VEECO INSTRUMENTS INC - Quarter Report: 2011 March (Form 10-Q)

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

(Mark One)

 

x      QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended March 31, 2011

 

OR

 

o  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from              to              .

 

Commission file number 0-16244

 

 

VEECO INSTRUMENTS INC.

(Exact Name of Registrant as Specified in Its Charter)

 

 

Registrant’s telephone number, including area code: (516) 677-0200

 

Website: www.veeco.com

 

 

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 o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes x  No o

 

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

 

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o No x

 

40,739,182 shares of common stock, $0.01 par value per share, were outstanding as of the close of business on April 28, 2011.

 

 

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SAFE HARBOR STATEMENT

 

This Quarterly Report on Form 10-Q (the “Report”) contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Discussions containing such forward-looking statements may be found in Part I. Items 2 and 3 hereof, as well as within this Report generally. In addition, when used in this Report, the words “believes,” “anticipates,” “expects,” “estimates,” “plans,” “intends” and similar expressions are intended to identify forward-looking statements. All forward-looking statements are subject to a number of risks and uncertainties that could cause actual results to differ materially from projected results. These risks and uncertainties include, without limitation, the following:

 

·                  Our failure to successfully manage our outsourcing activities or failure of our outsourcing partners to perform as anticipated could adversely affect our statements of income and our ability to realize the benefits of the increased MOCVD order volume;

 

·                  The reduction or elimination of foreign government subsidies and economic incentives may adversely affect the future order rate for our MOCVD equipment;

 

·                  Manufacturing interruptions or delays could affect our ability to meet customer demand, while the failure to estimate customer demand accurately could result in excess or obsolete inventory and/or liabilities to our suppliers for products no longer needed;

 

·                  We rely on a limited number of suppliers, some of whom are our sole source for particular components;

 

·                  Our backlog is subject to customer cancellation or modification and such cancellation could result in decreased sales and increased provisions for excess and obsolete inventory and/or liabilities to our suppliers for products no longer needed;

 

·                  Our sales to HB LED and data storage manufacturers are highly dependent on these manufacturers’ sales for consumer electronics applications, which can experience significant volatility due to seasonal and other factors. This could materially adversely impact our future statements of income;

 

·                  Negative worldwide economic conditions could result in a decrease in our net sales and an increase in our operating costs, which could adversely affect our business and operating results;

 

·                  We are exposed to the risks of operating a global business, including the need to obtain export licenses for certain of our shipments and political risks in the countries we operate;

 

·                  We are exposed to risks associated with our entrance into the emerging solar industry;

 

·                  The timing of our orders, shipments, and revenue recognition may cause our quarterly operating results to fluctuate significantly;

 

·                  We operate in industries characterized by rapid technological change;

 

·                  We face significant competition;

 

·                  We depend on a limited number of customers that operate in highly concentrated industries;

 

·                  The cyclicality of the industries we serve directly affects our business;

 

·                  Our sales cycle is long and unpredictable;

 

·                  Our inability to attract, retain, and motivate key employees could have a material adverse effect on our business;

 

·                  The price of our common shares may be volatile and could decline significantly;

 

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·                  We are subject to foreign currency exchange risks;

 

·                  The enforcement and protection of our intellectual property rights may be expensive and could divert our limited resources;

 

·                  We may be subject to claims of intellectual property infringement by others;

 

·                  Our acquisition strategy subjects us to risks associated with evaluating and pursuing these opportunities and integrating these businesses;

 

·                  We may be required to take additional impairment charges for goodwill and indefinite-lived intangible assets or definite-lived intangible and long-lived assets;

 

·                  We may not receive the escrowed proceeds from the sale of our Metrology business;

 

·                  Changes in accounting pronouncements or taxation rules or practices may adversely affect our financial results;

 

·                  We are subject to the internal control evaluations and attestation requirements of Section 404 of the Sarbanes-Oxley Act;

 

·                  We are subject to risks of non-compliance with environmental, health and safety regulations;

 

·                  We have significant operations in locations which could be materially and adversely impacted in the event of a natural disaster or other significant disruption;

 

·                  We have adopted certain measures that may have anti-takeover effects which may make an acquisition of our Company by another company more difficult; and

 

·                  The matters set forth in this Report generally, including the risk factors set forth in “Part 2. Item 1A. Risk Factors.”

 

Consequently, such forward-looking statements should be regarded solely as the Company’s current plans, estimates, and beliefs. The Company does not undertake any obligation to update any forward-looking statements to reflect future events or circumstances after the date of such statements.

 

Available Information

 

We file annual, quarterly and current reports, information statements and other information with the Securities and Exchange Commission (the “SEC”). The public may obtain information by calling the SEC at 1-800-SEC-0330. The SEC also maintains a website that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC. The address of that site is www.sec.gov.

 

Internet Address

 

We maintain a website where additional information concerning our business and various upcoming events can be found. The address of our website is www.veeco.com.. We provide a link on our website, under Investors — Financial Information — SEC Filings, through which investors can access our filings with the SEC, including our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and all amendments to such reports. These filings are posted to our website, as soon as reasonably practicable after we electronically file such material with the SEC.

 

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VEECO INSTRUMENTS INC.

 

INDEX

 

			Page
PART I. FINANCIAL INFORMATION
Item 1.	Financial Statements:
	Condensed Consolidated Statements of Income and Comprehensive Income for the Three Months Ended March 31, 2011 and 2010 (Unaudited)		5
	Condensed Consolidated Balance Sheets as of March 31, 2011 (Unaudited) and December 31, 2010		6
	Condensed Consolidated Statements of Cash Flows for the Three Months Ended March 31, 2011 and 2010 (Unaudited)		7
	Notes to Condensed Consolidated Financial Statements (Unaudited)		8
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		16
Item 3.	Quantitative and Qualitative Disclosures About Market Risk		26
Item 4.	Controls and Procedures		27
PART II. OTHER INFORMATION
Item 1.	Legal Proceedings		28
Item 1A.	Risk Factors		28
Item 2.	Unregistered Sale of Equity Securities and Use of Proceeds		28
Item 6.	Exhibits		29
SIGNATURES			30

 

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PART I. FINANCIAL INFORMATION

 

Item 1. Financial Statements

 

Veeco Instruments Inc. and Subsidiaries
Condensed Consolidated Statements of Income
(In thousands, except per share data)
(Unaudited)

 

		Three months ended
		March 31,
		2011			2010
Net sales		$	254,676		$	134,750
Cost of sales		125,344			78,010
Gross profit		129,332			56,740
Operating expenses (income):
Selling, general and administrative		23,933			17,726
Research and development		24,582			12,956
Amortization		1,135			1,237
Restructuring		—			(179		)
Other, net		13			(175		)
Total operating expenses		49,663			31,565
Operating income		79,669			25,175
Interest expense, net		1,299			1,783
Loss on extinguishment of debt		304			—
Income from continuing operations before income taxes		78,066			23,392
Income tax provision		24,983			567
Income from continuing operations		53,083			22,825
Discontinued operations:
(Loss) income from discontinued operations		(498		)	3,962
Income tax (benefit) provision		(57		)	743
(Loss) income from discontinued operations		(441		)	3,219
Net income		$	52,642		$	26,044
Income (loss) per common share:
Basic:
Continuing operations		$	1.33		$	0.59
Discontinued operations		(0.01		)	0.08
Income		$	1.32		$	0.67
Diluted:
Continuing operations		$	1.25		$	0.54
Discontinued operations		(0.01		)	0.08
Income		$	1.24		$	0.62
Weighted average shares outstanding:
Basic		39,842			38,784
Diluted		42,531			42,269

 

Veeco Instruments Inc. and Subsidiaries

Condensed Consolidated Statements of Comprehensive Income

(In thousands)

(Unaudited)

 

		Three months ended
		March 31,
		2011			2010
Net income		$	52,642		$	26,044
Other comprehensive income (loss), net of tax
Foreign currency translation		471			(673		)
Unrealized gain on available-for-sale securities		26			—
Comprehensive income		$	53,139		$	25,371

 

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

 

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Veeco Instruments Inc. and Subsidiaries
Condensed Consolidated Balance Sheets
(In thousands)

 

		March 31,			December 31,
		2011			2010
		(Unaudited)
Assets
Current assets:
Cash and cash equivalents		$	276,837		$	245,132
Short-term investments		426,025			394,180
Restricted cash		76,117			76,115
Accounts receivable, net		94,041			150,528
Inventories		121,342			108,487
Prepaid expenses and other current assets		31,676			34,328
Deferred income taxes		5,772			13,803
Total current assets		1,031,810			1,022,573
Property, plant and equipment at cost, net		48,981			42,320
Goodwill		52,003			52,003
Deferred income taxes		9,403			9,403
Intangible assets, net		15,740			16,893
Other assets		5,074			4,842
Total assets		$	1,163,011		$	1,148,034
Liabilities and equity
Current liabilities:
Accounts payable		$	38,678		$	32,220
Accrued expenses and other current liabilities		171,275			183,010
Deferred profit		4,518			4,109
Income taxes payable		21,347			56,369
Liabilities of discontinued segment held for sale		5,359			5,359
Current portion of long-term debt		94,973			101,367
Total current liabilities		336,150			382,434
Long-term debt		2,594			2,654
Other liabilities		392			434
Total equity		823,875			762,512
Total liabilities and equity		$	1,163,011		$	1,148,034

 

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

 

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Veeco Instruments Inc. and Subsidiaries
Condensed Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)

 

		Three months ended
		March 31,
		2011			2010
Operating activities
Net income		$	52,642		$	26,044
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		3,266			3,274
Amortization of debt discount		769			741
Non-cash equity-based compensation		3,098			1,866
Loss on extinguishment of debt		304			—
Deferred income taxes		7,988			152
Excess tax benefits from stock option exercises		(2,188		)	—
Other, net		180			1,869
Changes in operating assets and liabilities:
Accounts receivable		55,888			1,492
Inventories		(12,843		)	(6,350		)
Accounts payable		6,478			4,321
Accrued expenses, deferred profit and other current liabilities		(11,142		)	14,777
Income taxes payable		(32,743		)	514
Other, net		3,190			(3,103		)
Discontinued operations		—			(3,844		)
Net cash provided by operating activities		74,887			41,753
Investing activities
Capital expenditures		(9,402		)	(1,010		)
Proceeds from the maturity of CDARS		—			40,025
Proceeds from sales of short-term investments		122,148			—
Payments for purchases of short-term investments		(154,339		)	(60,500		)
Other		1			(99		)
Net cash used in investing activities		(41,592		)	(21,584		)
Financing activities
Proceeds from stock option exercises		2,951			26,968
Restricted stock tax withholdings		(13		)	(456		)
Excess tax benefits from stock option exercises		2,188			—
Repayments of long-term debt		(7,454		)	(52		)
Other		(54		)	—
Net cash (used in) provided by financing activities		(2,382		)	26,460
Effect of exchange rate changes on cash and cash equivalents		792			(1,123		)
Net increase in cash and cash equivalents		31,705			45,506
Cash and cash equivalents at beginning of year		245,132			148,500
Cash and cash equivalents at end of year		$	276,837		$	194,006
Non-cash investing and financing activities
Transfers from property, plant and equipment to inventory		$	—		$	1,102
Transfers from inventory to property, plant and equipment		—			850
Sale of property, plant and equipment with note receivable		—			140

 

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

 

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Veeco Instruments Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements (Unaudited)

 

Note 1—Basis of Presentation

 

The accompanying unaudited condensed consolidated financial statements of Veeco Instruments Inc. (together with its consolidated subsidiaries, “Veeco,” the “Company” or “we”) have been prepared in accordance with accounting principles generally accepted in the United States (“U.S.”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by U.S. generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments considered necessary for a fair presentation (consisting of normal recurring accruals) have been included. Operating results for the three months ended March 31, 2011, are not necessarily indicative of the results that may be expected for the year ending December 31, 2011. For further information, refer to the consolidated financial statements and footnotes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2010.

 

Consistent with prior years, we report interim quarters, other than fourth quarters which always end on December 31, on a 13-week basis ending on the last Sunday of each period. The interim quarter ends are determined at the beginning of each year based on the 13-week quarters. The 2011 interim quarter ends are April 3, July 3 and October 2. The 2010 interim quarter ends were March 28, June 27 and September 26. For ease of reference, we report these interim quarter ends as March 31, June 30 and September 30 in our interim condensed consolidated financial statements.

 

Income Per Common Share

 

The following table sets forth the reconciliation of basic weighted average shares outstanding and diluted weighted average shares outstanding (in thousands):

 

		Three months ended
		March 31,
		2011		2010
Basic weighted average shares outstanding		39,842		38,784
Dilutive effect of stock options and restricted stock		1,149		2,533
Dilutive effect of convertible notes		1,540		952
Diluted weighted average shares outstanding		42,531		42,269

 

Basic income per common share is computed using the weighted average number of common shares outstanding during the period. Diluted income per common share is computed using the weighted average number of common shares and common equivalent shares outstanding during the period. For the three months ended March 31, 2011 and 2010, no shares were excluded from the computation of diluted weighted average shares outstanding.

 

Our convertible notes meet the criteria for determining the effect of the assumed conversion using the treasury stock method of accounting, as long as we have the ability and the intent to settle the principal amount of the notes in cash. Under the terms of these notes, we may pay the principal amount of converted notes in cash or in shares of common stock. We have indicated that we intend to pay the principal amount in cash. Using the treasury stock method, it was determined that the impact of the assumed conversion for the three months ended March 31, 2011 and 2010, had a dilutive effect of 1.5 million and 1.0 million common equivalent shares, respectively. The effect of the assumed converted shares is dependent on the stock price at the time of the conversion. The maximum number of common equivalent shares issuable upon conversion at March 31, 2011 was approximately 5.0 million. See Note 6 for further details on our debt.

 

Derivative Financial Instruments

 

We use derivative financial instruments to minimize the impact of foreign exchange rate changes on earnings and cash flows. In the normal course of business, our operations are exposed to fluctuations in foreign exchange rates. In order to reduce the effect of fluctuating foreign currencies on short-term foreign currency-denominated intercompany transactions and other known foreign currency exposures, we enter into monthly forward contracts. We do not use derivative financial instruments for trading or speculative purposes. Our forward contracts are not expected to subject us to material risks due to exchange rate movements because gains and losses on these contracts are intended to offset

 

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exchange gains and losses on the underlying assets and liabilities. The forward contracts are marked-to-market through earnings. We conduct our derivative transactions with highly rated financial institutions in an effort to mitigate any material credit risk.

 

The aggregate foreign currency exchange loss (gain) included in the accompanying Condensed Consolidated Statements of Income was approximately $0.3 million and $(0.1) million during the three months ended March 31, 2011  and 2010, respectively. Included in the aggregate foreign currency exchange loss (gain) were gains related to forward contracts of $0.5 million during the three months ended March 31, 2011.  Minimal gains related to forward contracts were included in the aggregate foreign currency exchange loss (gain) during the three months ended March 31, 2010. These amounts were recognized and are included in Other, net in the accompanying Condensed Consolidated Statements of Income.

 

As of March 31, 2011, approximately $0.2 million of gains related to forward contracts were included in prepaid expenses and other current assets and were subsequently received in April 2011. As of December 31, 2010, approximately $0.3 million of gains related to forward contracts were included in prepaid expenses and other current assets which were subsequently received in January 2011. Monthly forward contracts with a notional amount of $11.7 million, entered into in March 2011 for April 2011, will be settled in April 2011.

 

The weighted average notional amount of derivative contracts outstanding during the three months ended March 31, 2011 were approximately $19.8 million.

 

Note 2 — Discontinued Operations

 

On August 15, 2010, we signed a definitive agreement to sell our Metrology business to Bruker Corporation (“Bruker”) comprising our entire Metrology reporting segment for $229.4 million. Accordingly, Metrology’s operating results were accounted for as discontinued operations and the related assets and liabilities were classified as held for sale. The sales transaction closed on October 7, 2010, except for assets located in China due to local restrictions. Total proceeds, which included a working capital adjustment of $1 million, totaled $230.4 million of which $7.2 million relates to the assets in China. The Company recorded a liability to defer the gain of $5.4 million on disposal related to the assets in China. As part of our agreement with Bruker, $22.9 million of proceeds is held in escrow and is restricted from use for one year from the closing date of the transaction to secure potential specified losses, if any, arising out of breaches of representations, warranties and covenants we made in the stock purchase agreement and related documents.

 

Summary information related to discontinued operations is as follows (in thousands):

 

		Three months ended
		March 31,
		2011			2010
Net sales		$	—		$	28,481
Cost of sales		—			14,872
Gross profit		—			13,609
Total operating expenses		498			9,647
Operating (loss) income		$	(498	)	$	3,962
Net (loss) income from discontinued operations, net of tax		$	(441	)	$	3,219

 

Liabilities of discontinued segment held for sale, totaling $5.4 million, as of March 31, 2011 and December 31, 2010, consist of the deferred gain related to the assets in China.

 

Note 3— Equity-based Compensation Plans

 

Equity-based Compensation

 

Equity-based compensation cost is measured at the grant date, based on the fair value of the award, and is recognized as expense over each employee’s requisite service period. The following compensation expense was included in the Condensed Consolidated Statements of Income for the three months ended March 31, 2011 and 2010 (in thousands):

 

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		Three months ended
		March 31,
		2011			2010
Equity-based compensation expense		$	3,098		$	1,866

 

As a result of the sale of our Metrology segment to Bruker, equity-based compensation expense related to Metrology employees totaling $0.3 million has been classified as discontinued operations in determining the Condensed Consolidated Statements of Income for the three months ended March 31, 2010.

 

As of March 31, 2011, the total unrecognized compensation costs related to nonvested stock and stock option awards was $7.8 million and $12.8 million, respectively. The related weighted average period over which we expect that such unrecognized compensation costs will be recognized is approximately 2.5 years for nonvested stock awards and 1.9 years for option awards.

 

Stock Option and Restricted Stock Activity

 

A summary of our restricted stock awards including restricted stock units for the three months ended March 31, 2011, is presented below:

 

		Shares (000’s)		Weighted- Average Grant-Date Fair Value
Nonvested at December 31, 2010		616		$	19.06
Granted		6		44.82
Vested		(1	)	4.20
Forfeited (including cancelled awards)		(2	)	26.20
Nonvested at March 31, 2011		619		$	19.28

 

A summary of our stock option awards for the three months ended March 31, 2011, is presented below:

 

		Shares (000s)		Weighted- Average Exercise Price			Aggregate Intrinsic Value (000s)			Weighted- Average Remaining Contractual Life (in years)
Outstanding at December 31, 2010		2,569		$	19.71
Granted		16		44.02
Exercised		(211	)	13.85
Forfeited (including cancelled options)		(24	)	32.61
Outstanding at March 31, 2011		2,350		$	20.28		$	70,815		5.7
Options exercisable at March 31, 2011		573		$	17.40		$	18,920		3.6

 

Treasury Stock

 

On August 24, 2010, our Board of Directors authorized the repurchase of up to $200 million of our common stock until August 26, 2011. Repurchases are expected to be made from time to time on the open market in accordance with applicable federal securities laws. The timing of repurchases and the exact number of shares of common stock to be purchased will depend upon market conditions, SEC regulations, and other factors. The repurchases will be funded using the Company’s available cash balances and cash generated from operations. The program does not obligate the Company to acquire any particular amount of common stock and may be modified or suspended at any time at the Company’s discretion. The Company had no share repurchase activity for the three months ended March 31, 2011 and 2010. At March 31, 2011, there remained $161.9 million of authorization for future repurchases.

 

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Note 4—Balance Sheet Information

 

Short-term Investments

 

Available-for-sale securities consist of the following (in thousands):

 

		March 31, 2011
		Amortized Cost			Gains in Accumulated Other Comprehensive Income			Losses in Accumulated Other Comprehensive Income			Estimated Fair Value
Commercial paper		$	95,584		$	61		$	—		$	95,645
FDIC insured corporate bonds		105,348			21			—			105,369
Treasury bills		224,970			41			—			225,011
Total available-for-sale securities		$	425,902		$	123		$	—		$	426,025

 

		December 31, 2010
		Amortized Cost			Gains in Accumulated Other Comprehensive Income			Losses in Accumulated Other Comprehensive Income			Estimated Fair Value
Commercial paper		$	128,527		$	61		$	—		$	128,588
FDIC insured corporate bonds		129,353			24			—			129,377
Treasury bills		136,203			12			—			136,215
Total available-for-sale securities		$	394,083		$	97		$	—		$	394,180

 

During the three months ended March 31, 2011, available-for-sale securities were sold for total proceeds of $122.1 million. The gross realized gains on these sales were minimal for the three months ended March 31, 2011. For purpose of determining gross realized gains, the cost of securities sold is based on specific identification. Net unrealized holding gains on available-for-sale securities of less than $0.1 million for the three months ended March 31, 2011, have been included in accumulated other comprehensive income. During the three months ended March 31, 2010, available-for-sale securities matured for total proceeds of $40.0 million. The gross realized gains on these sales were minimal for the three months ended March 31, 2010. There were no unrealized holding gains on available-for-sale securities for the three months ended March 31, 2010.

 

Contractual maturities of available-for-sale debt securities at March 31, 2011, are as follows (in thousands):

 

		Estimated Fair Value
Due in one year or less		$	276,642
Due in 1–2 years		149,383
Total investments in debt securities		$	426,025

 

Actual maturities may differ from contractual maturities because some borrowers have the right to call or prepay obligations with or without call or prepayment penalties.

 

Restricted Cash

 

As of March 31, 2011, we had $76.1 million of restricted cash consisting of $22.9 million that relates to the proceeds received from the sale of our Metrology segment. This cash is held in escrow and is restricted from use for one year from the closing date of the transaction to secure potential losses, if any, arising out of breaches of representations, warranties and covenants we made in the stock purchase agreement and related documents. Additionally, we had restricted cash consisting of $53.2 million which serves as collateral for bank guarantees that

 

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provide financial assurance that the Company will fulfill certain customer obligations. This cash is held in custody by the issuing bank, and is restricted as to withdrawal or use while the related bank guarantees are outstanding.

 

Accounts Receivable, net

 

Accounts receivable are shown net of the allowance for doubtful accounts of $0.5 million as of March 31, 2011 and December 31, 2010.

 

Inventories

 

Inventories are stated at the lower of cost (principally first-in, first-out) or market. Inventories consist of (in thousands):

 

		March 31,			December 31,
		2011			2010
Raw materials		$	55,584		$	49,953
Work in process		50,268			33,181
Finished goods		15,490			25,353
		$	121,342		$	108,487

 

Accrued Warranty

 

We estimate the costs that may be incurred under the warranty we provide and record a liability in the amount of such costs at the time the related revenue is recognized. Factors that affect our warranty liability include product failure rates, material usage and labor costs incurred in correcting product failures during the warranty period.  We periodically assess the adequacy of our recognized warranty liability and adjust the amount as necessary.  Changes in our warranty liability during the period are as follows (in thousands):

 

		Three months ended
		March 31,
		2011			2010
Balance as of the beginning of period		$	9,238		$	6,675
Warranties issued during the period		3,014			1,446
Settlements made during the period		(2,121		)	(1,382		)
Balance as of the end of period		$	10,131		$	6,739

 

Note 5—Segment Information

 

We manage the business, review operating results and assess performance, as well as allocate resources, based upon two separate reporting segments that reflect the market focus of each business. The Light Emitting Diode (“LED”) & Solar segment consists of metal organic chemical vapor deposition (“MOCVD”) systems, molecular beam epitaxy (“MBE”) systems, Copper, Indium, Gallium, Selenide (“CIGS”) deposition systems and thermal deposition sources. These systems are primarily sold to customers in the high-brightness LED (“HB LED”) and solar industries, as well as to scientific research customers. This segment has manufacturing, product development and marketing sites in Somerset, New Jersey, St. Paul, Minnesota and Lowell, Massachusetts and has a product development site in Clifton Park, New York. The Data Storage segment consists of the ion beam etch, ion beam deposition, diamond-like carbon, physical vapor deposition and dicing and slicing products sold primarily to customers in the data storage industry. This segment has manufacturing, product development and marketing sites in Plainview, New York, Camarillo, California and Ft. Collins, Colorado.

 

We evaluate the performance of our reportable segments based on income (loss) from continuing operations before interest, income taxes, amortization and certain items (“Segment profit (loss)”), which is the primary indicator used to plan and forecast future periods. The presentation of this financial measure facilitates meaningful comparison with prior periods, as management believes Segment profit (loss) reports baseline performance and thus provides useful information. Certain items include restructuring credits, equity-based compensation expense and loss on extinguishment of debt. The accounting policies of the reportable segments are the same as those described in the summary of critical accounting policies.

 

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The following tables present certain data pertaining to our reportable product segments and a reconciliation of segment profit (loss) to income (loss) from continuing operations before income taxes for the three months ended March 31, 2011 and 2010, respectively, and goodwill and total assets as of March 31, 2011 and December 31, 2010 (in thousands):

 

		LED & Solar			Data Storage			Unallocated Corporate Amount			Total
Three months ended March 31, 2011
Net sales		$	214,698		$	39,978		$	—		$	254,676
Segment profit (loss)		$	73,963		$	12,231		$	(2,292	)	$	83,902
Interest, net		—			—			1,299			1,299
Amortization		714			363			58			1,135
Equity-based compensation		977			308			1,813			3,098
Loss on extinguishment of debt		—			—			304			304
Income (loss) from continuing operations before income taxes		$	72,272		$	11,560		$	(5,766	)	$	78,066
Three months ended March 31, 2010
Net sales		$	111,505		$	23,245		$	—		$	134,750
Segment profit (loss)		$	28,358		$	2,877		$	(3,136	)	$	28,099
Interest, net		—			—			1,783			1,783
Amortization		796			383			58			1,237
Equity-based compensation		467			215			1,184			1,866
Restructuring		—			(179		)	—			(179		)
Income (loss) from continuing operations before income taxes		$	27,095		$	2,458		$	(6,161	)	$	23,392

 

		LED & Solar			Data Storage			Unallocated Corporate Amount			Total
As of March 31, 2011
Goodwill		$	52,003		$	—		$	—		$	52,003
Total assets		$	274,678		$	65,350		$	822,983		$	1,163,011
As of December 31, 2010
Goodwill		$	52,003		$	—		$	—		$	52,003
Total assets		$	323,096		$	61,691		$	763,247		$	1,148,034

 

As of March 31, 2011 and December 31, 2010 corporate total assets were comprised principally of cash and cash equivalents, short-term investments and restricted cash.

 

Note 6—Debt

 

Convertible Notes

 

Our convertible notes are initially convertible into 36.7277 shares of common stock per $1,000 principal amount of notes (equivalent to a conversion price of $27.23 per share or a premium of 38% over the closing market price for Veeco’s common stock on April 16, 2007). On or after April 20, 2011, we may redeem the notes, in whole or in part, for cash at 100% of the principal amount of the notes to be redeemed plus accrued and unpaid interest to, but not including, the redemption date. Holders may convert the convertible notes at any time during the period beginning on January 15, 2012 through the close of business on the second day prior to April 15, 2012 and earlier upon the occurrence of certain events, including if the notes are called for redemption or if, for a given fiscal quarter, our common stock trades at prices equal to or above 130% of the conversion price for at least 20 trading days during the final 30 trading days of the immediately preceding fiscal quarter. At the end of the first quarter of 2011, our common stock was trading at prices equal to or above 130% of the conversion price for the specified period and, as a result, the notes are convertible during the second quarter of 2011. If the notes are converted, we have the ability and intent to pay the principal balance of notes tendered for conversion in cash. Accordingly, the balance of the convertible notes at March 31, 2011 has been classified as current in our Condensed Consolidated Balance Sheet. We pay interest on these notes on April 15 and October 15 of each year. The notes are unsecured and are effectively subordinated to all of our senior and secured indebtedness and to all indebtedness and other liabilities of our subsidiaries.

 

Current accounting guidance requires a portion of convertible debt to be allocated to equity. This guidance requires issuers of convertible debt that can be settled in cash to separately account for (i.e., bifurcate) a portion of the debt associated with the conversion feature and reclassify this portion to equity. The liability portion, which

 

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represents the fair value of the debt without the conversion feature, is accreted to its face value over the life of the debt using the effective interest method by amortizing the discount between the face amount and the fair value. The amortization is recorded as interest expense. Our convertible notes are subject to this accounting guidance since they may be settled in cash upon conversion. This created a $16.3 million discount on the debt that is amortized over the remaining life of the notes, which will be through April 15, 2012. This additional interest expense does not require the use of cash.

 

On February 14, 2011, at the option of the holder, $7.5 million of notes were tendered for conversion at a price of $45.95 per share, calculated as defined in the indenture relating to the notes, in a net share settlement. We paid the principal amount of $7.5 million in cash and issued 111,318 shares of our common stock. As a result, we recorded a loss on extinguishment of $0.3 million during the three months ended March 31, 2011.

 

The components of interest expense recorded on the notes were as follows (in thousands):

 

		Three months ended
		March 31,
		2011			2010
Contractual interest		$	1,012		$	1,089
Accretion of the discount on the Notes		769			741
Total interest expense on the Notes		$	1,781		$	1,830
Effective interest rate		7.1		%	6.9		%

 

The carrying amounts of the liability and equity components of the notes were as follows (in thousands):

 

		March 31,			December 31,
		2011			2010
Carrying amount of the equity component		$	15,166		$	16,318
Principal balance of the liability component		$	98,120		$	105,574
Less: unamortized discount		3,381			4,436
Net carrying value of the liability component		$	94,739		$	101,138

 

As of March 31, 2011, the $98.1 million of the convertible notes outstanding had a fair value of approximately $177.2 million.

 

Mortgage Payable

 

We also have a mortgage payable, with approximately $2.8 million outstanding as of March 31, 2011. The mortgage accrues interest at an annual rate of 7.91%, and the final payment is due on January 1, 2020. The fair value of the mortgage as of March 31, 2011 was approximately $3.1 million.

 

Note 7— Fair Value Measurements

 

We have categorized our assets and liabilities recorded at fair value based upon the fair value hierarchy. The levels of fair value hierarchy are as follows:

 

·                  Level 1 inputs utilize quoted prices (unadjusted) in active markets for identical assets or liabilities that we have the ability to access.

 

·                  Level 2 inputs utilize other-than-quoted prices that are observable, either directly or indirectly. Level 2 inputs include quoted prices for similar assets and liabilities in active markets, and inputs such as interest rates and yield curves that are observable at commonly quoted intervals.

 

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·                  Level 3 inputs are unobservable and are typically based on our own assumptions, including situations where there is little, if any, market activity.

 

In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, we categorize such assets or liabilities based on the lowest level input that is significant to the fair value measurement in its entirety. Our assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment and considers factors specific to the asset.

 

Both observable and unobservable inputs may be used to determine the fair value of positions that are classified within the Level 3 category. As a result, the unrealized gains and losses for assets within the Level 3 category presented below may include changes in fair value that were attributable to both observable (e.g., changes in market interest rates) and unobservable (e.g., changes in historical company data) inputs.

 

The major categories of assets and liabilities measured on a recurring basis, at fair value, as of March 31, 2011 and December 31, 2010, are as follows (in millions):

 

		March 31, 2011
		Level 1			Level 2			Level 3			Total
Treasury bills		$	225.0		$	25.3		$	—		$	250.3
FDIC insured corporate bonds		105.4			—			—			105.4
Commercial paper		95.6			69.2			—			164.8
Money market instruments		—			0.9			—			0.9
Derivative instrument		—			0.2			—			0.2
Total		$	426.0		$	95.6		$	—		$	521.6

 

		December 31, 2010
		Level 1			Level 2			Level 3			Total
Treasury bills		$	136.2		$	79.5		$	—		$	215.7
FDIC insured corporate bonds		129.4			—			—			129.4
Commercial paper		128.6			62.8			—			191.4
Money market instruments		—			0.6			—			0.6
Derivative instrument		—			0.3			—			0.3
Total		$	394.2		$	143.2		$	—		$	537.4

 

Commercial paper and treasury bills that are classified as cash equivalents are carried at cost, which approximates market value. Accordingly, no gains or losses (realized/unrealized) have been incurred for cash equivalents. All investments classified as available-for-sale contain quoted prices in active markets.

 

Derivative instruments include foreign currency forward contracts to hedge certain foreign currency transactions. Derivative instruments are valued using standard calculations/models that are primarily based on observable inputs, including foreign currency exchange rates, volatilities and interest rates.

 

The major categories of assets and liabilities measured on a nonrecurring basis, at fair value, as of March 31, 2011 and December 31, 2010, are as follows (in millions):

 

		March 31, 2011
		Level 1			Level 2			Level 3			Total
Property, plant and equipment, net		$	—		$	—		$	49.0		$	49.0
Goodwill		—			—			52.0			52.0
Intangible assets, net		—			—			15.7			15.7
Restructuring liability		—			—			0.5			0.5
Total		$	—		$	—		$	117.2		$	117.2

 

		December 31, 2010
		Level 1			Level 2			Level 3			Total
Property, plant and equipment, net		$	—		$	—		$	42.3		$	42.3
Goodwill		—			—			52.0			52.0
Intangible assets, net		—			—			16.9			16.9
Restructuring liability		—			—			(1.0		)	(1.0		)
Total		$	—		$	—		$	110.2		$	110.2

 

Note 8— Subsequent Events

 

On April 5, 2011, we purchased a privately-held company which supplies certain components to our business for $28.0 million in cash.

 

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