UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

(Mark One)

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

For the quarterly period ended June 30, 2007.

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

For the transition period from                      to                     .

ADVANCED ENERGY INDUSTRIES, INC.

(Exact name of registrant as specified in its charter)

Delaware		84-0846841
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)
1625 Sharp Point Drive, Fort Collins, CO		80525
(Address of principal executive offices)		(Zip Code)

Registrant’s telephone number, including area code: (970) 221-4670

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 þ       No o.

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

Large accelerated filer o       Accelerated filer þ       Non-accelerated filer o

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

As of July 31, 2007, there were 45,240,288 shares of the registrant’s Common Stock, par value $0.001 per share, outstanding.

 

 

ADVANCED ENERGY INDUSTRIES, INC.
FORM 10-Q
TABLE OF CONTENTS

PART I		FINANCIAL INFORMATION
ITEM 1.		UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
		Condensed Consolidated Balance Sheets – June 30, 2007 and December 31, 2006
		Condensed Consolidated Statements of Income – Three and six months ended June 30, 2007 and 2006
		Condensed Consolidated Statements of Cash Flows -Six months ended June 30, 2007 and 2006
		Notes to Condensed Consolidated Financial Statements
ITEM 2.		MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
ITEM 3.		QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
ITEM 4.		CONTROLS AND PROCEDURES
PART II		OTHER INFORMATION
ITEM 1.		LEGAL PROCEEDINGS
ITEM 1A.		RISK FACTORS
ITEM 2.		UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
ITEM 3.		DEFAULTS UPON SENIOR SECURITIES
ITEM 4.		SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
ITEM 5.		OTHER INFORMATION
ITEM 6.		EXHIBITS
SIGNATURE
Loan Modification Agreement
Amended And Restated 2003 Non-Employee Directors' Stock Option Plan
Amended And Restated 2003 Employees' Stock Option Plan
Certification of CEO Pursuant to Section 302
Certification of CFO Pursuant to Section 302
Certification of CEO Pursuant to Section 906
Certification of CFO Pursuant to Section 906

PART I            FINANCIAL INFORMATION

ITEM 1. UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

ADVANCED ENERGY INDUSTRIES, INC. AND SUBSIDIARIES

Condensed Consolidated Balance Sheets (Unaudited)
(In thousands)

		June 30,				December 31,
		2007				2006
ASSETS
CURRENT ASSETS:
Cash and cash equivalents		$	73,080			$	58,240
Marketable securities			105,407				85,978
Trade accounts receivable, net			71,979				71,956
Inventories			56,896				52,778
Deferred income taxes			22,692				24,434
Other current assets			5,975				7,341
Total current assets			336,029				300,727
PROPERTY AND EQUIPMENT, net			30,659				33,571
OTHER ASSETS:
Deposits and other			8,105				2,640
Goodwill			58,205				58,679
Other intangible assets, net			6,199				6,905
Customer service equipment, net			617				832
Deferred income tax assets, net			3,897				8,549
Total assets		$	443,711			$	411,903
LIABILITIES AND STOCKHOLDERS’ EQUITY
CURRENT LIABILITIES:
Trade accounts payable		$	16,656			$	16,310
Taxes payable			9,526				7,741
Accrued payroll and employee benefits			14,541				16,899
Accrued warranty expense			7,435				7,845
Accrued restructuring charges			1,469				—
Capital lease obligations, current portion			124				131
Other current liabilities			1,229				4,003
Total current liabilities			50,980				52,929
LONG-TERM LIABILITIES:
Capital leases, net of current portion			146				198
Deferred income tax liabilities, net			1,688				1,971
Other long-term liabilities			7,809				1,015
Total long-term liabilities			9,643				3,184
Total liabilities			60,623				56,113
Commitments and contingencies (Note 11)
STOCKHOLDERS’ EQUITY			383,088				355,790
Total liabilities and stockholders’ equity		$	443,711			$	411,903

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

ADVANCED ENERGY INDUSTRIES, INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Income (Unaudited)
(In thousands, except per share amounts)

		Three months Ended June 30,
		2007				2006
SALES		$	103,049			$	104,571
COST OF SALES			58,094				59,811
Gross profit			44,955				44,760
OPERATING EXPENSES:
Research and development			12,911				10,804
Selling, general and administrative			15,616				14,694
Restructuring and asset impairment charges			158				31
Total operating expenses			28,685				25,529
INCOME FROM OPERATIONS			16,270				19,231
OTHER INCOME			1,505				741
Income before income taxes			17,775				19,972
PROVISION FOR INCOME TAXES			(6,108	)			(1,947	)
INCOME FROM CONTINUING OPERATIONS			11,667				18,025
Gain on sale of discontinued assets			—				138
INCOME FROM DISCONTINUED OPERATIONS			—				138
NET INCOME		$	11,667			$	18,163
NET INCOME PER BASIC SHARE:
Income from continuing operations		$	0.26			$	0.40
Income from discontinued operations		$	0.00			$	0.00
BASIC EARNINGS PER SHARE		$	0.26			$	0.41
NET INCOME PER DILUTED SHARE:
Income from continuing operations		$	0.25			$	0.40
Income from discontinued operations		$	0.00			$	0.00
DILUTED EARNINGS PER SHARE		$	0.25			$	0.40
BASIC WEIGHTED-AVERAGE COMMON SHARES OUTSTANDING			45,161				44,704
DILUTED WEIGHTED-AVERAGE COMMON SHARES OUTSTANDING			45,992				45,108

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

ADVANCED ENERGY INDUSTRIES, INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Income (Unaudited)
(In thousands, except per share amounts)

		Six months Ended June 30,
		2007				2006
SALES		$	210,372			$	198,521
COST OF SALES			117,108				115,211
Gross profit			93,264				83,310
OPERATING EXPENSES:
Research and development			24,946				21,263
Selling, general and administrative			31,158				29,576
Restructuring and asset impairment charges			2,950				60
Total operating expenses			59,054				50,899
INCOME FROM OPERATIONS			34,210				32,411
OTHER INCOME			3,059				2,574
Income before income taxes			37,269				34,985
PROVISION FOR INCOME TAXES			(12,931	)			(4,199	)
INCOME FROM CONTINUING OPERATIONS			24,338				30,786
Gain on sale of discontinued assets			—				138
INCOME FROM DISCONTINUED OPERATIONS			—				138
NET INCOME		$	24,338			$	30,924
NET INCOME PER BASIC SHARE:
Income from continuing operations		$	0.54			$	0.69
Income from discontinued operations		$	0.00			$	0.00
BASIC EARNINGS PER SHARE		$	0.54			$	0.69
NET INCOME PER DILUTED SHARE:
Income from continuing operations		$	0.53			$	0.68
Income from discontinued operations		$	0.00			$	0.00
DILUTED EARNINGS PER SHARE		$	0.53			$	0.69
BASIC WEIGHTED-AVERAGE COMMON SHARES OUTSTANDING			45,051				44,638
DILUTED WEIGHTED-AVERAGE COMMON SHARES OUTSTANDING			45,834				45,098

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

ADVANCED ENERGY INDUSTRIES, INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Cash Flows (Unaudited)
(In thousands)

		Six months Ended June 30,
		2007				2006
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income		$	24,338			$	30,924
Adjustments to reconcile net income to net cash provided by operating activities
Depreciation and amortization			6,051				8,078
Stock-based compensation			1,813				1,413
Provision for deferred income taxes			6,108				465
Restructuring and asset impairment charges			2,950				—
Loss on disposal of property and equipment			—				153
Gain on sale of discontinued assets			—				(138	)
Gain on sale of marketable securities			(31	)			(1,670	)
Changes in operating assets and liabilities
Accounts receivable, net			905				(8,306	)
Inventories			(4,067	)			(3,089	)
Other current assets			37				2,354
Trade accounts payable			388				67
Other current liabilities and accrued expenses			(3,856	)			2,656
Income taxes payable/receivable, net			873				94
Non-current assets			(1,232	)			8
Non-current liabilities			696				(1,212	)
Net cash provided by operating activities			34,973				31,797
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of marketable securities			(20,702	)			(36,420	)
Proceeds from sale of equity securities			806				1,992
Proceeds from sales of assets			—				539
Purchase of property and equipment			(3,595	)			(1,860	)
Net cash used in investing activities			(23,491	)			(35,749	)
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments on senior borrowings and capital lease obligations			(50	)			(1,197	)
Proceeds from common stock transactions, net			4,106				2,409
Net cash provided by financing activities			4,056				1,212
EFFECT OF CURRENCY TRANSLATION ON CASH			(698	)			703
(DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS			14,840				(2,037	)
CASH AND CASH EQUIVALENTS, beginning of period			58,240				52,874
CASH AND CASH EQUIVALENTS, end of period		$	73,080			$	50,837
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for interest		$	52			$	199
Cash paid for income taxes		$	4,962			$	4,352

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

ADVANCED ENERGY INDUSTRIES, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements (Unaudited)

(1) BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

     In the opinion of management, the accompanying unaudited condensed consolidated balance sheets, statements of income and cash flows contain all adjustments, consisting of normal, recurring adjustments necessary to present fairly the financial position of Advanced Energy Industries, Inc., a Delaware corporation, and its wholly owned subsidiaries (the “Company”) at June 30, 2007 and December 31, 2006, and the results of their operations for the three- and six-month periods ended June 30, 2007 and 2006 and cash flows for the six-month period ended June 30, 2007 and 2006.

     The unaudited condensed consolidated financial statements presented herein have been prepared in accordance with the instructions to Form 10-Q and do not include all the information and note disclosures required by accounting principles generally accepted in the United States. The condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto contained in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006.

     ESTIMATES AND ASSUMPTIONS – The preparation of the Company’s condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States requires the Company’s management to make estimates and assumptions that affect the reported amounts of assets and liabilities, and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Significant estimates are used when establishing allowances for doubtful accounts, determining useful lives for depreciation and amortization, assessing the need for impairment charges, establishing warranty reserves, establishing the fair value and forfeiture rate of stock-based compensation, accounting for income taxes, and assessing excess and obsolete inventory and various other items. The Company evaluates these estimates and judgments on an ongoing basis and bases its estimates on historical experience, current conditions and various other assumptions that are believed to be reasonable under the circumstances. The results of these estimates form the basis for making judgments about the carrying values of assets and liabilities as well as identifying and assessing the accounting treatment with respect to commitments and contingencies. Actual results may differ from these estimates under different assumptions or conditions.

     NEW ACCOUNTING PRONOUNCEMENTS – In June 2006, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 48 “Accounting for Uncertainty in Income Taxes– an interpretation of FASB Statement 109” (“FIN 48”). FIN 48 establishes a single model to address accounting for uncertain tax positions. FIN 48 clarifies the accounting for income taxes by prescribing a minimum recognition threshold a tax position is required to meet before being recognized in the financial statements. FIN 48 also provides guidance on derecognition, measurement classification, interest and penalties, accounting in interim periods, disclosure and transition. See Footnote No. 3, “Income Taxes,” for additional information.

     In May 2007, the FASB issued Staff Position (FSP) No. FIN 48-1, “Definition of Settlement in FASB Interpretation No. 48,” which amends FIN 48 and provides guidance concerning how an entity should determine whether a tax position is “effectively,” rather than the previously required “ultimately,” settled for the purpose of recognizing previously unrecognized tax benefits. In addition, FSP No. FIN 48-1 provides guidance on determining whether a tax position has been effectively settled. The guidance in FSP No. FIN 48-1 is effective upon the initial January 1, 2007 adoption of FIN 48. Companies that have not applied this guidance must retroactively apply the provisions of this FSP to the date of the initial adoption of FIN 48. The Company has adopted FSP No. FIN 48-1 and no retroactive adjustments are necessary.

     In September 2006, the FASB issued Statement of Financial Accounting Standards (“SFAS”) No. 157, “Fair Value Measurements” (SFAS No. 157). SFAS No. 157 establishes a common definition for fair value to be applied to generally accepted accounting principles requiring use of fair value, establishes a framework for measuring fair value, and expands disclosure about such fair value measurements. SFAS No. 157 is effective for fiscal years beginning after November 15, 2007. The Company is currently assessing the impact of SFAS No. 157 and does not expect the adoption to have an impact on its consolidated financial position and results of operations.

     In September 2006, the FASB issued FAS No. 158 “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans” (“FAS 158”), which is effective for employers with publicly traded equity securities as of the end of the fiscal year ending after December 15, 2006. FAS 158 requires an employer to (a) recognize in its financial statements an asset for a plan’s over funded status or a liability for a plan’s under funded status, (b) measure a plan’s assets and its obligations that determine its funded status as of the end of the employer’s fiscal year and (c) recognize changes in the funded status of a defined benefit postretirement plan in the year in which the changes occur as other comprehensive income. The Company adopted FAS 158 for the year ended December 31, 2006. The adoption of FAS 158 did not have a material effect on the Company’s financial statements.

     In February 2007, the FASB issued SFAS No. 159 “The Fair Value Option for Financial Assets and Financial Liabilities” (SFAS No. 159). SFAS No. 159 permits entities to choose to measure many financial assets and financial liabilities at fair value. Unrealized gains and losses on items for which the fair value option has been elected are reported in earnings. SFAS No. 159 is effective for fiscal years beginning after November 15, 2007. The Company is currently assessing the impact of SFAS No. 159 and does not expect the adoption to have an impact on its consolidated financial position and results of operations.

     In June 2006, the Emerging Issues Task Force (EITF) of the Financial Accounting Standards Board (FASB) reached a consensus on Issue No. 06-03, How Taxes Collected from Customers and Remitted to Governmental Authorities Should Be Presented in the Income Statement (That Is, Gross versus Net Presentation). This consensus provides that the presentation of taxes assessed by a governmental authority that is directly imposed on a revenue-producing transaction between a seller and a customer on either a gross basis (included in revenues and costs) or on a net basis (excluded from revenues) is an accounting policy decision that should be disclosed. The provisions of EITF 06-03 became effective for interim and annual reporting periods beginning after December 15, 2006. The Company currently presents taxes resulting from revenue based transaction on a net basis and has determined to keep that policy in place. As a result of this policy, the adoption of EITF 06-03 did not have an impact on the Company’s consolidated financial position or results of operations.

     REVENUE RECOGNITION – The Company’s standard shipping term is freight on board (“FOB”) shipping point, for which revenue is recognized upon shipment of its products, at which time title passes to the customer, the price is fixed and collectibility is reasonably assured. For certain customers, the Company has FOB destination terms, for which revenue is recognized upon receipt of the products by the customer, at which time title passes to the customer, the price is fixed and collectibility is reasonably assured. Revenues from contracts that contain certain customer acceptance provisions are deferred until customer acceptance occurs. Generally, the Company does not have obligations to its customers after its products are shipped under FOB shipping point terms, after its products are received by customers under FOB destination terms, and after the products are accepted by customers under contractual acceptance provisions, other than pursuant to warranty obligations. In limited instances, the Company provides installation of

its products. In accordance with Emerging Issues Task Force Issue 00-21 “Accounting for Revenue Arrangements With Multiple Deliverables”, the Company allocates revenue based on the fair value of the delivered item, generally the product, and the undelivered item, installation, based on their respective fair values. Revenue related to the undelivered item is deferred until the services have been completed.

     In certain instances, the Company requires its customers to pay for a portion or all of their purchases prior to the Company manufacturing or shipping these products. Cash payments received prior to shipment are recorded as customer deposits and deferred revenue in the condensed consolidated balance sheets, and then recognized as revenue as appropriate based upon the transfer of title of the products. The Company does not offer price protection to its customers or allow returns, unless covered by its normal policy for repair of defective products.

     WARRANTY RESERVE POLICY – The Company generally warrants its products for periods typically ranging from 12 to 24 months after shipment. The Company estimates the anticipated costs of repairing products under warranty based on warranties claim experience as well as the historical cost of the repairs and expected failure rates. The assumptions used to estimate warranty accruals are reevaluated periodically in light of actual experience and, when appropriate, the accruals are adjusted. The Company’s determination of the appropriate level of warranty accrual is subjective and based on estimates. Estimated warranty costs are recorded at the time of sale of the related product, and are recorded within cost of sales in the condensed consolidated statements of income.

     The following table summarizes the activity in the Company’s warranty reserve during the 2007 and 2006 periods:

		Three months Ended								Six months Ended
		June 30,								June 30,
(In thousands)		2007				2006				2007				2006
Balance at beginning of period		$	7,865			$	6,000			$	7,845			$	6,313
Provisions			2,021				3,069				4,225				5,324
Usages			(2,451	)			(2,626	)			(4,635	)			(5,194	)
Balance at end of period		$	7,435			$	6,443			$	7,435			$	6,443

     EXCESS AND OBSOLETE INVENTORY— Inventory is written down or written off when it is deemed excess or becomes obsolete, which generally occurs due to engineering changes to a product or discontinuance of a product line. Judgment by management is necessary in estimating the net realizable value of inventory based primarily upon forecasts of product demand. Charges for excess and obsolete inventory are recorded within cost of sales or research and development in the condensed consolidated statement of income per Company policy.

     COMMITMENTS AND CONTINGENCIES — From time to time, the Company is involved in disputes and legal actions arising in the normal course of its business. The Company accrues loss contingencies in connection with its commitments and contingencies, including litigation, when it is probable that a loss has occurred or may occur and the amount of the loss can be reasonably estimated.

     GOODWILL AND OTHER INTANGIBLE ASSETS — Goodwill represents the excess of the cost over the fair market value of net tangible and identifiable intangible assets of acquired businesses.

     Goodwill and certain other intangible assets with indefinite lives are not amortized. Instead, goodwill and other indefinite-lived intangible assets are subject to periodic (at least annual) tests for impairment. For the periods presented, the Company did not have any indefinite-lived intangible assets, other than goodwill. Impairment testing is performed in two steps: (i) goodwill is assessed for potential impairment by comparing the fair value of the Company’s reporting unit with the carrying value, and (ii) if potential impairment is indicated because the reporting unit’s fair value is less than its carrying amount, the amount of impairment loss is measured by comparing the implied fair value of goodwill with the carrying amount of that goodwill.

     Finite-lived intangible assets are amortized using the straight-line method over their estimated useful lives and are reviewed for impairment whenever events or circumstances indicate that their carrying amount may not be recoverable.

(2) STOCK-BASED COMPENSATION

     The Company recognizes stock-based compensation expense in accordance with the provisions of Statement of Financial Accounting Standards No. 123R (“SFAS 123R”) “Share-Based Payment”. Stock-based compensation was $992,000 and $634,000 for the three months ended June 30, 2007 and 2006, respectively and $1.8 million and $1.4 million for the six months ended June 30, 2007 and 2006, respectively.

Stock Options

     A summary of our stock option activity for the six-month period ended June 30, 2007 is as follows:

						Weighted-
						average
						Grant-date
(In thousands, except fair values)		Shares				Fair Value
Options outstanding at December 31, 2006			3,061			$	18.78
Options granted			319				22.24
Options exercised			(295	)			13.56
Options cancelled			(130	)			23.62
Options outstanding at June 30, 2007			2,955			$	19.15
Exercisable at June 30, 2007			2,060			$	20.98

     The total intrinsic value of options exercised during the three and six months ended June 30, 2007 was $1.6 million and $2.8 million, respectively, and was $592,000 and $1.3 million for the three and six months ended June 30, 2006, respectively, determined as of the exercise date. As of June 30, 2007, there was $6.3 million of total unrecognized compensation cost related to stock options granted and outstanding, which is expected to be recognized through fiscal year 2011, with a weighted average remaining vesting period of 1.2 years. Cash received from stock option exercises was $2.6 million and $4.3 million during the three and six months ended June 30, 2007, respectively. The fair value of each option is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted-average assumptions:

		Three months ended								Six months ended
		June 30,								June 30,
		2007				2006				2007				2006
Risk-free interest rates			4.6	%			4.9	%			4.6	%			4.6	%
Expected dividend yield rates			0.0	%			0.0	%			0.0	%			0.0	%
Expected lives		5.5 years				5.5 years				5.5 years				5.5 years
Expected volatility			60.5	%			65.4	%			60.5	%			65.6	%
Expected forfeiture rate			22	%			22	%			22	%			22	%

Restricted Stock

     A summary of the Company’s non-vested RSU activity for the six-month period ended June 30, 2007 is as follows:

						Weighted
						Average
						Grant Date
(In thousands, except fair values)		Shares				Fair Value
Balance outstanding at December 31, 2006			383			$	11.42
RSUs granted			197				22.71
RSUs vested			(73	)			9.66
RSUs forfeited			(17	)			11.73
Balance outstanding at June 30, 2007			490			$	16.20

     The fair value of the Company’s RSUs is determined based upon the closing fair market value of the Company’s common stock on the grant date. As of June 30, 2007, there was $5.6 million of total unrecognized compensation cost related to non-vested RSUs granted, which cost is expected to be recognized over a weighted average period of 2.6 years. During the quarter ended June 30, 2007, the total fair value of RSUs which vested was $437,000, based upon the closing fair market value of the Company’s common stock on the date the underlying common stock was released to the recipient.

Employee Stock Purchase Plan (the “ESPP”)

     As of June 30, 2007, there was $61,000 of total unrecognized compensation cost related to the ESPP that is expected to be recognized over a remaining period of two months.

(3) INCOME TAXES

     We adopted the provisions of FIN48 as of January 1, 2007. Upon adoption, the Company increased the long-term liability associated with uncertain tax positions by $6 million and also increased the long-term receivable by $5 million consisting of offsetting tax benefits. The balance of $1 million is an adjustment to the opening balance of retained earnings on January 1, 2007. If recognized, the $1 million would affect our effective tax rate. There have been no significant changes to these amounts during the quarter ended June 30, 2007.

     The tax years 2003 through 2006 remain open to examination by the United States taxing jurisdictions to which we are subject. The foreign taxing jurisdictions have open tax years from 2001 through 2006. In accordance with our accounting policy, we recognize accrued interest and penalties related to unrecognized tax benefits as a component of tax expense. This policy did not

change as a result of the adoption of FIN 48. We did not have any accrued interest or penalties at December 31, 2006. We do not anticipate a material change to the amount of unrecognized tax positions within the next 12 months.

     While we believe we have adequately provided for all tax positions, amounts asserted by taxing authorities could materially differ from our accrued positions as a result of uncertain and complex application of tax regulations. Additionally, the recognition and measurement of certain tax benefits includes estimates and judgment by management and inherently includes subjectivity. Accordingly, additional provisions on federal and foreign tax-related matters could be recorded in the future as revised estimates are made or the underlying matters are settled or otherwise resolved.

(4) RESTRUCTURING

On March 2, 2007, the Company announced that it will be closing its manufacturing, distribution, and research and development facility located in Stolberg, Germany. Related to this manufacturing transition, the Company recorded restructuring charges of $2.8 million in the first quarter of 2007, consisting primarily of the accrual of employee severance and severance benefit costs associated with the planned reduction of employees at this facility as well as an asset impairment charge of approximately $900,000 relating to the write-down of certain real and personal property located at this facility to estimated fair value.

In the second quarter of 2007, the Company recorded restructuring charges of $158,000 consisting of $78,000 in employee separation costs and $80,000 in other costs. At June 30, 2007, the Company’s restructuring reserve was approximately $1.5 million primarily relating to employee severance and termination costs.

     The following table summarizes the components of the restructuring charges, the payments and other settlements, and the remaining accrual as of June 30, 2007:

		Employee
		Severance and								Total
		Termination				Other				Restructuring
		Costs				Costs				Charges
						(In thousands)
Accrual balance at December 31, 2006		$	—			$	—			$	—
First quarter 2007 restructuring accrual			1,788				151				1,939
First quarter 2007 settlements			—				—				—
Accrual balance at March 31, 2007			1,788				151				1,939
Second quarter 2007 restructuring accrual			109				80				189
Second quarter 2007 reversals			(31	)			—				(31	)
Second quarter 2007 settlements			(468	)			(160	)			(628	)
Accrual balance at June 30, 2007		$	1,398			$	71			$	1,469

The remaining employee severance costs liability is expected to be paid over the next six months. The restructuring related to the Stolberg facility closure is expected to cease in the fourth quarter of 2007. Of the 69 employees initially impacted by the restructuring, 10 have resigned and two have accepted other positions within the Company.

(5) MARKETABLE SECURITIES

     Marketable securities consisted of the following:

		June 30,				December 31,
		2007				2006
		(In thousands)
Commercial paper		$	3,458			$	29,910
Certificates of deposit			1,004				3,404
Municipal bonds and notes			84,089				51,193
Institutional money markets			16,856				1,471
Total marketable securities		$	105,407			$	85,978

     These marketable securities are classified as available-for-sale and are stated at period end market value. The commercial paper consists of high credit quality, short-term instruments with maturities or reset dates of approximately 120 days.

(6) ACCOUNTS RECEIVABLE

     Accounts receivable consisted of the following:

		June 30,				December 31
		2007				2006
		(In thousands)
Trade accounts receivable, gross		$	72,514			$	72,501
Allowance for doubtful accounts			(535	)			(545	)
Trade accounts receivable, net		$	71,979			$	71,956

(7) INVENTORIES

     Inventories consisted of the following:

		June 30,				December 31,
		2007				2006
		(In thousands)
Parts and raw materials		$	41,911			$	39,515
Work in process			3,947				3,190
Finished goods			11,038				10,073
Total inventories		$	56,896			$	52,778

     Inventories include costs of materials, direct labor and manufacturing overhead. Inventories are valued at the lower of cost or market, computed on a first-in, first-out basis and are presented net of reserves of $8.3 million and $8.6 million for excess and obsolete inventory as of June 30, 2007 and December 31, 2006, respectively.

(8) GOODWILL AND OTHER INTANGIBLE ASSETS

     Goodwill and amortizable intangible assets consisted of the following as of June 30, 2007:

						Cumulative
						Effect of												Weighted-
		Gross				Changes in								Net				Average
		Carrying				Exchange				Accumulated				Carrying				Useful Life
		Amount				Rates				Amortization				Amount				(Years)
						(In thousands, except weighted-average useful life)
Amortizable intangible assets:
Technology-based		$	7,015			$	1,495			$	(7,768	)		$	742				5
Trademarks and other			8,604				1,380				(4,527	)			5,457				17
Total amortizable intangible assets			15,619				2,875				(12,295	)			6,199				12
Goodwill			49,766				8,439				—				58,205
Total goodwill and amortizable intangible assets		$	65,385			$	11,314			$	(12,295	)		$	64,404

     Goodwill and amortizable intangible assets consisted of the following as of December 31, 2006:

						Cumulative
						Effect of												Weighted-
		Gross				Changes in								Net				Average
		Carrying				Exchange				Accumulated				Carrying				Useful Life
		Amount				Rates				Amortization				Amount				(Years)
						(In thousands, except weighted-average useful life)
Amortizable intangible assets:
Technology-based		$	7,015			$	1,477			$	(7,499	)		$	993				5
Trademarks and other			8,604				1,578				(4,270	)			5,912				17
Total amortizable intangible assets			15,619				3,055				(11,769	)			6,905				12
Goodwill			49,766				8,913				—				58,679
Total goodwill and amortizable intangible assets		$	65,385			$	11,968			$	(11,769	)		$	65,584

     Amortization expense related to intangible assets for the three months ended June 30, 2007 and 2006 was $202,000 and $453,000, respectively and $526,000 and $930,000 for the six months ended June 30, 2007 and 2006, respectively. Estimated amortization expense related to the Company’s acquired intangible assets fluctuates with changes in foreign currency exchange rates between the U.S. dollar, the Japanese yen and the euro. Estimated amortization expense related to amortizable intangibles for each of the five years 2007 through 2011 is as follows:

		Estimated
		Amortization
		Expense
		(In thousands)
2007		$	958
2008			833
2009			521
2010			418
2011			418

(9) STOCKHOLDERS’ EQUITY

     Stockholders’ equity consisted of the following:

		June 30,				December 31,
(In thousands, except par value)		2007				2006
Common stock, $0.001 par value, 70,000 shares authorized, 45,240 and 44,855 shares issued and outstanding, respectively		$	45			$	45
Additional paid-in capital			264,590				258,688
Retained earnings			111,722				88,344
Unrealized holding gains on available-for-sale securities, net of tax			216				323
Cumulative translation adjustments			6,515				8,390
Total stockholders’ equity ...		$	383,088			$	355,790

(10) COMPREHENSIVE INCOME

     Comprehensive income for the Company consists of net income, foreign currency translation adjustments and net unrealized holding gains on available-for-sale marketable securities as presented below (In thousands):

		Three months Ended								Six months Ended
		June 30,								June 30,
		2007				2006				2007				2006
Net income, as reported		$	11,667			$	18,163			$	24,338			$	30,924
Adjustment to arrive at comprehensive income, net of taxes:
Unrealized holding (loss) gain on available-for-sale marketable securities			(34	)			(45	)			(107	)			14
Reclassification adjustment for amounts included in net income related to sales of securities			—				—				—				(964	)
Cumulative translation adjustments			(2,852	)			2,001				(1,875	)			4,417
Comprehensive income		$	8,781			$	20,119			$	22,356			$	34,391

(11) COMMITMENTS AND CONTINGENCIES

     From time to time, the Company is involved in disputes and legal actions arising in the normal course of its business. The Company accrues loss contingencies in connection with its litigation when it is probable that a loss has occurred or may occur and the amount of the loss can be reasonably estimated.

(12) EARNINGS PER SHARE

     Basic earnings per share (“EPS”) is computed by dividing income available to common stockholders by the weighted-average number of common shares outstanding during the period. The computation of diluted EPS is similar to the computation of basic EPS except that the numerator is increased to exclude certain charges which would not have been incurred, and the denominator is increased to include the number of additional common shares that would have been outstanding (using the if-converted and treasury stock methods), if securities containing potentially dilutive common shares (convertible notes payable, stock options and restricted stock units) had been converted to such common shares, and if such assumed conversion is dilutive. As of June 30, 2007, stock options and restricted stock units totaling approximately 3.4 million were outstanding, and as of June 30, 2006, 3.5 million were outstanding. Not included in the computation of diluted earnings per share are 2.6 million and 2.2 million stock options for the three months ended June 30, 2007 and 2006, respectively, and 2.7 and 2.1 million stock options for the six months ended June 30, 2007 and 2006, respectively, due to the anti-dilutive effect of these shares.

     The following is a reconciliation of the numerators and denominators used in the calculation of basic and diluted EPS for the three and six months ended June 30, 2007 and 2006:

		Three months Ended								Six months Ended
		June 30,								June 30,
(In thousands, except per share data)		2007				2006				2007				2006
Earnings per common share — basic
Net income		$	11,667			$	18,163			$	24,338			$	30,924
Weighted average common shares outstanding			45,161				44,704				45,051				44,638
Earnings per share — basic		$	0.26			$	0.41			$	0.54			$	0.69
Earnings per common share—assuming dilution
Net income		$	11,667			$	18,163			$	24,338			$	30,924
Weighted average common shares outstanding			45,161				44,704				45,051				44,638

		Three months Ended								Six months Ended
		June 30,								June 30,
(In thousands, except per share data)		2007				2006				2007				2006
Effect of dilutive securities:
Stock options and restricted stock units			831				404				783				460
Adjusted weighted average common shares outstanding			45,992				45,108				45,834				45,098
Earnings per common share—assuming dilution		$	0.25			$	0.40			$	0.53			$	0.69

(13) FOREIGN OPERATIONS AND MAJOR CUSTOMERS

     The Company has operations in the United States, Asia Pacific and Europe. The following is a summary of the Company’s operations by geographic region:

		Three months Ended June 30,								Six months Ended June 30,
		2007				2006				2007				2006
						(In thousands)
Sales (1):
United States		$	56,701			$	61,093			$	117,724			$	116,492
Asia Pacific			36,193				34,504				68,847				65,328
Europe			10,018				8,878				23,349				16,517
Rest of world			137				96				452				184
		$	103,049			$	104,571			$	210,372			$	198,521

     (1) These sales amounts are calculated based on the destination for our products and do not contemplate where our customers may subsequently transfer them.

Income (loss) from operations:
United States		$	5,063			$	13,359			$	17,158			$	25,138
Asia Pacific			8,830				4,783				14,615				6,259
Europe			2,443				1,088				3,527				1,840
Intercompany elimination			(66	)			1				(1,090	)			(826	)
		$	16,270			$	19,231			$	34,210			$	32,411

		June 30,				December 31,
		2007				2006
Identifiable assets:
United States		$	19,216			$	14,954
Asia Pacific			17,152				18,616
Europe			1,358				2,276
		$	37,726			$	35,846

     Intercompany sales between the Company’s geographic areas are recorded on the basis of intercompany prices established by the Company.

     Applied Materials, Inc. is the Company’s largest customer and accounted for 28% and 32% of the Company’s sales for the three months ended June 30, 2007 and 2006, respectively and 29% and 31% for the six months ended June 30, 2007 and 2006, respectively. No other customer accounted for 10% or more of the Company’s sales during these periods.

ITEM 2.		MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Special Note on Forward-Looking Statements

     The following discussion contains, in addition to historical information, forward-looking statements, within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Statements that are other than historical information are forward-looking statements. For example, statements relating to our beliefs, expectations and plans are forward-looking statements, as are statements that certain actions, conditions or circumstances will continue. Forward-looking statements involve risks and uncertainties, which are difficult to predict and many of which are beyond our control. These risks and uncertainties are described below and in other filings we make with the Securities and Exchange Commission, including our Annual Report on Form 10-K for the year ended December 31, 2006. As a result, our actual results may differ materially from the results discussed in the forward-looking statements. We assume no obligation to update any forward-looking statements or the reasons why our actual results might differ.

OVERVIEW

     We design, manufacture and support complex power conversion and control systems, and gas flow control and thermal measurement devices used in plasma-based, thin-film processing equipment. This equipment is essential to the manufacture of products including the following:

	•		Semiconductor devices for electronics applications;
	•		Flat panel displays for hand-held devices and computer and television screens;
	•		Compact discs, DVDs, magnetic hard drives and other digital storage media;
	•		Solar panels or photovoltaics;
	•		Optical coatings for eyeglasses;
	•		Barrier coatings for architectural glass;
	•		Industrial laser and medical applications; and
	•		Other markets where thin film deposition is a critical part of the manufacturing process.

     In addition to our products that address the thin film deposition market, we recently introduced a new product for the photovoltaic inverter segment of the solar industry and currently have inverter prototypes running in grid-connected applications.

     Our installed base enables a recurring revenue opportunity as we sell spare parts, repair services and field upgrades worldwide through our customer service and technical support organization.

     We provide solutions to a diverse range of markets and geographic regions with the semiconductor capital market being our largest market. Sales to customers in the semiconductor capital equipment industry comprised 66.3% and 69.7% of our sales in the three months ended June 30, 2007 and 2006, respectively and 68.7% and 70.0% of our sales in the six months ended June 30, 2007 and 2006, respectively. Other markets we sell to include flat panel display, data storage, architectural glass, solar cell and other industrial thin-film manufacturing equipment.

Our customers in the semiconductor and other markets are large OEM’s and we derive additional revenue by providing services to their customers.

Results of Operations

     The following table summarizes our results of operations for the three and six months ended June 30, 2007 and 2006:

		Three Months Ended June 30,								Increase/				%					Six Months Ended June 30,								Increase/				%
		2007				2006				Decrease				Change					2007				2006				Decrease				Change
		(In thousands)																(In thousands)
SALES		$	103,049			$	104,571			$	(1,522	)			(1.5	)%		$	210,372			$	198,521			$	11,851				6.0	%
COST OF SALES			58,094				59,811				(1,717	)			(2.9	)%			117,108				115,211				1,897				1.6	%
Gross profit			44,955				44,760				195				0.4	%			93,264				83,310				9,954				11.9	%
OPERATING EXPENSES:
Research and development			12,911				10,804				2,107				19.5	%			24,946				21,263				3,683				17.3	%
Selling, general and administrative			15,616				14,694				922				6.3	%			31,158				29,576				1,582				5.3	%
Restructuring and asset impairment charges			158				31				127			nm					2,950				60				2,890			nm
Total operating expenses			28,685				25,529				3,156				12.4	%			59,054				50,899				8,155				16.0	%
INCOME FROM OPERATIONS			16,270				19,231				(2,961	)			(15.4	)%			34,210				32,411				1,799				5.6	%
OTHER INCOME			1,505				741				764				103.1	%			3,059				2,574				485				18.8	%
Income before income taxes			17,775				19,972				(2,197	)			(11.0	)%			37,269				34,985				2,284				6.5	%
PROVISION FOR INCOME TAXES			(6,108	)			(1,947	)			(4,161	)		nm					(12,931	)			(4,199	)			(8,732	)		nm
INCOME FROM CONTINUING OPERATIONS			11,667				18,025				(6,358	)			(35.3	)%			24,338				30,786				(6,448	)			(20.9	)%
Gain on sale of discontinued assets			—				138				(138	)		nm					—				138				(138	)		nm
INCOME FROM DISCONTINUED OPERATIONS			—				138			nm				nm					—				138			nm				nm
NET INCOME		$	11,667			$	18,163			$	(6,496	)			(35.8	)%		$	24,338			$	30,924			$	(6,586	)			(21.3	)%
NET INCOME PER BASIC SHARE:
Income from continuing operations		$	0.26			$	0.40			$	(0.14	)			(35.0	)%		$	0.54			$	0.69			$	(0.15	)			(21.7	)%
Income from discontinued operations		$	0.00			$	0.00			$	0.00				—			$	0.00			$	0.00			$	0.00				—
BASIC EARNINGS PER SHARE		$	0.26			$	0.41			$	(0.15	)			(36.6	)%		$	0.54			$	0.69			$	(0.15	)			(21.7	)%
NET INCOME PER DILUTED SHARE:
Income from continuing operations		$	0.25			$	0.40			$	(0.15	)			(37.5	)%		$	0.53			$	0.68			$	(0.15	)			(22.1	)%
Income from discontinued operations		$	0.00			$	0.00			$	0.00				—			$	0.00			$	0.00			$	0.00				—
DILUTED EARNINGS PER SHARE		$	0.25			$	0.40			$	(0.15	)			(37.5	)%		$	0.53			$	0.69			$	(0.16	)			(23.2	)%

		Three Months Ended June 30,								Six Months Ended June 30,
Operating Expenses - % of sales		2007				2006				2007				2006
Research and development			12.5	%			10.3	%			11.9	%			10.7	%
Selling, general and administrative			15.2	%			14.1	%			14.8	%			14.9	%
Restructuring and asset impairment charges			0.1	%			—				1.4	%			—
Total operating expenses			27.8	%			24.4	%			28.1	%			25.6	%