. MODIFICATION OF CONTRACT/ORDER NO.         N00014-02-C-0302
CODE 0C9J8	FACILITY CODE		10B. DATED (SEE ITEM 13)         28-Jun-02

11. THIS ITEM ONLY APPLIES TO AMENDMENTS OF SOLICITATIONS

¨ The above numbered solicitation is amended as set forth in item 14. The hour and date specified for receipt of Offers ¨ is extended ¨ is not extended.

Offers must acknowledge receipt of this amendment prior to the hour and data specified in the solicitation or as amended, by on of the following methods: (a) By completing items 8 and 15, and returning          copies of the amendment; (b) By acknowledging receipt of the amendment on each copy of the offer submitted; or (c) By separate letter or telegram which includes a reference to the solicitation and amendment numbers. FAILURE OF YOUR ACKNOWLEDGMENT TO BE RECEIVED AT THE PLACE DESIGNATED FOR THE RECEIPT OF OFFERS PRIOR TO THE HOUR AND DATE SPECIFIED MAY RESULT IN REJECTION OF YOUR OFFER. If by virtue of this amendment you desire to change an offer already submitted, such change may be made by telegram or letter, provided each telegram or letter makes reference to the solicitation and this amendment, and is received prior to the opening hour and data specified.

12. ACCOUNTING AND APPROPRIATION DATA (if required)

SEE THE ATTACHED FINANCIAL ACCOUNTING DATA (FAD) SHEET

13. THIS ITEM APPLIES ONLY TO MODIFICATIONS OF CONTRTACTS/ORDERS

IT MODIFIES THE CONTRACT/ORDER NO. AS DESCRIBED ITEM 14.

(Ö) ¨	A. THIS CHANGE ORDER IS ISSUED PURSUANT TO (Specify Authority) THE CHANGES SET FORTH IN ITEM 14 ARE MADE IN THE CONTRACT ORDER NO. IN ITEM 10A.
¨	B. THE ABOVE NUMBERED CONTRACT/ORDER IS MODIFIED TO REFLECT THE ADMINISTRATIVE CHANGES (such as changes in paying office, appropriation data, etc.) SET FORTH IN ITEM 14, PURSUANT TO THE AUTHORITY OF FAR 43.103(b).
¨	C. SUPPLEMENTAL AGREEMENT IS ENTERED INTO PURSUANT TO AUTHORITY OF: AUTHORITY FOR OTHER THAN FULL AND OPEN COMPETITION:
x	D. OTHER (Specify type of modification and authority) Unilateral Modification (FAR 43.103(b)) Issued Pursuant to FAR 52.217-9 Option to Extend the Term of Contract

E. IMPORTANT: Contractor x is not, ¨ is required to sign this document and return _ copies to the issuing office.

14. DESCRIPTION OF AMENDMENT/MODIFICATION (Organized by UCF section headings, including solicitation/contract subject matter where feasible.)

The purpose of this modification is to (1) exercise the Option Effort (CLINs 0004-0006) and (2) provide funding in the amount of $1,889,103.00 to fully fund the Option Effort under contract N00014-02-C-0302.

                                         (SEE NEXT PAGE)

Except as provided herein, all terms and conditions of the document referenced in item 9A or 10A, as heretofore changed, remains unchanged and in full force and effect.

15A. NAME AND TITLE OF SIGNER (Type or print)		16A. NAME AND TITLE OF CONTRACTING OFFICER (Type or print) WADE D. WARGO Contracting Officer
15B. CONTRACTOR/OFFEROR	15C. DATE SIGNED	16B. UNITED STATES OF AMERICA		16C. DATE SIGNED
		BY /s/ Wade Wargo		12/23/2003
(Signature of person authorized to sign)		(Signature of Contracting Officer)
SN 7540-01-152-8070 PREVIOUS EDITION UNUSABLE NAVOCNR OVERPRINT (3-88)		30-105	STANDARD FORM 30 (REV. 10-83) Prescribed by GSA FAR (48 CFR) 53.243

EFFECTIVE AS THE DATE OF THIS MODIFICATION:

1. Option Effort of Section B – Supplies or Services and Prices/Costs is hereby exercised and the total estimated contract consideration is revised as follows:

OPTION EFFORT

ITEM NO.	SUPPLIES/SERVICES	ESTIMATED GOVERNMENT COST SHARE		ESTIMATED CONTRACTOR COST SHARE	TOTAL ESTIMATED COSTS
0004	The Contractor shall furnish the necessary personnel and facilities to conduct the research effort as described in Section C.1 and C.3.	$	1,889,103	[***]	[***]
	000401: AC $1,889,103.00
0005	Deliverables for Quarters 7-8 in accordance with Attachment Number 2				NSP
0006	Reports and Data in accordance with Exhibit A (DD Form 1423)				NSP
TOTAL ESTIMATED CONTRACT CONSIDERATION		$	1,889,103.00	[***]	[***]

2. The funds available for performance of this contract are increased by the amount set forth in the attached Financial Accounting Data sheet.

3. The Contractor shall accomplish the work for CLINs 0004-0006 (Option Effort) during the period from date of execution of this modification through six months thereafter.

This modification increases the total estimated contract consideration by [***], which includes an estimated Government Cost Share of $1,889,103 and an estimated Contractor Cost Share of [***].

ALL OTHER TERMS AND CONDITIONS REMAIN UNCHANGED AND IN FULL FORCE AND EFFECT

Award Number: N00014-02-C-0302

Modification Number: P00005

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

2

FINANCIAL ACCOUNTING DATA SHEET – NAVY

1. CONTRACT NUMBER (CRITICAL) N0001402C0302

2. SPIN (CRITICAL)

3. MOD (CRITICAL) P00005

4. PR NUMBER 04PRO4936-01

PAGE 1 OF 1

6. LINE OF ACCOUNTING

7. AMOUNT (CRITICAL

)

NAVY INTERNAL USE ONLY REF DOC/ACRN

CLIN/SLIN

A. ACRN (CRITICAL)

B. APPROPRIATION (CRITICAL)

C. SUBHEAD (CRITICAL)

D. OBJ CLA

E. PARM

F. RFM

G. SA

H. AAA (CRITICAL)

I. IT

J. PAA

K. COST CODE

PROJ UNIT

MCC

PDU & SUF

AC

9740400

1304

255

RA

313

0

068342

2D

000000

R4Y10

000

N132

$1,889,103.00

PR#04PRO4936- 01FRC:A110

PAGE TOTAL GRAND TOTAL

$1,889,103.00 $1,889,103.00

PREPARED/AUTHORIZED BY:	COMPTROLLER APPROVAL:
DATE:	FOR FISCAL DATA AND SIGNATURE
	BY:	for COMPTROLLER, ONR CONTRACT REVIEWED
	DATE:

ONR AWARD FORM (2/00) – version 1.1

EX-10.31

Exhibit 10.31

AMENDMENT OF SOLICITATION/MODIFICATION OF CONTRACT CONTRACT ID CODE
D0-C9(j) PAGE OF
1 PAGES
13

2. AMENDMENT/MODIFICATION NO.	3. EFFECTIVE DATE	4. REQUISITION/PURCHASE REG. NO	5. PROJECT NO. (if applicable)
P00007	SEE BLOCK 16C	04PR04936-02	N.A.
6. ISSUED BY                                CODE	N00014	7. ADMINISTERED BY (if other than item 6)        CODE                                                  SCD-C		S1103A
OFFICE OF NAVAL RESEARCH ONR 0251: Cynthia Wagoner (703)696 - 2592 E-mail wagonec@onr.navy.mil BALLSTON CENTRE TOWER ONE 800 NORTH QUINCY STREET ARLINGTON, VA 22217-5660		DCM ATLANTA 805 WALKER STREET, SUITE 1 MARIETTA, GA 30060-2789

8. NAME AND ADDRESS OF CONTRACTOR (No., street, county, State and ZIP Code)	(Ö)	9.A. AMENDMENT OF SOLICITATION NO. N.A.
	¨	9B. DATED (SEE ITEM 11)
CREE INC 4600 SILICON DRIVE DURHAM, NC 27703	¨	10A. MODIFICATION OF CONTRACT/ORDER NO. N00014-02-C-0302
		10B. DATED (SEE ITEM 13) 28 JUN 2002
CODE                        FACILITY CODE 0C9J8
11. THIS ITEM ONLY APPLIES TO AMENDMENTS OF SOLICITATIONS

¨	The above numbered solicitation is amended as set forth in item 14. The hour and date specified for receipt of Offers ¨ is extended ¨ is not extended.
Offers must acknowledge receipt of this amendment prior to the hour and data specified in the solicitation or as amended, by on of the following methods: (a) By completing items 8 and 15, and returning          copies of the amendment; (b) By acknowledging receipt of the amendment on each copy of the offer submitted; or (c) By separate letter or telegram which includes a reference to the solicitation and amendment numbers. FAILURE OF YOUR ACKNOWLEDGMENT TO BE RECEIVED AT THE PLACE DESIGNATED FOR THE RECEIPT OF OFFERS PRIOR TO THE HOUR AND DATE SPECIFIED MAY RESULT IN REJECTION OF YOUR OFFER. If by virtue of this amendment you desire to change an offer already submitted, such change may be made by telegram or letter, provided each telegram or letter makes reference to the solicitation and this amendment, and is received prior to the opening hour and data specified.
12. ACCOUNTING AND APPROPRIATION DATA (if required)
SEE THE ATTACHED FINANCIAL ACCOUNTING DATA (FAD) SHEET(S) 13. THIS ITEM APPLIES ONLY TO MODIFICATIONS OF CONTRTACTS/ORDERS IT MODIFIES THE CONTRACT/ORDER NO. AS DESCRIBED ITEM 14.
(Ö)	A. THIS CHANGE ORDER IS ISSUED PURSUANT TO (Specify Authority) THE CHANGES SET FORTH IN ITEM 14 ARE MADE IN THE CONTRACT ORDER NO. IN ITEM 10A.
¨
¨	B. THE ABOVE NUMBERED CONTRACT/ORDER IS MODIFIED TO REFLECT THE ADMINISTRATIVE CHANGES (such as changes in paying office, appropriation data, etc.) SET FORTH IN ITEM 14, PURSUANT TO THE AUTHORITY OF FAR 43.103(b).
¨	C. SUPPLEMENTAL AGREEMENT IS ENTERED INTO PURSUANT TO AUTHORITY OF:
	AUTHORITY FOR OTHER THAN FULL AND OPEN COMPETITION:
x	D. OTHER (Specify type of modification and authority)
Bilateral Modification and Mutual Agreement between the parties.
E. IMPORTANT: Contractor ¨ is not, x is required to sign this document and return 2 copies to the issuing office.
14.	DESCRIPTION OF AMENDMENT/MODIFICATION (Organized by UCF section headings, including solicitation/contract subject matter where feasible.)
The purpose of this modification is revise the, Supplies or Services and Price/Cost to expand the option effort (CLIN 0004) by $799,639.00, revise Block 15G, Total Amount of Contract (Standard Form 26), update Section I, Contract Clauses, revise Section J, List of Attachments, revise Section K, Representations, Certifications and Other Statements of Offeror, and provide funding ($799,639.00) to fully fund the CLIN 0004 under Contract Number N00014-02-C-0302. Accordingly, the funding cited on the attached Financial Accounting Data Sheet is made available. Except as provided herein, all terms and conditions of the document referenced in item 9A or 10A, as heretofore changed, remains unchanged and in full force and effect.

15A. NAME AND TITLE OF SIGNER (Type or print)		16A. NAME AND TITLE OF CONTRACTING OFFICER (Type or print)
SHARON M. HANNIGAN CONTRACTS MANAGER		VERA M. CARROLL CONTRACTING OFFICER
15B. CONTRACTOR/OFFEROR /s/ Sharon M. Hannigan	15C. DATE SIGNED 6/30/04	16B. UNITED STATES OF AMERICA BY /s/ Vera M. Carroll		16C. DATE SIGNED Jun 30 2004
(Signature of person authorized to sign)		(Signature of Contracting Officer)
SN 7540-01-152-8070		30-105	STANDARD FORM 30 (REV. 10-83)
PREVIOUS EDITION UNUSABLE			Prescribed by GSA
NAVOCNR OVERPRINT (3-88)			FAR (48 CFR) 53.243

Effective as of the date of this modification:

1) Section B, Supplies or Services and Prices/Costs is hereby revised to reflect an increase of $799,639.00.

BASE EFFORT
ITEM NO.	SUPPLIES/SERVICES	ESTIMATED GOVERNMENT COST SHARE		ESTIMATED CONTRACTOR COST SHARE	TOTAL ESTIMATED COST
0001	The Contractor shall furnish the necessary personnel and facilities to conduct the research effort as described in Section C.1. and C.2.	$	5,655,154.00	[***]*	[***]
	000101 ACRN AA: [***]
	000102 ACRN AB: [***]
0002	Deliverables for Quarters 1-6 in accordance with Attachment Number 2.				NSP
0003	Reports and Data in accordance with Exhibit A (DD Form 1423)				NSP

*Note: [***].

OPTION EFFORT
ITEM NO.	SUPPLIES/SERVICES	ESTIMATED GOVERNMENT COST SHARE		ESTIMATED CONTRACTOR COST SHARE	TOTAL ESTIMATED COST
0004	The Contractor shall furnish the necessary personnel and facilities to conduct the research effort as described in Section C.1. and C.3.	$	2,688,742.00	[***]	[***]
	000401 ACRN AC: $2,688,742.00
0005	Deliverables for Quarters 7-8 in accordance with Attachment Number 2.				NSP
0006	Reports and Data in accordance with Exhibit A (DD Form 1423)				NSP
TOTAL ESTIMATED CONTRACT CONSIDERATION:		$	8,343,896.00	[***]	[***]

2) Block 15G, Total Amount of Contract, is revised to read as follows:

“Total Contract Amount: [***]”

Contract Number: N00014-02-C-0302/P00007

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

2

3) Section C, Description/Specifications/Work Statement, paragraph 3, is hereby revised as follows:

“4. The Contractor shall conduct the option research effort under CLIN 0004 in accordance with the optional tasks described on pages 3-4 of Attachment Number 1, entitled “3.A. Statement of Work Optional [***]”, and Addendum Number 1 to the Statement of Work, attached to this modification and hereby made part of the contract. The contractor shall provide the deliverables described under “Quarters 7-8” of Attachment Number 2 of the contract and under “Deliverables” of the Addendum Number 1. ”

4) Section F, Deliveries or Performance, is hereby revised as follows:

“2. The research performed under CLIN 0004 shall be conducted during the period from 23 December 2003 through [***]. A final report will be prepared, submitted, reproduced and distributed by sixty days thereafter unless the contract is extended, in which case, the final report will be prepared in accordance with the terms of such extension.”

a. Item 0006 of Section B (Reports and Data) shall be delivered within the time periods stated in Exhibit A, F.O.B Destination.”

5) Section G- Contract Administration Data, paragraph 5 entitled, “Allotment of Funds”, is hereby reinstated as follows:

“5. Allotment of Funds

It is hereby understood and agreed that this contract will not exceed a total amount of [***]; including an estimated cost of $8,343,896.00 and the Contractor’s cost share of [***].

The Base effort has been fully funded in the amount of $5,655,154.00 (Government Share).

It is hereby understood and agreed that this contract option will not exceed a total amount of [***] including an estimated cost of $2,688,742.00 and the Contractor’s cost share of [***].

The Option Effort has been fully funded in the amount of $2,688,742.00 (Government Share).

6) The funds available for performance of this contract are increased by the amount set forth on the attached Financial Accounting Data sheet.

Contract Number: N00014-02-C-0302/P00007

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

3

7) Section I, contract Clauses, is hereby deleted in its entirety and replaced with the following:

Introduction: Section I

Attention: Prime Contractors. If a sub-award is made to an educational institution, Prime Contractors are directed to please refer to the ONR Model Award for appropriate flow-down clauses to universities. See http://www.onr.navy.mil, click Contracts & Grants Icon. Click Model Awards Link. Click Section I clauses that flow-down to University subcontractors.

Contract Number: N00014-02-C-0302/P00007

4

SECTION I - CONTRACT CLAUSES (26 MAY 2004)

COST SHARE

(A) FAR 52.252-02 CLAUSES INCORPORATED BY REFERENCE (FEB 1998)

This contract incorporates one or more clauses by reference, with the same force and effect as if they were given in full text. Upon request, the Contracting Officer will make their full text available. Also, the full text of a clause may be accessed electronically at these addresses:

http://www.arnet.gov/far/

http://farsite.hill.af.mil/farsite_script.html

For instance, a dollar threshold may trigger the applicability of the clause or a certain condition of the research may trigger the applicability of the clause. In order to provide some assistance, as to when a dollar threshold triggers a clause, we have associated certain symbols with dollar thresholds. The symbols and their appropriate dollar thresholds are as follows:

*	Applies when contract action exceeds $10,000
**	Applies when contract action exceeds $100,000
+	Applies when contract action exceeds $500,000
++	Applies when contract action exceeds $500,000 and subcontracting possibilities exist. Small Business Exempt.
x	(DD 250)
xx	Not applicable

I. FEDERAL ACQUISITION REGULATION (FAR) (48 CFR CHAPTER 1) CLAUSES:

**	FAR 52.202-1	Definitions (DEC 2001)
**	FAR 52.203-3	Gratuities (APR 1984)
**	FAR 52.203-5	Covenant Against Contingent Fees (APR 1984)
**	FAR 52.203-6	Restrictions on Subcontractor Sales to the Government (JUL 1995)
**	FAR 52.203-7	Anti-Kickback Procedures (JUL 1995)
**	FAR 52.203-8	Cancellation, Rescission, and Recovery of Funds for Illegal or Improper Activity (JAN 1997)
**	FAR 52.203-10	Price or Fee Adjustment for Illegal or Improper Activity (JAN 1997)
**	FAR 52.203-12	Limitation on Payments to Influence Certain Federal Transactions (JUN 2003)
**	FAR 52.204-4	Printing/Copying Double-Sided on Recycled Paper (AUG 2000)
	FAR 52.204-7	Central Contractor Registration (OCT 2003)
	FAR 52.211-15	Defense Priority and Allocation Requirements (SEP 1990)

Contract Number: N00014-02-C-0302/P00007

5

**	FAR 52.215-2	Audit and Records - Negotiation (JUN 1999) and Alternate II (APR 1998) (Alternate II is only applicable with cost reimbursement contracts with State and local Governments, educational institutions, and other non-profit organizations.)
	FAR 52.215-8	Order of Precedence - Uniform Contract Format (OCT 1997)
+	FAR 52.215-10	Price Reduction for the Defective Cost or Pricing Data (OCT 1997) (The clause is applicable to subcontracts over $550,000.)
+	FAR 52.215-12	Subcontractor Cost or Pricing Data (OCT 1997) (Applicable to subcontracts over $550,000 only)
**	FAR 52.215-14	Integrity of Unit Prices (OCT 1997) and Alternate I (OCT 1997) (Alternate I is applicable if the action is contracted under Other Than Full and Open Competition)
+	FAR 52.215-15	Pension Adjustments and Asset Reversions (DEC 1998)
+	FAR 52.215-18	Reversion or Adjustment of Plans for Postretirement Benefits (PRB) Other than Pensions (OCT 1997)
+	FAR 52.215-19	Notification of Ownership Changes (OCT 1997) (Applicable when Cost or Pricing Data is required)
	FAR 52.216-7	Allowable Cost and Payment (DEC 2002)
	FAR 52.216-8	Fixed Fee (MAR 1997)
**	FAR 52.219-4	Notice of Price Evaluation Preference for HUBzone Small Business Concerns (JAN 1999)
**	FAR 52.219-8	Utilization of Small Business Concerns (MAY 2004)
++	FAR 52.219-9	Small Business Subcontracting Plan (JAN 2002)
++	FAR 52.219-16	Liquidated Damages - Subcontracting Plan (JAN 1999)
	FAR 52.222-1	Notice to the Government of Labor Disputes (FEB 1997)
**	FAR 52.222-2	Payment for Overtime Premiums (JUL 1990) (Note: The word “zero” is inserted in the blank space indicated by an asterisk)
	FAR 52.222-3	Convict Labor (JUN 2003) (Reserved when FAR 52.222-20 Walsh Healy Public Contracts Act is applicable)
**	FAR 52.222-4	Contract Work Hours and Safety Standards Act - Overtime Compensation (SEP 2000)
	FAR 52.222-21	Prohibition of Segregated Facilities (FEB 1999)
	FAR 52.222-26	Equal Opportunity (APR 2002)
*	FAR 52.222-35	Equal Opportunity for Special Disabled Veterans, Veterans of the Vietnam Era, and Other Eligible Veterans (DEC 2001)
*	FAR 52.222-36	Affirmative Action for Workers with Disabilities (JUN 1998)

Contract Number: N00014-02-C-0302/P00007

6

*	FAR 52.222-37	Employment Reports on Special Disabled Veterans, Veterans of the Vietnam Era, and Other Eligible Veterans (DEC 2001)
**	FAR 52.223-14	Toxic Chemical Release Reporting (AUG 2003)
	FAR 52.225-13	Restrictions on Certain Foreign Purchases (DEC 2003)
**	FAR 52.227-1	Authorization and Consent (JUL 1995)
**	FAR 52.227-2	Notice and Assistance Regarding Patent and Copyright Infringement (AUG 1996)
	FAR 52.228-7	Insurance Liability to Third Persons (MAR 1996) (Further to paragraph (a)(3), unless otherwise stated in this contract, types and limits of insurance required are as stated in FAR 28.307-2)
	FAR 52.232-9	Limitation on Withholding of Payments (APR 1984)
**	FAR 52.232-17	Interest (JUN 1996)
	FAR 52.232-23	Assignment of Claims (JAN 1986) and Alternate I (APR 1984)
	FAR 52.232-25	Prompt Payment (OCT 2003) and Alternate I (FEB 2002) (The words “the 30th day” are inserted in lieu of “the 7th day” at (a) (5) (i). [When Alternate I is applicable (a)(5)(i) does do not apply] [Alternate I applies when awarding a cost reimbursement contract for services]
	FAR 52.232-33	Payment by Electronic Funds Transfer - Central Contractor Registration (OCT 2003)
	FAR 52.233-1	Disputes (JULY 2002)
	FAR 52.233-3	Protest After Award (AUG 1996) and Alternate I (JUN 1985)
	FAR 52.242-1	Notice of Intent to Disallow Costs (APR 1984)
+	FAR 52.242-3	Penalties for Unallowable Costs (MAY 2001)
	FAR 52.242-4	Certification of Final Indirect Costs (JAN 1997)
**	FAR 52.242-13	Bankruptcy (JUL 1995)
	FAR 52.242-15	Stop Work Order (AUG 1989) and Alternate I (APR 1984)
	FAR 52.244-2	Subcontracts (AUG 1998) and Alternate I (AUG 1998) [Insert in cost-reimbursement contracts, and letter, time-and-material, and labor-hour contracts exceeding SAP, and fixed price contracts exceeding SAP where unpriced actions are anticipated. Use Alternate I for cost-reimbursement contracts]
**	FAR 52.244-5	Competition in Subcontracting (DEC 1996)
	FAR 52.244-6	Subcontracts for Commercial Items and Commercial Components (MAY 2004)

Contract Number: N00014-02-C-0302/P00007

7

	FAR 52.245-5	Government Property (Cost-Reimbursement, Time-and-Materials, or Labor-Hour Contracts) (MAY 2004) and ALT I (JUN 2003) (As modified by DoD Class Deviation 99-00008 dated 13 July 1999) (ALT I is applicable if the contractor is a nonprofit organization whose primary purpose is the conduct of scientific research)
**	FAR 52.247-64	Preference for Privately Owned U.S. Flag Commercial Vessels (APR 2003)
	FAR 52.249-6	Termination (Cost-Reimbursement) (MAY 2004)
	FAR 52.249-14	Excusable Delays (APR 1984)
	FAR 52.251-1	Government Supply Sources (APR 1984)
	FAR 52.253-1	Computer Generated Forms (JAN 1991)

II. DEPARTMENT OF DEFENSE FAR SUPPLEMENTAL (DFARS) (48 CFR CHAPTER 2) CLAUSES:

**	DFARS 252.203-7001	Prohibition On Persons Convicted of Fraud or Other Defense-Contract-Related Felonies (MAR 1999)
	DFARS 252.204-7003	Control of Government Work Product (APR 1992)
	DFARS 252.204-7004	Alternate A (NOV 2003)
**	DFARS 252.209-7000	Acquisition from Subcontractors subject to On-Site Inspection under the Intermediate Range Nuclear Forces (INF) Treaty (NOV 1995)
**	DFARS 252.209-7004	Subcontracting with Firms That Are Owned or Controlled by the Government of a Terrorist Country (MAR 1998)
+	DFARS 252.215-7000	Pricing Adjustments (DEC 1991)
++	DFARS 252.219-7003	Small, Small Disadvantaged and Women-owned Small Business Subcontracting Plan (DoD Contracts) (APR 1996)
	DFARS 252.225-7004	REPORTING OF CONTRACT PERFORMANCE OUTSIDE THE UNITED STATES (APR 2003)
**	DFARS 252.225-7012	Preference for Certain Domestic Commodities (FEB 2003)
	DFARS 252.225-7031	Secondary Arab Boycott of Israel (APR 2003)
	DFARS 252.227-7013	Rights in Technical Data – Noncommercial Items (NOV 1995), and Alternate I (JUN 1995)
	DFARS 252.227-7014	Rights In Noncommercial Computer Software and Noncommercial Computer Software Documentation (JUN 1995)
	DFARS 252.227-7016	Rights in Bid or Proposal Information (JUN 1995)
	DFARS 252.227-7019	Validation of Asserted Restrictions – Computer Software (JUN 1995)

Contract Number: N00014-02-C-0302/P00007

8

	DFARS 252.227-7025	Limitations on the Use or Disclosure of Government-Furnished Information Marked with Restrictive Legends (JUN 1995)
	DFARS 252.227-7028	Technical Data or Computer Software Previously Delivered to the Government (JUN 1995)
	DFARS 252.227-7030	Technical Data – Withholding of Payment (MAR 2000)
	DFARS 252.227-7036	Declaration of Technical Data Conformity (JAN 1997)
	DFARS 252.227-7037	Validation of Restrictive Markings on Technical Data (SEP 1999)
	DFARS 252.231-7000	Supplemental Cost Principles (DEC 1991)
	DFARS 252.232-7003	Electronic Submissions of Payment Requests (MAR 2003)
	DFARS 252.242-7000	Post-Award Conference (DEC 1991)
**	DFARS 252.243-7002	Requests for Equitable Adjustment (MAR 1998)
	DFARS 252.245-7001	Reports of Government Property (MAY 1994)
X	DFARS 252.246-7000	Material Inspection and Receiving Report (MAR 2003)
**	DFARS 252.247-7023	Transportation of Supplies by Sea (MAY 2002)
**	DFARS 252.247-7024	Notification Of Transportation Of Supplies By Sea (MAR 2000) (Applicable when the Contractor has made a negative response to the inquiry in the representation at DFARS 252.247-7022.)
	DFARS 252.251-7000	Ordering from Government Supply Sources (OCT 2002)

(B) ADDITIONAL FAR AND DFARS CLAUSES

This contract incorporates one or more clauses by reference as indicated by the mark of (X), with the same force and effect as if they were given in full text. Upon request, the Contracting Officer will make their full text available. Also, the full text of a clause may be accessed electronically at this address: http://www.arnet.gov/far/

	FAR 52.204-2	Security Requirements (AUG 1996) (Applicable if contract will generate or require access to classified information and DD Form 254, Contract Security Classification Specification, is issued to the contractor)
X	FAR 52.209-6	Protecting the Government’s Interest when Subcontracting with Contractors Debarred, Suspended, or Proposed for Debarment (JUL 1995) (Applicable to contracts exceeding $25,000 in value.)
	FAR 52.215-17	Waiver of Facilities Capital Cost of Money (OCT 1997) (Applicable if the Contractor did not propose facilities capital cost of money in the offer)
X	FAR 52.215-21	Requirements for Cost or Pricing Data or Information Other Than Cost or Pricing Data - Modifications (OCT 1997) (Applicable to ‘contracts’ if cost or pricing data or information other than cost or pricing data will be required for modifications)

Contract Number: N00014-02-C-0302/P00007

9

	FAR 52.217-9	Option to Extend the Term of the Contract (MAR 2000) (In paragraph (a), insert “0”, and in paragraph (c), insert “0”) (Applicable if contract contains line item(s) for option(s)) (Complete the spaces in parentheses)
	FAR 52.219-3	Notice of Total HUBZone Set-Aside (JAN 1999)
	FAR 52.219-5	Very Small Business Set-Aside (JUN 2003) (For actions between $2,500 and $50,000)
	FAR 52.219-6	Notice of Total Small Business Set-Aside (JUN 2003), and Alternate I (OCT 1995) (Applicable to total small business set-asides, including SBIR) Alternate II (MAR 2004) (As prescribed in 19.508(c))
	FAR 52.219-7	Notice of Partial Small Business Set-Aside (JUN 2003) and Alternate I (OCT 1995) Alternate II (MAR 2004)
	FAR 52.219-10	Incentive Subcontracting Program (OCT 2001) (Applicable at the PCO’s discretion to contract actions exceeding $500,000 and when subcontracting possibilities exist. The clause is small business exempt) (In paragraph (b), insert the appropriate number between 0 and 10 – “XX”) (Complete the space in the parentheses)
	FAR 52.219-25	Small Disadvantaged Business Participation Program - Disadvantaged Status and Reporting (OCT 1999) (Applicable if contract includes FAR 52.219-24)
	FAR 52.219-26	Small Disadvantaged Business Participation Program - Incentive Subcontracting Program (OCT 2000) (Applicable at the PCO’s discretion to contract actions exceeding $500,000 and when subcontracting possibilities exist. The clause is small business exempt) (In paragraph (b), insert the appropriate number between 0 and 10 – “XX”) (Complete the space in the parentheses)
X	FAR 52.222-20	Walsh Healy Public Contracts Act (DEC 1996) (Applicable if the contract includes deliverable materials, supplies, articles or equipment in an amount that exceeds or may exceed $10,000)
	FAR 52.223-5	Pollution Prevention and Right-to-Know Information (AUG 2003) (Applicable if contract provides for performance, in whole or in part, on a Federal facility)
X	FAR 52.223-6	Drug-Free Workplace (MAY 2001) (Applies when contract action exceeds $100,000 or at any value when the contract is awarded to an individual)
	FAR 52.230-2	Cost Accounting Standards (APR 1998) (Applicable when contract amount is over $500,000, if contractor is subject to full CAS coverage, as set forth in 48 CFR Chapter 99, Subpart 9903.201-2(a) (FAR Appendix B)

Contract Number: N00014-02-C-0302/P00007

10

X	FAR 52.230-3	Disclosure and Consistency of Cost Accounting Practices (APR 1998) (Applicable when contract amount is over $500,000 but less than $25 million, and the offeror certifies it is eligible for and elects to use modified CAS coverage as set forth in 48 CFR Chapter 99, Subpart 9903.201-2 (FAR Appendix B)
X	FAR 52.230-6	Administration of Cost Accounting Standards (NOV 1999) (Applicable if contract is subject to either clause at FAR 52.230-2, FAR 52.230-3 or FAR 52.230-5)
X	FAR 52.232-20	Limitation of Cost (APR 1984) (Applicable only when contract action is fully funded)
X	FAR 52.232-22	Limitation of Funds (APR 1984) (Applicable only when contract action is incrementally funded)
	FAR 52.239-1	Privacy or Security Safeguards (AUG 1996) (Applicable to contracts for information technology which require security of information technology, and/or are for the design, development, or operation of a system of records using commercial information technology services or support services.)
	FAR 52.245-18	Special Test Equipment (FEB 1993) Applicable when it is anticipated that the contractor will acquire or fabricate special test equipment but the exact identification of the equipment is not known)
	DFARS 252.201-7000	Contracting Officer’s Representative (DEC 1991) (Applicable when appointment of a Contracting Officer’s Representative (COR) is anticipated.)
X	DFARS 252.203-7002	Display of DoD Hotline Poster (DEC 1991) (Applicable only when contract action exceeds $5 million or when any modification increases contract amount to more than $5 million)
X	DFARS 252.204-7000	Disclosure of Information (DEC 1991) (Applies when Contractor will have access to or generate unclassified information that may be sensitive and inappropriate for release to the public)
	DFARS 252.204-7005	Oral Attestation of Security Responsibilities (NOV 2001) (Applicable if FAR 52.204-2, Security Requirements Applies)
X	DFARS 252.205-7000	Provision of Information to Cooperative Agreement Holders (DEC 1991) (Applicable only when contract action exceeds $500,000 or when any modification increases total contract amount to more than $500,000)
X	DFARS 252.215-7002	Cost Estimating System requirements (Oct 1998) (Applicable only to contract actions awarded on the basis of certified cost or pricing data)

Contract Number: N00014-02-C-0302/P00007

11

	DFARS 252.223-7004	Drug-Free Work Force (SEP 1988) (Applicable (a) if contract involves access to classified information: or (b) when the Contracting Officer determines that the clause is necessary for reasons of national security or for the purpose of protecting the health or safety of performance of the contract.
	DFARS 252.223-7006	Prohibition on Storage and Disposal of Toxic and Hazardous Materials (APR 1993) (Applicable if work requires, may require, or permits contractor performance on a DoD installation)
	DFARS 252.225-7001	Buy American Act and Balance of Payments Program (APR 2003) (Applicable if the contract includes deliverable supplies) (This clause does not apply if an exception to the Buy American Act or Balance of Payments Program is known or if using the clause at 252.225-7021, or 252.225-7036.)
	DFARS 252.225-7002	Qualifying Country Sources as Subcontractors (APR 2003) (Applicable when clause at DFARS 252.225-7001, 252.227-7021, or 252.227-7036 applies)
	DFARS 252.225-7016	Restriction On Acquisition Of Ball And Roller Bearings (MAY 2004) (Applicable if contract includes deliverable supplies, unless Contracting Officer knows that items being acquired do not contain ball or roller bearings)
	DFARS 252.226-7001	Utilization of Indian Organizations and Indian-Owned Economic Enterprises (OCT 2003) [(Applicable if FAR Part 12 is not used, and for supplies and services (but not R&D) expected to exceed SAP thresholds) (This Final Rule replaces FAR 52.226-1 (JUN 2000) via DFARS Chg Ntc 20020531]
	DFARS 252.227-7018	Rights in Noncommercial Technical Data and Computer Software – Small Business Innovation Research (SBIR) Program (JUN 1995
X	DFARS 252.242-7004	Material Management and Accounting System (DEC 2000) (Applicable to contract actions exceeding $100,000) (Not applicable for contracts awarded to small businesses, educational institutions, or nonprofit organizations)

12

(C) COST SHARING – NO FEE RESEARCH AND DEVELOPMENT CLAUSES

The following FAR and DFARS clauses apply to Cost Sharing – No Fee Research and Development Contracts and are either required by regulation or are required when the circumstances of the contract warrant that they apply. The FAR and DFARS clauses for Cost-Sharing Research and Development Contracts only apply when specifically marked with an (X).:

Contract Number: N00014-02-C-0302/P00007

X	FAR 52.216-12	Cost Sharing Contract — No Fee (APR 1984) [ This clause may be modified by substituting “$10,000” in lieu of “$100,000” as the maximum reserve in paragraph (b) if the contract is with a nonprofit organization.] FAR 16.307 (f) (2): Use Alternate I when a cost-sharing research and development contract with an educational institution or a nonprofit organization is contemplated, and if the contracting officer determines that withholding of a portion of allowable costs is not required.
	FAR 52.227-10	Filing of Patent Applications –Classified Subject Matter (APR 1984) (Applicable if contract is subject to FAR clause 52.204-02 and either 52.227-11 or 52.227-12)
	FAR 52.227-11	Patent Rights – Retention by the Contractor (Short Form) (JUN 1997) (Applicable if contractor is a small business or non profit organization)
	FAR 52.243-2	Changes — Cost-Reimbursement (Aug. 1987) and Alternate V (APR 1984) FAR 43.205 (b)(6): Include clause in research and development contracts with Alternate V.
X	FAR 52.246-9	Inspection of Research and Development (Short Form) (Apr 1984) FAR 46.309: Include in contract when FAR 52.246-7, Inspection of Research and Development — Fixed-Price; & FAR 52.246-8, Inspection of Research and Development — Cost-Reimbursement, are not used. FAR 52.246-8 is not applicable when FAR 52.246-9 is used.
	FAR 52.247-63	Preference for U.S.-Flag Air Carriers (JUN 2003) FAR 47.405: Use in contracts whenever it is possible that U.S. Government-financed international air transportation of personnel (and their personal effects) or property will occur in the performance of the contract.
	OR
X	FAR 52.227-12	Patent Rights – Retention by the Contractor (Long Form) (JAN 1997) (Applicable if contractor is a large business)
	DFARS 252.227-7034	Patents – Subcontracts (APR 1984) (Applicable when FAR 52.227-11 applies)
	DFARS 252.227-7039	Patents – Reporting of Subject Inventions (APR 1990) (Applicable when FAR 52.227-11 applies)
X	DFARS 252.235-7011	Final Scientific Or Technical Report (Sep 1999)

8) Section J, List of Attachments, is hereby revised to add the following paragraphs:

“6. Addendum Number 1, entitled, “3.A. Statement of Work Optional [***], Statement of Work Addendum” 3 pages.”

Contract Number: N00014-02-C-0302/P00007

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

13

“7. EXHIBIT A, ADDENDUM entitled, Contract Data Requirements List” (DD Form 1423) - 2 pages.”

“8. Attachment Number 6, entitled, “Financial Accounting Data Sheet 1 page.”

9) Paragraph 1, Section K, “Representations, Certifications and Other Statements of Offeror”, is hereby revised as follows:

“1. The Contractor’s Representations and Certifications, dated 15 JUN 2004, are hereby incorporated into this contract by reference.”

10) Both parties agree that any costs incurred for any work not identified and funded under this contract is the sole responsibility of the contractor. The Government will not reimburse the contractor for any costs exceeding the Total Estimated Government Cost Share of $8,343,896.00.

ALL OTHER TERMS AND CONDITIONS OF THIS CONTRACT SHALL REMAIN UNCHANGED.

Contract Number: N00014-02-C-0302/P00007

14

Addendum (1) to

Attachment Number 1

Statement of Work N00014-02-C-0302

Background:

[***] require [***] provided by [***]. A current shortcoming in the technology is the [***] which currently makes the [***] time-consuming and inefficient. A potential alternative technology is the use of a [***] to provide the [***]. Such an alternative approach, if successful, could lead to a very efficient means of [***]. Unfortunately, current [***] exhibit the problem that the [***] which is roughly a [***] to be useful as [***]. A major question then is; [***]?

Objective:

The overall objective of this feasibility study is to determine the [***], and to find ways to [***]. It is also to define the [***] that will lead to a [***], with the goal of [***].

To accomplish this goal, the contractor proposes a [***] focused feasibility program to:

1. Resolve what the limitations are on [***]. For example, is the [***].

2. Determine which [***] can be utilized to [***].

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

Attachment 6

N000-14-02-C-0302

3. Perform the proper analysis to [***].

4. Verify [***].

Requirements:

The Contractor shall perform the following Tasks.

Task 1. Identify the [***] by utilizing [***] to correlate the [***].

Under this task, the contractor shall augment its [***]. The contractor will also utilize the [***] to provide quick turn-around [***] and to analyze the [***] in order to [***].

Task 2. Determine the effect of [***] and the resulting [***] by performing [***].

Task 3. Assess the effect of [***].

Task 4. Determine the effect of [***].

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

Attachment 6

N000-14-02-C-0302

Task 5. Determine the effect of [***].

Task 6. Assess [***].

Deliverables:

The contractor shall provide [***] representative of the [***] achieved at the end of the program.

The contractor shall provide interim reports on a quarterly basis and a final report summarizing the findings of this feasibility study.

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

EXHIBIT A ADDENDUM

CONTRACT DATA REQUIREMENTS LIST (1 Data Item) Form Approved OMB No. 0704-0188

The public reporting burden for this collection of information is estimated to average 110 hours per response, including the time for reviewing instructions, searching existing data sources, gathering and maintaining the data needed, and completing and reviewing the collection of information. Send comments regarding this burden estimate or any other aspect of this collection of information, including suggestions for reducing the burden, to Department of Defense, Washington Headquarters Services, Directorate for Information Operations and Reports (0701-0188), 1215 Jefferson Davis highway, Suite 1204, Arlington, VA 22202-4302. Respondents should be aware that notwithstanding any other provision of law, no person shall be subject to any penalty for failing to comply with a collection of information if it does not display a currently valid OMB control number. Please DO NOT RETURN your form to the above address. Send completed form to the Government Issuing Contracting Officer for the Contract/PR No. listed in Block E.

A. CONTRACT LINE ITEM NO. 0009 B. EXHIBIT                             A C. CATEGORY TDP        ¨        TM        ¨    OTHER    x    R&D

D. SYSTEM/ITEM	E. CONTRACT/PR NO. N0001402C0302	F. CONTRACTOR CREE, INC.
1. DATA ITEM NO.                                 A001	2. TITLE OF DATA ITEM Quartery Progress Report	3. SUBTITLE

4. AUTHORITY (Data Acquisition Document No.) CONTRACTOR FORMAT 5. CONTRACT REFERENCE SOW 7.1 6. REQUIRING OFFICE ONR 312

7. DD 250 REQ         LT 9. DIST STATEMENT REQUIRED 10. FREQUENCY QUARTERLY 12. DATE OF FIRST SUBMISSION SEE BLK 16 14. DISTRIBUTION

8. APP CODE	C	11. AS OF DATE	13. DATE OF SUBSEQUENT SUBMISSION		b. COPIES
			SEE BLK 16	a. ADDRESSEE	Draft	FINAL
						Reg	Repro
16. REMARKS BLK 12/13: FIRST REPORT DUE NO LESS THAN 30 DAYS AFTER CONTRACT AWARD. INCLUDE AS A MINIMUM: TECHNICAL PROGRESS AND STATUS; MONTHLY FISCAL EXPENDITURES VERSUS THE CONTRACT’S EXPENDITURE PLAN; ISSUES AND PROPOSED SOLUTIONS. BLK 14: SUBMISSION SHALL BE BY ELECTRONIC MAIL TO THE ONR PROGRAM OFFICER IN A FORMAT THAT IS COMPATIBLE WITH MICROSOFT© OFFICE 2000 AND/OR MICROSOFT© PROJECT. NOTE: Acceptance of any progress report which includes information concerning changes in contract requirements/standards/specifications does not constitute Government agreement to those changes. Only by direction of the Contracting Officer can such changes be made.				SEE ENCLOSURE (1)		1
G. PREPARED BY C WAGONER, ONR CODE 251		H. DATE	I. APPROVED BY			J. DATE
DD FORM 1423-1, FEB 2001		PREVIOUS EDITION MAY BE USED.			Page 1 of 2

CONTRACT DATA REQUIREMENTS LIST (1 Data Item) Form Approved OMB No. 0704-0188

The public reporting burden for this for this collection of information is estimated to average 110 hours per response, including the time for reviewing instructions, searching existing data sources, gathering and maintaining the data needed, and completing and reviewing the collection of information. Send comments regarding this burden estimate or any other aspect of this collection of information, including suggestions for reducing the burden, to Department of Defense, Washington Headquarters Services, Directorate for Information Operations and Reports (0701-0188), 1215 Jefferson Davis highway, Suite 1204, Arlington, VA 22202-4302. Respondents should be aware that notwithstanding any other provision of law, no person shall be subject to any penalty for failing to comply with a collection of information if it does not display a currently valid OMB control number. Please DO NOT RETURN your form to the above address. Send completed form to the Government Issuing Contracting Officer for the Contract/PR No. listed in Block E.

A. CONTRACT LINE ITEM NO. 0003 B. EXHIBIT                             A C. CATEGORY TDP        ¨        TM        ¨    OTHER    x    R&D

D. SYSTEM/ITEM	E. CONTRACT/PR NO. N0001402C0302	F. CONTRACTOR CREE, INC.
1. DATA ITEM NO. A002	2. TITLE OF DATA ITEM Final Report	3. SUBTITLE

4. AUTHORITY (Data Acquisition Document No.) CONTRACTOR FORMAT 5. CONTRACT REFERENCE SOW 7.2 6. REQUIRING OFFICE ONR 312

7. DD 250 REQ         LT 9. DIST STATEMENT REQUIRED 10. FREQUENCY 1 TIME/R 12. DATE OF FIRST SUBMISSION 30 DAC 14. DISTRIBUTION

8. APP CODE	C	11. AS OF DATE	13. DATE OF SUBSEQUENT SUBMISSION                 N/A		b. COPIES
				a. ADDRESSEE	Draft	FINAL
						Reg	Repro
16. REMARKS DESCRIBE ALL OF THE RESEARCH WORK UNDER THIS PROGRAM AT THE END OF THE EXPANSION EFFORT. INCLUDE AS A MINIMUM: TECHNICAL PROGRESS AND STATUS; MONTHLY FISCAL EXPENDITURES VERSUS THE CONTRACT’S EXPENDITURE PLAN; ISSUES AND PROPOSED SOLUTIONS. BLK 14: SUBMISSION SHALL BE BY ELECTRONIC MAIL TO THE ONR PROGRAM OFFICER IN A FORMAT THAT IS COMPATIBLE WITH MICROSOFT© OFFICE 2000 AND/OR MICROSOFT© PROJECT. NOTE: Acceptance of any progress report which includes information concerning changes in contract requirements/standards/specifications does not constitute Government agreement to those changes. Only by direction of the Contracting Officer can such changes be made.					SEE ENCLOSURE (1)	1	3
G. PREPARED BY C WAGONER, ONR CODE 0251		H. DATE	I. APPROVED BY			J. DATE
DD FORM 1423-1, FEB 2001		PREVIOUS EDITION MAY BE USED.			Page 2 of 2

FINANCIAL ACCOUNTING DATA SHEET – NAVY

1. CONTRACT NUMBER (CRITICAL) N0001402C0302

2. SPIN (CRITICAL)

3. MOD (CRITICAL) P00006

4. PR NUMBER 04PRO4936-02

PAGE 1 OF 3

6. LINE OF ACCOUNTING

7. AMOUNT (CRITICAL)

NAVY INTERNAL USE ONLY REF DOC/ACRN

CLIN/SLIN

A. ACRN (CRITICAL)

B. APPROPRIATION (CRITICAL)

C. SUBHEAD (CRITICAL)

D. OBJ CLA

E. PARM

F. RFM

G. SA

H.     AAA (CRITICAL)

I. IT

J. PAA

K. COST CODE

PROJ UNIT

MCC

PDU & SUF

AC

9740400

1304

255

RA

313

0

068342

2D

000000

R4Y10

000

N132

$799,639..00

PR#04PRO4936-02 FRC:A110

PAGE TOTAL GRAND TOTAL

$799,639.00 $799,639.00

PREPARED/AUTHORIZED BY: DATE:

COMPTROLLER APPROVAL:         FOR FISCAL DATA AND SIGNATURE         BY: /s/ Altovise Quarles 6/30/04 For COMPTROLLER, ONE CONTRACT REVIEWED DATE:

EX-10.32

Exhibit 10.32

AMENDMENT OF SOLICITATION/MODIFICATION OF CONTRACT			CONTRACT ID CODE D	PAGE OF	PAGES
				1	2
2. AMENDMENT/MODIFICATION NO.	3. EFFECTIVE DATE	4. REQUISITION/PURCHASE REG. NO	5. PROJECT NO. (if applicable)
P00004	SEE BLOCK 16C	04PR04937-01	N.A.
6. ISSUED BY                                                     CODE	N00014	7. ADMINISTERED BY (if other than item 6)	SCD-C	CODE	S1103A
OFFICE OF NAVAL RESEARCH ONR 251 Wade Wargo (703)696-2574 E-mail wargow@onr.navy.mil BALLSTON CENTRE TOWER ONE 800 NORTH QUINCY STREET ARLINGTON, VA 22217-5660		DCM ATLANTA 805 WALKER STREET, SUITE 1 MARIETTA, GA 30060-2789
8. NAME AND ADDRESS OF CONTRACTOR (No., street, county, State and ZIP Code)		(3)	9.A. AMENDMENT OF SOLICITATION NO. N.A.
CREE INC
4600 SILICON DRIVE		¨	9B. DATED (SEE ITEM 11)
DURHAM, NC 27703		x	10A. MODIFICATION OF CONTRACT/ORDER NO.
			N00014-02-C-0306
			10B. DATED (SEE ITEM 13)
CODE	FACILITY CODE		28-Jun-02
0C9J8

11. THIS ITEM ONLY APPLIES TO AMENDMENTS OF SOLICITATIONS

¨  The above numbered solicitation is amended as set forth in item 14. The hour and date specified for receipt of Offers  ¨ is extended  ¨ is not extended.

Offers must acknowledge receipt of this amendment prior to the hour and data specified in the solicitation or as amended, by on of the following methods: (a) By completing items 8 and 15, and returning          copies of the amendment; (b) By acknowledging receipt of the amendment on each copy of the offer submitted; or (c) By separate letter or telegram which includes a reference to the solicitation and amendment numbers. FAILURE OF YOUR ACKNOWLEDGMENT TO BE RECEIVED AT THE PLACE DESIGNATED FOR THE RECEIPT OF OFFERS PRIOR TO THE HOUR AND DATE SPECIFIED MAY RESULT IN REJECTION OF YOUR OFFER. If by virtue of this amendment you desire to change an offer already submitted, such change may be made by telegram or letter, provided each telegram or letter makes reference to the solicitation and this amendment, and is received prior to the opening hour and data specified.

12. ACCOUNTING AND APPROPRIATION DATA (if required)

See Financial Accounting Data (FAD) Sheet(s)

13. THIS ITEM APPLIES ONLY TO MODIFICATIONS OF CONTRACTS/ORDERS

IT MODIFIES THE CONTRACT/ORDER NO. AS DESCRIBED ITEM 14.

(3)	A. THIS CHANGE ORDER IS ISSUED PURSUANT TO (Specify Authority) THE CHANGES SET FORTH IN ITEM 14 ARE MADE IN THE CONTRACT ORDER NO. IN ITEM 10A.
¨	B. THE ABOVE NUMBERED CONTRACT/ORDER IS MODIFIED TO REFLECT THE ADMINISTRATIVE CHANGES (such as changes in paying office, appropriation data, etc.) SET FORTH IN ITEM 14, PURSUANT TO THE AUTHORITY OF FAR 43.103(b).
¨	C. SUPPLEMENTAL AGREEMENT IS ENTERED INTO PURSUANT TO AUTHORITY OF:
	AUTHORITY FOR OTHER THAN FULL AND OPEN COMPETITION:
	D. OTHER (Specify type of modification and authority)
x	UNILATERAL MODIFICATION (FAR 43.103(b)) ISSUED PURSUANT TO FAR 52.217-9, OPTION TO EXTEND THE TERM OF THE CONTRACT

E. IMPORTANT: Contractor  x is not,  ¨ is required to sign this document and return          copies to the issuing office.

14. DESCRIPTION OF AMENDMENT/MODIFICATION (Organized by UCF section headings, including solicitation/contract subject matter where feasible.)

THE PURPOSE OF THIS MODIFICATION IS TO EXERCISE THE OPTION AND PROVIDE AN INCREMENT OF FUNDING FOR THE OPTION UNDER CONTRACT N00014-02-C-0306.

Except as provided herein, all terms and conditions of the document referenced in item 9A or 10A, as heretofore changed, remains unchanged and in full force and effect.

15A. NAME AND TITLE OF SIGNER (Type or print)		16A. NAME AND TITLE OF CONTRACTING OFFICER (Type or print)
		WADE D. WARGO Contracting Officer
15B. CONTRACTOR/OFFEROR	15C. DATE SIGNED	16B. UNITED STATES OF AMERICA		16C. DATE SIGNED
		BY	/s/ Wade Wargo	12/23/2003
(Signature of person authorized to sign)			(Signature of Contracting Officer)
SN 7540-01-152-8070		30-105		STANDARD FORM 30 (REV. 10-83)
PREVIOUS EDITION UNUSABLE				Prescribed by GSA
NAVOCNR OVERPRINT (3-88)				FAR (48 CFR) 53.243

EFFECTIVE AS THE DATE OF THIS MODIFICATION:

1) The Option Effort of Section B – Supplies or Services and Prices/Costs is hereby exercised and the total estimated contract consideration is revised as follows:

OPTION EFFORT

ITEM NO.	SUPPLIES/SERVICES	ESTIMATED GOVERNMENT COST SHARE	ESTIMATED CONTRACTOR COST SHARE	TOTAL ESTIMATED COSTS
0004	The Contractor shall furnish the necessary personnel and facilities to conduct the research effort as described in Section C.1 and C.3.	$2,914,933	[***]	[***]
	000401: AB [***]
0005	Deliverables for Quarters 7-8 in accordance with Attachment Number 2			NSP
0006	Reports and Data in accordance with Exhibit A (DD Form 1423)			NSP
TOTAL ESTIMATED CONTRACT CONSIDERATION		$11,700,588	[***]	[***]

2) The funds available for performance of this contract are increased by the amount set forth in the attached Financial Accounting Data sheet.

3) The Contractor shall accomplish the work for CLINs 0004-0006 (Option Effort) during the period from date of execution of this modification through six months thereafter.

4) In Section G – Contract Administration Data, paragraph 5 entitled “Allotment of Funds” is reinstated and revised as follows:

“5. Allotment of Funds

CLIN 0001 is fully funded.

It is hereby understood and agreed that the Government’s share of CLIN 0004 will not exceed a total amount of $2,914,933.00. The total amount presently available for payment and allotted to CLIN 0004 is [***]. It is estimated that the amount allotted of [***] will cover the period from 23 DEC 2003 through [***].

5) This modification increases the total estimated contract consideration by [***], which includes an estimated Government Cost Share of $2,914,933 and an estimated Contractor Cost Share of [***]. All other terms and conditions remain unchanged and in full force and effect.

Award Number: N00014-02-C-0306

Modification Number: P00004

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

2

FINANCIAL ACCOUNTING DATA SHEET – NAVY

1. CONTRACT NUMBER (CRITICAL) N0001402C0306

2. SPIN (CRITICAL)

3. MOD (CRITICAL) P00004

4. PR NUMBER 04PRO4937-01

PAGE 1 OF 1

6. LINE OF ACCOUNTING

7. AMOUNT (CRITICAL

)

NAVY INTERNAL USE ONLY REF DOC/ACRN

CLIN/SLIN

A. ACRN (CRITICAL)

B. APPROPRIATION (CRITICAL)

C. SUBHEAD (CRITICAL)

D. OBJ CLA

E. PARM

F. RFM

G. SA

H. AAA (CRITICAL)

I. IT

J. PAA

K. COST CODE

PROJ UNIT

MCC

PDU & SUF

AB

9730400

1304

255

RA

313

0

068342

2D

000000

R3Y10

000

N132

[

***]

PR#04PRO4937-01 FRC:A105

PAGE TOTAL GRAND TOTAL

[* * *] [* * *]

PREPARED/AUTHORIZED BY: DATE:

COMPTROLLER APPROVAL:         FOR FISCAL DATA AND SIGNATURE         BY: /s/ Altovise Quarles 12/30/03 for COMPTROLLER, ONR CONTRACT REVIEWED DATE:

ONR AWARD FORM (2/00) – version 1.1

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

Contract Distribution Sheet

PR Number:	04PR04937-01
Contract Number:	N00014-02-C-0306-P4
Specialist:	WDW ONR: 251

Distribution Date: DEC 30 2003 Distributed By: OM

—	PCO, ONR Arlington (Original)
—	Contractor (Duplicate Original)
	Short Contractor Code and Address:
	CREE
	CREE INC
	4600 SILICON DRIVE
	DURHAM, NC 27703

—	ACO
	ACO MILSCAP Code & Address S5111A:
	DCMA SOUTHERN VIRGINIA
	190 BERNARD ROAD
	FORT MONROE, VA 23651

—	Payment Office
	DODAAD Code and Address HQ0338:
	DFAS COLUMBUS CENTER DFAS CO SOUTH ENTITLEMENT OPERATIONS
	PO BOX 182264
	COLUMBUS, OH 43218-2264

—	ONR:
	00CC11
	Program Officer: Harry Dietrich, ONR 312

DEC 30 2003

EX-10.33

Exhibit 10.33

COOPERATIVE AGREEMENT

BETWEEN

Cree, Inc.

(The Recipient)

AND

U.S. Army Research Laboratory (ARL)

CONCERNING

Manufacturing Technology for SiC Material and Power Devices

Agreement No.: W911NF-04-2-0021

Total Estimated Amount of the Agreement: [***]

Total Estimated Government Funding of the Agreement: $15,917,094.00

Total Estimated Recipient Share of the Agreement: [***]

Government Funds Obligated: [***]

Authority: 10 U.S.C. 2358

Accounting and Appropriation Data:

ACRN AA:

(1)	Appropriation No.:	214 2040 0000 0 6N 6N7C 778045E2512 255Y ANDP00 W71B7J4078M101 4NE2XX S18129
(2)	Requisition No.:	W71B7J-4078-M101
(3)	Amount:	[***]
(4)	Applicable CLIN:	000101

This Agreement is entered into between the United States of America, hereinafter called the Government, represented by the U.S. Army Research Laboratory (ARL), and Cree, Inc., pursuant to and under U.S. Federal Law.

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

Table of Contents

ARTICLES

Article 1 Scope of the Agreement

Article 2 General Definitions

Article 3 Program Management

Article 4 Staff Rotation

Article 5 Fiscal Management

Article 6 Agreement Administration

Article 7 Term of the Agreement

Article 8 Administrative Responsibility

Article 9 Public Release or Dissemination of Information

Article 10 Patent Rights

Article 11 Entire Agreement

Article 12 Governing Law/Order of Precedence

Article 13 Waiver of Rights

Article 14 Use of Technical Facilities

Article 15 Metric System of Measurement

Article 16 Liability

Article 17 Non-Assignment

Article 18 Severability

Article 19 Force Majeure

Article 20 Notices

Article 21 Performance by Foreign Nationals

ATTACHMENTS

Attachment 1 Standard Terms and Conditions for For-Profit Entities

Attachment 2 National Policy Requirement

Attachment 3 Other Certifications

Attachment 4 Annual Program Plan and Budget*

Attachment 5 Reporting Requirements

* To be completed in accordance with Article 3.5

ARTICLE 1 Scope of the Agreement

1.1 Introduction

This Agreement is a “Cooperative Agreement” (31 USC 6305) and is awarded pursuant to 10 USC 2358 Research Projects. The Parties agree that the principal purpose of this Agreement is for Cree, Inc., hereinafter referred to as the “Recipient”, to provide its best research efforts in the support and stimulation of fundamental research and not the acquisition of property for the direct benefit or use of the Government. FAR and DFARS apply only as specifically referenced herein. This Agreement is not intended to be, nor shall it be construed as, by implication or otherwise, a partnership, a corporation, or other business organization.

1.2 Background and Vision Statement

The U.S. Army Research Laboratory (ARL) Sensors and Electron Devices Directorate (SEDD) works in many areas crucial to the success of the future Army, providing fundamental research to give commanders real-time situational awareness; rapid and precise discrimination and targeting; highly compact, lightweight energy sources; as well as mitigating techniques for use against hostile enemy threats.

As part of the Army’s strategic plan to transform its field operations into a more strategically responsive force, the Army is actively engaged in efforts to develop a family of manned and unmanned ground weapons systems under the Future Combat Systems program. A key factor in the development and demonstration of FCS platforms is the development of high power density, high temperature traction drive systems.

The Army Research Laboratory (ARL) has been charged with the responsibility of developing technologies that will enable FCS demonstrations. This Cooperative Agreement will allow the DoD to utilize a new class of high power motor drives that will positively impact FCS designs.

1.3 Scope

This effort focuses on the manufacturing technology for high-temperature high-power silicon carbide (SiC) semiconductor material and power devices for use in electric traction drive power components and associated power conditioning and control electronics for the next-generation of combat vehicles. All topics of joint interest regarding the manufacture, processing, and performance of high-temperature high-power SiC power devices for electric traction drive systems may be explored under this agreement. Specifically, quality of SiC starting material (substrates and epi-layers) and the design, development, and operation of SiC power devices for high-temperature, high power motor drive applications.

1.4 Goals/Objectives

The following schedule gives an estimate of the work to be undertaken during the course of this agreement:

Year One

• Develop manufacturing technology for [***]

• Develop manufacturing technology for [***]

• Develop manufacturing technology for [***]

• Develop manufacturing technology for [***]

Year Two

• Develop manufacturing technology for [***]

• Develop manufacturing technology for [***]

• Develop manufacturing technology for [***]

• Develop manufacturing technology for [***]

Year Three

• Develop manufacturing technology for [***]

• Develop manufacturing technology for [***]

• Develop manufacturing technology for [***]

• Develop manufacturing technology for [***]

Year Four

• Develop manufacturing technology for [***]

• Develop manufacturing technology for [***]

• Develop manufacturing technology for [***]

• Develop manufacturing technology for [***]

Year Five

• Develop manufacturing technology for [***]

• Develop manufacturing technology for [***]

• Develop manufacturing technology for [***]

• Develop manufacturing technology for [***]

The Recipient shall participate in a program of coordinated research, development, and education with ARL in accordance with the Annual Program Plan, Attachment 4 to this Agreement, which sets forth the specific goals and objectives for the program for the first twelve-month performance period. The recipient shall also comply with the reporting requirements set forth in Attachment 5.

The Government will have continuous involvement with the recipient. The Government will also obtain access to the research results and certain rights in data, computer codes developed,

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

and patents pursuant to Article 10 and Attachment 1 to this agreement. The Government and the Recipient are bound to each other by a duty of good faith and best research effort in achieving the goals of the Program.

As a condition of this Agreement, it is herein understood and agreed that Federal funds are to be used only for costs that: (1) a reasonable and prudent person would incur, in carrying out the advanced research project herein; and (2) are consistent with the purposes stated in governing Congressional authorizations and appropriations.

ARTICLE 2 General Definitions

2.1 Recipient — An organization or other entity receiving a grant or cooperative agreement from a DoD Component. For purposes of this Agreement, the Recipient is Cree, Inc.

2.2 Party — For purposes of this Agreement, the parties are ARL and the Recipient.

2.3 Grants Officer — Is the Government’s principal point of contact for all administrative, financial or other non-technical issues arising under the Agreement.

2.4 Agreements Administrator – The Agreements Administrator has authority to administer Cooperative Agreements and, in coordination with the Grants Officer, make determination and findings related to delegated administration functions.

2.5 Recipient Program Manager (RPM) — The RPM is the Recipient’s technical representative charged with the Recipient’s overall responsibility of management and guidance of the cooperative agreement.

2.6 Cooperative Agreement Manager (CAM) — Is the Government’s technical representative from ARL charged with the overall responsibility of management and guidance of the cooperative agreement.

2.7 Annual Program Plan and Budget — Is the baseline document which details the scope, schedule, principal investigator(s), collaboration, staff rotation, and educational opportunities for the research activities. It also includes the financial expression of the project, which serves as the resource allocation/commitment for the research activities. The Budget shall include the sum of both Federal and non-Federal shares, as appropriate.

ARTICLE 3 Program Management

3.1 ARL Cooperative Agreement Manager (CAM). The ARL Cooperative Agreement Manager (CAM) is:

Dr. C. J. (Skip) Scozzie

U.S. Army Research Laboratory

ATTN: AMSRD-ARL-SE-DP

2800 Powder Mill Road

Adelphi, MD 20783-1197

Phone: 301-394-5211

Fax No.: 301-394-1559

Email Address: sscozzie@arl.army.mil

3.2 Recipient Program Manager (RPM). The Recipient Program Manager (RPM) is:

Dr. Anant Agarwal

Cree, Inc.

4600 Silicon Drive

Durham, NC 27703

Phone: 919-313-5539

Fax No.: 919-313-5656

Email Address: Anant_Agarwal@cree.com

3.3 Cooperative Agreement Management Committee. The ARL Cooperative Agreement Manager (CAM) is responsible for the overall management and guidance of the cooperative agreement. The CAM, together with the RPM will form the Cooperative Agreement Management Committee (CAMC). Other advisory members may be added by either the CAM, or the RPM, by mutual agreement, when their presence will prove beneficial to the research. The CAMC will prepare and approve the Annual Program Plan.

3.4 Management and Program Structure. The CAMC shall be responsible for the management and integration of the party’s collaborative efforts under this agreement including programmatic, technical and reporting.

3.5 Annual Program Planning Process. Within 45 days of award, the RPM and ARL CAM will collaborate and prepare the Annual Program Plan (APP) for year 1 (date of award through 12 months). Within 10 days of submission, the Grants Officer, in conjunction with the RPM and ARL CAM, will approve the APP and associated budget for year 1.

Once approved, the APP shall serve as the annual baseline document which details the scope, schedule, principal investigator(s), staff rotation, educational opportunities, and resource allocation/commitment of the research activities. Along with the APP, the Recipient shall include a list of foreign nationals proposed to perform during the period in accordance with the notification required by Article 21. This list shall be updated as necessary during the course of the year. The ARL Grants Officer, in conjunction with the CAM, will approve the APP by way of issuing a modification to this agreement. The modification will incorporate the APP and budget to this agreement. The APP will then constitute the necessary “statement of work” and authorization document for each task included in the APP.

Beginning 6 months after initial award, the Annual Program Planning Process shall begin for the following year. This process shall continue for the length of the Agreement. As part of this process, one or more site visits may be required. In addition, the ARL CAM or his representatives will have the right to make visits as needed during the year to assess or coordinate performance.

The CAMC shall review the progress under the APP at least once annually. If it appears that research milestones will not be met, the CAMC may propose an adjustment of the APP for incorporation into the Agreement by the Grants Officer.

ARTICLE 4 Staff Rotation or On-Site Collaboration

4.1 Salary and Travel Costs. All salary and travel costs associated with the rotation of government personnel will be borne by the Government. All salary and travel costs associated with staff rotation or on-site collaboration of recipient personnel will be paid for with funding provided under this agreement.

4.2 Host Facility Regulations. All personnel in rotational assignments or on-site collaboration are required to comply with the safety, environmental, security, and operational regulations or requirements of the host facility.

4.3 Administrative Support. The host facility will provide adequate office space, communications connections, administrative support, and office supplies, if available, for researchers in long-term rotational assignments. Should it become necessary to procure equipment to facilitate a rotational assignment, the Annual Program Plan should reflect the need for such equipment, and the costs will be borne under the cooperative agreement.

ARTICLE 5 Fiscal Management

5.1 Allocation of Recipient Funds

5.1.1 Restrictions on the Use of Government Funds. Government funds provided under this Agreement must be allocated by the Recipient exclusively for the execution and operation of the Annual Program Plan or Agreement Scope. Government funds shall not be utilized to support the Recipient’s operations or administration unrelated to this Agreement.

5.1.2 Obligation. In no case shall the Government’s financial obligation exceed the amount obligated on this Agreement. The total estimated amount of Government funding for performance of this Agreement is $15,917,094.00, subject to the availability of funds. Of this amount, [***] is allotted and available for payment. It is estimated that obligated funds shall be sufficient to cover all areas of performance for the first twelve months of performance. The Government is not obligated to reimburse the Recipient for expenditures in excess of the amount of obligated funds allotted by the Government.

5.1.3 Incremental Funding. The Government may obligate funds to this Agreement incrementally. In the event that this Agreement is funded incrementally, the Government anticipates that from time to time additional amounts will be allotted to this agreement by unilateral modification, until the total amount for performance of this Agreement has been funded. To minimize interruption of effort due to lack of funds, the Recipient shall notify the Grants Officer in writing whenever the amount of funds obligated under this agreement when added to anticipated costs in the next 60 days will exceed 75% of the amount allotted.

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

5.1.4 Payments

a. The Recipient shall submit an original and two (2) copies of all vouchers (SF 270 “Request for Advance or Reimbursement”) to the Agreement Administrator for payment approval. After written verification of progress towards or achievement of the research milestones by the CAM, and approval by the Agreement Administrator, the vouchers will be forwarded to the payment office within ten (10) calendar days of receipt of the voucher. Payments will be made via EFT by the Payment Office listed in Article 8 within 20 calendar days of receipt of transmittal.

b. Payments will be made no more frequently than monthly and will be based on reimbursement of actual expenditures as monitored against the Budget Plan contained in the Annual Program Plan. Once the CAM has verified that the Recipient has expended best efforts towards the successful achievement of the research goals, payment will be authorized.

5.1.5 Cost Share. The Recipient contributions for the purpose of cost share may consist of both cash and in-kind contributions. All in-kind contributions must comply with the requirements of 32 CFR 34.13 Cost Sharing or Matching. The Government and Recipient estimate that the Scope of this Agreement can only be accomplished with a total aggregate resource contribution of [***] from the effective date of this agreement through 60 months thereafter. For the purposes of this agreement, the cost share ratio shall be $15,917,094.00 Government and [***] Recipient. The Recipient intends, and by entering into this agreement, undertakes to cause these funds to be provided. Failure of either party to provide its contribution may result in termination of this agreement, in accordance with Paragraph 7.4(a) of this agreement, or a proportional reduction in funding. As part of the cost share of this Agreement, the Recipient agrees to provide a [***] throughout the life of this Agreement. [***].

5.2 Audit Procedures. The Recipient shall ensure that an audit of all activities under this Agreement shall be conducted annually in accordance with the following subparagraphs and 32 CFR 34.16. Copies of all audit reports shall be provided to the Agreements Administration Office.

[***].

5.2.1. Selection of Auditors, Scope of Audit, and Audit Objectives. An independent auditor, herein defined as a public accountant or government auditor who meets the standards specified in the Government Auditing Standards issued by the U.S. Comptroller General, shall review and report Recipient expenditures of federal funds. The auditor shall determine whether: (1) The financial statements of the Recipient present fairly its financial position and the results of its operations in accordance with generally accepted accounting principles; (2) The Recipient has an internal control structure to provide reasonable assurance that it is managing Federal awards in compliance with applicable laws and regulations, and has in

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

place adequate controls to ensure compliance with the laws and regulations that could have a material impact on the financial statements; (3) The Recipient has complied with laws and regulations that may have a direct and material effect on its financial statement and amounts on each major Federal program; (4) The Recipient is operating in compliance with its established policies and procedures; and (5) The Recipient has complied with all requirements of this Agreement.

5.2.2 Records. The Recipient shall maintain adequate records to account for Federal funds received, as well as cost share elements, under this Agreement. Upon completion or termination, whichever occurs earlier, the Recipient shall furnish to the Agreement Administrator a copy of the final financial report prepared in accordance with Attachment 5. The Recipient’s relevant financial records are subject to examination or audit by the Government for a period not to exceed three (3) years after expiration of the term of this Agreement. The Agreement Administrator or designee shall have direct access to sufficient records and information of the Recipient, to ensure full accountability for all funding under this Agreement. Upon prior written notice such audit, examination, or access shall be performed during business hours on business days and shall be subject to the security requirements of the audited party.

ARTICLE 6 Agreement Administration

6.1 Modifications to this Agreement. Any Party who wishes to modify this Agreement shall, upon reasonable notice of the proposed modification to the other Party, confer in good faith with the other Party to determine the desirability of the proposed modification. Modifications shall not be effective until a written modification is signed by the Agreement signatories or their successors. Administrative modifications may be unilaterally executed by the Grants Officer or by the Agreements Administrator.

6.2 Requirements for Approval for Changes to the Program Budget and Annual Program Plan. This provision highlights Agency decisions on the terms and conditions of 32 CFR 32.25. During the course of performance, the Grants Officer, in coordination with the CAM, will have approval authority for certain specific changes to the APP including but not limited to:

a. Changes in the scope or the objective of the APP or research milestones;

b. Change in the key personnel specified in the proposal or award document;

c. The absence for more than three months, or a 25% reduction in time devoted to the project, by the approved project director or principal investigator.

d. The need for additional Federal funding.

ARTICLE 7 Term of the Agreement, Suspension, and Termination

7.1 Term of the Agreement. The term of this Agreement shall commence upon the effective date and continue through sixty months, subject to the availability of funds. The following provisions and 32 CFR 34.51 and 34.52 as applicable address the suspension and termination of this agreement.

7.2 No-Cost Period of Performance Extension. In accordance with the DoD Grant and Agreement Regulations (DoD 3210.6-R), the Recipient may initiate a request for a one-time, no-cost extension to the period of performance. The request may not include additional Federal funds, nor change the approved objectives or scope of the program.

7.3 Suspension or Termination for Failure to Comply. If the Recipient materially fails to comply with the terms and conditions of the agreement, the Grants Officer may, after having given Recipient thirty (30) days written notice of failure, take one or more of the following actions as appropriate:

a. Temporarily withhold payments pending correction of the deficiency by the Recipient, or more severe enforcement action as deemed appropriate by the Grants Officer, or DoD Component;

b. Disallow all or part of the cost of the activity or action not in compliance;

c. Wholly or partly suspend or terminate the current agreement;

d. Withhold further awards for the project or program;

e. Take any other legally available remedies.

7.4 Termination. This Cooperative Agreement may be terminated in whole or in part by:

a. the Grants Officer if a Recipient materially fails to comply with the terms and conditions of the Agreement and the breach is not cured within thirty (30) days after receipt of written notice of said breech;

b. the Grants Officer should insufficient funds be available to accomplish the goals or intent of the agreement, or other convenience of the Government;

c. the Grants Officer with the consent of the Recipient, in which case the parties shall agree upon the termination conditions, including the effective date and, in the case of partial termination, the portion to be terminated;

d. the Recipient, upon sending to the Grants Officer written notification setting forth the reasons for such termination, the effective date and, in the case of partial termination, the portion to be terminated. The Recipient must provide such notice at least 30 days prior to the effective date of the termination. If the Grants Officer determines in the case of partial termination that the reduced or modified portion of the cooperative agreement will not accomplish the purposes for which the award was made, the Grants Officer may terminate the agreement in its entirety.

7.5 Costs Incurred During Suspension or Termination. Costs of the Recipient resulting from obligations incurred by the Recipient during a suspension or after termination of the agreement are not allowable unless the Grants Officer expressly authorizes them in either the notice of suspension or termination, or subsequently. Other Recipient costs incurred during suspension or termination which are necessary and not reasonably avoidable are allowable if:

a. The costs result from obligations which were properly incurred by the Recipient before the effective date of the suspension or termination, are not in anticipation of it, and in the case of termination, are non-cancelable; and

b. the costs would be allowable if the agreement were not suspended or the award expired normally at the end of the funding period in which the termination takes effect.

ARTICLE 8 Administrative Responsibility

8.1 The Agreements Office

U.S. Army Robert Morris Acquisition Center

Research Triangle Park Division

ATTN: AMSSB-ACR

For FedEx etc. use:	For USPS use:
4300 S. Miami Blvd.	P.O. Box 12211
Durham, NC 27703	Research Triangle Park, NC 27709

Grants Officer: Patricia J. Fox

Phone: (919) 549-4272

Fax: (919) 549-4373

Email: patricia.fox@us.army.mil

Agreement Specialist: Richard Burkes

Phone: (919) 549-4295

Fax: (919) 549-4373

Email: richard.burkes@us.army.mil

8.2 Agreements Administrator

DCMA Southern Virginia

190 Bernard Road

Bldg 117

Fort Monroe, VA 23651

8.3 The Recipient Address and Point of Contact

Ms. Sharon M. Hannigan

Cree, Inc.

4600 Silicon Drive

Durham, NC 27703

Phone: 919-313-5554

Fax: 919-313-5696

Email Address: Sharon_Hannigan@cree.com

8.4 The Payment Office

Operating Location - Rock Island

DFAS - Rock Island

Attn: DFAS-BVAJ/RI, Building 68

Rock Island, IL 61299-8000

CODE: S18129

8.5 Address of Payee

Cree, Inc.

4600 Silicon Drive

Durham, NC 27703

ARTICLE 9 Public Release or Dissemination of Information

9.1 Open Publication Policy. Notwithstanding the reporting requirements of this Agreement, parties to this Agreement favor an open-publication policy to promote the commercial acceptance of the technology developed under this Agreement, but simultaneously recognize the necessity to protect proprietary information.

9.2 Prior Review of Public Releases. The Parties agree to confer and consult with each other prior to publication or other disclosure of the results of work under this Agreement to

ensure that no classified or proprietary information is released. Prior to submitting a manuscript for publication or before any other public disclosure, each Party will offer the other Party ample opportunity (not to exceed 60 days) to review such proposed publication or disclosure, to submit objections, and to file application letters for patents in a timely manner.

9.3 Publication Legend. It is herein agreed that except for the disclosure of basic information regarding this Agreement such as membership, purpose and a general description of the technical work, the Recipient will submit all proposed public releases to the ARL Cooperative Agreement Manager for comment prior to release. Public releases include press releases, specific publicity or advertisement, and articles for proposed publication or presentation. In addition, articles for publication or presentation will contain an acknowledgement of support and a disclaimer. Such statement may be placed either at the bottom of the first page or at the end of the paper. This should be included to read as follows. “Research was sponsored by the Army Research Laboratory and was accomplished under Cooperative Agreement Number W911NF-04-2-0021. The views and conclusions contained in this document are those of the authors and should not be interpreted as representing the official policies, either expressed or implied, of the Army Research Laboratory or the U.S. Government. The U.S. Government is authorized to reproduce and distribute reprints for Government purposes notwithstanding any copyright notation hereon.”

ARTICLE 10 Patent Rights

10.1 Definitions

10.1.1 Invention means any invention or discovery which is or may be patentable or otherwise protectable under Title 35 of the United States Code, or any novel variety of plant which is or may be protected under the Plant Variety Act (7 U.S.C. 2321 et seq.).

10.1.2 Subject invention means any invention of the recipient conceived or first actually reduced to practice in the performance of work under this agreement, provided that in the case of a variety of plant, the date of determination (as defined in section 41(d) of the Plant Variety Protection Act 7 U.S.C. 2401(d)) must occur during the period of agreement performance.

10.1.3 Practical application means to manufacture in the case of a composition or product, to practice in the case of a machine or system; and, in the case, under such conditions as to establish that the invention is being utilized and that its benefits are, to the extent permitted by law or government regulations, available to the public on reasonable terms.

10.1.4 Made when used in relation to any invention means the conception or first actual reduction to practice of such invention.

10.1.5 Small Business Firm means a small business concern as defined at Section 2 of Public Law 85-536 (15 U.S.C. 632) and implementing regulations of the Administrator of the Small Business Administration. For the purpose of this clause, the size standards for small business concerns involved in Government procurement and subcontracting at 13 CFR 121.3-8 and 13 CFR 121.3-12, respectively, will be used.

10.1.6 Nonprofit Organization means a university or other institution of higher education or an organization of the type described in section 501(c)(3) of the Internal Revenue Code of 1954 (26 U.S.C. 501(c) and exempt from taxation under section 501(a) of the Internal Revenue Code (25 U.S.C. 501(a)) or any nonprofit scientific or educational organization qualified under a state nonprofit organization statute.

10.2 Allocation of Principal Rights. The recipient may retain the entire right, title, and interest throughout the world to each subject invention subject to the provisions of this clause and 35 U.S.C. 203. With respect to any subject invention in which the recipient retains title, the federal government shall have a nonexclusive, nontransferable, irrevocable, paid-up license to practice or have practiced for or on behalf of the United States the subject invention throughout the world.

10.3 Invention Disclosure, Election of Title and Filing of Patent Application by Recipient

10.3.1 The recipient will disclose each subject invention to ARL within two months after the inventor discloses it in writing to recipient personnel responsible for patent matters. The disclosure to the agency shall be in the form of a written report and shall identify the agreement under which the invention was made and the inventor(s). It shall be sufficiently complete in technical detail to convey a clear understanding to the extent known at the time of the disclosure, of the nature, purpose, operation, and the physical, chemical, biological or electrical characteristics of the invention. The disclosure shall also identify any publication, sale or public use of the invention and whether a manuscript describing the invention has been submitted for publication and, if so, whether it has been accepted for publication at the time of disclosure. In addition, after disclosure to ARL, the recipient will promptly notify ARL of the acceptance of any manuscript describing the invention for publication or of any on sale or public use planned by the recipient.

10.3.2 The recipient will elect in writing whether or not to retain title to any such invention by notifying ARL within two years of disclosure to ARL. However, in any case where publication, sale or public use has initiated the one year statutory period wherein valid patent protection can still be obtained in the United States, the period for election of title may be shortened by ARL to a date that is no more than 60 days prior to the end of the statutory period.

10.3.3 The recipient will file its initial patent application on a subject invention to which it

elects to retain title within one year after election of title or, if earlier, prior to the end of any statutory period wherein valid patent protection can be obtained in the United States after publication, on sale, or public use. The recipient will file patent applications in additional countries or international patent offices within either ten months of the corresponding initial patent application or six months from the date permission is granted by the Commissioner of patents and trademarks to file foreign patent applications where such filing has been prohibited by a Secrecy Order.

10.3.4 Request for extension of the time for disclosure, election, and filing under Subparagraphs 10.3.1, 10.3.2, and 10.3.3 may, at the discretion of ARL, be granted.

10.4 Conditions When the Government May Obtain Title. The recipient will convey title to ARL, upon written request, title to any subject invention:

10.4.1 If the recipient fails to disclose or elect to retain title to the subject invention within the times specified in 10.3 above, or elects not to retain title; provided that ARL may only request title within 60 days after learning of the failure of the recipient to disclose or elect within the specified times.

10.4.2 In those countries in which the recipient fails to file patent applications within the times specified in Paragraph 10.3 above; provided, however, that if the recipient has filed a patent application in a country after the times specified in 10.3 above, but prior to its recipient of the written request of ARL, the recipient shall continue to retain title in that country.

10.4.3 In any country in which the recipient decides not to continue the prosecution of any application for, to pay the maintenance fees on, or defend in reexamination or opposition proceeding on, in a patent on a subject invention.

10.5 Minimum Rights to the Recipient and Protection of the Recipient Right to File.

10.5.1 The recipient will retain a nonexclusive royalty-free license throughout the world in each subject invention to which the Government obtains title, except if the recipient fails to disclose the invention within the times specified in 10.3, above. The recipient’s license extends to its domestic subsidiary and affiliates, if any, within the corporate structure of which the recipient is a party and includes the right to grant sublicenses of the same scope to the extent the recipient was legally obligated to do so at the time the agreement was awarded. The license is transferable only with the approval of ARL except when transferred to the successor of that party of the recipient’s business to which the invention pertains.

10.5.2 The recipient’s domestic license may be revoked or modified by ARL to the extent necessary to achieve expeditious practical application of the subject invention pursuant to an application for an exclusive license submitted in accordance with application provisions at 37

CFR part 404 and Agency licensing regulations (if any). This license will not be revoked in that field of use or the geographical areas in which the recipient has achieved practical application and continues to make the benefits of the invention reasonably accessible to the public. The license in any foreign country may be revoked or modified at the discretion of the funding Federal agency to the extent the recipient, its licensees, or the domestic subsidiaries or affiliates have failed to achieve practical application in that foreign country.

10.5.3 Before revocation or modification of the license, the funding Federal agency will furnish the recipient a written notice of its intention to revoke or modify the license, and the recipient will be allowed thirty days (or such other time as may be authorized by the funding Federal agency for good cause shown by the recipient)after the notice to show cause why the license should not be revoked or modified. The recipient hat the right to appeal, in accordance with applicable regulations in 37 CFR part 404 and Agency regulations (if any) concerning the licensing of Government-owned inventions, any decision concerning the revocation or modification of the license.

10.6 Recipient Action to Protect the Government’s Interest.

10.6.1 The recipient agrees to execute or to have executed and promptly deliver to the Federal agency all instruments necessary to (i) establish or confirm the rights the Government has throughout the world in those subject inventions to which the recipient elects to retain title, and (ii) convey title to the Federal agency when requested under paragraph 10.4 above and to enable the Government to obtain patent protection throughout the world in that subject invention.

10.6.2 The recipient agrees to require by written agreement or university policies and procedures, its employees, other than clerical and non technical employees, to disclose promptly in writing to personnel identified as responsible for the administration of patent matters and in a format suggested by the recipient each subject invention made under agreement in order that the recipient can comply with the disclosure provisions of paragraph 10.3 above, and to execute all papers necessary to file patent applications on subject inventions and to establish the Government’s rights in the subject inventions. This disclosure format should require as a minimum, the information required by 10.3.1 above. The recipient shall instruct such employees through employee agreements or other suitable educational programs on the importance of the reporting inventions in sufficient time to permit filing of patent applications prior to U.S or foreign statutory bars.

10.6.3 The recipient will notify the Federal agency of any decision not to continue the prosecution of a patent application, pay maintenance fees, or defend in a reexamination or opposition proceeding on a patent, in any country, not less than thirty days before the expiration of the response period required by the relevant patent office.

10.6.4 The recipient agrees to include, within the specification of any United States patent

applications and any patent issuing thereon covering a subject invention, the following statement, “This invention was made with Government support under Agreement No. W911NF-04-2-0021 awarded by ARL. The Government has certain rights in the invention.”

10.7 Subcontracts

10.7.1 The recipient will include this clause, suitably modified to identify the parties, in all subcontracts, regardless of tier, for experimental, developmental or research work to be performed by a small business firm or domestic nonprofit organization. The subcontractor will retain all rights provided for the recipient in this clause, and the recipient will not, as part of the consideration for awarding the subcontract, obtain rights in the subcontractor’s subject invention.

10.7.2 The recipient will include in all other subcontracts, regardless of tier, for experimental, developmental, or research work the patent rights clause required by FAR 52-227.11.

10.8 Reporting on Utilization of Subject Inventions. The recipient agrees to submit on request periodic reports no more frequently than annually on the utilization of a subject invention or on efforts at obtaining such utilization that are being made by the recipient or its licensees or assignees. Such reports shall include information regarding the status of development, date of first commercial sale or use, gross royalties received by the recipient, and such other data and information as the agency may reasonably specify. The recipient also agrees to provide additional reports as may be requested by the agency in connection with any march-in proceeding undertaken by the agency in accordance with paragraph 10.10 of this clause. As required by 35 U.S.C. 202(c)(5), the agency agrees it will not disclose such information to persons outside the Government without permission of the recipient.

10.9 Preference for United States Industry. Notwithstanding any other provision of this clause, the recipient agrees neither it nor any assignee will grant to any person the exclusive right to use or sell any subject inventions in the United States unless such person agrees that any products embodying the subject invention will be manufactured substantially in the United States. However, in individual cases, the requirement for such an agreement may be waived by the Federal agency upon a showing by the recipient or its assignee that reasonable but unsuccessful efforts have been made to grant licenses on similar terms to potential licensees that would be likely to manufacture substantially in the United states or that under the circumstances domestic manufacture is not commercially feasible.

10.10 March-in Rights. The recipient agrees that with respect to any subject invention in which it has acquired title, the federal agency has the right in accordance with the procedures in 37 CFR 401.6 and any supplemental regulations of the Agency to require the recipient, an assignee or exclusive licensee of a subject invention to grant a nonexclusive, partially exclusive, or exclusive license in any field of use to a responsible applicant or applicants, upon terms that are reasonable under the circumstances, and if the recipient, assignee, or exclusive licensee

refuses such a request the Federal agency has the right to grant such a license itself if the Federal agency determines that:

10.10.1 Such action is necessary because the recipient or assignee has not taken or is not expected to take within reasonable time, effective steps to achieve practical application of the subject invention in such field of use.

10.10.2 Such action is necessary to alleviate health or safety needs which are not reasonably satisfied by the recipient, assignee, or licensee.

10.10.3 Such action is necessary to meet requirements for public use specified by Federal regulations and such requirements are not reasonably satisfied by the recipient, assignee, or licensee; or

10.10.4 Such action is necessary because the agreement required by paragraph 10.9 of this clause has not been obtained or waived or because a licensee of the exclusive right to use or sell any subject invention in the United states is in breach of such agreement.

10.11 Special Provisions for Agreements with Nonprofit Organizations. If the recipient is a nonprofit organization it agrees that:

10.11.1 Rights to a subject invention in the United States may not be assigned without the approval of the Federal agency, except where such assignment is made to an organization which has as one of its primary functions the management of inventions, provided that such assignee will be subject to the same provisions as the recipient.

10.11.2 The recipient will share royalties collected on a subject invention with the inventor, including Federal employee co-inventors (when the Agency deems it appropriate) when the subject invention is assigned in accordance with 35 U.S.C. 202(e) and 37 CFR 401.10;

10.11.3 The balance of any royalties or income earned by the recipient with respect to subject inventions, after payment of expenses (including payments to inventors) incidental to the administration of subject inventions, will be utilized for the support of scientific research or education; and

10.11.4 It will make efforts that are reasonable under the circumstances to attract licensees of subject inventions that are small business firms and that it will give a preference to a small business firm when licensing a subject invention if the recipient determines that the small business firm has a plan or proposal for marketing the invention which, if executed, is equally as likely to bring the invention to practical application as any plans or proposals from applicants that are not small business firms; provided, that the recipient is also satisfied that the small business firm has the capability and resources to carry out its plan or proposal. The decision whether to give a preference in any specific case will be at the discretion of the recipient of the

recipient. However, the recipient agrees that the Assistant Secretary of Commerce for Technology Policy may review the recipient’s licensing program and decisions regarding small business applicants, and the recipient will negotiate changes to its licensing policy, procedures, or practices with the Secretary when the Secretary’s review discloses that the recipient could take reasonable steps to implement more effectively the requirements of this paragraph 10.11.4.

10.12 Communication. Reports and notifications required by this clause shall be forwarded to the Grants Officer identified in this agreement.

ARTICLE 11 Entire Agreement

This Agreement along with all Attachments constitutes the entire agreement between the parties concerning the subject matter hereof and supersedes any prior understandings or written or oral agreement relative to said matter. In the event of a conflict between the terms of the Agreement and its attachments, the terms of the Agreement shall govern.

ARTICLE 12 Governing Law/Order of Precedence

The Agreement shall be enforced in accordance with applicable federal law and regulations, directives, circulars or other guidance as specified in this Agreement. When signed, this Agreement shall become binding on the Recipient and the Government to be administered in accordance with the DoD Grant and Agreement Regulations as they apply to the particular recipient or subrecipient concerned. In the event a conflict exists between the provisions of this Agreement and the applicable law, regulations, directives, circulars or other guidance, the Agreement provisions are subordinate.

ARTICLE 13 Waiver of Rights

Any waiver of any requirement contained in this Agreement shall be by mutual agreement of the parties hereto. Any waiver shall be reduced to writing and a copy of the waiver shall be provided to each Party. Failure to insist upon strict performance of any of the terms and conditions hereof, or failure or delay to exercise any rights provided herein or by law, shall not be deemed a waiver of any rights of any Party hereto.

ARTICLE 14 Use of Technical Facilities

To the maximum extent practical, the Recipient agrees to use the technical reference facilities of the Defense Technical Information Center, 8725 John J. Kingman Road, Suite 0944, Ft. Belvoir, VA 22060-6218 (Internet address: http://www.dtic.mil) and all other sources, whether United States Government or private, for purpose of surveying existing knowledge and avoiding needless duplication of scientific and engineering effort.

ARTICLE 15 Metric System of Measurement

The Metric Conversion Act of 1975 as amended by the Omnibus Trade and Competitiveness Act of 1988 and implemented by Executive Order 12770 gives preference to the metric system. The Recipient shall ensure that the metric system is used to the maximum extent practicable in performance of this Agreement.

ARTICLE 16 Liability

No Party to this Agreement shall be liable to any other Party for any property of that other Party consumed, damaged, or destroyed in the performance of this Agreement, unless it is due to the negligence or misconduct of the Party or an employee or agent of the Party.

ARTICLE 17 Non-Assignment

This Agreement may not be assigned by any Party except by operation of law resulting from the merger of a party into or with another corporate entity.

ARTICLE 18 Severability

If any clause, provision or section of this Agreement shall be held illegal or invalid by any court, the invalidity of such clause, provision or section shall not affect any of the remaining clauses, provisions or sections herein and this Agreement shall be construed and enforced as if such illegal or invalid clause, provision or section had not been contained herein.

ARTICLE 19 Force Majeure

Neither Party shall be in breach of this Agreement for any failure of performance caused by any event beyond its reasonable control and not caused by the fault or negligence of that Party. In the event such a force majeure event occurs, the Party unable to perform shall promptly notify the other Party and shall in good faith maintain such partial performance as is reasonably possible and shall resume full performance as soon as is reasonably possible.

ARTICLE 20 Notices

All notices and prior approvals required hereunder shall be in writing and shall be addressed to the parties identified on the Agreement cover page and Article 8. Notices shall be effective upon signature of the Grants Officer.

ARTICLE 21 Performance by Foreign Nationals

In accordance with 8 U.S.C. 1324a, it is unlawful to hire for employment in the U.S. an individual without verifying that individual’s employment authorization. 8 CFR 274a.2 VERIFICATION OF EMPLOYMENT ELIGIBILITY identifies the official documents that establish employment eligibility.

Prior to performance of work by a foreign national as a result of this Agreement, the employer shall provide the Grants Officer the name of the foreign national and identify the type of form(s) produced for verification of employment status. Should the foreign national’s performance require access to DoD facilities, the employer shall coordinate with the sponsor providing access, in order to submit the following:

1. Individual’s Name

2. Citizenship

3. Date and Location of the Visit

4. Purpose of the Visit

5. Passport Number

6. Employer’s Verification of Work Authorization

ATTACHEMENT 1

Standard Terms and Conditions for For-Profit Entities

Department of Defense Grant and Agreement Regulations (DoDGARS)

(32 CFR Parts 21-34)

Standard Terms and Conditions

The following references are to provisions of the DoDGAR that are applicable to For-Profit recipients to this agreement. Narratives following a reference indicate the Agency’s decision on specific issues.

32 CFR 22.815 Claims, Disputes and Appeal

The Agency and recipient will employ Alternative Dispute Resolution to resolve issues which arise during the performance of this agreement. The procedures to be used will be mutually agreed to when and if issues arise [see section 815(c)(2)]. The Grant Appeal Authority is the Director of ARL [see section 815(e)(2)].

32 CFR 34.1(b)(2)(ii) Sub-awards

For-profit organizations that receive prime awards covered by this part shall apply to each sub-award the administrative requirements that are applicable to the particular type of sub-recipient (see 32 CFR parts 32 and 34).

32 CFR 34.11 Standards for Financial Management Systems

The Agency does not guarantee or insure the repayment of money borrowed by the Recipient [see section 11(b)]. Fidelity bond coverage is not required [see section 11(c)]. Bonds are not required [see section 11(d)].

32 CFR 34.12 Payment

This agreement will employ the reimbursement method of payment [see 32 CFR 34.12(a)(1)].

This agreement does not provide for advance payments (see section 12(a)(2)). (See Article 5, subparagraphs 5.1.2 thru 5.1.4.).

See Article 5 Fiscal Management for specifics concerning the payment process.

32 CFR 34.17 Allowable Costs

The for-profit cost principles in 48 CFR parts 31 and 231 (in the Federal Acquisition Regulation, or FAR, and the Defense Acquisition Regulation Supplement, or DFARs) as well as the supplemental information on allowability of audit costs in 32 CFR 34.16(f) are applicable.

32 CFR 34.18 Fee/Profit

This agreement does not provide for the payment of fee/profit to the recipients.

32 CFR 34.13 Cost Sharing or Matching

This provision is applicable only if cost share or match is proposed. Should cost share or match be included the parties to this agreement will mutually agree to its allowability and valuation.

32 CFR 34.14 Program Income

Should this agreement result in the generation of program income, the recipient shall account for said funds, add them to the funds committed to the project, and they shall be used to further the program objectives.

The recipient shall have no obligation to the Government for program income earned after the expiration of the program.

Costs incident to the generation of program income may be deducted from gross income to determine program income, provided these costs have not been charged to the award document.

The Patent and Trademark Amendments (35 U.S.C. Chapter 18) apply to inventions made under this award.

32 CFR 34.15 Revision of Budget and Program Plans

See Article 6 of this agreement.

32 CFR 34.16 Non-Federal Audits

For-profit recipients of this award are required to submit audit reports to the Agreement Administrator.

32 CFR 34.30 through 34.31 Procurement

ARL reserves the right to review prior to award procurement documents such as request for proposals, or invitations for bids, independent cost estimates etc. during performance under this award [see 32 CFR 34.31(b)].

32 CFR 34.20 through 34.25 Property

For-profit recipients may only purchase real property and equipment under this agreement with the prior approval of the Grants Officer. Government approved Program Plans that include a budget indicating real property or equipment purchases will provide sufficient evidence of the required Grants Officer approval.

The recipient receives conditional title to all real property and equipment purchased under this agreement. ARL reserves the right to transfer title to any and all equipment or real property purchased under this agreement to the Federal Government or to eligible third parties upon conclusion of this agreement.

ARL reserves the right to obtain, reproduce, publish or otherwise use for Federal Government purposes the data first produced under this award, and authorize others to receive, reproduce, publish, or otherwise use such data for Federal purposes.

For-profit organizations other than small business concerns shall comply with 35 U.S.C. 210(c) and executive Order 12591 (3 CFR, 1987 Comp., p.220) which codifies a Presidential Memorandum on Government Patent Policy dated February 18,1983.

32 CFR 34.41 Reports

See Attachment 5 of this agreement.

32 CFR 34.42 Records

32 CFR 34.61 through 34.63 After-the-Award Requirements

Appendix A to Part 34 – Contract Provisions

All contracts awarded by the Recipient, including those for amounts less than the simplified acquisition threshold, shall contain the following provisions as applicable:

Equal Employment Opportunity (E.O. 11246 as amended by E.O. 11375 and supplemented by 41 CFR Chapter 60)

Copeland “Anti-Kickback” Act (18 U.S.C. 874 and 40 U.S.C. 276c)

Contract Work Hours and Safety Standards Act (40 U.S.C. 327-333)

Rights to Inventions Made Under a Contract, Grant or Cooperative Agreement (37 CFR Part 401)

Clean Air Act (42 U.S.C. 7401 et seq.) and the Federal Water Pollution Control Act (33 U.S.C. 1251 et seq.)

Byrd Anti-Lobbying Amendment (31 U.S.C. 1352)

Debarment and Suspension (E.O.s 12549 and 12689)

ATTACHMENT 2 National Policy Requirements

National Policy Requirements

By signing this Agreement or accepting funds under this Agreement, the recipient assures that it will comply with applicable provisions of the national policies on the following topics:

1. Nondiscrimination

a. On the basis of race, color, or national origin, in Title VI of the Civil Rights Act of 1964 (42 U.S.C. 2000d, et seq.), as implemented by DoD regulations at 32 CFR part 195.

b.     On the basis of sex or blindness, in Title IX of the Education Amendments of 1972 (20 U.S.C. 1681, et seq.). (Applicable to Educational Institutions only)

c. On the basis of age, in the Age Discrimination Act of 1975 (42 U.S.C. 6101, et seq.), as implemented by Department of Health and Human Services regulations at 45 CFR part 90.

d. On the basis of handicap, in Section 504 of the Rehabilitation Act of 1973 (29 U.S.C. 794), as implemented by Department of Justice regulations at 28 CFR part 41 and DoD regulations at 32 CFR part 56.

2. Live Organisms. For human subjects, the Common Federal Policy for the Protection of Human Subjects, codified by the Department of Health and Human Services at 45 CFR part 46 and implemented by the Department of Defense at 32 CFR part 219.

3. Environmental Standards.

a. Comply with the applicable provisions of the Clean Air Act (42 U.S.C. 7401, et. Seq.) and Clean Water Act (33 U.S.C. 1251, et. seq.), as implemented by Executive Order 11783 [3 CFR, 1971-1075 Comp., p. 799] and Environmental Protection Agency (EPA) rules at 40 CFR part 15. In accordance with the EPA rules, the Recipient further agrees that it will:

- Not use any facility on the EPA’s List of Violating Facilities in performing any award that is nonexempt under 40 CFR 15.5, as long as the facility remains on the list.

- Notify the awarding agency if it intends to use a facility in performing this award that is on the List of Violating Facilities or that the Recipient knows has been recommended to be placed on the List of Violating Facilities.

b. Identify to the awarding agency any impact this award may have on the quality of the human environment, and provide help the agency may need to comply with the National Environmental Policy Act (NEPA, at 42 U.S.C. 4231, et. seq.) and to prepare Environmental Impact Statements or other required environmental documentation. In such cases, the recipient agrees to take no action that will have an adverse environmental impact (e.g., physical disturbance of a site such as breaking of ground) until the agency provides written notification of compliance with the environmental impact analysis process.

4. Officials Not to Benefit. No member of or delegate to Congress, or resident commissioner, shall be admitted to any share or part of this Agreement or to any benefit arising from it, in accordance with 41 U.S.C. 22.

5. Preference for U.S. Flag Carriers. Travel supported by U.S. Government funds under this Agreement shall use U.S. -flag air carriers (air carriers holding certificates under 49 USC 41102) for international air transportation of people and property to the extent that such service is available, in accordance with the International Air Transportation Fair Competitive Practices Act of 1974 (49 USC 40118) and the interpretative guidelines issued by the Comptroller General of the United States in the March 31, 1981, amendment to the Comptroller General Decision B138942.

6. Cargo Preference. The recipient agrees that it will comply with the Cargo Preference Act of 1954 (46 U.S.C. 1241), as implemented by Department of Transportation regulations at 46 CFR 381.7, which require that at least 50 percent of equipment, materials or commodities procured or otherwise obtained with U.S. Government funds under this agreement, and which may be transported by ocean vessel, shall be transported on privately owned U.S.-flag commercial vessels, if available.

7. Military Recruiters. As a condition for receipt of funds available to the Department of Defense (DoD) under this award, the recipient agrees that it is not an institution of higher education (as defined in 32 CFR part 216) that has a policy of denying, and that it is not an institution of higher education that effectively prevents, the Secretary of Defense from obtaining for military recruiting purposes: (A) entry to campuses or access to students on campuses; or (B) access to directory information pertaining to students. If the recipient is determined, using the procedures in 32 CFR part 216, to be such an institution of higher education during the period of performance of this agreement, and therefore to be in breach of this clause, the Government will cease all payments of DoD funds under this agreement and all other DoD grants and cooperative agreements to the recipient, and it may suspend or terminate such grants and agreements unilaterally for material failure to comply with the terms and conditions of award.

ATTACHMENT 3 Other Certifications

Other Certifications

The following Certifications, which have been executed by the Recipient prior to award of this Agreement are on file with the issuing office, and are hereby incorporated herein by reference:

a. Certification at Appendix A to 32 CFR Part 28 Regarding Lobbying

b. Certification at Appendix A to 32 CFR Part 25 Regarding Debarment, Suspension, and Other Responsibility Matters

c. Certification at Appendix C to 32 CFR Part 25 Regarding Drug-Free Workplace Requirements

ATTACHMENT 4 Annual Program Plan and Budget

To be completed in accordance with Article 3.5.

ATTACHMENT 5 Reporting Requirements

REPORTING REQUIREMENTS

A. QUARTERLY REPORT

Throughout the term of the Agreement, the Recipient shall submit or otherwise provide a quarterly report (government fiscal quarter). Two (2) copies shall be submitted or otherwise provided to the CAM, and one (1) copy shall be submitted or otherwise provided to the Agreements Administration Office. A copy of the letter of transmittal shall be submitted or otherwise provided to the Agreements Office. The report shall contain two (2) major sections:

1. Technical Status Report. The technical status report will detail technical progress to date on research milestones, all problems, technical issues or major developments during the reporting period. The technical status report will include a report on the status of the collaborative activities during the reporting period. The technical status report will include the utilization of subject inventions by the Recipient.

2. Business Status Report. The business status report will provide summarized details of the resource status of this Agreement, including the status of contributions by the Recipient. This report should compare the resource status with any payment and expenditure schedules or plans provided in the original agreement. Any major deviations shall be explained along with discussion of adjustment actions proposed.

B. JOINT PAPERS AND PRESENTATIONS

When determined necessary by the CAM, periodic joint papers and presentations will be given.

C. JOURNAL ARTICLES

Journal articles in general and joint ARL/Recipient journal articles are strongly encouraged as a major reporting mechanism of this research effort.

D. ANNUAL and FINAL REPORTS

1. The Recipient shall submit an Annual Report making full disclosure of all major technical developments and progress for the preceding 12 months of effort within sixty (60) calendar days of completion of the effort and for each additional 12 months of effort, through the life of this agreement. The report will also provide an accounting of all Federal funds expended during the term of the Agreement. With the approval of the Cooperative Agreement Manager, reprints of published articles may be attached to the Final Report.

2. The Recipient shall make distribution of the Annual and Final report as follows: Cooperative Agreement Manager - 1 original plus 1 copy; Agreement Administration Office - 1 copy, and the Grants Officer - 1 copy of the letter of transmittal only. In addition, one (1) copy of the Final Report only shall be provided to Defense Technical Information Center (DTIC) addressed to 8725 John J. Kingman Road, Suite 0944, Ft. Belvoir, VA 22060-6218.

3. The Final Report shall be marked with a distribution statement to denote the extent of its availability for further distribution, release, and disclosure with additional approvals or authorizations. The Final Report shall be marked on the front page in a conspicuous place with the following marking:

DISTRIBUTION STATEMENT B. Distribution authorized to U.S. Government agencies only to protect information not owned by the U.S. Government, or received with the understanding that it is not routinely transmitted outside of the U.S. Government. Other requests for this document shall be referred to the ARL Security and Intelligence Office.

AWARD/CONTRACT	1. THIS CONTRACT IS A RATED ORDER     UNDER DPAS (15 CFR 350)	RATING	PAGE OF PAGES
			1            3
2. CONTRACT (Proc. Inst. Ident.) NO. W911NF-04-2-0021	3. EFFECTIVE DATE                 01 May 2004	4. REQUISITION/PURCHASE REQUEST/PROJECT NO.

5. ISSUED BY                                    CODE         W911NF US ARMY ROBERT MORRIS ACQ CTR – W911NF RESEARCH TRIANGLE PARK CONTRACTING DIV ATTN: AMSRD-ACC-R P.O. BOX 12211 RESEARCH TRIANGLE PARK NC 27709-2211 6. ADMINISTERED BY (If other than Item 5)                        CODE    S5111A DCMA SOUTHERN VIRGINIA 190 BERNARD ROAD BUILDING 117 FORT MONROE VA 23651

7. NAME AND ADDRESS OF CONTRACTOR (No., street, city, county, state and zip code) CREE, INC. CREE, INC. 4600 SILICON DRIVE DURHAM, NC 27703-8475 CODE    0C9J8                            FACILITY CODE 8. DELIVERY ¨FOB ORIGIN        x OTHER (See below) 9. DISCOUNT FOR PROMPT PAYMENT 10. SUBMIT INVOICES                ITEM (4 copies unless otherwise specified)
TO THE ADDRESS
SHOWN IN:

11. SHIP TO/MARK FOR                CODE See Schedule	12. PAYMENT WILL BE MADE BY                                     CODE HQ0338 DFAS-COLUMBUS CENTER DFAS-CO/SOUTH ENTITLEMENT OPERATIONS PO BOX 182264 COLUMBUS OH 43218-2284
13. AUTHORITY FOR USING OTHER THAN FULL AND OPEN      COMPETITION: ¨ 10 U.S.C. 2304(c)(            )    ¨ 41 U.S.C. 253(c)(            )	14. ACCOUNTING AND APPROPRIATION DATA See Schedule

15A. ITEM NO.	15B. SUPPLIES/SERVICES	15C. QUANTITY	15D. UNIT	15E. UNIT PRICE	15F. AMOUNT
	SEE SCHEDULE
		15G. TOTAL AMOUNT OF CONTRACT			$15,917,094.00

16. TABLE OF CONTENTS
x	SEC	DESCRIPTION	PAGE(S)	x	SEC.	DESCRIPTION	PAGE(S)
PART I - THE SCHEDULE					PART II - CONTRACT CLAUSES
X	A	SOLICITATION/CONTRACT FORM			I	CONTRACT CLAUSES
	B	SUPPLIES OR SERVICES AND PRICES/COSTS		PART III - LIST OF DOCUMENTS, EXHIBITS AND OTHER ATTACHMENTS
	C	DESCRIPTION/SPECS./WORK STATEMENT			J	LIST OF ATTACHMENTS
	D	PACKAGING AND MARKING		PART IV - REPRESENTATIONS AND INSTRUCTIONS
	E	INSPECTION AND ACCEPTANCE			K	REPRESENTATIONS, CERTIFICATIONS AND OTHER STATEMENTS OF OFFERORS
	F	DELIVERIES OR PERFORMANCE
	G	CONTRACT ADMINISTRATION DATA			L	INSTRS., CONDS., AND NOTICES TO OFFERORS
	H	SPECIAL CONTRACT REQUIREMENTS			M	EVALUATION FACTORS FOR AWARD

CONTRACTING OFFICER WILL COMPLETE ITEM 17 OR 18 AS APPLICABLE

17. x CONTRACTOR’S NEGOTIATED AGREEMENT    Contractor is required to sign this document and return__    copies to issuing office.)    Contractor agrees to furnish and deliver all items or perform all the services set forth or otherwise identified above and on any continuation sheets for the consideration stated herein. The rights and obligations of the parties to this contract shall be subject to and governed by the following documents: (a) this award/contract, (b) the solicitation, if any, and (c) such provisions, representations, certifications, and specifications, as are attached or incorporated by reference herein. (Attachments are listed herein.)

18.  ¨ AWARD (Contractor is not required to sign this document.)        Your offer on Solicitation Number                                                   including the additions or changes made by you which additions or changes are set forth in full above, is hereby accepted as to the items listed above and on any continuation sheets. This award consummates the contract which consists of the following documents: (a) the Government’s solicitation and your offer, and (b) this award/contract. No further contractual document is necessary.

19A. NAME AND TITLE OF SIGNER (Type or print) John W. Palmour		20A. NAME AND TITLE OF CONTRACTING OFFICER Patricia J. Fox, Grants Officer Tel:  919-549-4272            EMAIL: patricia.fox@us.army.mil
19B. NAME OF CONTRACTOR	19C. DATE SIGNED 4/29/04	20B. UNITED STATES OF AMERICA	20C. DATE SIGNED     2004 April 29

BY	/s/ John W. Palmour	BY	/s/ Patricia J. Fox
	(Signature of person authorized to sign)		(Signature of Contracting Officer)

NSN 7540-01-152-8069	26-107	STANDARD FORM 26 (REV. 4-85)
PREVIOUS EDITION UNUSABLE	GPO 1985 O - 469-794	Prescribed by GSA
		FAR (48 CFR) 53.214(a)

EX-10.34

Exhibit 10.34

COOPERATIVE AGREEMENT

BETWEEN

Cree, Inc.

(The Recipient)

AND

U.S. Army Research Laboratory (ARL)

CONCERNING

Development of SiC Power Devices and Power Modules

Agreement No.: W911NF-04-2-0022

Total Estimated Amount of the Agreement: [***]

Total Estimated Government Funding of the Agreement: $9,999,699.00

Total Estimated Recipient Share of the Agreement: [***]

Government Funds Obligated: [***]

Authority: 10 U.S.C. 2358

Accounting and Appropriation Data:

ACRN AA:
(1)	Appropriation No.:	21 4 2040 0000 0 6N 6N7E 622601H9111 255Y 4RHE00
		MIPR4FARL2B115 42B115 S20113
(2)	Requisition No.:	W71B7J-4104-M104
(3)	Amount:	[***]
(4)	Applicable CLIN:	000101
ACRN AB:
(2)	Appropriation No.:	21 4 2040 0000 0 6N 6N7E 622601H9111 255Y 4RET00
		MIPR4GARL2B114 42B114 S20113
(2)	Requisition No.:	W71B7J-4104-M103
(3)	Amount:	[***]
(4)	Applicable CLIN:	000102

This Agreement is entered into between the United States of America, hereinafter called the Government, represented by the U.S. Army Research Laboratory (ARL), and Cree, Inc., pursuant to and under U.S. Federal Law.

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

Table of Contents

ARTICLES

Article 1 Scope of the Agreement

Article 2 General Definitions

Article 3 Program Management

Article 4 Staff Rotation

Article 5 Fiscal Management

Article 6 Agreement Administration

Article 7 Term of the Agreement

Article 8 Administrative Responsibility

Article 9 Public Release or Dissemination of Information

Article 10 Patent Rights

Article 11 Entire Agreement

Article 12 Governing Law/Order of Precedence

Article 13 Waiver of Rights

Article 14 Use of Technical Facilities

Article 15 Metric System of Measurement

Article 16 Liability

Article 17 Non-Assignment

Article 18 Severability

Article 19 Force Majeure

Article 20 Notices

Article 21 Performance by Foreign Nationals

ATTACHMENTS

Attachment 1 Standard Terms and Conditions for For-Profit Entities

Attachment 2 National Policy Requirement

Attachment 3 Other Certifications

Attachment 4 Annual Program Plan and Budget*

Attachment 5 Reporting Requirements

* To be completed in accordance with Article 3.5

ARTICLE 1 Scope of the Agreement

1.1 Introduction

This Agreement is a “Cooperative Agreement” (31 USC 6305) and is awarded pursuant to 10 USC 2358 Research Projects. The Parties agree that the principal purpose of this Agreement is for Cree, Inc., hereinafter referred to as the “Recipient”, to provide its best research efforts in the support and stimulation of fundamental research and not the acquisition of property for the direct benefit or use of the Government. FAR and DFARS apply only as specifically referenced herein. This Agreement is not intended to be, nor shall it be construed as, by implication or otherwise, a partnership, a corporation, or other business organization.

1.2 Background and Vision Statement

The U.S. Army Research Laboratory (ARL) Sensors and Electron Devices Directorate (SEDD) works in many areas crucial to the success of the future Army, providing fundamental research to give commanders real-time situational awareness; rapid and precise discrimination and targeting; highly compact, lightweight energy sources; as well as mitigating techniques for use against hostile enemy threats.

As part of the Army’s strategic plan to transform its field operations into a more strategically responsive force, the Army is actively engaged in efforts to develop a family of manned and unmanned ground weapons systems under the Future Combat Systems program. A key factor in the development and demonstration of FCS platforms is the development of high power density, high temperature traction drive systems.

The Army Research Laboratory (ARL) has been charged with the responsibility of developing technologies that will enable FCS demonstrations. This Cooperative Agreement will allow the DoD to utilize a new class of high power motor drives that will positively impact FCS designs.

1.3 Scope

This effort focuses on the development of high-temperature high-power silicon carbide (SiC) semiconductor power devices and power modules for use in electric traction drive power components and associated power conditioning and control electronics for the next-generation of combat vehicles. All topics of joint interest regarding the device development of SiC power devices and power modules for electric traction drive systems may be explored under this agreement. Specifically, the SiC power device and power module design, fabrication, and operation at high-temperature and high power in motor drive power conditioning, control, and power distribuiton applications. The overall goal of this program is to provide high-temperature power modules of 1200 V, 600 A rating.

1.4 Goals/Objectives

The following schedule is an estimate of the work to be undertaken during the course of this agreement:

Year One

• Develop device design and fabrication process to provide [***]

• Develop device design and fabrication process to provide [***]

• Develop high-temperature modules based on above [***]

Year Two

• Develop device design and fabrication process to provide [***]

• Develop device design and fabrication process to provide [***]

• Develop high-temperature modules based on above [***]

Year Three

• Develop device design and fabrication process to provide [***]

• Develop device design and fabrication process to provide [***]

• Develop high-temperature modules based on above [***]

Year Four

• Develop device design and fabrication process to provide [***]

• Develop device design and fabrication process to provide [***]

• Develop high-temperature modules based on above [***]

Year Five

• Develop device design and fabrication process to provide [***]

• Develop device design and fabrication process to provide [***]

• Develop high-temperature modules based on above [***]

The Recipient shall participate in a program of coordinated research, development, and education with ARL in accordance with the Annual Program Plan, Attachment 4 to this Agreement, which sets forth the specific goals and objectives for the program for the first twelve-month performance period. The recipient shall also comply with the reporting requirements set forth in Attachment 5.

The Government will have continuous involvement with the recipient. The Government will also obtain access to the research results and certain rights in data, computer codes developed, and patents pursuant to Article 10 and Attachment 1 to this agreement. The Government and the

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

Recipient are bound to each other by a duty of good faith and best research effort in achieving the goals of the Program.

As a condition of this Agreement, it is herein understood and agreed that Federal funds are to be used only for costs that: (1) a reasonable and prudent person would incur, in carrying out the advanced research project herein; and (2) are consistent with the purposes stated in governing Congressional authorizations and appropriations.

ARTICLE 2 General Definitions

2.1 Recipient — An organization or other entity receiving a grant or cooperative agreement from a DoD Component. For purposes of this Agreement, the Recipient is Cree, Inc.

2.2 Party — For purposes of this Agreement, the parties are ARL and the Recipient.

2.3 Grants Officer — Is the Government’s principal point of contact for all administrative, financial or other non-technical issues arising under the Agreement.

2.4 Agreements Administrator – The Agreements Administrator has authority to administer Cooperative Agreements and, in coordination with the Grants Officer, make determination and findings related to delegated administration functions.

2.5 Recipient Program Manager (RPM) — The RPM is the Recipient’s technical representative charged with the Recipient’s overall responsibility of management and guidance of the cooperative agreement.

2.6 Cooperative Agreement Manager (CAM) — Is the Government’s technical representative from ARL charged with the overall responsibility of management and guidance of the cooperative agreement.

2.7 Annual Program Plan and Budget — Is the baseline document which details the scope, schedule, principal investigator(s), collaboration, staff rotation, and educational opportunities for the research activities. It also includes the financial expression of the project, which serves as the resource allocation/commitment for the research activities. The Budget shall include the sum of both Federal and non-Federal shares, as appropriate.

ARTICLE 3 Program Management

3.1 ARL Cooperative Agreement Manager (CAM). The ARL Cooperative Agreement Manager (CAM) is:

Dr. C. J. (Skip) Scozzie

U.S. Army Research Laboratory

ATTN: AMSRD-ARL-SE-DP

2800 Powder Mill Road

Adelphi, MD 20783-1197

Phone: 301-394-5211

Fax No.: 301-394-1559

Email Address: sscozzie@arl.army.mil

3.2 Recipient Program Manager (RPM). The Recipient Program Manager (RPM) is:

Dr. Anant Agarwal

Cree, Inc.

4600 Silicon Drive

Durham, NC 27703

Phone: 919-313-5539

Fax No.: 919-313-5656

Email Address: Anant_Agarwal@cree.com

3.3 Cooperative Agreement Management Committee. The ARL Cooperative

Agreement Manager (CAM) is responsible for the overall management and guidance of the cooperative agreement. The CAM, together with the RPM will form the Cooperative Agreement Management Committee (CAMC). Other advisory members may be added by either the CAM, or the RPM, by mutual agreement, when their presence will prove beneficial to the research. The CAMC will prepare and approve the Annual Program Plan.

3.4 Management and Program Structure. The CAMC shall be responsible for the management and integration of the party’s collaborative efforts under this agreement including programmatic, technical and reporting.

3.5 Annual Program Planning Process. Within 45 days of award, the RPM and ARL CAM will collaborate and prepare the Annual Program Plan (APP) for year 1 (date of award through 12 months). Within 10 days of submission, the Grants Officer, in conjunction with the RPM and ARL CAM, will approve the APP and associated budget for year 1.

Once approved, the APP shall serve as the annual baseline document which details the scope, schedule, principal investigator(s), staff rotation, educational opportunities, and resource allocation/commitment of the research activities. Along with the APP, the Recipient shall include a list of foreign nationals proposed to perform during the period in accordance with the notification required by Article 21. This list shall be updated as necessary during the course of the year. The ARL Grants Officer, in conjunction with the CAM, will approve the APP by way of issuing a modification to this agreement. The modification will incorporate the APP and budget to this agreement. The APP will then constitute the necessary “statement of work” and authorization document for each task included in the APP.

Beginning 6 months after initial award, the Annual Program Planning Process shall begin for the following year. This process shall continue for the length of the Agreement. As part of this process, one or more site visits may be required. In addition, the ARL CAM or his representatives will have the right to make visits as needed during the year to assess or coordinate performance.

The CAMC shall review the progress under the APP at least once annually. If it appears that research milestones will not be met, the CAMC may propose an adjustment of the APP for incorporation into the Agreement by the Grants Officer.

ARTICLE 4 Staff Rotation or On-Site Collaboration

4.1 Salary and Travel Costs. All salary and travel costs associated with the rotation of government personnel will be borne by the Government. All salary and travel costs associated with staff rotation or on-site collaboration of recipient personnel will be paid for with funding provided under this agreement.

4.2 Host Facility Regulations. All personnel in rotational assignments or on-site collaboration are required to comply with the safety, environmental, security, and operational regulations or requirements of the host facility.

4.3 Administrative Support. The host facility will provide adequate office space, communications connections, administrative support, and office supplies, if available, for researchers in long-term rotational assignments. Should it become necessary to procure equipment to facilitate a rotational assignment, the Annual Program Plan should reflect the need for such equipment, and the costs will be borne under the cooperative agreement.

ARTICLE 5 Fiscal Management

5.1 Allocation of Recipient Funds

5.1.1 Restrictions on the Use of Government Funds. Government funds provided under this Agreement must be allocated by the Recipient exclusively for the execution and operation of the Annual Program Plan or Agreement Scope. Government funds shall not be utilized to support the Recipient’s operations or administration unrelated to this Agreement.

5.1.2 Obligation. In no case shall the Government’s financial obligation exceed the amount obligated on this Agreement. The total estimated amount of Government funding for performance of this Agreement is $9,999,699.00, subject to the availability of funds. Of this amount, [***] is allotted and available for payment. It is estimated that obligated funds shall be sufficient to cover all areas of performance for the first eleven months of performance. The Government is not obligated to reimburse the Recipient for expenditures in excess of the amount of obligated funds allotted by the Government.

5.1.3 Incremental Funding. The Government may obligate funds to this Agreement incrementally. In the event that this Agreement is funded incrementally, the Government anticipates that from time to time additional amounts will be allotted to this agreement by unilateral modification, until the total amount for performance of this Agreement has been funded. To minimize interruption of effort due to lack of funds, the Recipient shall notify the Grants Officer in writing whenever the amount of funds obligated under this agreement when added to anticipated costs in the next 60 days will exceed 75% of the amount allotted.

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

5.1.4 Payments

a. The Recipient shall submit an original and two (2) copies of all vouchers (SF 270 “Request for Advance or Reimbursement”) to the Agreement Administrator for payment approval. After written verification of progress towards or achievement of the research milestones by the CAM, and approval by the Agreement Administrator, the vouchers will be forwarded to the payment office within ten (10) calendar days of receipt of the voucher. Payments will be made via EFT by the Payment Office listed in Article 8 within 20 calendar days of receipt of transmittal.

b. Payments will be made no more frequently than monthly and will be based on reimbursement of actual expenditures as monitored against the Budget Plan contained in the Annual Program Plan. Once the CAM has verified that the Recipient has expended best efforts towards the successful achievement of the research goals, payment will be authorized.

5.1.5 Cost Share. The Recipient contributions for the purpose of cost share may consist of both cash and in-kind contributions. All in-kind contributions must comply with the requirements of 32 CFR 34.13 Cost Sharing or Matching. The Government and Recipient estimate that the Scope of this Agreement can only be accomplished with a total aggregate resource contribution of [***] from the effective date of this agreement through 60 months thereafter. For the purposes of this agreement, the cost share ratio shall be $9,999,699.00 Government and [***] Recipient. The Recipient intends, and by entering into this agreement, undertakes to cause these funds to be provided. Failure of either party to provide its contribution may result in termination of this agreement, in accordance with Paragraph 7.4(a) of this agreement, or a proportional reduction in funding. As part of the cost share of this Agreement, the Recipient agrees to provide a [***] throughout the life of this Agreement. [***].

5.2 Audit Procedures. The Recipient shall ensure that an audit of all activities under this Agreement shall be conducted annually in accordance with the following subparagraphs and 32 CFR 34.16. Copies of all audit reports shall be provided to the Agreements Administration Office.

[***].

5.2.1. Selection of Auditors, Scope of Audit, and Audit Objectives. An independent auditor, herein defined as a public accountant or government auditor who meets the standards specified in the Government Auditing Standards issued by the U.S. Comptroller General, shall review and report Recipient expenditures of federal funds. The auditor shall determine whether: (1) The financial statements of the Recipient present fairly its financial position and the results of its operations in accordance with generally accepted accounting principles; (2) The Recipient has an internal control structure to provide reasonable assurance that it is managing Federal awards in compliance with applicable laws and regulations, and has in place adequate controls to ensure compliance with the laws and regulations that could have a material impact on the financial statements; (3) The Recipient has complied with laws and

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

regulations that may have a direct and material effect on its financial statement and amounts on each major Federal program; (4) The Recipient is operating in compliance with its established policies and procedures; and (5) The Recipient has complied with all requirements of this Agreement.

5.2.2 Records. The Recipient shall maintain adequate records to account for Federal funds received, as well as cost share elements, under this Agreement. Upon completion or termination, whichever occurs earlier, the Recipient shall furnish to the Agreement Administrator a copy of the final financial report prepared in accordance with Attachment 5. The Recipient’s relevant financial records are subject to examination or audit by the Government for a period not to exceed three (3) years after expiration of the term of this Agreement. The Agreement Administrator or designee shall have direct access to sufficient records and information of the Recipient, to ensure full accountability for all funding under this Agreement. Upon prior written notice such audit, examination, or access shall be performed during business hours on business days and shall be subject to the security requirements of the audited party.

ARTICLE 6 Agreement Administration

6.1 Modifications to this Agreement. Any Party who wishes to modify this Agreement shall, upon reasonable notice of the proposed modification to the other Party, confer in good faith with the other Party to determine the desirability of the proposed modification. Modifications shall not be effective until a written modification is signed by the Agreement signatories or their successors. Administrative modifications may be unilaterally executed by the Grants Officer or by the Agreements Administrator.

6.2 Requirements for Approval for Changes to the Program Budget and Annual Program Plan. This provision highlights Agency decisions on the terms and conditions of 32 CFR 32.25. During the course of performance, the Grants Officer, in coordination with the CAM, will have approval authority for certain specific changes to the APP including but not limited to:

a. Changes in the scope or the objective of the APP or research milestones;

b. Change in the key personnel specified in the proposal or award document;

c. The absence for more than three months, or a 25% reduction in time devoted to the project, by the approved project director or principal investigator.

d. The need for additional Federal funding.

ARTICLE 7 Term of the Agreement, Suspension, and Termination

7.1 Term of the Agreement. The term of this Agreement shall commence upon the effective date and continue through sixty months, subject to the availability of funds. The following provisions and 32 CFR 34.51 and 34.52 as applicable address the suspension and termination of this agreement.

7.2 No-Cost Period of Performance Extension. In accordance with the DoD Grant and Agreement Regulations (DoD 3210.6-R), the Recipient may initiate a request for a one-time, no-cost extension to the period of performance. The request may not include additional Federal funds, nor change the approved objectives or scope of the program.

7.3 Suspension or Termination for Failure to Comply. If the Recipient materially fails to comply with the terms and conditions of the agreement, the Grants Officer may, after having given Recipient thirty (30) days written notice of failure, take one or more of the following actions as appropriate:

a. Temporarily withhold payments pending correction of the deficiency by the Recipient, or more severe enforcement action as deemed appropriate by the Grants Officer, or DoD Component;

b. Disallow all or part of the cost of the activity or action not in compliance;

c. Wholly or partly suspend or terminate the current agreement;

d. Withhold further awards for the project or program;

e. Take any other legally available remedies.

7.4 Termination. This Cooperative Agreement may be terminated in whole or in part by:

a. the Grants Officer if a Recipient materially fails to comply with the terms and conditions of the Agreement and the breach is not cured within thirty (30) days after receipt of written notice of said breech;

b. the Grants Officer should insufficient funds be available to accomplish the goals or intent of the agreement, or other convenience of the Government;

c. the Grants Officer with the consent of the Recipient, in which case the parties shall agree upon the termination conditions, including the effective date and, in the case of partial termination, the portion to be terminated;

d. the Recipient, upon sending to the Grants Officer written notification setting forth the reasons for such termination, the effective date and, in the case of partial termination, the portion to be terminated. The Recipient must provide such notice at least 30 days prior to the effective date of the termination. If the Grants Officer determines in the case of partial termination that the reduced or modified portion of the cooperative agreement will not accomplish the purposes for which the award was made, the Grants Officer may terminate the agreement in its entirety.

7.5 Costs Incurred During Suspension or Termination. Costs of the Recipient resulting from obligations incurred by the Recipient during a suspension or after termination of the agreement are not allowable unless the Grants Officer expressly authorizes them in either the notice of suspension or termination, or subsequently. Other Recipient costs incurred during suspension or termination which are necessary and not reasonably avoidable are allowable if:

a. The costs result from obligations which were properly incurred by the Recipient before the effective date of the suspension or termination, are not in anticipation of it, and in the case of termination, are non-cancelable; and

b. the costs would be allowable if the agreement were not suspended or the award expired normally at the end of the funding period in which the termination takes effect.

ARTICLE 8 Administrative Responsibility

8.1 The Agreements Office

U.S. Army Robert Morris Acquisition Center

Research Triangle Park Division

ATTN: AMSSB-ACR

For FedEx etc. use:	For USPS use:
4300 S. Miami Blvd.	P.O. Box 12211
Durham, NC 27703	Research Triangle Park, NC 27709

Grants Officer: Patricia J. Fox

Phone: (919) 549-4272

Fax: (919) 549-4373

Email: patricia.fox@us.army.mil

Agreement Specialist: Richard Burkes

Phone: (919) 549-4295

Fax: (919) 549-4373

Email: richard.burkes@us.army.mil

8.2 Agreements Administrator

DCMA Southern Virginia

190 Bernard Road

Bldg 117

Fort Monroe, VA 23651

8.3 The Recipient Address and Point of Contact

Ms. Sharon M. Hannigan

Cree, Inc.

4600 Silicon Drive

Durham, NC 27703

Phone: 919-313-5554

Fax: 919-313-5696

Email Address: Sharon_Hannigan@cree.com

8.4 The Payment Office

Operating Location - Rock Island

DFAS - Rock Island

Attn: DFAS-BVAJ/RI, Building 68

Rock Island, IL 61299-8000

CODE: S18129

8.5 Address of Payee

Cree, Inc.

4600 Silicon Drive

Durham, NC 27703

ARTICLE 9 Public Release or Dissemination of Information

9.1 Open Publication Policy. Notwithstanding the reporting requirements of this Agreement, parties to this Agreement favor an open-publication policy to promote the commercial acceptance of the technology developed under this Agreement, but simultaneously recognize the necessity to protect proprietary information.

9.2 Prior Review of Public Releases. The Parties agree to confer and consult with each other prior to publication or other disclosure of the results of work under this Agreement to ensure that no classified or proprietary information is released. Prior to submitting a manuscript for publication or before any other public disclosure, each Party will offer the other Party ample opportunity (not to exceed 60 days) to review such proposed publication or disclosure, to submit objections, and to file application letters for patents in a timely manner.

9.3 Publication Legend. It is herein agreed that except for the disclosure of basic information regarding this Agreement such as membership, purpose and a general description of the technical work, the Recipient will submit all proposed public releases to the ARL Cooperative Agreement Manager for comment prior to release. Public releases include press releases, specific publicity or advertisement, and articles for proposed publication or presentation. In addition, articles for publication or presentation will contain an acknowledgement of support and a disclaimer. Such statement may be placed either at the bottom of the first page or at the end of the paper. This should be included to read as follows. “Research was sponsored by the Army Research Laboratory and was accomplished under Cooperative Agreement Number W911NF-04-2-0022. The views and conclusions contained in this document are those of the authors and should not be interpreted as representing the official policies, either expressed or implied, of the Army Research Laboratory or the U.S. Government. The U.S. Government is authorized to reproduce and distribute reprints for Government purposes notwithstanding any copyright notation hereon.”

ARTICLE 10 Patent Rights

10.1 Definitions

10.1.1 Invention means any invention or discovery which is or may be patentable or otherwise protectable under Title 35 of the United States Code, or any novel variety of plant which is or may be protected under the Plant Variety Act (7 U.S.C. 2321 et seq.).

10.1.2 Subject invention means any invention of the recipient conceived or first actually reduced to practice in the performance of work under this agreement, provided that in the case of a variety of plant, the date of determination (as defined in section 41(d) of the Plant Variety Protection Act 7 U.S.C. 2401(d)) must occur during the period of agreement performance.

10.1.3 Practical application means to manufacture in the case of a composition or product, to practice in the case of a machine or system; and, in the case, under such conditions as to establish that the invention is being utilized and that its benefits are, to the extent permitted by law or government regulations, available to the public on reasonable terms.

10.1.4 Made when used in relation to any invention means the conception or first actual reduction to practice of such invention.

10.1.5 Small Business Firm means a small business concern as defined at Section 2 of Public Law 85-536 (15 U.S.C. 632) and implementing regulations of the Administrator of the Small Business Administration. For the purpose of this clause, the size standards for small business concerns involved in Government procurement and subcontracting at 13 CFR 121.3-8 and 13 CFR 121.3-12, respectively, will be used.

10.1.6 Nonprofit Organization means a university or other institution of higher education or an organization of the type described in section 501(c)(3) of the Internal Revenue Code of 1954 (26 U.S.C. 501(c) and exempt from taxation under section 501(a) of the Internal Revenue Code (25 U.S.C. 501(a)) or any nonprofit scientific or educational organization qualified under a state nonprofit organization statute.

10.2 Allocation of Principal Rights. The recipient may retain the entire right, title, and interest throughout the world to each subject invention subject to the provisions of this clause and 35 U.S.C. 203. With respect to any subject invention in which the recipient retains title, the federal government shall have a nonexclusive, nontransferable, irrevocable, paid-up license to practice or have practiced for or on behalf of the United States the subject invention throughout the world.

10.3 Invention Disclosure, Election of Title and Filing of Patent Application by Recipient

10.3.1 The recipient will disclose each subject invention to ARL within two months after the inventor discloses it in writing to recipient personnel responsible for patent matters. The disclosure to the agency shall be in the form of a written report and shall identify the agreement under which the invention was made and the inventor(s). It shall be sufficiently complete in technical detail to convey a clear understanding to the extent known at the time of the disclosure, of the nature, purpose, operation, and the physical, chemical, biological or electrical characteristics of the invention. The disclosure shall also identify any publication, sale or public use of the invention and whether a manuscript describing the invention has been submitted for publication and, if so, whether it has been accepted for publication at the time of disclosure. In addition, after disclosure to ARL, the recipient will promptly notify ARL of the acceptance of any manuscript describing the invention for publication or of any on sale or public use planned by the recipient.

10.3.2 The recipient will elect in writing whether or not to retain title to any such invention by notifying ARL within two years of disclosure to ARL. However, in any case where publication, sale or public use has initiated the one year statutory period wherein valid patent protection can still be obtained in the United States, the period for election of title may be shortened by ARL to a date that is no more than 60 days prior to the end of the statutory period.

10.3.3 The recipient will file its initial patent application on a subject invention to which it elects to retain title within one year after election of title or, if earlier, prior to the end of any statutory period wherein valid patent protection can be obtained in the United States after publication, on sale, or public use. The recipient will file patent applications in additional countries or international patent offices within either ten months of the corresponding initial patent application or six months from the date permission is granted by the Commissioner of patents and trademarks to file foreign patent applications where such filing has been prohibited by a Secrecy Order.

10.3.4 Request for extension of the time for disclosure, election, and filing under Subparagraphs 10.3.1, 10.3.2, and 10.3.3 may, at the discretion of ARL, be granted.

10.4 Conditions When the Government May Obtain Title. The recipient will convey title to ARL, upon written request, title to any subject invention:

10.4.1 If the recipient fails to disclose or elect to retain title to the subject invention within the

times specified in 10.3 above, or elects not to retain title; provided that ARL may only request title within 60 days after learning of the failure of the recipient to disclose or elect within the specified times.

10.4.2 In those countries in which the recipient fails to file patent applications within the times specified in Paragraph 10.3 above; provided, however, that if the recipient has filed a patent application in a country after the times specified in 10.3 above, but prior to its recipient of the written request of ARL, the recipient shall continue to retain title in that country.

10.4.3 In any country in which the recipient decides not to continue the prosecution of any application for, to pay the maintenance fees on, or defend in reexamination or opposition proceeding on, in a patent on a subject invention.

10.5 Minimum Rights to the Recipient and Protection of the Recipient Right to File.

10.5.1 The recipient will retain a nonexclusive royalty-free license throughout the world in each subject invention to which the Government obtains title, except if the recipient fails to disclose the invention within the times specified in 10.3, above. The recipient’s license extends to its domestic subsidiary and affiliates, if any, within the corporate structure of which the recipient is a party and includes the right to grant sublicenses of the same scope to the extent the recipient was legally obligated to do so at the time the agreement was awarded. The license is transferable only with the approval of ARL except when transferred to the successor of that party of the recipient’s business to which the invention pertains.

10.5.2 The recipient’s domestic license may be revoked or modified by ARL to the extent necessary to achieve expeditious practical application of the subject invention pursuant to an application for an exclusive license submitted in accordance with application provisions at 37 CFR part 404 and Agency licensing regulations (if any). This license will not be revoked in that field of use or the geographical areas in which the recipient has achieved practical application and continues to make the benefits of the invention reasonably accessible to the public. The license in any foreign country may be revoked or modified at the discretion of the funding Federal agency to the extent the recipient, its licensees, or the domestic subsidiaries or affiliates have failed to achieve practical application in that foreign country.

10.5.3 Before revocation or modification of the license, the funding Federal agency will furnish the recipient a written notice of its intention to revoke or modify the license, and the recipient will be allowed thirty days (or such other time as may be authorized by the funding Federal agency for good cause shown by the recipient)after the notice to show cause why the license should not be revoked or modified. The recipient hat the right to appeal, in accordance with applicable regulations in 37 CFR part 404 and Agency regulations (if any) concerning the licensing of Government-owned inventions, any decision concerning the revocation or modification of the license.

10.6 Recipient Action to Protect the Government’s Interest.

10.6.1 The recipient agrees to execute or to have executed and promptly deliver to the Federal agency all instruments necessary to (i) establish or confirm the rights the Government has throughout the world in those subject inventions to which the recipient elects to retain title, and (ii) convey title to the Federal agency when requested under paragraph 10.4 above and to enable the Government to obtain patent protection throughout the world in that subject invention.

10.6.2 The recipient agrees to require by written agreement or university policies and procedures, its employees, other than clerical and non technical employees, to disclose promptly in writing to personnel identified as responsible for the administration of patent matters and in a format suggested by the recipient each subject invention made under agreement in order that the recipient can comply with the disclosure provisions of paragraph 10.3 above, and to execute all papers necessary to file patent applications on subject inventions and to establish the Government’s rights in the subject inventions. This disclosure format should require as a minimum, the information required by 10.3.1 above. The recipient shall instruct such employees through employee agreements or other suitable educational programs on the importance of the reporting inventions in sufficient time to permit filing of patent applications prior to U.S or foreign statutory bars.

10.6.3 The recipient will notify the Federal agency of any decision not to continue the prosecution of a patent application, pay maintenance fees, or defend in a reexamination or opposition proceeding on a patent, in any country, not less than thirty days before the expiration of the response period required by the relevant patent office.

10.6.4 The recipient agrees to include, within the specification of any United States patent applications and any patent issuing thereon covering a subject invention, the following statement, “This invention was made with Government support under Agreement No. W911NF-04-2-0022 awarded by ARL. The Government has certain rights in the invention.”

10.7 Subcontracts

10.7.1 The recipient will include this clause, suitably modified to identify the parties, in all subcontracts, regardless of tier, for experimental, developmental or research work to be performed by a small business firm or domestic nonprofit organization. The subcontractor will retain all rights provided for the recipient in this clause, and the recipient will not, as part of the consideration for awarding the subcontract, obtain rights in the subcontractor’s subject invention.

10.7.2 The recipient will include in all other subcontracts, regardless of tier, for experimental, developmental, or research work the patent rights clause required by FAR 52-227.11.

10.8 Reporting on Utilization of Subject Inventions. The recipient agrees to submit

on request periodic reports no more frequently than annually on the utilization of a subject invention or on efforts at obtaining such utilization that are being made by the recipient or its licensees or assignees. Such reports shall include information regarding the status of development, date of first commercial sale or use, gross royalties received by the recipient, and such other data and information as the agency may reasonably specify. The recipient also agrees to provide additional reports as may be requested by the agency in connection with any march-in proceeding undertaken by the agency in accordance with paragraph 10.10 of this clause. As required by 35 U.S.C. 202(c)(5), the agency agrees it will not disclose such information to persons outside the Government without permission of the recipient.

10.9 Preference for United States Industry. Notwithstanding any other provision of this clause, the recipient agrees neither it nor any assignee will grant to any person the exclusive right to use or sell any subject inventions in the United States unless such person agrees that any products embodying the subject invention will be manufactured substantially in the United States. However, in individual cases, the requirement for such an agreement may be waived by the Federal agency upon a showing by the recipient or its assignee that reasonable but unsuccessful efforts have been made to grant licenses on similar terms to potential licensees that would be likely to manufacture substantially in the United states or that under the circumstances domestic manufacture is not commercially feasible.

10.10 March-in Rights. The recipient agrees that with respect to any subject invention in which it has acquired title, the federal agency has the right in accordance with the procedures in 37 CFR 401.6 and any supplemental regulations of the Agency to require the recipient, an assignee or exclusive licensee of a subject invention to grant a nonexclusive, partially exclusive, or exclusive license in any field of use to a responsible applicant or applicants, upon terms that are reasonable under the circumstances, and if the recipient, assignee, or exclusive licensee refuses such a request the Federal agency has the right to grant such a license itself if the Federal agency determines that:

10.10.1 Such action is necessary because the recipient or assignee has not taken or is not expected to take within reasonable time, effective steps to achieve practical application of the subject invention in such field of use.

10.10.2 Such action is necessary to alleviate health or safety needs which are not reasonably satisfied by the recipient, assignee, or licensee.

10.10.3 Such action is necessary to meet requirements for public use specified by Federal regulations and such requirements are not reasonably satisfied by the recipient, assignee, or licensee; or

10.10.4 Such action is necessary because the agreement required by paragraph 10.9 of this clause has not been obtained or waived or because a licensee of the exclusive right to use or sell any subject invention in the United states is in breach of such agreement.

10.11 Special Provisions for Agreements with Nonprofit Organizations. If the recipient is a nonprofit organization it agrees that:

10.11.1 Rights to a subject invention in the United States may not be assigned without the approval of the Federal agency, except where such assignment is made to an organization which has as one of its primary functions the management of inventions, provided that such assignee will be subject to the same provisions as the recipient.

10.11.2 The recipient will share royalties collected on a subject invention with the inventor, including Federal employee co-inventors (when the Agency deems it appropriate) when the subject invention is assigned in accordance with 35 U.S.C. 202(e) and 37 CFR 401.10;

10.11.3 The balance of any royalties or income earned by the recipient with respect to subject inventions, after payment of expenses (including payments to inventors) incidental to the administration of subject inventions, will be utilized for the support of scientific research or education; and

10.11.4 It will make efforts that are reasonable under the circumstances to attract licensees of subject inventions that are small business firms and that it will give a preference to a small business firm when licensing a subject invention if the recipient determines that the small business firm has a plan or proposal for marketing the invention which, if executed, is equally as likely to bring the invention to practical application as any plans or proposals from applicants that are not small business firms; provided, that the recipient is also satisfied that the small business firm has the capability and resources to carry out its plan or proposal. The decision whether to give a preference in any specific case will be at the discretion of the recipient of the recipient. However, the recipient agrees that the Assistant Secretary of Commerce for Technology Policy may review the recipient’s licensing program and decisions regarding small business applicants, and the recipient will negotiate changes to its licensing policy, procedures, or practices with the Secretary when the Secretary’s review discloses that the recipient could take reasonable steps to implement more effectively the requirements of this paragraph 10.11.4.

10.12 Communication. Reports and notifications required by this clause shall be forwarded to the Grants Officer identified in this agreement.

ARTICLE 11 Entire Agreement

This Agreement along with all Attachments constitutes the entire agreement between the parties concerning the subject matter hereof and supersedes any prior understandings or written or oral agreement relative to said matter. In the event of a conflict between the terms of the Agreement and its attachments, the terms of the Agreement shall govern.

ARTICLE 12 Governing Law/Order of Precedence

The Agreement shall be enforced in accordance with applicable federal law and regulations, directives, circulars or other guidance as specified in this Agreement. When signed, this Agreement shall become binding on the Recipient and the Government to be administered in accordance with the DoD Grant and Agreement Regulations as they apply to the particular recipient or subrecipient concerned. In the event a conflict exists between the provisions of this Agreement and the applicable law, regulations, directives, circulars or other guidance, the Agreement provisions are subordinate.

ARTICLE 13 Waiver of Rights

Any waiver of any requirement contained in this Agreement shall be by mutual agreement of the parties hereto. Any waiver shall be reduced to writing and a copy of the waiver shall be provided to each Party. Failure to insist upon strict performance of any of the terms and conditions hereof, or failure or delay to exercise any rights provided herein or by law, shall not be deemed a waiver of any rights of any Party hereto.

ARTICLE 14 Use of Technical Facilities

To the maximum extent practical, the Recipient agrees to use the technical reference facilities of the Defense Technical Information Center, 8725 John J. Kingman Road, Suite 0944, Ft. Belvoir, VA 22060-6218 (Internet address: http://www.dtic.mil) and all other sources, whether United States Government or private, for purpose of surveying existing knowledge and avoiding needless duplication of scientific and engineering effort.

ARTICLE 15 Metric System of Measurement

The Metric Conversion Act of 1975 as amended by the Omnibus Trade and Competitiveness Act of 1988 and implemented by Executive Order 12770 gives preference to the metric system. The Recipient shall ensure that the metric system is used to the maximum extent practicable in performance of this Agreement.

ARTICLE 16 Liability

No Party to this Agreement shall be liable to any other Party for any property of that other Party consumed, damaged, or destroyed in the performance of this Agreement, unless it is due to the negligence or misconduct of the Party or an employee or agent of the Party.

ARTICLE 17 Non-Assignment

This Agreement may not be assigned by any Party except by operation of law resulting from the merger of a party into or with another corporate entity.

ARTICLE 18 Severability

If any clause, provision or section of this Agreement shall be held illegal or invalid by any court, the invalidity of such clause, provision or section shall not affect any of the remaining clauses, provisions or sections herein and this Agreement shall be construed and enforced as if such illegal or invalid clause, provision or section had not been contained herein.

ARTICLE 19 Force Majeure

Neither Party shall be in breach of this Agreement for any failure of performance caused by any event beyond its reasonable control and not caused by the fault or negligence of that Party. In the event such a force majeure event occurs, the Party unable to perform shall promptly notify the other Party and shall in good faith maintain such partial performance as is reasonably possible and shall resume full performance as soon as is reasonably possible.

ARTICLE 20 Notices

All notices and prior approvals required hereunder shall be in writing and shall be addressed to the parties identified on the Agreement cover page and Article 8. Notices shall be effective upon signature of the Grants Officer.

ARTICLE 21 Performance by Foreign Nationals

In accordance with 8 U.S.C. 1324a, it is unlawful to hire for employment in the U.S. an individual without verifying that individual’s employment authorization. 8 CFR 274a.2 VERIFICATION OF EMPLOYMENT ELIGIBILITY identifies the official documents that establish employment eligibility.

Prior to performance of work by a foreign national as a result of this Agreement, the employer shall provide the Grants Officer the name of the foreign national and identify the type of form(s) produced for verification of employment status. Should the foreign national’s performance require access to DoD facilities, the employer shall coordinate with the sponsor providing access, in order to submit the following:

1. Individual’s Name

2. Citizenship

3. Date and Location of the Visit

4. Purpose of the Visit

5. Passport Number

6. Employer’s Verification of Work Authorization

ATTACHEMENT 1

Standard Terms and Conditions for For-Profit Entities

Department of Defense Grant and Agreement Regulations (DoDGARS)

(32 CFR Parts 21-34)

Standard Terms and Conditions

The following references are to provisions of the DoDGAR that are applicable to For-Profit recipients to this agreement. Narratives following a reference indicate the Agency’s decision on specific issues.

32 CFR 22.815 Claims, Disputes and Appeal

The Agency and recipient will employ Alternative Dispute Resolution to resolve issues which arise during the performance of this agreement. The procedures to be used will be mutually agreed to when and if issues arise [see section 815(c)(2)]. The Grant Appeal Authority is the Director of ARL [see section 815(e)(2)].

32 CFR 34.1(b)(2)(ii) Sub-awards

For-profit organizations that receive prime awards covered by this part shall apply to each sub-award the administrative requirements that are applicable to the particular type of sub-recipient (see 32 CFR parts 32 and 34).

32 CFR 34.11 Standards for Financial Management Systems

The Agency does not guarantee or insure the repayment of money borrowed by the Recipient [see section 11(b)]. Fidelity bond coverage is not required [see section 11(c)]. Bonds are not required [see section 11(d)].

32 CFR 34.12 Payment

This agreement will employ the reimbursement method of payment [see 32 CFR 34.12(a)(1)].

This agreement does not provide for advance payments (see section 12(a)(2)). (See Article 5, subparagraphs 5.1.2 thru 5.1.4.).

See Article 5 Fiscal Management for specifics concerning the payment process.

32 CFR 34.17 Allowable Costs

The for-profit cost principles in 48 CFR parts 31 and 231 (in the Federal Acquisition Regulation, or FAR, and the Defense Acquisition Regulation Supplement, or DFARs) as well as the supplemental information on allowability of audit costs in 32 CFR 34.16(f) are applicable.

32 CFR 34.18 Fee/Profit

This agreement does not provide for the payment of fee/profit to the recipients.

32 CFR 34.13 Cost Sharing or Matching

This provision is applicable only if cost share or match is proposed. Should cost share or match be included the parties to this agreement will mutually agree to its allowability and valuation.

32 CFR 34.14 Program Income

Should this agreement result in the generation of program income, the recipient shall account for said funds, add them to the funds committed to the project, and they shall be used to further the program objectives.

The recipient shall have no obligation to the Government for program income earned after the expiration of the program.

Costs incident to the generation of program income may be deducted from gross income to determine program income, provided these costs have not been charged to the award document.

The Patent and Trademark Amendments (35 U.S.C. Chapter 18) apply to inventions made under this award.

32 CFR 34.15 Revision of Budget and Program Plans

See Article 6 of this agreement.

32 CFR 34.16 Non-Federal Audits

For-profit recipients of this award are required to submit audit reports to the Agreement Administrator.

32 CFR 34.30 through 34.31 Procurement

ARL reserves the right to review prior to award procurement documents such as request for proposals, or invitations for bids, independent cost estimates etc. during performance under this award [see 32 CFR 34.31(b)].

32 CFR 34.20 through 34.25 Property

For-profit recipients may only purchase real property and equipment under this agreement with the prior approval of the Grants Officer. Government approved Program Plans that include a budget indicating real property or equipment purchases will provide sufficient evidence of the required Grants Officer approval.

The recipient receives conditional title to all real property and equipment purchased under this agreement. ARL reserves the right to transfer title to any and all equipment or real property purchased under this agreement to the Federal Government or to eligible third parties upon conclusion of this agreement.

ARL reserves the right to obtain, reproduce, publish or otherwise use for Federal Government purposes the data first produced under this award, and authorize others to receive, reproduce, publish, or otherwise use such data for Federal purposes.

For-profit organizations other than small business concerns shall comply with 35 U.S.C. 210(c) and executive Order 12591 (3 CFR, 1987 Comp., p.220) which codifies a Presidential Memorandum on Government Patent Policy dated February 18,1983.

32 CFR 34.41 Reports

See Attachment 5 of this agreement.

32 CFR 34.42 Records

32 CFR 34.61 through 34.63 After-the-Award Requirements

Appendix A to Part 34 – Contract Provisions

All contracts awarded by the Recipient, including those for amounts less than the simplified acquisition threshold, shall contain the following provisions as applicable:

Equal Employment Opportunity (E.O. 11246 as amended by E.O. 11375 and supplemented by 41 CFR Chapter 60)

Copeland “Anti-Kickback” Act (18 U.S.C. 874 and 40 U.S.C. 276c)

Contract Work Hours and Safety Standards Act (40 U.S.C. 327-333)

Rights to Inventions Made Under a Contract, Grant or Cooperative Agreement (37 CFR Part 401)

Clean Air Act (42 U.S.C. 7401 et seq.) and the Federal Water Pollution Control Act (33 U.S.C. 1251 et seq.)

Byrd Anti-Lobbying Amendment (31 U.S.C. 1352)

Debarment and Suspension (E.O.s 12549 and 12689)

ATTACHMENT 2 National Policy Requirements

National Policy Requirements

By signing this Agreement or accepting funds under this Agreement, the recipient assures that it will comply with applicable provisions of the national policies on the following topics:

1. Nondiscrimination

a. On the basis of race, color, or national origin, in Title VI of the Civil Rights Act of 1964 (42 U.S.C. 2000d, et seq.), as implemented by DoD regulations at 32 CFR part 195.

b. On the basis of sex or blindness, in Title IX of the Education Amendments of 1972 (20 U.S.C. 1681, et seq.). (Applicable to Educational Institutions only)

c. On the basis of age, in the Age Discrimination Act of 1975 (42 U.S.C. 6101, et seq.), as implemented by Department of Health and Human Services regulations at 45 CFR part 90.

d. On the basis of handicap, in Section 504 of the Rehabilitation Act of 1973 (29 U.S.C. 794), as implemented by Department of Justice regulations at 28 CFR part 41 and DoD regulations at 32 CFR part 56.

2. Live Organisms. For human subjects, the Common Federal Policy for the Protection of Human Subjects, codified by the Department of Health and Human Services at 45 CFR part 46 and implemented by the Department of Defense at 32 CFR part 219.

3. Environmental Standards.

a. Comply with the applicable provisions of the Clean Air Act (42 U.S.C. 7401, et. Seq.) and Clean Water Act (33 U.S.C. 1251, et. seq.), as implemented by Executive Order 11783 [3 CFR, 1971-1075 Comp., p. 799] and Environmental Protection Agency (EPA) rules at 40 CFR part 15. In accordance with the EPA rules, the Recipient further agrees that it will:

- Not use any facility on the EPA’s List of Violating Facilities in performing any award that is nonexempt under 40 CFR 15.5, as long as the facility remains on the list.

- Notify the awarding agency if it intends to use a facility in performing this award that is on the List of Violating Facilities or that the Recipient knows has been recommended to be placed on the List of Violating Facilities.

b. Identify to the awarding agency any impact this award may have on the quality of the human environment, and provide help the agency may need to comply with the National Environmental Policy Act (NEPA, at 42 U.S.C. 4231, et. seq.) and to prepare Environmental Impact Statements or other required environmental documentation. In such cases, the recipient agrees to take no action that will have an adverse environmental impact (e.g., physical disturbance of a site such as breaking of ground) until the agency provides written notification of compliance with the environmental impact analysis process.

4. Officials Not to Benefit. No member of or delegate to Congress, or resident commissioner, shall be admitted to any share or part of this Agreement or to any benefit arising from it, in accordance with 41 U.S.C. 22.

5. Preference for U.S. Flag Carriers. Travel supported by U.S. Government funds under this Agreement shall use U.S. -flag air carriers (air carriers holding certificates under 49 USC 41102) for international air transportation of people and property to the extent that such service is available, in accordance with the International Air Transportation Fair Competitive Practices Act of 1974 (49 USC 40118) and the interpretative guidelines issued by the Comptroller General of the United States in the March 31, 1981, amendment to the Comptroller General Decision B138942.

6. Cargo Preference. The recipient agrees that it will comply with the Cargo Preference Act of 1954 (46 U.S.C. 1241), as implemented by Department of Transportation regulations at 46 CFR 381.7, which require that at least 50 percent of equipment, materials or commodities procured or otherwise obtained with U.S. Government funds under this agreement, and which may be transported by ocean vessel, shall be transported on privately owned U.S.-flag commercial vessels, if available.

7. Military Recruiters. As a condition for receipt of funds available to the Department of Defense (DoD) under this award, the recipient agrees that it is not an institution of higher education (as defined in 32 CFR part 216) that has a policy of denying, and that it is not an institution of higher education that effectively prevents, the Secretary of Defense from obtaining for military recruiting purposes: (A) entry to campuses or access to students on campuses; or (B) access to directory information pertaining to students. If the recipient is determined, using the procedures in 32 CFR part 216, to be such an institution of higher education during the period of performance of this agreement, and therefore to be in breach of this clause, the Government will cease all payments of DoD funds under this agreement and all other DoD grants and cooperative agreements to the recipient, and it may suspend or terminate such grants and agreements unilaterally for material failure to comply with the terms and conditions of award.

ATTACHMENT 3 Other Certifications

Other Certifications

The following Certifications, which have been executed by the Recipient prior to award of this Agreement are on file with the issuing office, and are hereby incorporated herein by reference:

a. Certification at Appendix A to 32 CFR Part 28 Regarding Lobbying

b. Certification at Appendix A to 32 CFR Part 25 Regarding Debarment, Suspension, and Other Responsibility Matters

c. Certification at Appendix C to 32 CFR Part 25 Regarding Drug-Free Workplace Requirements

ATTACHMENT 4 Annual Program Plan and Budget

To be completed in accordance with Article 3.5.

ATTACHMENT 5 Reporting Requirements

REPORTING REQUIREMENTS

A. QUARTERLY REPORT

Throughout the term of the Agreement, the Recipient shall submit or otherwise provide a quarterly report (government fiscal quarter). Two (2) copies shall be submitted or otherwise provided to the CAM, and one (1) copy shall be submitted or otherwise provided to the Agreements Administration Office. A copy of the letter of transmittal shall be submitted or otherwise provided to the Agreements Office. The report shall contain two (2) major sections:

1. Technical Status Report. The technical status report will detail technical progress to date on research milestones, all problems, technical issues or major developments during the reporting period. The technical status report will include a report on the status of the collaborative activities during the reporting period. The technical status report will include the utilization of subject inventions by the Recipient.

2. Business Status Report. The business status report will provide summarized details of the resource status of this Agreement, including the status of contributions by the Recipient. This report should compare the resource status with any payment and expenditure schedules or plans provided in the original agreement. Any major deviations shall be explained along with discussion of adjustment actions proposed.

B. JOINT PAPERS AND PRESENTATIONS

When determined necessary by the CAM, periodic joint papers and presentations will be given.

C. JOURNAL ARTICLES

Journal articles in general and joint ARL/Recipient journal articles are strongly encouraged as a major reporting mechanism of this research effort.

D. ANNUAL and FINAL REPORTS

1. The Recipient shall submit an Annual Report making full disclosure of all major technical developments and progress for the preceding 12 months of effort within sixty (60) calendar days of completion of the effort and for each additional 12 months of effort, through the life of this agreement. The report will also provide an accounting of all Federal funds expended during the term of the Agreement. With the approval of the Cooperative Agreement Manager, reprints of published articles may be attached to the Final Report.

2. The Recipient shall make distribution of the Annual and Final report as follows: Cooperative Agreement Manager - 1 original plus 1 copy; Agreement Administration Office - 1 copy, and the Grants Officer - 1 copy of the letter of transmittal only. In addition, one (1) copy of the Final Report only shall be provided to Defense Technical Information Center (DTIC) addressed to 8725 John J. Kingman Road, Suite 0944, Ft. Belvoir, VA 22060-6218.

3. The Final Report shall be marked with a distribution statement to denote the extent of its availability for further distribution, release, and disclosure with additional approvals or authorizations. The Final Report shall be marked on the front page in a conspicuous place with the following marking:

DISTRIBUTION STATEMENT B. Distribution authorized to U.S. Government agencies only to protect information not owned by the U.S. Government, or received with the understanding that it is not routinely transmitted outside of the U.S. Government. Other requests for this document shall be referred to the ARL Security and Intelligence Office.

AWARD/CONTRACT	1. THIS CONTRACT IS A RATED ORDER     UNDER DPAS (15 CFR 350)	RATING	PAGE OF PAGES
			1            3
2. CONTRACT (Proc. Inst. Ident.) NO. W911NF-04-2-0022	3. EFFECTIVE DATE                 14 May 2004	4. REQUISITION/PURCHASE REQUEST/PROJECT NO.

5. ISSUED BY                                    CODE         W911NF US ARMY ROBERT MORRIS ACQ CTR – W911NF RESEARCH TRIANGLE PARK CONTRACTING DIV ATTN: AMSRD-ACC-R P.O. BOX 12211 RESEARCH TRIANGLE PARK NC 27709-2211 6. ADMINISTERED BY (If other than Item 5)                        CODE    S5111A DCMA SOUTHERN VIRGINIA 190 BERNARD ROAD BUILDING 117 FORT MONROE VA 23651

7. NAME AND ADDRESS OF CONTRACTOR (No., street, city, county, state and zip code) CREE, INC. CREE, INC. 4600 SILICON DRIVE DURHAM, NC 27703-8475 CODE    0C9J8                            FACILITY CODE 8. DELIVERY ¨FOB ORIGIN        x OTHER (See below) 9. DISCOUNT FOR PROMPT PAYMENT 10. SUBMIT INVOICES                        ITEM (4 copies unless otherwise specified)
TO THE ADDRESS
SHOWN IN:

11. SHIP TO/MARK FOR                CODE See Schedule	12. PAYMENT WILL BE MADE BY                                     CODE HQ0303 DFAS-ROCK ISLAND ROCK ISLAND OPERATING LOCATION ATTN: DFAS-RI-FPV BUILDING 68 ROCK ISLAND IL 61299-8000
13. AUTHORITY FOR USING OTHER THAN FULL AND OPEN      COMPETITION: ¨ 10 U.S.C. 2304(c)(            )    ¨ 41 U.S.C. 253(c)(            )	14. ACCOUNTING AND APPROPRIATION DATA See Schedule

15A. ITEM NO.	15B. SUPPLIES/SERVICES	15C. QUANTITY	15D. UNIT	15E. UNIT PRICE	15F. AMOUNT
	SEE SCHEDULE
		15G. TOTAL AMOUNT OF CONTRACT			$9,999,699.00

16. TABLE OF CONTENTS
x	SEC	DESCRIPTION	PAGE(S)	x	SEC.	DESCRIPTION	PAGE(S)
PART I - THE SCHEDULE					PART II - CONTRACT CLAUSES
X	A	SOLICITATION/CONTRACT FORM			I	CONTRACT CLAUSES
	B	SUPPLIES OR SERVICES AND PRICES/COSTS		PART III - LIST OF DOCUMENTS, EXHIBITS AND OTHER ATTACHMENTS
	C	DESCRIPTION/SPECS./WORK STATEMENT			J	LIST OF ATTACHMENTS
	D	PACKAGING AND MARKING		PART IV - REPRESENTATIONS AND INSTRUCTIONS
	E	INSPECTION AND ACCEPTANCE			K	REPRESENTATIONS, CERTIFICATIONS AND OTHER STATEMENTS OF OFFERORS
	F	DELIVERIES OR PERFORMANCE
	G	CONTRACT ADMINISTRATION DATA			L	INSTRS., CONDS., AND NOTICES TO OFFERORS
	H	SPECIAL CONTRACT REQUIREMENTS			M	EVALUATION FACTORS FOR AWARD

CONTRACTING OFFICER WILL COMPLETE ITEM 17 OR 18 AS APPLICABLE
17. x CONTRACTOR’S NEGOTIATED AGREEMENT    Contractor is required to sign this document and return    copies to issuing office.)    Contractor agrees to furnish and deliver all items or perform all the services set forth or otherwise identified above and on any continuation sheets for the consideration stated herein. The rights and obligations of the parties to this contract shall be subject to and governed by the following documents: (a) this award/contract, (b) the solicitation, if any, and (c) such provisions, representations, certifications, and specifications, as are attached or incorporated by reference herein. (Attachments are listed herein.)	18.  ¨ AWARD (Contractor is not required to sign this document.)        Your offer on Solicitation Number                                                   including the additions or changes made by you which additions or changes are set forth in full above, is hereby accepted as to the items listed above and on any continuation sheets. This award consummates the contract which consists of the following documents: (a) the Government’s solicitation and your offer, and (b) this award/contract. No further contractual document is necessary.
19A. NAME AND TITLE OF SIGNER (Type or print) Sharon M. Hannigan, Contracts Manager	20A. NAME AND TITLE OF CONTRACTING OFFICER Patricia J. Fox, Grants Officer Tel:  919-549-4272            EMAIL: patricia.fox@us.army.mil

19B. NAME OF CONTRACTOR 19C. DATE SIGNED         5/13/04 20B. UNITED STATES OF AMERICA 20C. DATE SIGNED         2004 May 13

BY	/s/Sharon M. Hannigan	BY	/s/ Patricia J. Fox
	(Signature of person authorized to sign)		(Signature of Contracting Officer)

NSN 7540-01-152-8069	26-107	STANDARD FORM 26 (REV. 4-85)
PREVIOUS EDITION UNUSABLE	GPO 1985 O - 469-794	Prescribed by GSA
		FAR (48 CFR) 53.214(a)

EX-10.35

EXHIBIT 10.35

CONFIDENTIAL

AMENDED AND RESTATED DISTRIBUTORSHIP AGREEMENT

THIS AMENDED AND RESTATED DISTRIBUTORSHIP AGREEMENT (the “Agreement”) is made and entered into as of the 14^th day of May, 2004 (the “Execution Date”) by and between CREE, INC., a corporation organized and existing under the laws of the State of North Carolina, U.S.A., having its principal place of business at 4600 Silicon Drive, Durham, North Carolina 27703 (“Manufacturer”), and SUMITOMO CORPORATION, a corporation organized and existing under the laws of Japan, having its principal place of business at [***], Tokyo 104-8610, Japan (“Distributor”). Except as expressly provided herein, the terms and conditions of this Agreement shall not become effective until the 28th day of June, 2004 (the “Effective Date”). After the Execution Date but prior to the Effective Date, certain terms and conditions expressly identified herein shall become effective with respect to Products to be shipped after the Effective Date in order to facilitate the transition. This Agreement will be legally binding on the parties when executed on behalf of both parties notwithstanding the later Effective Date. Upon the Effective Date, this Agreement shall supersede and replace the form of the Distributorship Agreement entered into by the parties as of the 5^th day of April 2002 and the Letter Agreement entered into by the parties as of the 14^th day of March, 2003.

Recitals

WHEREAS, Manufacturer is engaged in, among other things, the business of manufacturing and selling the products described herein; and

WHEREAS, Manufacturer desires to promote the sale of such products in the territories described herein; and

WHEREAS, Distributor is a trading company and desires to market and distribute the products in such territories, including having the exclusive right to distribute the products in Territory A, as defined below;

NOW, THEREFORE, the parties hereto, in consideration of the premises, covenants and undertakings herein contained, mutually agree as follows:

1. DEFINITIONS

1.1. For purposes of this Agreement, the capitalized terms defined below and elsewhere in this Agreement have the meanings so defined, and such definitions apply to both singular and plural forms:

(a) “Products” means both LED Products and Wafer Products.

(b) “LED Products” means visible or ultraviolet light emitting diodes (LEDs) in die form that are fabricated by or for Manufacturer using Group III-nitride materials on silicon carbide wafers and that Manufacturer makes generally available to customers for purchase during the term of this Agreement.

(c) “Wafer Products” means silicon carbide wafers, either without epitaxial layers or with silicon carbide epitaxial layers deposited thereon, made by or for Manufacturer and that Manufacturer makes generally available to customers for purchase during the term of this Agreement.

Distributorship Agreement Amended and Restated May 14, 2004 Page 1

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

(d) “Territory A” means the country of Japan.

(e) “Territory B” means the countries of the Republic of China (Taiwan), Singapore and the Philippines.

(f) “Territory C” means the countries of [***], the Republic of Korea, the Republic of Indonesia, Thailand and Malaysia.

(g) “Territory” means Territory A, Territory B and Territory C, collectively.

(h) “Liaison Office” means the representative office established by Manufacturer, through an Affiliate, in the Tokyo, Japan area.

(i) “Affiliate” of a designated person means any person that controls, is controlled by, or is under common control with the named person, whether directly or through one or more intermediaries, where “control” means possession of the power to direct the management, operations or policies of the controlled person through stock ownership, contract or other arrangements.

1.2. For purposes of this Agreement, “person” shall be construed broadly to mean any individual, corporation, partnership or other legal entity, and the terms “fiscal quarter” and “fiscal year” shall refer to the respective accounting periods used by Manufacturer.

2. TERM

2.1. Subject to the provisions of Sections 8.6(a) and 9.2, the term of this Agreement (the “Term”) shall extend for a period of five (5) years commencing June 23, 2002 and ending June 24, 2007, unless sooner terminated in accordance with the provisions of this Agreement.

2.2. Subject to the provisions of Sections 8.6(a) and 9.2, the Term shall be renewed from year to year thereafter unless one party gives the other party a written notice electing not to renew this Agreement at least ninety (90) days prior to the expiration of the then existing term or any renewal thereof.

2.3. The parties acknowledge and agree that neither is obligated to continue its business relationship with the other after the effective date of any termination of this Agreement or the expiration date if this Agreement is not renewed.

3. DESIGNATION

3.1. Distributor will serve as the strategic partner and exclusive distributor of Manufacturer for distribution of Products in Territory A during the Term of this Agreement. Section 4.1 below defines the exclusive nature of Distributor’s appointment in Territory A.

3.2. Subject to the provisions in Section 4.2 below, Distributor will serve as a non-exclusive distributor for distribution of the Products in Territory B and Territory C during the Term of this Agreement.

Distributorship Agreement Amended and Restated May 14, 2004 Page 2

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

4. EXCLUSIVITY; NON-EXCLUSIVE TERRITORIES

4.1 During the Term of this Agreement and subject to Distributor’s compliance with its obligations in Section 5 below, except as otherwise provided in Sections 8.2(d) and 9.4 below, Manufacturer will not, without Distributor’s written consent, directly or through any Affiliate sell Products to any person other than Distributor for shipment by Manufacturer into Territory A. This Section 4.1 shall not be construed to restrict Manufacturer or its Affiliates from selling or authorizing the sale of Products to persons outside Territory A.

4.2 Distributor’s appointment in Territory B and Territory C is non-exclusive. Distributor shall not advise any customer or potential customer in such territories that it may only purchase Products from Distributor. Customers in such territories shall be free to choose to purchase Products directly from Manufacturer or from another distributor, as applicable. With respect to marketing, sales and deliveries by Distributor in Territory C, Distributor may [***]. Subject to any applicable export restrictions, Distributor may request that Manufacturer [***]. If the customer prefers to purchase Products directly from Manufacturer, the provisions of Section 10 will apply upon request for assistance by Manufacturer.

5. DUTIES OF DISTRIBUTOR

5.1 Distributor agrees to perform and comply with the following during the Term of this Agreement:

(a) It will use its best efforts, to the fullest extent commercially reasonable, to promote the sale of the Products within the Territory through its sales and merchandising programs in order to obtain and sustain the maximum sales of Products in the Territory and will solicit orders for and sell the Products within the Territory.

(b) Distributor will furnish Manufacturer with reports on the following matters in writing not less frequently than the period shown, and promptly upon request at such other times as Manufacturer may request in writing, with the report to be delivered to Manufacturer and/or the Liaison Office as indicated below unless otherwise requested by Manufacturer:

Report	Frequency	Delivered To
General market situation for the Products in the Territory	[***]	Cree Japan
[***]-month forecast of anticipated sales of the Products	[***]	Cree Japan
Inventory on hand, including volume by Product type and assigned value	[***]	Cree Japan
Summary of meetings with customers and prospective customers, including current and anticipated Product applications by customer and quantity requirements	[***]	Cree Japan
Summary of significant customer inquiries	[***]	Cree Japan
Information, to the extent known, regarding the activities of competitors with respect to the Products in the Territory	[***]	Cree Japan

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[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

(c) In addition, in its role as the strategic partner of Manufacturer for distribution of the Products in Territory A, Distributor will cooperate with Manufacturer and the Liaison Office to establish, to the fullest practicable extent, a “transparent interface” between Manufacturer and customers for the Products such that the Liaison Office is kept fully informed of all developments relating to customers for the Products and that the Product sales and marketing efforts of Distributor are coordinated with the efforts of the Liaison Office. Without limiting the foregoing, upon request Distributor will make available to the Liaison Office copies of all quotes, invoices, customer correspondence and other records relating to the sale and marketing of the Products in Territory A and in Territory C.

(d) Distributor will at all times conduct its affairs under this Agreement in accordance with the highest standards of business ethics and propriety. It will comply with all applicable laws and regulations in performing its obligations under this Agreement and will apply for and obtain (at its own expense) all licenses and approvals necessary to perform its obligations hereunder except as provided in Section 12.2.

(e) Without Manufacturer’s prior written consent, neither Distributor nor its directors, officers, agents or employees shall at any time during the Term of this Agreement, directly or indirectly, (i) establish any Product distribution branch or maintain any Product distribution depot outside the Territory, or (ii) manufacture, distribute, represent, sell or otherwise handle any products that, in the reasonable opinion of Manufacturer, [***], including without limitation [***]; provided that the foregoing limitations as provided in this Section 5.1(e) will only apply to [***].

(f) Distributor will not market, sell or otherwise distribute Products purchased under this Agreement outside the Territory except as may be authorized by Manufacturer in writing from time to time. Distributor will not, without Manufacturer’s prior written consent, which consent will not be unreasonably withheld, sell or otherwise distribute the Products purchased under this Agreement to a person other than an end user customer. Notwithstanding any language herein to the contrary, the parties hereto confirm that [***].

(g) Distributor will appoint at least one employee within its organization to coordinate the performance of its responsibilities under this Agreement.

(h) Distributor shall be responsible for obtaining any required licenses, permits and other governmental approvals necessary for the export of Products from the United States and their import into the Territory, except as provided in Section 12.2, and will otherwise comply with all export and import laws and regulations applicable to its activities under this Agreement.

6. DUTIES OF MANUFACTURER

6.1 Subject to Section 7 below, Manufacturer agrees to use its best efforts, to the fullest extent commercially reasonable, to meet the requirements of Distributor for Products during the Term of this Agreement and to perform and comply with the following during the Term of this Agreement:

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(a) Manufacturer shall [***] unless Distributor’s exclusivity with respect to such Product(s) or territory is no longer in effect as otherwise provided in this Agreement.

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

(b) Manufacturer shall maintain the Liaison Office, either directly or through an Affiliate, and shall staff such office with one or more full-time personnel, to provide support for sales of the Products in Territory A.

(c) Manufacturer shall furnish to Distributor, at no cost, such catalogues, specifications and technical data literature as Manufacturer makes available to its customers generally and shall provide the materials in such quantities as Distributor may reasonably request to support is sales of the Products in the Territory.

(d) Manufacturer will invite Distributor to participate in any discussions between the Liaison Office or Manufacturer and Distributor’s customers concerning Products to be purchased in connection with this Agreement provided that Distributor agrees to be bound by the same restrictions on information disclosed in such discussions as the customer and in any event, such discussions will be subject to the provisions in Section 14 below.

(e) Subject to availability, Manufacturer shall supply Distributor Products in accordance with this Agreement in quantities adequate to the Distributor’s reasonable requirements for sales in the Territory. In the event orders for Products exceed Manufacturer’s ability to manufacture and deliver them, Manufacturer will allocate to the Distributor [***], which allocation Manufacturer shall determine in its sole discretion exercised in good faith; provided, however, that in no event shall Manufacturer treat the Distributor less favorably than it will any of Manufacturer’s other customers for the Products in allocating such supply.

(f) Manufacturer shall provide training services to sales and service personnel of Distributor at the Liaison Office or at Manufacturer’s principal offices to such scope and extent as reasonably necessary for the Distributor to promote sales and service of the Products in the Territory. Nothing in this clause or elsewhere in this Agreement shall be construed to require Manufacturer to disclose proprietary and confidential information.

(g) Manufacturer shall be responsible for furnishing to Distributor, [***], such packing material as may be reasonably required for re-packing Products received from Manufacturer for shipment to Distributor’s customers.

7. SALES OF PRODUCTS

7.1 All sales of the Products from Manufacturer to Distributor shall be made pursuant to written purchase orders submitted by Distributor to Manufacturer and acknowledged in writing by Manufacturer. Within [***] after receipt of a purchase order submitted hereunder, Manufacturer will issue a written order acknowledgement confirming Product prices [***]. Each order placed by Distributor and acknowledged in writing by Manufacturer hereunder shall constitute an individual sales contract (each hereinafter an “Individual Contract”). Notwithstanding any language herein to the contrary, shipments dates confirmed by Manufacturer in a written order acknowledgement do not represent

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guaranteed shipment dates. [***]. Each Individual Contract shall be subject to the following terms, except as may be otherwise mutually agreed in writing by the parties:

(a) Products shall be delivered F.O.B. Seller’s manufacturing facilities by delivery to a transportation company designated or approved by Purchaser. Title and risk of loss shall pass to Distributor upon delivery to the transportation company. All transportation charges and expenses, including the cost of insurance against loss or damage in transit, shall be Distributor’s responsibility.

(b) Except for any warranty claim covered by Section 7.1(d) below, in the event any Product does not conform to the terms of the Individual Contract, the non-conformity will be reported in writing to Manufacturer as soon as possible. In the case of shipping damage or other non-conformity discoverable upon reasonable inspection (such as, by way of illustration, shipment shortages, incorrect Products, broken wafers and torn tape), the non-conformity shall in any event be reported in writing no later than [***] after the date Products are shipped by Manufacturer to Distributor or such claim shall be deemed waived; provided that Distributor [***]. In all other cases, the non-conformity shall be reported as a warranty claim under Section 7.1(d) below in writing within [***] after shipment of the Product. Any non-conformity not reported within [***] after shipment of the Product shall be deemed waived.

(c) Manufacturer’s sole obligation with respect to Products reported to be non-conforming no later than [***] after the date Products are shipped by Manufacturer to Distributor shall be to issue a [***] credit memorandum to Distributor for the quantity and price invoiced for any such Products determined by Manufacturer to be non-conforming, which credit memorandum may be used [***]. Manufacturer is not required to refund money pursuant to such credit memoranda. All non-conforming Products must be returned to Manufacturer for verification of the non-conformity, and Distributor must obtain a return authorization from Manufacturer prior to shipment of the non-conforming Products. Provided that it is able to verify [***] the non-conformity, Manufacturer will use commercially reasonable efforts to [***] to Distributor within [***] after Manufacturer’s receipt of the report of non-conformity as provided in Section 7.1 (b). Upon receipt of the non-conforming Products, Manufacturer will [***] the [***] credit memorandum [***]. Upon [***], Manufacturer will issue a new invoice [***], which invoice shall be the controlling document related to such purchase for purposes of determining the parties’ rights and obligations under this Agreement, including, without limitation, the Product warranty, [***] Reserve and [***] Reserve provisions (as otherwise provided herein); provided that, for the purpose of determining (i) whether the minimum purchase commitment for such quarter has been met, and (ii) whether Distributor’s inventory meets or exceeds the Inventory Cap, such Products shall be deemed purchased [***]. This Section 7.1(c) states the exclusive remedy of Distributor with respect to non-conforming Products, except as to any warranty claim covered by Section 7.1(d) below.

(d) Manufacturer warrants to Distributor that Products shipped hereunder will meet such specifications as have been expressly agreed to in writing by the parties hereto, provided the Products are used in accordance with the applicable specifications. This warranty is extended only to Distributor and does not constitute a warranty to either Distributor’s customers or other end-users or to any sub-distributor, [***]. All claims under this warranty must be reported in

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writing to Manufacturer (with such report accompanied by the Product claimed to be defective, including die “package” in the case of Products sold in die form) as soon as possible, but in any event no later than [***] after the date Products are shipped by Manufacturer to Distributor and if not so reported, such claims shall be deemed waived. Distributor must obtain a return authorization from Manufacturer prior to shipment of the defective Products. Manufacturer’s sole obligation with respect to Products determined not to meet the terms of this warranty shall be, at its option, to issue a [***] credit memorandum for the quantity and price invoiced for such defective Products, which credit memorandum may be used [***]. Provided that it is able to verify [***] the defect, Manufacturer will use commercially reasonable efforts to [***] to Distributor within [***] after Manufacturer’s receipt of the report of claims under the warranty as provided in this Section 7.1(d). Upon [***], unless previously paid, Distributor shall promptly pay the invoice [***], which invoice shall be the controlling document related to such purchase for purposes of determining the parties’ rights and obligations under this Agreement, including, without limitation, Annual MPC, Inventory Cap, [***] Reserve and [***] Reserve provisions (as otherwise provided herein), provided that the warranty [***] shall commence [***]. Manufacturer may issue an invoice [***] solely for administrative purposes, but no amount shall be due under such invoice after applying the applicable credit memorandum, and such invoice will not be used in determining the parties’ rights and obligations under this Agreement [***]. This Section 7.1(d) states the exclusive remedy against Manufacturer with respect to breach of the warranty given herein or other alleged defects in Products. This Section 7.1(d) (as limited by Section 7.1(f) and other applicable terms and conditions of this Agreement) shall survive with full force and effect after the termination or expiration of this Agreement with respect to Products purchased prior to such termination or expiration.

(e) In connection with the determination of the Annual MPC for fiscal year [***] as provided in Section 9.2 below, the parties in good faith will review the [***] warranty period provided for in this Agreement [***]. The warranty period may be [***] if and when Manufacturer and Distributor are able to obtain sufficient customer acceptance of such change.

(f) THE WARRANTY IN SECTION 7.1(d) IS IN LIEU OF ALL OTHER WARRANTIES RELATING TO THE PRODUCTS, WHETHER ORAL OR WRITTEN, EXPRESS OR IMPLIED, OR IMPOSED BY STATUTE OR OTHERWISE. ALL IMPLIED WARRANTIES, INCLUDING BUT NOT LIMITED TO IMPLIED WARRANTIES OF FITNESS FOR A PARTICULAR PURPOSE AND MERCHANTABILITY, ARE EXPRESSLY DISCLAIMED BY MANUFACTURER. Distributor shall make no representations or warranties on behalf of the Manufacturer with respect to the Products or otherwise.

7.2 During the Term of this Agreement, no later than [***] before the start of the next fiscal quarter, Distributor will issue to Manufacturer a blanket purchase order (“Blanket PO) for the next fiscal quarter equal to the amount of the minimum purchase commitment for LED Products for such quarter. Blanket POs are for billing and administrative purposes only, shall not be considered as Individual Contracts under Section 7.1 above, will not be acknowledged in writing by Manufacturer and do not constitute a firm commitment by Distributor to purchase LED Products. Unless otherwise agreed, Manufacturer will reference the Blanket PO on its shipping and billing documents. If the aggregate purchase price of LED Products actually purchased by Distributor during a fiscal quarter

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(as provided below) is not equal to the quarterly minimum purchase commitment, the Blanket PO for such quarter will be revised by Distributor to reflect the amount of LED Products actually purchased by Distributor.

7.3 During the Term of this Agreement, each week Distributor will issue to Manufacturer a [***] forecast of its LED Product requirements (the “Product Forecast”). The quantities indicated in the Product Forecast represent the number of units of each LED Product that Distributor requests to be shipped by Sunday of the stated week. Distributor will update the Product Forecast on [***]. The aggregate purchase price of LED Products requested for any fiscal quarter may not exceed [***] without Manufacturer’s prior written approval of such increase. If Distributor fails to timely update the Product Forecast, [***], the quantities for the new week of the rolling Product Forecast will be deemed to be zero unless and until advised otherwise. Subject to Sections 7.7, 9.3 and 9.4 of this Agreement, the quantities and types of LED Products forecasted to be delivered within [***] (the “Firm Commitment Portion”) shall be firm and may not be modified by Distributor. At Distributor’s option, [***]. Although non-binding, Distributor will use commercially reasonable efforts to provide accurate forecasts for the remaining weeks of the Product Forecast, with particular attention to the accuracy of the [***]. [***], Distributor will provide Manufacturer a purchase order for the Products ordered [***], which purchase order shall be considered an Individual Contract pursuant to Section 7.1 above and will be stated in U.S. dollars as provided in Section 8.4 below. Notwithstanding the foregoing, the Product prices for such Firm Commitment Portion [***]. Manufacturer is authorized to accept and ship LED Products against the Firm Commitment Portion of the Product Forecast unless Distributor has notified Manufacturer that the Inventory Cap has been reached pursuant to Section 9.3 of this Agreement. Manufacturer will target to ship in accordance with Distributor’s requested delivery dates all quantities and types of LED Products that have been a firm commitment for at least [***]. Shorter lead times may be available from time to time upon request. If Manufacturer is unable to ship Products in accordance with Distributor’s requested delivery date, Manufacturer will [***] in accordance with Section 7.1 above.

7.4 In determining the quantity of LED Products to be included in the Firm Commitment Portion, Distributor will evaluate the value of its inventory of New Products (as defined in Section 9.3 below) (the “Inventory”), the value of Products scheduled to be shipped to customers during the remainder of the fiscal quarter (as set forth in the Product Forecast), the Inventory Cap, the Firm Commitment Portion for the remainder of the fiscal quarter and the minimum purchase commitment for that fiscal quarter (the “MPC”). [***].

7.5 Notwithstanding the foregoing, Distributor’s purchase commitment in Section 9.1 below is not conditioned upon its issuance of Blanket POs or Product Forecasts. Even if Distributor does not issue purchase orders, its purchase commitment in Section 9.1 below is valid except as otherwise expressly provided in this Agreement.

7.6 For the avoidance of doubt, orders of Wafer Products are not subject to the provisions in Sections 7.2 through 7.5 above. Lead-times for Wafer Products will vary based on the specifications of the Wafer Products, and Manufacturer will provide an estimate of the applicable lead-time upon request. From time to time hereunder, Distributor will provide Manufacturer purchase orders for Wafer Products, which purchase orders shall be considered Individual Contracts pursuant to Section 7.1 above after acknowledgement by Manufacturer and will be stated in U.S. dollars as provided in Section 8.4 below.

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7.7 Even after an Individual Contract has been executed, Distributor may request [***]. In such case, Manufacturer will consider the request and determine in its sole discretion whether to [***]. If Manufacturer agrees to [***], the parties will execute an amended Individual Contract.

7.8 Notwithstanding any language in this Agreement or any predecessor agreement to the contrary, the provisions set forth in this Section 7 shall apply with respect to Product Forecasts and purchase orders issued by Distributor in fiscal year 2004 for Products to be shipped in FY05. Further, upon the Execution Date, the quantities and types of LED Products forecasted to be shipped within [***] from such date shall become the Firm Commitment Portion.

8. PRICES AND PAYMENT TERMS

8.1 Pricing for LED Products purchased under this Agreement will be determined as follows:

(a) For LED Products ordered by Distributor in accordance with Sections 7.1 and 7.3 above that are confirmed by Manufacturer for shipment during Manufacturer’s 2005 fiscal year (“FY05”), the unit price payable by Distributor for LED Products will be [***]. For LED Products ordered by Distributor in accordance with Sections 7.1 and 7.3 above that are confirmed by Manufacturer for shipment during Manufacturer’s 2006 fiscal year (“FY06”), the unit price payable by Distributor for LED Products will be [***]. For LED Products ordered by Distributor in accordance with Sections 7.1 and 7.3 above that are confirmed by Manufacturer for shipment during Manufacturer’s 2007 fiscal year (“FY07”), the unit price payable by Distributor for LED Products will be [***].

(b) The “LED Resale Price” shall be [***]. If the LED Resale Price is stated in Japanese yen it will be converted to U.S. dollars as provided in Section 8.4 below. Manufacturer may, after consultation with Distributor, reduce its suggested LED Resale Price effective upon written notice to Distributor. In that event, [***]. In the event of a significant change in market conditions or in prices for products of a competitor of Manufacturer, the parties will review and discuss possible changes to the terms of this Agreement and/or the LED Resale Prices, as needed, to allow Distributor to offer its customers competitive prices [***].

(c) Notwithstanding any language in this Agreement or any predecessor agreement to the contrary, purchase orders issued by Distributor in fiscal year 2004 for Products to be shipped by Manufacturer during FY05 shall be based on Product prices determined in accordance with the terms set forth in this Section 8.1.

8.2 Pricing for Wafer Products purchased under this Agreement will be determined as follows:

(a) For Wafer Products ordered by Distributor in accordance with Sections 7.1 and 7.6 above that are confirmed by Manufacturer for shipment during the Term of this Agreement, the unit price payable by Distributor for Wafer Products will be [***].

(b) The initial “Wafer Resale Price” shall be [***]. If the Wafer Resale Price is stated in Japanese yen, it will be converted to U.S. dollars as provided in Section 8.4 below. Manufacturer may, after consultation with Distributor, reduce its

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suggested Wafer Resale Price effective upon written notice to Distributor. In that event, [***]. In the event of a significant change in market conditions or in prices for products of a competitor of Manufacturer, the parties will review and discuss possible changes to the terms of this Agreement and/or the Wafer Resale Price, as needed, to allow Distributor to offer its customers competitive prices [***].

(c) In addition, Distributor will be entitled to a bonus at the end of each fiscal quarter of FY05 equal [***]. Such bonus shall be paid only by issuance of a credit memorandum. Credit memoranda issued under this Section 8.2(c) may be exchanged only to purchase additional Wafer Products from Manufacturer, and Manufacturer is not required to refund money pursuant to such credit memoranda. With respect to bonuses for FY06 and FY07, the parties will discuss in good faith and seek to mutually agree upon the [***] for earning bonuses and such bonus rate provided that the [***] for earning bonuses in such subsequent fiscal periods [***] to take into consideration prevailing market conditions and Manufacturer’s manufacturing capabilities.

(d) If the cumulative Wafer Product orders by Distributor [***] do not equal or exceed [***], then, notwithstanding any language herein to the contrary, Manufacturer either directly or through any Affiliate shall be permitted to sell Wafer Products to any person for shipment by Manufacturer into Territory A.

8.3 All taxes, duties and the like now or hereafter imposed by any jurisdiction with respect to the sale, manufacture, delivery or transportation of Products (except income taxes of Manufacturer) will be for the account of Distributor, and if paid or required to be paid by Manufacturer, the amount thereof will be added to and become part of the price payable by Distributor.

8.4 Products will be invoiced upon shipment at Product prices determined as provided below, and payment will be due [***]. Payment shall be made in U.S. dollars by T/T remittance to an account designated by Manufacturer. Where applicable, credit memoranda will be applied to invoiced amounts and only the net amount remaining after application of the credit memoranda will be due and payable. Invoiced amounts not paid when due will accrue interest, at the lesser of [***] per annum or the maximum rate permitted by law, from the date of the invoice until the date paid. If the LED Resale Price or Wafer Resale Price is stated in U.S. dollars, the unit prices for purchase orders for such Products will be determined as provided in Sections 8.1(a) and 8.2(a), respectively, and such amounts will not be subject to further adjustment for currency rate fluctuations or other changes. If the LED Resale Price or Wafer Resale Price is stated in Japanese yen, Manufacturer and Distributor will share the risk of currency exchange rate fluctuations as follows.

(a) The Product prices for purchase orders for Products will be determined by converting the applicable LED Resale Price or Wafer Resale Price, [***], respectively, to U.S. dollars using the Base Rate (as defined in Section 8.4(b) below) in effect [***]. Upon receipt of a purchase order, Manufacturer will verify the Product prices (including [***] foreign exchange conversions) and confirm such amounts in its written order acknowledgement to Distributor. The confirmed Product prices will become part of the Individual Contract. If an Individual Contract is amended as provided in Section 7.7 above, unless agreed otherwise, any prices for new Products added to the Individual Contract will be converted using the Base Rate [***]. Upon shipment of the Products that are the subject of the Individual Contract, Manufacturer will invoice Distributor at the Product prices

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set forth in the Individual Contracts, and such invoiced amounts will not be subject to further adjustments for currency rate fluctuations or other changes. Notwithstanding the foregoing, invoices and Product prices are subject to correction at any time for administrative or clerical errors.

(b) The “Base Rate” means the Average Exchange Rate calculated as of [***] and adjusted on each [***], and [***] thereafter to reflect the then-current Average Exchange Rate. The “Average Exchange Rate” means the average of the daily foreign exchange rate for the [***], using the daily foreign exchange rate quotations by The Bank of Tokyo-Mitsubishi, Ltd. (the “Bank”) for buying and selling spot U.S. dollars by telegraphic transfer against Japanese yen. For each date on which the Base Rate is to be calculated, Distributor will provide to Manufacturer on such date the Average Exchange Rate for the period of [***], including the daily exchange rate quotations by the Bank used to determine such rate, which rate and quotations must be verifiable by Manufacturer. In the event that the Bank ceases to make this information publicly available, the parties will mutually agree upon another source.

(c) Notwithstanding any language in this Agreement or any predecessor agreement to the contrary, purchase orders issued by Distributor in fiscal year 2004 for Products to be shipped by Manufacturer during FY05 shall be converted to U.S. dollars in accordance with the terms set forth in this Section 8.4 using the Average Exchange Rate calculated as of [***].

8.5 To protect Distributor against [***], if any, as it may incur on sales of LED Products purchased under this Agreement [***], a “[***] Reserve” will be established and applied as follows:

(a) The [***] Reserve will be a balance denominated in U.S. dollars and calculated as set forth in this Section 8.5. The [***] Reserve will be credited with an amount equal to [***] of the purchase price of all LED Products shipped to Distributor under this Agreement [***]. Further, the parties may mutually agree in writing to exclude certain Products from the [***]. The [***] Reserve will be maintained on a rolling [***]-fiscal quarter basis such that amounts credited for Product purchases will remain available during the fiscal quarter of Manufacturer in which the Products were shipped and for the [***] fiscal quarters of Manufacturer thereafter. Amounts credited for [***] will expire and be deducted from the [***] Reserve [***].

(b) [***]

(c) [***]

(d) [***]

(e) [***]

8.6. To protect Distributor against [***], a “[***] Reserve” will be established and applied as follows:

(a) The [***] Reserve will be a balance denominated in U.S. dollars and calculated as set forth in this Section 8.6. At the end of each fiscal month during FY05,

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Manufacturer shall credit the [***] Reserve with an amount equal to [***]. The [***] Reserve will be maintained on a rolling [***]-fiscal quarter basis such that amounts credited for Product purchases will remain available during the fiscal quarter of Manufacturer in which the Products were shipped and for the [***] fiscal quarter of Manufacturer thereafter. Amounts credited [***] will expire and be deducted from the [***] Reserve [***]. Manufacturer shall advise Distributor in writing which Products will be considered “[***]” as soon as such determination is made and, in any event, no later than in its written order acknowledgement for the first order of such Products. Within [***] after receipt of such written order acknowledgement, Distributor may cancel its order for any Products that are initially designated as “[***]” on such order acknowledgement. Further, the parties may mutually agree in writing to exclude certain Products from the [***]. In connection with the determination of the Annual MPC for each subsequent year of the Term of this Agreement as provided in Section 9.2 below, the parties in good faith will discuss in good faith and seek to mutually agree upon the [***] Reserve percentage for the [***] of the Term of this Agreement that correlates with Manufacturer’s [***]. If the parties have not agreed in writing on the [***] Reserve percentage by [***] of [***], this Agreement will terminate [***] notwithstanding the provisions in Sections 2.1 and 2.2 hereof.

(b) [***]

(c) [***]

(d) [***]

(e) [***]

8.7 The provisions in Sections 8.3 through 8.6 shall survive with full force and effect after the termination or expiration of this Agreement with respect to Products purchased prior to such termination or expiration provided that the provisions in Sections 8.5 and 8.6 shall only continue for so long as there is a balance in the applicable Reserve.

9. MINIMUM PURCHASE COMMITMENTS

9.1 Subject to Sections 9.3 and 9.4 below, Distributor shall purchase under this Agreement, during FY05, LED Products having an aggregate purchase price of at least $160,000,000 (US) (the “Annual MPC”), of which not less than (a) [***] (US) will be purchased in the fiscal quarter of Manufacturer ending September 26, 2004, (b) [***] (US) will be purchased in the fiscal quarter of Manufacturer ending December 26, 2004, (c) [***] (US) will be purchased in the fiscal quarter of Manufacturer ending March 27, 2005, and (d) [***] (US) will be purchased in the fiscal quarter of Manufacturer ending June 26, 2005. Products purchased using credit memoranda issued under Sections 7.1, 8.2(c) and 8.5 shall not be included for purposes of satisfying the minimum purchase commitments under this Section 9.1, but Products purchased using credit memoranda issued under Section 10.3 will be included. If LED Products ordered by Distributor are not shipped [***], the delayed LED Products or the substitute LED Products, as applicable, will be deemed purchased by Distributor [***] solely for the purpose of determining whether the minimum purchase commitment for such quarter has been met, provided that (i) shipment of such LED Products is not delayed due to any cause attributable to Distributor, (ii) [***], and (iii) in no event shall shipment delays reduce Distributor’s aggregate purchase commitment hereunder. If during any fiscal quarter Distributor

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purchases more than the MPC specified for such fiscal quarter, the excess purchase amount will be applied to reduce Distributor’s quarterly purchase commitments for that fiscal year [***]. If during any fiscal quarter Distributor’s inventory of LED Products meets or exceeds of the Inventory Cap (as defined below) and Distributor has not purchased an amount of LED Products equal to at least fifty percent (50%) of its original purchase commitments specified above in this Section 9.1 for such fiscal quarter, Manufacturer has a right to terminate this Agreement in accordance with Section 9.4 below. [***]. After the termination of this Agreement for any reason, Distributor shall have the right to sell the LED Products then in its inventory pursuant to terms and conditions determined [***].

9.2 Beginning no later than the end of January of each year of the Term of this Agreement, the parties will discuss in good faith and seek to mutually agree upon the Annual MPC for Products for the twelve months (12) of the Term of this Agreement that correlates with Manufacturer’s next fiscal year. If the parties have not agreed in writing on the Annual MPC by [***] of such year, this Agreement will terminate [***] notwithstanding the provisions in Sections 2.1 and 2.2 hereof.

9.3. Notwithstanding any language herein to the contrary, in no event shall Distributor be required to purchase any LED Products under this Section 9 if Distributor has in its inventory New Products (as defined below) valued at more than the applicable Inventory Cap (as defined below) or if such purchase would cause Distributor’s inventory of New Products to meet or exceed the applicable Inventory Cap. For each of FY05, FY06 and FY07, the “Inventory Cap” shall be equal to [***] and [***], respectively, of the [***] and will be expressed in U.S. dollars. If shipment of a quantity of LED Products requested in a Product Forecast (as defined in Section 7.3 above) would cause Distributor’s inventory of New Products to meet or exceed the Inventory Cap, Distributor must notify Manufacturer in writing [***] it is invoking the Inventory Cap limitation and that some (the excess over the Inventory Cap) or all of such amounts in the Product Forecast should not be shipped as forecasted. [***]. If Distributor is unable to meet the full MPC for a fiscal quarter because of the Inventory Cap limitation, [***]. “New Products” refers to LED Products shipped by Manufacturer to Distributor on or after [***].

9.4. If Distributor’s inventory of New Products meets or exceeds the Inventory Cap, Distributor may at its option terminate this Agreement by providing Manufacturer with [***] prior written notice, in which case Distributor shall not have any further purchase obligations for Products under Section 9.1 hereof [***]. If, as a result of the above Inventory Cap provisions, Distributor has not purchased during any fiscal quarter an amount of LED Products equal to at least fifty percent (50%) of its original MPC set forth in Section 9.1 above for such quarter [***], then Manufacturer may at its option terminate this Agreement by providing Distributor with [***] prior written notice, in which case Distributor shall not have any further purchase obligations for Products under Section 9.1 hereof [***]. Such termination right of Manufacturer as provided above, shall be exercised by Manufacturer within [***]. If this Agreement is terminated in accordance with the provisions of this Section 9.4, notwithstanding any language herein to the contrary, [***], Manufacturer either directly or through any Affiliate or any third party shall be permitted to sell Products to any person for shipment by Manufacturer into Territory A.

9.5. Notwithstanding the foregoing, in the event that Distributor’s ability to sell LED Products is substantially compromised as a direct result of [***], Distributor shall immediately notify Manufacturer of such situation and, after such notification, the parties shall try to resolve the compromised situation in good faith or, if such resolution is not possible, [***].

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[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

10. ASSISTANCE OUTSIDE THE TERRITORY

10.1 Manufacturer may from time to time request that Distributor provide assistance, within Japan, in making sales outside of Japan to Affiliates of customers in Japan.

10.2 If Manufacturer makes a written request to Distributor that refers to this Section 10 and requests such assistance with respect to a designated Affiliate, and if Distributor provides the requested assistance, then, unless otherwise agreed in writing by the parties, [***].

10.3 Manufacturer will issue Distributor a credit memorandum within fifteen (15) days after the end of Manufacturer’s fiscal month reflecting the amount of any credit earned during the month under this Section 10. Credit memoranda issued under this Section 10 may be exchanged only to purchase additional Products from Manufacturer, and Manufacturer is not obligated to pay Distributor the amount of such credit memoranda.

11. TRADE NAMES AND TRADEMARKS

11.1 Subject to the provisions of Section 11 of this Agreement, Manufacturer grants Distributor a limited, non-exclusive, non-transferable license to use the trade names and trademarks of Manufacturer listed on Addendum A, attached hereto and made a part hereof, as such may be amended from time to time (the “Licensed Marks”) during the Term of this Agreement; provided, however, that Distributor may, even after termination or expiration of this Agreement, use the trade names and trademarks of Manufacturer solely in connection with the sale of the Products purchased from Manufacturer during the Term of this Agreement.

11.2 (a) The Licensed Marks shall be used (i) solely in connection with the promotion, advertising and sale of Manufacturer’s products in the Territory, and any related packaging, advertising materials, internet sites and documentation, and (ii) solely in compliance with Manufacturer’s Trademark Usage Guidelines attached hereto, and made a part hereof, as Addendum B, as such may be amended from time to time. Without Manufacturer’s prior written consent, Distributor shall not have the right to assign, sublicense or otherwise permit the use of such Licensed Marks by third parties. Except for the license granted herein, Manufacturer grants Distributor no express or implied licenses to any Licensed Marks.

(b) Manufacturer shall have the right to inspect Distributor’s usage of the Licensed Marks (including without limitation literature, brochures, data books, data sheets, web pages or advertising materials produced by or on behalf of Distributor) to assess the level of consistency and quality of such use. Manufacturer reserves the right (i) to restrict any use of the Licensed Marks that it concludes, in its sole judgment, is detrimental to such Licensed Marks and (ii) to revise the Trademark Usage Guidelines at any time, upon written notice of such revision to Distributor. Distributor shall promptly provide specimens upon Manufacturer’s request at no cost to Manufacturer. If, at any time, Manufacturer reasonably determines that the usage of the Licensed Marks does not comply with the Trademark Usage Guidelines, Manufacturer shall so notify Distributor in writing, and Distributor shall correct the non-conformance and provide a corrected specimen to Manufacturer for review within thirty (30) days from the date of notification. Failure to correct a non-conformance will be considered a material breach of this Agreement.

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[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

(d) Distributor shall not apply for trademark or internet domain registration of the Licensed Marks (or any mark confusingly similar thereto) anywhere in the world. Manufacturer may elect to apply for registration of any of the Licensed Marks in the Territory at its expense, and, in such event, Distributor shall reasonably assist and cooperate with Manufacturer in connection therewith. Distributor shall provide reasonable assistance to Manufacturer in complying with the formalities of any applicable local law, including but not limited to, the execution of any application for registration as a registered user, the execution of additional license agreements suitable for recording with appropriate authorities, and providing proof of use of any Licensed Marks or any other applicable documents. Manufacturer shall pay the expense of complying with such formalities when Manufacturer initiates such formalities.

(e) Distributor shall use the Licensed Marks in a manner that creates a separate and distinct impression from any other trademark that may be used by Distributor. Distributor shall not adopt any corporate name, assumed name, “doing business as” name, trade name, trademark, service mark, certification mark, or designation that incorporates the Licensed Marks (or any translation of the Licensed Marks), or that is confusingly similar to the Licensed Marks. Distributor shall not use the Licensed Marks in a manner that may be construed as creating an agency, partnership, or other form of joint enterprise between the parties.

11.3 Distributor acknowledges that Manufacturer is the sole and exclusive owner of its trade names and trademarks and all intellectual property rights therein worldwide and that Manufacturer may obtain registrations of the same in jurisdictions within the Territory. Without Manufacturer’s prior written consent, Distributors shall not assign, sublicense or otherwise permit the use of such trade names and trademarks by third parties. Distributor shall at all times recognize, respect and protect Manufacturer’s ownership of any and all trademarks, trade names, trade secrets, copyrights, patents and know how of Manufacturer (collectively, Manufacturer’s “Intellectual Property”) in connection with the sale of Products in the Territory and shall not in any way derogate, diminish or weaken Manufacturer’s sole proprietary rights in said Intellectual Property. Should the law or regulations of any jurisdiction in the Territory invest Distributor with any proprietary rights to any of said Intellectual Property, Distributor shall promptly, freely and cooperatively relinquish to Manufacturer any and all such rights upon expiration or termination of this Agreement for any reason without recourse or cost to Manufacturer and shall thereafter refrain from any further usage of said Intellectual Property. Distributor shall execute any assignments or other documents necessary to relinquish fully said Intellectual Property to Manufacturer.

11.4 Distributor shall not remove, alter or obliterate any trade name or trademark affixed to the package of the Products, nor shall it add any other names or marks, except with the prior written consent of Manufacturer. Should Distributor repackage any Products, such new packaging shall be substantially similar to the original packaging of Products, including but not limited to use of names, trademarks, product numbers and Intellectual Property notices, and shall comply with the Trademark Usage Guidelines.

11.5 Distributor shall promptly notify Manufacturer of any and all infringements of Manufacturer’s Intellectual Property in connection with Products in the Territory that may come to Distributor’s attention and shall assist Manufacturer in taking such action against such infringement as Manufacturer in its discretion may decide, with all expenses and cost incident thereto being defrayed by Manufacturer.

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11.6 THE LICENSED MARKS ARE BEING LICENSED TO DISTRIBUTOR “AS IS” AND WITHOUT ANY WARRANTY OF ANY TYPE OR KIND. MANUFACTURER HEREBY DISCLAIMS ANY AND ALL WARRANTIES, WHETHER STATUTORY, EXPRESS OR IMPLIED, INCLUDING WITHOUT LIMITATION THE IMPLIED WARRANTIES OF MERCHANTABILITY, FITNESS FOR A PARTICULAR PURPOSE AND NON-INFRINGEMENT OF THIRD PARTY RIGHTS. [***].

12. INDEMNITY

12.1 Manufacturer shall indemnify and hold harmless Distributor from and against [***] that are based on a [***], provided, however, that Distributor shall in every instance refrain from making any admission of liability, shall give to Manufacturer prompt written notice of any claim made, shall assist in the defense of such claim in accordance with this Section 12, and shall refrain from proposing or entering into any compromise or settlement of such claim without the written consent of Manufacturer and, [***].

12.2 If any Products are determined to [***] and their sale by Distributor within the Territory is permanently enjoined by a court of competent jurisdiction, pursuant to a final judgment not subject to further judicial review, Manufacturer, at its expense and without cost to Distributor, shall be obligated as follows: [***].

12.3 Distributor shall indemnify and hold Manufacturer harmless from and against [***], provided, however, that Manufacturer shall in every instance refrain from making an admission of liability, shall give to Distributor prompt written notice of any claim made, shall assist in the defense of any such claim in accordance with this Section 12 and shall refrain from proposing or entering into any compromise or settlement of such claim without the written consent of Distributor.

12.4 Manufacturer shall indemnify and hold harmless Distributor from and against [***], provided, however, that Distributor shall in every instance refrain from making any admission of liability, shall give to Manufacturer prompt written notice of any claim made, shall assist in the defense of such claim in accordance with this Section 12, and shall refrain from proposing or entering into any compromise or settlement of such claim without the written consent of Manufacturer.

12.5 Manufacturer shall indemnify and hold harmless Distributor from and against [***], provided, however, that Distributor shall in every instance refrain from making any admission of liability, shall give Manufacturer prompt written notice of any claim made, shall assist in the defense of such claim in accordance with this Section 12, shall cease using the Licensed Mark upon receipt of written request from Manufacturer and shall refrain from proposing or entering into any compromise or settlement of such claim without Manufacturer’s prior written consent.

12.6 Manufacturer shall have no obligation under this Section 12 with respect to any claim arising from [***].

12.7 The provisions of this Section 12 shall survive with full force and effect after the termination or expiration of this Agreement.

12.8 A party entitled to indemnification under this Section 12 (the “Indemnified Party”) shall permit the party required to provide indemnification (the “Indemnifying Party”) to participate in the defense of the claim and any litigation or other proceeding before any

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[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

court or governmental agency based thereon, including investigation of the claim and any negotiations for compromise or settlement; shall promptly inform the Indemnifying Party of all developments relating thereto and furnish such information as the Indemnifying Party may reasonably request in connection therewith; and, [***], shall permit the Indemnifying Party at any time upon its request to assume control of the defense thereto. The Indemnified Party and the Indemnifying Party shall cooperate with each other in the defense, including investigation of the claim and any negotiations for compromise or settlement. [***].

13. LIMITATION OF LIABILITY; FORCE MAJEURE

13.1 Except as expressly provided otherwise in this Agreement, neither party to this Agreement shall be liable to the other, or to any other person or entity, for special, incidental or consequential damages [***], regardless of whether it has been advised of the possibility of such damages and notwithstanding the failure of any limited remedy provided in this Agreement to achieve its essential purpose.

13.2 Any other provision contained herein to the contrary notwithstanding, neither party shall be liable to the other for any delay or failure to perform any of its obligations under this Agreement caused by compliance with governmental regulations or directions, outbreak of a state of emergency, Act of God, war, warlike hostilities, civil commotions, riots, epidemics, storms, fires, strikes, lockouts, and any other cause or causes beyond the reasonable control of such party; [***].

14. CONFIDENTIALITY

14.1 The parties shall keep in strict confidence from any third party, and duly safeguard in the same manner as they safeguard their own like information, any and all proprietary and confidential business and technical information received from the other party concerning the business affairs and transactions covered by this Agreement, including, without limitation, all proprietary and confidential technical information received from Manufacturer or its Affiliates pertaining to the Products, and shall not at any time knowingly disclose such information to others or use such information for any purpose other than as permitted under this Agreement.

14.2 A party may disclose information subject to this Section 14 to its directors, officers, employees and advisors (collectively, “Representatives”) and to its Affiliates, if and to the extent the Representative or Affiliate has a need to know in connection with the performance or enforcement of this Agreement and is obligated to maintain the information in confidence in accordance with this Agreement. A party will be responsible for any breach of this Section 14 by its Representatives or Affiliates.

14.3 Each party shall maintain information subject to this Section 14 in complete confidence until such time as it is publicly known through no act, omission or contribution of such party. Notwithstanding any prior expiration or termination of this Agreement, it is expressly understood that the provisions of this Section 14 shall survive with full force and effect until [***].

14.4 Notwithstanding the foregoing, any of the parties may disclose such information if required by laws, regulations or orders of the Government of Japan or the United States Government, or any of their competent agencies. In the event such disclosure is required

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by a party hereto, the party shall give written notice of such disclosure as soon as possible prior to making the disclosure.
[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

14.5 Information shall be considered subject to this Section 14 only if it is disclosed: (i) in written or other tangible form and labeled or otherwise expressly identified as “confidential” or “proprietary” at the time of disclosure, or (ii) in oral form if expressly identified as “confidential” or “proprietary” at the time of disclosure and confirmed as such by written notice within thirty (30) days after the verbal disclosure. A party shall not be liable for use or disclosure of information under this Section 14 if the recipient demonstrates that the information was in the recipient’s possession at the time of its receipt hereunder and was not acquired, directly or indirectly, from the disclosing party, or if the recipient receives the information from a third party having the lawful right to disclose the same, or if the information is independently developed by the recipient without use of any confidential information received from the other party.

15. INDEPENDENT CONTRACTOR

15.1 The relationship created by this Agreement is that of seller and buyer, and not that of agency, partnership or employment. References in this Agreement to “strategic partner” are not intended to and shall not be construed to refer to the legal relationship among members of a partnership.

15.2 Distributor shall not represent itself to be an agent, partner or employee of Manufacturer for any purpose nor shall Distributor have any right or authority to bind Manufacturer or to assume any obligation or responsibility in the name of or on behalf of Manufacturer.

15.3 Manufacturer shall not represent itself to be an agent, partner or employee of Distributor for any purpose nor shall Manufacturer have any right or authority to bind Distributor or to assume any obligation or responsibility in the name of or on behalf of Distributor.

16. TERMINATION

16.1 Either party may terminate this Agreement by giving a written notice of termination to the other party:

(a) if the other party breaches any of the material provisions of this Agreement or any Individual Contract and does not cure the breach within [***], after a written notice is given by the non-breaching party requiring such party to cure the breach;

(b) if the other party becomes insolvent, or any voluntary or involuntary petition for bankruptcy or for corporate reorganization is filed by or against the other party, or a receiver is appointed with respect to any of the assets of the other party, or a liquidation proceeding is commenced by or against the other party; provided that, in the case of any involuntary petition or proceeding filed or commenced against a party, only if the same is not dismissed within sixty (60) days;

(c) if the whole or any substantial part of the business of the other party relating to this Agreement is transferred to a third party by agreement, order of court of otherwise; or

(d) if the whole or any substantial part of the ownership, control or management of the other party is changed.

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[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

16.2 Nothing in this Section 16 shall affect, be construed or operate as a waiver of any right of the party aggrieved by any breach of this Agreement to recover any loss or damage incurred as a result of such breach, either before or after the termination or non-renewal hereof.

16.3 No termination of this Agreement shall release either party from any liability or obligation that has theretofore accrued and remains to be performed as of the date of such termination.

16.4 Neither party to this Agreement shall be liable to the other by reason of any termination or non-renewal of this Agreement for compensation, reimbursement, or damages on account of any loss of prospective profits on anticipated sales or on account of expenditures, investments, or other commitments relating to the business or goodwill of any party.

17. AUTHORITY

Each party represents and warrants to the other that it has full corporate power and authority to enter into and perform this Agreement, and neither the execution nor performance of this Agreement violates or conflicts with any agreement, contract or covenant of such party with or in favor of any other person or entity.

18. AMENDMENT

This Agreement may not be amended except in a writing signed by authorized representatives of both parties. No oral explanation or oral information by any of the parties hereto shall alter the meaning or interpretation of this Agreement.

19. WAIVER

No waiver of any provision of this Agreement shall be effective unless made in writing and signed by an authorized representative of the party sought to be charged therewith. The failure of either party to enforce any provision of this Agreement shall not constitute or be construed as a waiver of such provision or of the right to enforce it at a later time.

20. SEVERABILITY

Every provision of this Agreement is intended to be severable so that if any provision hereof is unenforceable or invalid, for any reason whatsoever, such unenforceability or invalidity shall not affect the validity of the remainder of this Agreement.

21. ASSIGNMENT

This Agreement may not be assigned by either party without the prior written consent of the other, which consent shall not be unreasonably withheld. Any unauthorized attempt to assign shall be null and void. Notwithstanding the foregoing, either party may assign this Agreement without such consent to any Affiliate of such party or to any purchaser of all or substantially all assets of the assigning party used in the business of such party to which this Agreement relates. Any permitted assignee shall assume all obligations of its assignor under this Agreement. An assignment shall not relieve the assigning party of responsibility for the performance of its

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obligations hereunder. This Agreement shall inure to the benefit of and be binding upon the successors and permitted assignees         of the parties hereof.

22. GOVERNING LAW; ARBITRATION

This Agreement shall be governed by and construed in accordance with the internal laws of the State of New York, the United States. The United Nations Convention on Contracts for the International Sale of Goods shall not apply to this Agreement. All disputes arising out of or relating to this Agreement or any breach thereof shall be settled exclusively by arbitration to be held in the City of New York, in accordance with the Rules of Conciliation and Arbitration of the International Chamber of Commerce. The award of Arbitration rendered shall be final and binding upon both parties, and be enforceable by any court having jurisdiction. The arbitrators shall apply the internal laws of the State of New York, the United States, as specified above in determining the rights, obligations and liabilities of the parties and shall not have the power to alter, modify, amend, add to or subtract from any term or provision of this Agreement nor to rule upon or grant any extension, renewal or continuance of this Agreement, nor to award damages or other remedies expressly prohibited by this Agreement, nor to grant injunctive relief, including interim relief, of any nature, notwithstanding any contrary provisions of the Rules of Conciliation and Arbitration specified above. If, under applicable law, this arbitration provision is not enforceable as to a particular claim brought by one party against the other, then legal proceedings involving only that claim may be instituted solely in the United States District Court of the Eastern District of North Carolina or, if such court may not exercise jurisdiction, a court of the State of North Carolina. For all purposes of this Agreement, all parties hereby irrevocably consent to the jurisdiction of such court and waive any defense based on improper or inconvenient venue or lack of personal jurisdiction.

23. ENTIRE AGREEMENT

This Agreement sets forth the entire agreement between the parties hereto as to the subject matter hereof, and supersedes any and all prior agreements, understanding, arrangements, promises, representations, warranties, and/or any contracts of any form or nature whatsoever, whether oral or in writing and whether explicit or implicit, that may have been entered into prior to the execution hereof between the parties, their officers, directors, or employees as to the subject matter hereof. Neither of the parties hereto has relied upon any oral representation of the other party. Notwithstanding the foregoing, this Agreement does not supersede the letter agreement between the parties dated December 1, 2003 regarding restricted use of Wafer Products by customers of Distributor.

24. NOTICE

Any notice or communication required or permitted to be given by any party to the other pursuant to this Agreement shall be sent to such party’s address for notices set forth below the signature of that party below, shall be given by facsimile or by prepaid airmail post and shall be deemed to have been given upon receipt at the address of the party to whom addressed.

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IN WITNESS WHEREOF, the parties have caused this Amended and Restated Distributorship Agreement to be executed by their duly authorized representatives effective as of the day and year first above written.

CREE, INC.		SUMITOMO CORPORATION
By	[***]	By	[***]
	[***]		[***]
	[***]		[***]
Date	May 14, 2004	Date	May 14, 2004

Address for Notices	Address for Notices
CREE, INC. 4600 Silicon Drive Durham, NC 27703 USA Attention: [***] Fax: [***] With a copy to: General Counsel, Cree, Inc. 4600 Silicon Drive Durham, North Carolina 27703 Fax: [***]	SUMITOMO CORPORATION [***] Tokyo 104-8610 Japan Attention: [***] Fax: [***]	CGS B100-10

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[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

ADDENDUM A

Licensed Marks

Mark	Registered	Reg. No.	Goods
CREE	Yes	2,440,530 (US); 4,471,239 (JP); 40-0505534 (KR) and 980988 (TW)	All
CREE LOGO	Yes	2,452,761 (US); 4,484,784 (JP); 40-0514036 (KR) and 978876 (TW)	All
CI	No		Wafers
GSIC	Yes	2,012,686 (US)	LED
MEGABRIGHT	Yes	2,650,523 (US); 4,572,117 (JP); 40-0563873 (KR) and 1022690 (TW)	LED
MEGABRIGHT PLUS	No		LED
MB	No		LED
MB PLUS	No		LED
RAZERTHIN	No	Pending in US [***]	LED
SUPERBLUE	No		LED
SUPERBRIGHT	No		LED
ULTRABRIGHT	No	Pending in US [***]	LED
UB	No		LED
ULTRATHIN	No	Pending in US [***]	LED
UT	No		LED
XBRIGHT	Yes	2,644,422 (US); 4,666,211 (JP); 40-0572312 (KR) and 1029877 (TW)	LED
XBRIGHT LOGO	Yes	2,644,418 (US) and 1043612 (TW)	LED
XBRIGHT PLUS	No		LED
XB	No		LED
XB PLUS	No		LED
XTHIN	No	Pending in US [***]	LED
XT	No		LED

Key

US = United States

JP = Japan

KR = Korea

TW = Taiwan

CN = China

MY = Malaysia

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[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

ADDENDUM B

CREE TRADEMARK USAGE GUIDELINES

A. General Rules for Trademark Use and Presentation

1. Use the correct trademark symbol with trademarks. When using a registered trademark, the ^® symbol should be used adjacent the first prominent appearance of the term. Subsequent appearances of the trademark should be capitalized. Unregistered trademarks should include the designation “TM” instead of the ^® symbol.

2. Include an attribution statement (which may appear in small but still legible print) in any written material (such as advertising copy, brochures, etc.) on which a Cree trademark appears. For example, the following statement would be appropriate when using the Cree trademark and Cree Logo:

“CREE and the Cree Logo are registered trademarks of Cree, Inc. in the United States and/or other countries.”

3. Do not vary the spelling, add or delete hyphens (even for normal hyphenation at the end of a line of text), make one word two, or use a plural form of a Cree trademark.

4. Trademarks should always be used as adjectives (e.g. “Zero Recovery^™ rectifiers have exceptional reverse recovery properties.”)

5. Never combine a Cree trademark with your company name.

6. Do not use a Cree trademark in a possessive form.

7. Do not shorten or make acronyms out of a Cree trademark.

8. On materials that include both a Cree trademark and your company name, you must display your company name more prominently than any Cree trademark. You may not use a Cree trademark in such a manner that it appears that Cree is legally associated with your company, other than the fact that your company is authorized to sell or distribute Cree products.

9. Do not display a Cree trademark in a manner that is illegible or difficult to read.

10. Do not use a Cree trademark in a manner such that it appears to be associated with products of other manufacturers.

B. Presentation of the Cree Logo

1. The Cree Logo may refer to Cree or to Cree’s products. When using the word “CREE” or the Logo to refer to Cree products, the trademark should be used as an adjective, followed by the generic name of the product. For example, a brochure may refer to “CREE ^® Microwave Transistors.”

2. Graphic Presentation

Computer graphic files and camera-ready artwork of the Cree Logo and other Cree trademarks may be obtained from Cree. Do not generate the Cree Logo on your own. Do not modify any computer files or artwork obtained from Cree without Cree’s express written consent.

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3. Color Specifications

a. The following terms are used in this specification:

“Cree Blue” means blue no. PMS 294.

“Cree Gray” means gray no. PMS 429.

“Colored Cree Logo” means the Cree Logo in which the solid regions are Cree Gray and the striped regions are Cree Blue.

b. The Cree Logo may be presented only using the following color combinations:

• Black lettering on a light, uniform background.

• White or silver lettering on a dark, uniform background.

• Cree Blue lettering on a white background.

• Colored Cree Logo on a white background.

• Colored Cree Logo on a light or dark uniform background, provided the colors give adequate contrast with the background.

4. Spacing

a. The Cree Logo should be surrounded by a region of background color at least as wide as the lettering height, as shown below:

b. The Cree Logo should never be presented such that it could be viewed as a compound mark. For example, the Cree Logo should never be shown physically touching or adjacent another mark such that the two marks appear to be part of the same overall trademark.

c. With the express written consent of an authorized representative of Cree, the spacing recommendations may be relaxed on items where the available physical space or graphic resolution is limited, such as letterhead, business cards and certain promotional items.

5. Optional Business Area Identification

The Cree Logo may be used in connection with a business area identification. For example, the Cree Logo may appear in connection with Cree Lighting^™ products with the word “LIGHTING” appearing directly beneath the Cree Logo. Use of a business area identification is subject to the following rules:

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a. The lettering of the business area name shall be in all capital letters in the Arial font (or a similar sans serif font), shall begin at the left edge of the Logo, and shall extend no further than the right edge of the Logo lettering.

b. The lettering of the business area name shall be the same color as the logo, except that when used in connection with the Cree Color Logo, the lettering shall be Cree Gray.

c. The lettering of the business area name shall be no larger than 50% of the lettering height of the Cree Logo.

C. Presentation of the ZERO RECOVERY Trademark

1. The ZERO RECOVERY trademark must appear in italics in the Times New Roman font (small caps) as follows:

ZERO RECOVERY^™

If the small caps feature is not available, the trademark may be displayed in italics in Times New Roman font in all caps with the size of the font set 20% higher for the initial letters Z and R compared to the remaining letters (e.g., with the “Z” set at 12 point font size and “ERO” set at 10 point font size).

D. Presentation of LED Trademarks

1. Typed Form

a. As with any Cree trademark, the first letter of an LED trademark (also referred to as the first letter of the LED trademark’s prefix) should always be capitalized when it appears in text. Likewise, always capitalize the first letter of the secondary word in the mark (e.g., MegaBright, XBright, XLamp, etc.).

b. With the exception of the GSIC trademark, do not hyphenate or place a space between the LED trademark’s prefix and the secondary word of the trademark. (e.g., XBright should never be X Bright or X-Bright.) The GSIC trademark should always be presented with a raised dot separating the “G” and the “SiC” as follows:

G ^. SiC^®

2. Logos

a. XBRIGHT

• The “Colored XBright Logo” means the XBright Logo in which the left top and bottom legs of the X (which also form the sides of the cube) are blue no. PMS 2935, the right top and bottom legs of the X are green no. PMS 3405, and the cube and the word “Bright” are 100% black.

• The XBright Logo may be presented only using the following color combinations:

• Black lettering on a light, uniform background. When using this color combination, the legs of the X should also be black.

• Colored XBright Logo on a light or dark uniform background, provided the colors give adequate contrast with the background.

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• The XBright Logo should be surrounded by a region of background color at least as wide as the lettering height, as shown below:

b. XLAMP

• The “Colored XLamp Logo” means the XLamp Logo in which the top left leg of the X is shaded in graduated color in blue no. PMS 294, the top right leg of the X is shaded in graduated color in gray no. PMS Cool Gray 4, the bottom left leg of the X is shaded in graduated color in green no. PMS 354, and the bottom right leg of the X is shaded in graduated color in red no. PMS No. 185. For all four legs, the color is in its darkest, solid form at the outermost points and is graded to lighter shades towards the center of the X. The triangular cross-section of the top legs of the X graduates from left to right with blue no. PMS 294 to gray no. PMS Cool Gray 4. The triangular cross-section of the bottom legs of the X graduates from left to right with green no. PMS 354 to red no. PMS 185. Finally, the word “Lamp” is presented in blue no. PMS 294.

• In formats where it is impossible to show the graduated colors of the XLamp Logo in accurate form (i.e., embroidered merchandise), the “Colored XLamp Logo” shall mean the XLamp Logo in which the top left leg of the X is solid blue no. PMS 294, the top right leg of the X is 100 % white, the bottom left leg of the X is solid green no. PMS 354, and the bottom right leg of the X is solid red no. PMS 185. The triangular cross-section of the top legs of the X is 50% blue no. PMS 294, and the triangular cross-section of the bottom legs of the X is a mix of 100% green no. PMS 354 and 100% red no. PMS 185. Finally, the word “Lamp” is presented in blue no. PMS 294.

• The XLamp Logo may be presented only using the following color combinations:

• Black lettering on a light, uniform background. When using this color combination, the X should be outlined in black but not shaded in.

• Colored XLamp Logo on a light or dark uniform background, provided the colors give adequate contrast with the background.

• The XLamp Logo should be surrounded by a region of background color at least as wide as the lettering height of the capitalized L, as shown below:

Distributorship Agreement Amended and Restated May 14, 2004 Page 26

c. As stated in Section B, Part 2 above, computer graphic files and camera-ready artwork of any of the Cree trademarks may be obtained from Cree. You may not generate any logos on your own or modify any graphic files or artwork provided by Cree without Cree’s express written consent.

Distributorship Agreement Amended and Restated May 14, 2004 Page 27

EX-10.36

Exhibit 10.36

CONFIDENTIAL

July 12, 2004

[***]

[***]

Sumitomo Corporation

[***]

Tokyo 104-8610, Japan

Fax No. [***]

Re: Distribution of GaN Wafers

Dear Mr. [***]:

This letter will serve to document the following agreements and understandings reached between Sumitomo Corporation (“Sumitomo”) and Cree, Inc. (“Cree”) in connection with the purchase and distribution by Sumitomo of GaN wafers manufactured by or for Cree (“GaN Wafers”) pursuant to the terms of the Amended and Restated Distributorship Agreement dated May 14, 2004 between Cree and Sumitomo (the “Distributorship Agreement”):

1. Sumitomo’s purchase of GaN Wafers from Cree pursuant to this letter agreement (“Letter Agreement”) will be subject to the terms and conditions of the Distributorship Agreement, as modified by this Letter Agreement. Notwithstanding its delayed effective date with respect to other Products, the Distributorship Agreement shall become effective with respect to the sale and purchase of GaN Wafers as of the date of this Letter Agreement. Notwithstanding anything to the contrary in the Distributorship Agreement, in the event of a conflict between the terms and conditions of this Letter Agreement and those contained in the Distributorship Agreement, the terms and conditions of this Letter Agreement shall prevail. Except as expressly modified by this Letter Agreement, all other terms and conditions of the Distributorship Agreement shall remain unchanged and in full force and effect.

2. Effective as of the date of this Letter Agreement, the following sentence is hereby added at the end of the definition of LED Products in Section 1.1(b) of the Distributorship Agreement:

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

Sumitomo Corporation	CONFIDENTIAL
July 12, 2004
Page 2 of 4

“As used herein, “generally available” includes LED Products custom manufactured for customers of Distributor but excludes LED Products custom manufactured for other customers.”

3. Effective as of the date of this Letter Agreement, the definition of Wafer Products in Section 1.1(c) of the Distributorship Agreement is hereby deleted in its entirety and replaced with the following:

“(c) “Wafer Products” means collectively “SiC Wafer Products” and “GaN Wafer Products.” “SiC Wafer Products” means silicon carbide wafers, either without epitaxial layers or with silicon carbide epitaxial layers deposited thereon, made by or for Manufacturer and that Manufacturer makes generally available to customers for purchase during the term of this Agreement. “GaN Wafer Products” means gallium nitride wafers, either with or without epitaxial layers deposited thereon, and hetero substrates, such as silicon carbide, sapphire or silicon, with one or more A^III nitride epitaxial layers deposited thereon, made by or for Manufacturer and that Manufacturer makes generally available to customers for purchase during the term of this Agreement. As used herein, “generally available” includes Wafer Products custom manufactured for customers of Distributor but excludes Wafer Products custom manufactured for other customers.”

4. Effective as of the date of this Letter Agreement, the following new Section 3.3 is hereby added immediately following Section 3.2 of the Distributorship Agreement:

“3.3 Notwithstanding any language herein to the contrary, unless extended by written agreement of the parties, Distributor’s appointment as a distributor of GaN Wafer Products in the Territory is [***]. In connection with the determination of the [***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission. Annual MPC for Manufacturer’s [***] fiscal year (as provided in Section 9.2 below), the parties in good faith will discuss [***] and shall mutually agree upon the terms for [***].”

5. Effective as of the date of this Letter Agreement, the fourth sentence in Section 7.1(d) of the Distributorship Agreement is hereby deleted in its entirety and replaced with the following:

“All claims under this warranty must be reported in writing to Manufacturer (with such report accompanied by the Product claimed to be defective, in die or packaged form if the Product cannot readily be removed therefrom) as soon as possible, but in any event no later than [***] if the claim relates to an LED Product, or [***] if the claim relates to a Wafer Product, after the date Products are shipped by Manufacturer to Distributor, and if not so reported, such claims shall be deemed waived.”

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

2

Sumitomo Corporation	CONFIDENTIAL
July 12, 2004
Page 3 of 4

6. Effective as of the date of this Letter Agreement, Sections 8.2(c) and (d) of the Distributorship Agreement are hereby deleted in their entirety and replaced with the following:

“(c) In addition, Distributor will be entitled to a bonus at the end of each fiscal quarter of FY05 equal to [***]. Such bonus shall be paid only by issuance of a credit memorandum. Credit memoranda issued under this Section 8.2(c) may be exchanged only to purchase additional SiC Wafer Products from Manufacturer, and Manufacturer is not required to refund money pursuant to such credit memoranda. With respect to bonuses for FY06 and FY07, the parties will discuss in good faith and seek to mutually agree upon the [***] for earning bonuses and such bonus rate provided that the [***] for earning bonuses in such subsequent fiscal periods [***] to take into consideration prevailing market conditions and Manufacturer’s manufacturing capabilities.

(d) If the cumulative SiC Wafer Product orders by Distributor [***] do not equal or exceed [***], then, notwithstanding any language herein to the contrary, Manufacturer either directly or through any Affiliate shall be permitted to sell SiC Wafer Products to any person for shipment by Manufacturer into Territory A.”

7. Cree and Sumitomo hereby confirm that, notwithstanding any language in the Distributorship Agreement to the contrary, only [***] will be provided as [***] under the [***] Reserve set forth in Section 8.6 of the Distributorship Agreement.

8. The Distributorship Agreement as amended hereby sets forth the entire agreement between the parties hereto as to the subject matter hereof, and supersedes any and all prior agreements, understanding, arrangements, promises, representations, warranties, and/or any contracts of any form or nature whatsoever, whether oral or in writing and whether explicit or implicit, which may have been entered into prior to the execution hereof between the parties, their officers, directors, or employees as to the subject matter hereof. Neither of the parties hereto has relied upon any oral representation of the other party. Capitalized terms used herein without definition shall have the meanings provided in the Distributorship Agreement.

9. With respect to GaN wafer products manufactured by Advanced Technology Materials, Inc. (“ATMI”) and/or previously sold in the Territory by ATMI or any of its distributors and/or sales representatives other than Sumitomo, [***].

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

3

Sumitomo Corporation	CONFIDENTIAL
July 12, 2004
Page 2 of 4

If you are in agreement with the foregoing, please sign below on behalf of Sumitomo and return a copy of the signed letter by to my attention at [***]. When executed by both parties, this letter will serve as a binding agreement between Cree and Sumitomo with respect to the matters set forth above.

Very truly yours,

CREE, INC.

/s/ [***]

[***]

[***]

AGREED:

SUMITOMO CORPORATION

By:	/s/ [***]
	[***]
	[***]
Date:	July 12, 2004

[***] Confidential treatment requested pursuant to a request for confidential treatment filed with the Securities and Exchange Commission. Omitted portions have been filed separately with the Commission.

4

EX-21.1

Exhibit 21.1

Subsidiaries of the Registrant

Cree Microwave, Inc., a North Carolina corporation

Cree Technologies, Inc., a North Carolina corporation

Cree Employee Services Corporation, a North Carolina corporation

CI Holdings, Limited, a North Carolina corporation

Cree Funding, LLC, a Delaware limited liability company (effective June 27, 2004, Cree Funding, LLC was merged into Cree, Inc.)

Cree Asia-Pacific, Inc., a North Carolina corporation

Cree Japan, Inc., a North Carolina corporation

EX-23.1

Exhibit 23.1

Consent of Independent Registered Public Accounting Firm

We consent to the incorporation by reference in the Registration Statements (Form S-8 Nos. 333-104863, 333-72774, 333-48830, 333-43490, 333-92479 and 33-98958) of Cree, Inc. of our report dated July 23, 2004, with respect to the consolidated financial statements of Cree, Inc. included in the Annual Report (Form 10-K) for the fiscal year ended June 27, 2004.

/s/ Ernst & Young LLP

Raleigh, North Carolina

August 18, 2004

1

EX-31.1

Exhibit 31.1

Certification by Chief Executive Officer

pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934, as

adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

I, Charles M. Swoboda, certify that:

1. I have reviewed this annual report on Form 10-K of Cree, Inc.;

2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4. The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

(b) [Paragraph omitted pursuant to SEC Release Nos. 33-8238/34-47986 and 33-8392/34-49313];

(c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

(d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5. The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

(a) All significant deficiencies and material weaknesses in the design or operation of internal controls over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date: August 20, 2004

/s/    Charles M. Swoboda

Charles M. Swoboda

President and Chief Executive Officer

EX-31.2

Exhibit 31.2

Certification by Chief Financial Officer

pursuant to Rule13a-14(a) under the Securities Exchange Act of 1934, as

adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

I, Cynthia B. Merrell, certify that:

1. I have reviewed this annual report on Form 10-K of Cree, Inc.;

2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4. The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

(b) [Paragraph omitted pursuant to SEC Release Nos. 33-8238/34-47986 and 33-8392/34-49313];

(c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

(d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5. The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

(a) All significant deficiencies and material weaknesses in the design or operation of internal controls over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date: August 20, 2004

/s/    Cynthia B. Merrell

Cynthia B. Merrell

Chief Financial Officer

EX-32.1

Exhibit 32.1

Certification by Chief Executive Officer pursuant to

18 U.S.C. Section 1350,

as adopted pursuant to

Section 906 of the Sarbanes-Oxley Act of 2002

In connection with the Annual Report of Cree, Inc. (the “Company”) on Form 10-K for the year ending June 27, 2004 as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Charles M. Swoboda, President and Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, to my knowledge, that:

(1) The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and

(2) The information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company.

/s/    Charles M. Swoboda

Charles M. Swoboda
President and Chief Executive Officer

August 20, 2004

This Certification is being furnished solely to accompany the Report pursuant to 18 U.S.C. §1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 and shall not be deemed “filed” by the Company for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, and shall not be incorporated by reference into any filing of the Company under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, whether made before or after the date of this Report, irrespective of any general incorporation language contained in such filing.

A signed original of this written statement required by Section 906, or other documents authenticating, acknowledging, or otherwise adopting the signature that appear in typed form within the electronic version of this written statement required by Section 906, has been provided to the Company and will be retained by the Company and furnished to the Securities and Exchange Commission or its staff upon request.

EX-32.2

Exhibit 32.2

Certification by Chief Financial Officer pursuant to

18 U.S.C. Section 1350,

as adopted pursuant to

Section 906 of the Sarbanes-Oxley Act of 2002

In connection with the Annual Report of Cree, Inc. (the “Company”) on Form 10-K for the year ending June 27, 2004 as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Cynthia B. Merrell, Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, to my knowledge, that:

(1) The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and

(2) The information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company.

/s/    Cynthia B. Merrell

Cynthia B. Merrell

Chief Financial Officer

August 20, 2004

This Certification is being furnished solely to accompany the Report pursuant to 18 U.S.C. §1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 and shall not be deemed “filed” by the Company for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, and shall not be incorporated by reference into any filing of the Company under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, whether made before or after the date of this Report, irrespective of any general incorporation language contained in such filing.

A signed original of this written statement required by Section 906, or other documents authenticating, acknowledging, or otherwise adopting the signature that appear in typed form within the electronic version of this written statement required by Section 906, has been provided to the Company and will be retained by the Company and furnished to the Securities and Exchange Commission or its staff upon request.