UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

Form 10-Q

 

 

 

Commission File Number 000-06920

Applied Materials, Inc.

(Exact name of registrant as specified in its charter)

 

 

 

(Registrant’s telephone number, including area code)

(408) 727-5555

 

 

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 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 (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes o     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):

 

(Do not check if a smaller reporting company)

 

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

 

Number of shares outstanding of the issuer’s common stock as of April 26, 2009: 1,333,034,685

 

 

PART I. FINANCIAL INFORMATION

 

 

APPLIED MATERIALS, INC.

 

CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS

 

 

See accompanying Notes to Consolidated Condensed Financial Statements.

APPLIED MATERIALS, INC.

 

CONSOLIDATED CONDENSED BALANCE SHEETS*

 

 

 

 

See accompanying Notes to Consolidated Condensed Financial Statements.

APPLIED MATERIALS, INC.

 

CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS

 

 

See accompanying Notes to Consolidated Condensed Financial Statements.

APPLIED MATERIALS, INC.

 

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

(Unaudited)

 

 

Basis of Presentation

 

In the opinion of management, the unaudited interim consolidated condensed financial statements of Applied Materials, Inc. and its subsidiaries (Applied or the Company) included herein have been prepared on a basis consistent with the October 26, 2008 audited consolidated financial statements and include all material adjustments, consisting of normal recurring adjustments, necessary to fairly present the information set forth therein. These unaudited interim consolidated condensed financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in Applied’s Annual Report on Form 10-K for the fiscal year ended October 26, 2008 (2008 Form 10-K). Applied’s results of operations for the three and six months ended April 26, 2009 are not necessarily indicative of future operating results.

 

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America (United States) requires management to make judgments, estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ materially from those estimates.

 

Prior period amounts for customer deposits and deferred revenue have been reclassified to conform to the current period presentation.

 

During the first quarter of fiscal 2009, Applied elected to implement Statement of Financial Accounting Standards No. 158, “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans — an amendment of FASB Statements No. 87, 88, 106, and 132(R).” As a result of this implementation, Applied changed the measurement date for its defined and postretirement benefit plan assets and obligations from an interim date to Applied’s fiscal year end. Accordingly, Applied recorded a $2 million (after tax) adjustment to the fiscal 2009 beginning balance of retained earnings.

 

Equity-Based Compensation

 

Applied has adopted stock plans that permit grants to employees of equity-based awards, including stock options, restricted stock and restricted stock units (also referred to as “performance shares” under the Applied Materials, Inc. Employee Stock Incentive Plan). In addition, the Employee Stock Incentive Plan provides for the automatic grant of restricted stock units to non-employee directors and permits the grant of equity-based awards to consultants. Applied also has two Employee Stock Purchase Plans (ESPP) for United States and international employees, respectively, which enable eligible employees to purchase Applied common stock.

 

During the three months ended April 26, 2009 and April 27, 2008, Applied recognized equity-based compensation expense related to stock options, ESPP shares, restricted stock units and restricted stock of $39 million and $50 million, respectively. During the three months ended April 26, 2009 and April 27, 2008, Applied recognized income tax benefits related to equity-based compensation of $11 million and $14 million, respectively. During the first six months of fiscal 2009, Applied recognized total equity-based compensation expense of $73 million and a tax benefit of $20 million. During the first six months of fiscal 2008, Applied recognized total equity-based compensation expense of $89 million and a tax benefit of $25 million. The equity-based compensation expense related to restricted stock units and restricted stock for the three months ended April 26, 2009 and April 27, 2008 was $30 million and $34 million, respectively, and for the six months ended April 26, 2009 and April 27, 2008 was $63 million and $67 million, respectively. The estimated fair value of Applied’s equity-based awards, less expected forfeitures, is amortized over the awards’ service periods on a straight-line basis.

 

APPLIED MATERIALS, INC.

 

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

 

Stock Options

 

The exercise price of each stock option equals the fair market value of Applied common stock on the date of grant. Most options are scheduled to vest over three to four years and expire no later than seven years from the grant date. The fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model. This model was developed for use in estimating the value of publicly traded options that have no vesting restrictions and are fully transferable. Applied’s stock options have characteristics significantly different from those of publicly traded options. The weighted average assumptions used in the model are outlined in the following table:

 

 

The computation of the expected volatility assumption used in the Black-Scholes calculations for new grants is based on a combination of historical and implied volatilities. When establishing the expected life assumption, Applied periodically reviews historical employee exercise behavior with respect to option grants.

 

Applied granted 24,501,000 stock options during the three and six months ended April 26, 2009, respectively, and granted 300 stock options during the three and six months ended April 27, 2008, respectively. The weighted average grant date fair value of options granted during the three and six months ended April 26, 2009 and April 27, 2008 was $2.52 and $5.05, respectively.

 

Employee Stock Purchase Plans

 

Under the ESPP, substantially all employees may purchase Applied common stock through payroll deductions at a price equal to 85 percent of the lower of the fair market value of Applied stock at the beginning of the applicable offering period or at the end of each applicable purchase period. Effective March 2, 2009, the Human Resources and Compensation Committee of the Board of Directors of Applied approved a change in the offering periods provided under the ESPP to no longer provide for 24-month offering periods. The ESPP will instead provide for consecutive offering periods of approximately 6 months in duration. The incremental compensation cost associated with this modification was insignificant. Based on the Black-Scholes option pricing model, the weighted average estimated fair value of purchase rights under the ESPP was $2.99 and $4.88 for the three and six months ended April 26, 2009 and April 27, 2008, respectively. The number of shares issued under the ESPP during the three and six months ended April 26, 2009 and April 27, 2008 was 3,536,000 and 2,294,000, respectively. Compensation expense is calculated using the fair value of the employees’ purchase rights under the Black-Scholes model. Underlying assumptions used in the model are outlined in the following table:

 

 

APPLIED MATERIALS, INC.

 

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

 

Restricted Stock Units and Restricted Stock

 

Restricted stock units are converted into shares of Applied common stock upon vesting on a one-for-one basis. Restricted stock units typically vest over three to four years. Vesting of restricted stock units usually is subject to the grantee’s continued service with Applied. The compensation expense related to these awards is determined using the fair market value of Applied common stock on the date of the grant, and the compensation expense is recognized over the vesting period. There were 358,000 and 410,100 restricted stock units granted in the three months ended April 26, 2009 and April 27, 2008, respectively, and 572,000 and 2,149,000 restricted stock units granted in the six months ended April 26, 2009 and April 27, 2008, respectively.

 

Beginning in fiscal 2007, Applied initiated a performance-based equity award program for named executive officers and other key employees. These awards vest only if specific performance goals set by the Human Resources and Compensation Committee of Applied’s Board of Directors (the Committee) are achieved and if the grantee remains employed by Applied through the applicable vesting date. The performance goals require the achievement of targeted relative annual operating profit margin levels as compared to Applied’s peer companies in at least one of the four fiscal years beginning with the fiscal year of the grant. There were no performance-based awards granted in the six months ended April 26, 2009. The Committee approved the award of 1,565,000 performance-based restricted stock units under this program for fiscal year 2008. The Committee also approved the award of 100,000 shares of performance-based restricted stock for fiscal year 2008 to Applied’s President and Chief Executive Officer at a purchase price of $0.01 per share. The fair value of the performance-based restricted stock units and restricted stock is estimated using the fair market value of Applied common stock on the date of the grant and assumes that the performance goals will be achieved. If achieved, the award vests over a specified remaining service period. If the performance goals are not met, no compensation expense is recognized and any previously recognized compensation expense is reversed. The expected cost of each award is reflected over the service period and is reduced for estimated forfeitures. As of April 26, 2009, 70% of the performance goals associated with the fiscal 2008 awards were achieved. The performance goals associated with the remaining 30% may still be achieved, depending on future performance, during the next three fiscal years.

 

 

Applied records treasury stock purchases under the cost method using the first-in, first-out (FIFO) method. Upon reissuance of treasury stock, amounts in excess of the acquisition cost are credited to additional paid in capital. If Applied reissues treasury stock at an amount below its acquisition cost, and additional paid in capital associated with prior treasury stock transactions is insufficient to cover the difference between the acquisition cost and the reissue price, this difference is recorded against retained earnings. During the second quarter of fiscal 2009, shares of treasury stock were issued in connection with Applied’s ESPP at an aggregate value that was less than the treasury stock’s acquisition price, resulting in $20 million being recorded against retained earnings.

 

 

Basic earnings (loss) per share is determined using the weighted average number of common shares outstanding during the period. Diluted earnings per share is determined using the weighted average number of common shares and potential common shares (representing the dilutive effect of stock options, restricted stock units, and ESPP shares) outstanding during the period.

 

Applied’s net income (loss) has not been adjusted for any period presented for purposes of computing basic or diluted earnings (loss) per share due to its non-complex capital structure.

 

For purposes of computing diluted earnings per share, weighted average potential common shares do not include stock options with an exercise price greater than the average fair value of Applied common stock for the period, as the effect would be anti-dilutive. Accordingly, options to purchase 24,537,000 shares of common stock for the three months ended April 27, 2008, and 28,447,000 shares of common stock for the six months ended

 

APPLIED MATERIALS, INC.

 

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

 

April 27, 2008, were excluded from the computation. Potential common shares have not been included in the calculation of diluted net loss per share, as the effect would be anti-dilutive. As such, the numerator and the denominator used in computing both basic and diluted net loss per share for the three and six months ended April 26, 2009 are the same. The number of potential common shares that could dilute basic earnings per share in the future was 92,425,000 for the three and six months ended April 26, 2009.

 

 

Investments

 

On October 27, 2008, Applied adopted the provisions of Statement of Financial Accounting Standards No. 157, “Fair Value Measurements” (SFAS 157), with respect to financial assets and liabilities. SFAS 157 defines fair value, establishes a framework for measuring fair value and enhances disclosure requirements for fair value measurements. Fair value is defined under SFAS 157 as the exchange price that would be received for an asset, or paid to transfer a liability (an exit price), in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Valuation techniques used to measure fair value under SFAS 157 must maximize the use of observable inputs and minimize the use of unobservable inputs. The standard describes a fair value hierarchy based on three levels of inputs, of which the first two are considered observable and the last is considered unobservable, which may be used to measure fair value:

 

 

Applied’s investments are comprised primarily of debt securities that are classified as available-for-sale and recorded at their fair values. In determining the fair value of investments, Applied uses pricing information from pricing services that value securities based on quoted market prices and models that utilize observable market inputs. In the event a fair value estimate is unavailable from a pricing service, Applied generally obtains non-binding price quotes from brokers. Applied then reviews the information provided by the pricing services or brokers to determine the fair value of its short-term and long-term investments. In addition, to validate pricing information obtained from pricing services, Applied periodically performs supplemental analysis on a sample of securities. Applied reviews any significant unanticipated differences identified through this analysis to determine the appropriate fair value.

 

In general, investments with remaining effective maturities of 12 months or less from the balance sheet date are classified as short-term investments. Investments with remaining effective maturities of more than 12 months from the balance sheet date are classified as long-term investments. As of April 26, 2009, a substantial majority of Applied’s available-for-sale, short-term and long-term investments were recognized at fair value that was determined based upon observable inputs.

 

Unrealized gains and temporary losses on investments classified as available-for-sale are included within accumulated other comprehensive income (loss), net of any related tax effect. Upon realization, those amounts are reclassified from accumulated other comprehensive income (loss) to results of operations.

 

APPLIED MATERIALS, INC.

 

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

 

Financial Assets/Liabilities Measured at Fair Value on a Recurring Basis

 

Financial assets and liabilities (excluding cash balances) measured at fair value on a recurring basis are summarized below as of April 26, 2009:

 

 

At April 26, 2009, the fair value of Level 3 assets measured on a recurring basis was $2 million, representing approximately 0.1% of the total fair value of Applied’s investment portfolio. Level 3 assets included one student loan auction-rate security of $1 million and asset and mortgage-backed securities totaling $1 million, which values were based on non-binding, broker-provided price quotes and may not have been corroborated by observable market data.

 

At April 26, 2009, Applied had a gross unrealized loss of $14 million associated with investments due to a decrease in the fair value of certain fixed-rate debt and equity securities as a result of the continuing turmoil in the global financial markets. Applied regularly reviews its investment portfolio to identify and evaluate investments that have indications of possible impairment. Factors considered in determining whether a loss is temporary include: the length of time and extent to which fair value has been lower than the cost basis; the financial condition, credit quality and near-term prospects of the investee; and Applied’s ability to hold the investment for a period of time sufficient to allow for any anticipated recovery in fair value. Generally, the contractual terms of the investments do not permit settlement at prices less than the amortized cost of the investments.

 

Applied manages its cash equivalents and investments, excluding strategic investments, as a single portfolio of highly marketable securities that is intended to be available to meet Applied’s current cash requirements. For the three months ended April 26, 2009, gross realized gains on sales of investments were $2 million and gross realized losses were $3 million. For the three months ended April 27, 2008, gross realized gains on sales of investments were $8 million and gross realized losses were $3 million. For the six months ended April 26, 2009, gross realized gains on sales of investments were $5 million and gross realized losses were $9 million. For the six months ended April 27, 2008, gross realized gains on sales of investments were $10 million and gross realized losses were $7 million.

 

APPLIED MATERIALS, INC.

 

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

 

Financial Assets/Liabilities Measured at Fair Value on a Non-recurring Basis

 

Equity investments in privately-held companies are accounted for under the cost method of accounting. These equity investments (also called non-marketable strategic investments) are periodically assessed for other-than-temporary impairment. Applied evaluates the fair value of each investment only when an event or circumstance indicates an other-than-temporary decline in value may have occurred. If Applied determines that an other-than-temporary impairment has occurred, it writes down the investment to its estimated fair value, based on available information such as pricing in recent rounds of financing, current cash positions, earnings and cash flow forecasts, recent operational performance and any other readily available market data. In the second quarter of fiscal 2009, as part of its regular investment review process, Applied recorded other-than-temporary impairment charges associated with certain strategic investments of $32 million, of which $12 million related to cost method investments. The fair value of cost method investments that were impaired was estimated using significant unobservable inputs.

 

The following table presents the balance of non-marketable strategic investments measured at fair value on a non-recurring basis as of April 26, 2009, and the impairment recorded during the three months then ended:

 

 

The estimated fair value of the equity method investment was determined based on a variety of factors including, but not limited to, current cash position, cash flow forecast, recent and historical operational performance and estimated recoverability of the investment.

 

Impairments associated with financial assets for the three months ended April 26, 2009 totaled $77 million, consisting of the following: equity method investment, $45 million; publicly traded equity securities, $20 million; and cost method investments, $12 million.

 

Derivative Financial Instruments

 

Derivative instruments and hedging activities, including foreign currency exchange contracts, are recognized on the balance sheet at fair value. Changes in the fair value of derivatives that do not qualify for hedge treatment, as well as the ineffective portion of any hedges, are recognized currently in earnings. All of Applied’s derivative financial instruments are recorded at their fair value in other current assets or accounts payable and accrued expenses.

 

Applied conducts business in a number of foreign countries, with certain transactions denominated in local currencies, such as Japanese yen, euro, Israeli shekel and Swiss francs. The purpose of Applied’s foreign currency management is to mitigate the effect of exchange rate fluctuations on certain foreign currency denominated revenues, costs and eventual cash flows. The terms of currency instruments used for hedging purposes are generally consistent with the timing of the transactions being hedged. Applied does not use derivative financial instruments for trading or speculative purposes.

 

Applied uses derivative financial instruments, such as forward exchange contracts and currency option contracts, to hedge certain forecasted foreign currency denominated transactions expected to occur typically within the next 24 months. Hedges related to anticipated transactions are designated and documented at the inception of the hedge as cash flow hedges and are typically entered into once per month. Cash flow hedges are evaluated for effectiveness quarterly. The effective portion of the gain or loss on these hedges is reported as a component of accumulated other comprehensive income or loss (AOCI) in stockholders’ equity and is reclassified into earnings when the hedged transaction affects earnings. The majority of the after-tax net income or loss related to derivative instruments included in accumulated other comprehensive income or loss at April 26, 2009 is expected to be

 

APPLIED MATERIALS, INC.

 

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

 

reclassified into earnings within 12 months. Changes in the fair value of currency forward exchange and option contracts due to changes in time value are excluded from the assessment of effectiveness. Both ineffective hedge amounts and hedge components excluded from the assessment of effectiveness are recognized promptly in earnings. If the transaction being hedged is no longer probable to occur, or if a portion of any derivative is deemed to be ineffective, Applied promptly recognizes the gain or loss on the associated financial instrument in general and administrative expenses. The amount recognized due to discontinuance of cash flow hedges that were probable not to occur by the end of the originally specified time period was $26 million and $25 million for the three and six months ended April 26, 2009, respectively, and not significant for the three and six months ended April 27, 2008. Gains and losses on foreign exchange contracts designated as cash flow hedges are presented in general and administrative expenses.

 

Forward exchange contracts are generally used to hedge certain foreign currency denominated assets or liabilities. These derivatives are typically entered into once per month and are not designated for hedge accounting treatment. Accordingly, changes in the fair value of these hedges are recorded promptly in earnings to offset the changes in the fair value of the assets or liabilities being hedged.

 

Fair values of derivative instruments were as follows:

 

 

The effect of derivative instruments on the Consolidated Condensed Statement of Operations for the three and six months ended April 26, 2009 was as follows:

 

 

APPLIED MATERIALS, INC.

 

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

 

 

 

Credit Risk Contingent Features

 

If Applied’s credit rating were to fall below investment grade, it would be in violation of credit risk contingent provisions, and certain counterparties to the derivative instruments could request immediate payment on derivative instruments in net liability positions. The aggregate fair value of all derivative instruments with credit-risk related contingent features that were in a liability position was immaterial as of April 26, 2009.

 

Entering into foreign exchange contracts with banks exposes Applied to credit-related losses in the event of the banks’ nonperformance. However, Applied’s exposure is not considered significant.

 

For further details, see Note 11 of Notes to Consolidated Condensed Financial Statements.

 

 

Applied has agreements with various financial institutions to sell accounts receivable from selected customers. Applied also discounts letters of credit through various financial institutions. Under these agreements, Applied sold accounts receivable and discounted letters of credit in the amounts of $60 million and $178 million for the three months ended April 26, 2009 and April 27, 2008, respectively, and $77 million and $197 million for the six months ended April 26, 2009 and April 27, 2008, respectively. Financing charges on the sale of receivables and discounting of letters of credit are included in interest expense in the accompanying Consolidated Condensed Statements of Operations and were not material for all periods presented.

 

Accounts receivable are presented net of allowance for doubtful accounts of $67 million at April 26, 2009 and $5 million at October 26, 2008.

 

APPLIED MATERIALS, INC.

 

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

 

Applied sells principally to manufacturers within the semiconductor, display and solar industries. As a result of extremely challenging economic and industry conditions, certain of these manufacturers may experience difficulties in meeting their obligations in a timely manner. While Applied believes that its allowance for doubtful accounts is adequate and represents Applied’s best estimate at April 26, 2009, Applied will continue to closely monitor customer liquidity and economic conditions, which may result in changes to Applied’s estimates regarding collectability.

 

 

Inventories are stated at the lower of cost or market, with cost determined on a FIFO basis. Components of inventories were as follows:

 

 

Included in finished goods inventory is $116 million at April 26, 2009, and $165 million at October 26, 2008, of newly-introduced systems at customer locations where the sales transaction did not meet Applied’s revenue recognition criteria, as set forth in Note 1 of Notes to Consolidated Financial Statements in Applied’s 2008 Form 10-K.

 

Applied adjusts inventory carrying value for estimated obsolescence equal to the difference between the cost of inventory and the estimated market value based upon assumptions about future demand and market conditions. Applied fully reserves for inventories and noncancelable purchase orders for inventory deemed obsolete. Applied performs periodic reviews of inventory items to identify excess inventories on hand by comparing on-hand balances to anticipated usage using recent historical activity as well as anticipated or forecasted demand. If estimates of customer demand diminish further or market conditions become less favorable than those projected by Applied, additional inventory adjustments may be required.

 

 

Goodwill and Purchased Intangible Assets

 

Goodwill and purchased intangible assets with indefinite useful lives are not amortized, but are reviewed for impairment annually during the fourth quarter of each fiscal year and whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable. For goodwill, Applied performs a two-step impairment test. In the first step, Applied compares the fair value of each reporting unit to its carrying value. Applied’s reporting units are consistent with the reportable segments identified in Note 16, based on the manner in which Applied operates its business and the nature of those operations. Applied determines the fair value of each of its reporting units based on a weighting of income and market approaches. Under the income approach, Applied calculates the fair value of a reporting unit based on the present value of estimated future cash flows. Under the market approach, Applied estimates the fair value based on market multiples of revenue or earnings for comparable companies. If the fair value of the reporting unit exceeds the carrying value of the net assets assigned to that unit, goodwill is not impaired and no further testing is performed. If the carrying value of the net assets assigned to the reporting unit exceeds the fair value of the reporting unit, then Applied would perform the second step of the impairment test in order to determine the implied fair value of the reporting unit’s goodwill. Applied would then allocate the fair value of the reporting unit to all of the assets and liabilities of that unit, as if Applied had acquired

 

APPLIED MATERIALS, INC.

 

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

 

the reporting unit in a business combination, with the fair value of the reporting unit being the “purchase price”. The excess of the “purchase price” over the carrying amounts assigned to assets and liabilities representing the implied fair value of goodwill. If Applied determined that the carrying value of a reporting unit’s goodwill exceeded its implied fair value, Applied would record an impairment loss equal to the difference.

 

Applied conducted these impairment tests in the fourth quarter of fiscal 2008, and the results of these tests indicated that Applied’s goodwill and purchased intangible assets with indefinite useful lives were not impaired.

 

Applied’s methodology for allocating the purchase price relating to purchase acquisitions is determined through established and generally accepted valuation techniques. Goodwill is measured as the excess of the cost of the acquisition over the sum of the amounts assigned to tangible and identifiable intangible assets acquired less liabilities assumed. Applied assigns assets acquired (including goodwill) and liabilities assumed to a reporting unit as of the date of acquisition. Typically, acquisitions relate to a single reporting unit and thus do not require the allocation of goodwill to multiple reporting units. If the products obtained in an acquisition are assigned to multiple reporting units, the goodwill is distributed to the respective reporting units as part of the purchase price allocation process.

 

Details of indefinite-lived intangible assets were as follows:

 

 

From October 26, 2008 to April 26, 2009, goodwill decreased by $3 million due to an adjustment in the purchase price allocation of an acquisition as a result of a change in estimate of Applied’s ability to utilize tax net operating loss carryforwards associated with this acquisition. Other intangible assets that are not subject to amortization consist primarily of a trade name. As of April 26, 2009, indefinite-lived intangible assets by reportable segment were: Energy and Environmental Solutions, $654 million; Silicon, $224 million; Applied Global Services, $196 million; and Display, $116 million.

 

Finite-Lived Purchased Intangible Assets

 

Applied amortizes purchased intangible assets with finite lives using the straight-line method over the estimated economic lives of the assets, ranging from 1 to 15 years.

 

Applied evaluates long-lived assets, such as property, plant and equipment, and purchased intangible assets with finite lives, for impairment whenever events or changes in circumstances indicate the carrying value of an asset group may not be recoverable. Applied assesses the fair value of the assets based on the amount of the undiscounted future cash flow that the assets are expected to generate and recognizes an impairment loss when estimated undiscounted future cash flow expected to result from the use of the asset, plus net proceeds expected from disposition of the asset, if any, are less than the carrying value of the asset. When Applied identifies an impairment, Applied reduces the carrying value of the group of assets to comparable market values, when available and appropriate, or to its estimated fair value based on a discounted cash flow approach.

 

Intangible assets, such as purchased technology, are generally recorded in connection with a business acquisition. The value assigned to intangible assets is usually based on estimates and judgments regarding expectations for the success and life cycle of products and technology acquired. Applied evaluates the useful lives of its intangible assets each reporting period to determine whether events and circumstances require revising

 

APPLIED MATERIALS, INC.

 

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

 

the remaining period of amortization. In addition, Applied reviews intangible assets for impairment when events or changes in circumstances indicate their carrying value may not be recoverable. Management considers such indicators as significant differences in actual product acceptance from the estimates, changes in the competitive and economic environment, technological advances, and changes in cost structure.

 

Details of amortized intangible assets were as follows:

 

 

Aggregate amortization expense was $23 million and $28 million for the three months ended April 26, 2009 and April 27, 2008, respectively, and $44 million and $53 million for the six months ended April 26, 2009 and April 27, 2008, respectively. As of April 26, 2009, future estimated amortization expense is expected to be $44 million for the remainder of fiscal 2009, $65 million for fiscal 2010, $51 million for fiscal 2011, $47 million for fiscal 2012, $43 million for fiscal 2013, and $80 million thereafter. As of April 26, 2009, amortized intangible assets by reportable segment were: Energy and Environmental Solutions, $246 million; Applied Global Services, $47 million; Display, $33 million; and Silicon, $3 million.

 

 

Components of accounts payable and accrued expenses were as follows:

 

 

APPLIED MATERIALS, INC.

 

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)

 

 

Warranty

 

Changes in the warranty reserves during the three and six months ended April 26, 2009 and April 27, 2008 were as follows:

 

 

Applied products are generally sold with a 12-month warranty period following installation. The provision for the estimated cost of warranty is recorded when revenue is recognized. Parts and labor are covered under the terms of the warranty agreement. The warranty provision is based on historical experience by product, configuration and geographic region. Quarterly warranty consumption is generally associated with sales that occurred during the preceding four quarters, and quarterly warranty provisions are generally related to the current quarter’s sales.

 

Guarantees

 

During the ordinary course of business, Applied provides standby letters of credit or other guarantee instruments to certain parties as required for certain transactions initiated by either Applied or its subsidiaries. As of April 26, 2009, the maximum potential amount of future payments that Applied could be required to make under these guarantee arrangements was $112 million. Applied has not recorded any liability in connection with these guarantee arrangements beyond that required to account for the underlying transaction being guaranteed. Applied does not believe, based on historical experience and information currently available, that it is probable that any amounts will be required to be paid under these guarantee arrangements.

 

Applied also has agreements with various global banks to facilitate subsidiary banking operations world-wide, including overdraft arrangements, bank guarantees and letters of credit. As of April 26, 2009, Applied Materials, Inc. has provided parent guarantees to banks for approximately $169 million to cover these arrangements.

 

Legal matters

 

Jusung

 

On December 24, 2003, Applied filed a lawsuit against Jusung Engineering Co., Ltd. (Jusung Engineering) and Jusung Pacific Co., Ltd. (Jusung Pacific, referred to together with Jusung Engineering as Jusung) in Tao-Yuan District Court in Taiwan, alleging that Jusung is infringing an Applied patent related to chemical vapor deposition (CVD). In the lawsuit, Applied sought a provisional injunction prohibiting Jusung from importing, using, manufacturing, servicing or selling in Taiwan certain flat panel display manufacturing equipment. The District Court issued provisional injunctions against each of Jusung Pacific and Jusung Engineering, which were lifted following Jusung’s posting of counterbonds. On June 30, 2004, Applied filed a “main action” patent infringement complaint against Jusung in the Hsinchu District Court in Taiwan seeking damages and a permanent injunction for infringement of the same CVD patent. This patent is also the subject of an invalidity proceeding filed in the Taiwanese Intellectual Property Office (TIPO) by Jusung Pacific in June 2004. In July 2007, the TIPO allowed Applied to amend its patent and dismissed Jusung Pacific’s invalidation action. Jusung Pacific’s initial appeal was denied and it has filed a further appeal to the Taipei High Supreme Administrative Court. Applied believes that it has meritorious claims and defenses that it intends to pursue vigorously.

 

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On April 10, 2004, the Taiwan Fair Trade Commission (TFTC) notified Applied’s subsidiary, AKT America, Inc. (AKT America), that following a complaint filed by Jusung, the TFTC had begun an investigation into whether AKT America had violated the Taiwan Fair Trade Act by allegedly notifying customers about AKT America’s patent rights and Jusung’s infringement of those rights. On June 15, 2004, the TFTC notified Applied that Applied also was the subject of the investigation. The TFTC subsequently held that there was insufficient evidence to support a claim against either Applied or AKT America. Jusung’s appeals to the appeals court and the Taipei High Administrative Court were denied. In April 2009, the Supreme Administrative Court of Taiwan dismissed Jusung’s appeal and affirmed the judgment in favor of Applied and AKT America.

 

On June 13, 2006, Applied filed an action in the TIPO challenging the validity of a patent owned by Jusung Engineering related to severability of the transfer chamber on a CVD tool. On June 20, 2006, Jusung Engineering filed a lawsuit against Applied and AKT America in Hsinchu District Court in Taiwan alleging infringement of the same patent and seeking damages. On December 25, 2008, the TIPO granted Applied’s request for invalidation and revoked Jusung Engineering’s patent. Applied moved to dismiss or stay Jusung Engineering’s lawsuit, and in March 2009, the Hsinchu District Court dismissed all claims asserted by Jusung. In April 2009, the Ministry of Economic Affairs overruled Jusung Engineering’s administrative appeal of the decision revoking its patent.

 

Jusung Engineering filed a complaint of private prosecution in the Taipei District Court of Taiwan dated November 10, 2006. The complaint alleges that Applied’s outside counsel received from the Court and used a copy of an expert report that Jusung had filed in the ongoing patent infringement lawsuits that Jusung had intended to remain confidential. The complaint names as defendants Applied’s outside counsel in Taiwan, as well as Michael R. Splinter, Applied’s President and Chief Executive Officer, as the statutory representative of Applied. On April 27, 2007, the Taipei District Court dismissed the private prosecution complaint. Jusung Engineering filed an appeal of the dismissal to the Taiwan High Court, which affirmed the District Court’s rejection of the private prosecution complaint. After the dismissal of the private prosecution complaint, the matter was transferred to the Taipei District Attorney’s Office. The Taipei District Attorney’s Office has issued three successive rulings not to prosecute, each of which Jusung Engineering has appealed to the Taiwan High Court District Attorney. In response to each appeal, the Taiwan High Court District Attorney has returned the matter to the Taipei District Attorney’s Office for further consideration. Applied believes that it has meritorious defenses that it intends to pursue vigorously if the matter is pursued.

 

On April 3, 2007, Jusung Engineering filed a complaint against AKT America and one of its suppliers in Seoul Central District Court in Seoul, Korea, alleging infringement of a Jusung patent involving the showerhead assembly of plasma enhanced chemical vapor deposition (PECVD) equipment for liquid crystal displays (LCDs) and seeking injunctive relief. On June 9, 2007, AKT America filed a patent invalidation action with the Korean Intellectual Property Office (KIPO). On November 30, 2007, the KIPO ruled that the Jusung patent was invalid. Jusung’s appeal of the KIPO’s decision was dismissed by the Patent Court and Jusung’s appeal to the Supreme Court is pending. On April 3, 2008, the Seoul Central District Court dismissed Jusung Engineering’s complaint for infringement and Jusung Engineering has appealed this decision. Also on November 30, 2007, the KIPO issued an order dismissing a related confirmation-of-scope action filed by Jusung Engineering. Jusung appealed this order, and on December 4, 2008, the Patent Court remanded this action back to the KIPO for further consideration. Applied believes that it has meritorious defenses that it intends to pursue vigorously.

 

On August 13, 2007, Applied filed a complaint against Jusung Engineering in the Seoul Central District Court in Seoul, Korea. The complaint alleges infringement of an Applied patent involving the housing for a substrate supporting pin used in PECVD equipment for LCDs and seeks both monetary damages and injunctive relief. The District Court dismissed Applied’s complaint and Applied has appealed this decision. On October 29, 2007, Jusung filed an action with the KIPO seeking to invalidate Applied’s substrate patent. On September 30, 2008, the KIPO invalidated Applied’s patent and Applied has appealed this decision. Applied initiated a confirmation of scope action with the KIPO based on the same patent, which the KIPO dismissed on January 30, 2008. Applied has

 

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appealed this decision to the Patent Court. Applied believes that it has meritorious claims that it intends to pursue vigorously.

 

From time to time, Applied receives notification from third parties, including customers and suppliers, seeking indemnification, litigation support, payment of money or other actions by Applied in connection with claims made against them. In addition, from time to time, Applied receives notification from third parties claiming that Applied may be or is infringing their intellectual property or other rights. Applied also is subject to various other legal proceedings and claims, both asserted and unasserted, that arise in the ordinary course of business.

 

Although the outcome of the above-described matters cannot be predicted with certainty, Applied does not believe that any of these proceedings or other claims will have a material adverse effect on its consolidated financial condition or results of operations.

 

 

On November 12, 2008, Applied announced a restructuring program to reduce its global workforce by approximately 1,800 positions. During the first quarter of fiscal 2009, Applied recorded restructuring charges of $133 million associated with this program. The restructuring charges consisted of employee termination costs to reduce the Company’s workforce through a combination of attrition, voluntary separation and other workforce reduction programs. During the second quarter of fiscal 2009, Applied expanded the scope of the restructuring program by approximately 200 positions, resulting in an additional cost of $12 million, for an aggregate cost of $145 million for the first six months of fiscal 2009.

 

Changes in restructuring reserves related to severance under this restructuring program for the six months ended April 26, 2009 were as follows:

 

 

Changes in restructuring reserves for the six months ended April 26, 2009 related to other restructuring plans and facilities realignment programs initiated in prior periods were as follows:

 

 

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During the second quarter of fiscal 2009, Applied determined that the carrying value of certain fixed assets to be sold exceeded the estimated fair value and, as a result, recorded a $15 million impairment charge. In addition, Applied incurred expenses of $1.5 million in connection with ceasing use of certain leased facilities.

 

 

Comprehensive Income

 

Components of comprehensive income (loss), on an after-tax basis where applicable, were as follows:

 

 

Components of accumulated other comprehensive loss, on an after-tax basis where applicable, were as follows:

 

 

For further details on derivative instruments, see Note 4 of the Notes to Consolidated Condensed Financial Statements.

 

Stock Repurchase Program

 

On September 15, 2006, Applied’s Board of Directors approved a stock repurchase program for up to $5.0 billion in repurchases over the three years ending in September 2009, of which authorization for $2.3 billion of repurchases remained as of April 26, 2009. Under this authorization, Applied implemented a systematic stock repurchase program and also has made supplemental repurchases of its common stock from time to time in the open market, depending on market conditions, stock price and other factors. In November 2008, Applied announced that it had temporarily suspended stock repurchases in light of uncertain global economic and market conditions.

 

Applied did not repurchase any shares of its common stock during the three months ended April 26, 2009. During the three months ended April 27, 2008, Applied repurchased 15,023,000 shares of its common stock at an average price of $19.97 per share for a total cash outlay of $300 million. During the six months ended April 26,

 

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2009, Applied repurchased 1,942,000 shares of its common stock at an average price of $11.80 per share for a total cash outlay of $23 million. During the six months ended April 27, 2008, Applied repurchased 48,652,000 shares of its common stock at an average price of $18.50 per share for a total cash outlay of $900 million.

 

Dividends

 

In March 2009, Applied’s Board of Directors declared a quarterly cash dividend in the amount of $0.06 per share payable on June 4, 2009 to stockholders of record as of May 14, 2009. In December 2008, Applied’s Board of Directors declared a quarterly cash dividend in the amount of $0.06 per share that was paid on March 5, 2009 to stockholders of record as of February 12, 2009. The declaration of any future cash dividend is at the discretion of the Board of Directors and will depend on Applied’s financial condition, results of operations, capital requirements, business conditions and other factors, as well as a determination by the Board of Directors that cash dividends are in the best interest of Applied’s stockholders.

 

 

Applied sponsors a number of employee benefit plans, including defined benefit plans of certain foreign subsidiaries, and a plan that provides certain medical and vision benefits to eligible retirees. A summary of the components of net periodic benefit costs of these defined and postretirement benefit plans for the three and six months ended April 26, 2009 and April 27, 2008 is presented below:

 

 

 

Applied has credit facilities for unsecured borrowings in various currencies of up to $1.2 billion, of which $1.0 billion is comprised of a 5-year revolving credit agreement with a group of banks that is scheduled to expire in January 2012. This agreement provides for borrowings in United States dollars at interest rates keyed to one of the two rates selected by Applied for each advance and includes financial and other covenants with which Applied was in compliance at April 26, 2009. In May 2009, Applied amended this revolving credit agreement (see Note 18). Remaining credit facilities in the amount of approximately $150 million are with Japanese banks. Applied’s ability to borrow under these facilities is subject to bank approval at the time of the borrowing request, and any advances will be at rates indexed to the banks’ prime reference rate denominated in Japanese yen. No amounts were outstanding under any of these facilities at April 26, 2009.

 

 

Applied’s effective income tax rate for the second quarter of fiscal 2009 was a benefit of 33.3 percent, and the income tax rate for the second quarter of fiscal 2008 was a provision of 33.4 percent. Both periods included the impact of restructuring charges. The income tax rate for the second quarter of fiscal 2009 also included a tax benefit

 

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of $9 million from the settlement of certain tax matters with the state of California and a tax benefit of $12 million relating to impairments of certain strategic investments.

 

During the second quarter of 2009, an examination by the state of California for fiscal years 2003 and 2002 was settled, resulting in a reduction in the gross liability for unrecognized tax benefits in an amount of $20 million, exclusive of interest and penalties. Applied believes that within the next 12 months, an examination by the state of California for fiscal years 2005 and 2004 will be settled and will result in a reduction in unrecognized tax benefits of up to $10 million.

 

During the second quarter of fiscal 2009, the Internal Revenue Service began an examination of Applied’s federal income tax returns for fiscal years 2007 and 2006. Applied believes it has adequately reserved for any income tax uncertainties that may arise as a result of this examination.

 

Applied’s future effective income tax rate depends on various factors, such as tax legislation, the geographic composition of Applied’s pre-tax income, and the tax rate on equity compensation. Management carefully monitors these factors and adjusts the interim effective income tax rate accordingly.

 

 

During the second quarter of fiscal 2009, Applied recognized $77 million in impairment charges consisting of $45 million associated with its equity method investment in Sokudo Co., Ltd., a Japanese joint venture company, and $32 million associated with other strategic investments.

 

 

Applied’s four reportable segments are: Silicon, Applied Global Services, Display, and Energy and Environmental Solutions. Applied’s chief operating decision-maker has been identified as the President and Chief Executive Officer, who reviews operating results to make decisions about allocating resources and assessing performance for the entire company. Segment information is presented based upon Applied’s management organization structure as of April 26, 2009 and the distinctive nature of each segment. Future changes to this internal financial structure may result in changes to the Company’s reportable segments.

 

Each reportable segment is separately managed and has separate financial results that are reviewed by Applied’s chief operating decision-maker. Each reportable segment contains closely related products that are unique to the particular segment. Segment operating income is determined based upon internal performance measures used by Applied’s chief operating decision-maker.

 

Applied derives the segment results directly from its internal management reporting system. The accounting policies Applied uses to derive reportable segment results are substantially the same as those used for external reporting purposes. Management measures the performance of each reportable segment based upon several metrics including orders, net sales and operating income. Management uses these results to evaluate the performance of, and to assign resources to, each of the reportable segments. Applied does not allocate to its reportable segments certain operating expenses that it manages separately at the corporate level, which include costs related to equity-based compensation and certain components of variable compensation, the global sales organization, corporate functions (certain management, finance, legal, human resources, marketing, and research, development and engineering), and unabsorbed information technology and occupancy. In addition, Applied does not allocate to its reportable segments restructuring and asset impairment charges and any associated adjustments related to restructuring actions. Segment operating income excludes interest income/expense and other financial charges and income taxes according to how a particular reportable segment’s management is measured. Management does not consider the unallocated costs in measuring the performance of the reportable segments.

 

The Silicon segment includes semiconductor capital equipment for etch, rapid thermal processing, deposition, chemical mechanical planarization, and metrology and inspection.

 

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The Applied Global Services segment includes technically differentiated products and services to improve operating efficiency, reduce operating costs and lessen the environmental impact of semiconductor, display and solar customers’ factories. Applied Global Services’ products consist of spares, services, certain earlier generation products, and remanufactured equipment. Customer demand for these products and services is fulfilled through a global distribution system with trained service engineers located in close proximity to customer sites.

 

The Display segment encompasses products for manufacturing LCDs for TVs, personal computers and other video-enabled devices. The Display segment also includes the design and manufacture of differentiated stand-alone equipment for the Applied SunFab^tm Thin Film Line.

 

The Energy and Environmental Solutions segment includes products for fabricating solar photovoltaic cells and modules, high throughput roll-to-roll coating systems for flexible electronics and web products, and systems used in the manufacture of energy-efficient glass.

 

Net sales and operating income (loss) for each reportable segment for the three and six months April 26, 2009 and April 27, 2008 were as follows:

 

 

Reconciliations of total segment operating income to Applied’s consolidated operating income (loss) for the three and six months ended April 26, 2009 and April 27, 2008 were as follows:

 

 

 

In April 2009, the Financial Accounting Standards Board (FASB) issued three related FASB Staff Positions (FSP): (i) FSP Statement of Financial Accounting Standard (SFAS) No. 157-4, “Determining Fair Value When the

 

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Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly” (FSP 157-4), (ii) FSP SFAS No. 115-2 and SFAS No. 124-2, “Recognition and Presentation of Other-Than-Temporary Impairments” (FSP 115-2 and SFAS 124-2), and (iii) FSP SFAS No. 107-1 and Accounting Principles Board (APB) 28-1, “Interim Disclosures about Fair Value of Financial Instruments” (FSP 107 and APB 28-1), each of which will be effective for interim and annual periods ending after June 15, 2009 and will be adopted by Applied beginning in the third quarter of fiscal 2009. FSP 157-4 provides guidance on how to determine the fair value of assets and liabilities under SFAS 157 “Fair Value Measurements”, in the current economic environment and reemphasizes that the objective of a fair value measurement remains the determination of an exit price. If Applied were to conclude that there has been a significant decrease in the volume and level of activity of the asset or liability in relation to normal market activities, quoted market values may not be representative of fair value and Applied may conclude that a change in valuation technique or the use of multiple valuation techniques may be appropriate. FSP 115-2 and SFAS 124-2 modify the requirements for recognizing other-than-temporarily impaired debt securities and revise the existing impairment model for such securities by modifying the current intent and ability indicator in determining whether a debt security is other-than-temporarily impaired. FSP 115-2 and SFAS 124-2 require increased and more timely disclosures regarding expected cash flows, credit losses, and an aging of securities with unrealized losses. FSP 107 and APB 28-1 enhance the disclosure of instruments under the scope of SFAS 157 for both interim and annual periods. Prior to the effective date of FSP 107 and APB 28-1, fair values for these assets and liabilities have only been disclosed once a year. FSP 107 and APB 28-1 will now require these disclosures on a quarterly basis, providing qualitative and quantitative information about fair value estimates for all those financial instruments not measured on the balance sheet at fair value. Applied is evaluating the impact of the implementation of FSP 157-4, FSP 115-2 and SFAS 124-2, and FSP 107 and APB 28-1 on its consolidated financial statements.

 

In April 2009, the FASB issued FSP No. 141(R)-1 “Accounting for Assets Acquired and Liabilities Assumed in a Business Combination That Arise from Contingencies” (FSP 141(R)-1). FSP 141(R)-1 will amend the provisions related to the initial recognition and measurement, subsequent measurement and disclosure of assets and liabilities arising from contingencies in a business combination under SFAS No. 141(R), “Business Combinations” (SFAS 141(R)). FSP 141(R)-1 will carry forward the requirements in SFAS No. 141, “Business Combinations”, for acquired contingencies, thereby requiring that such contingencies be recognized at fair value on the acquisition date if fair value can be reasonably estimated during the allocation period. Otherwise, entities would typically account for the acquired contingencies in accordance with SFAS No. 5, “Accounting for Contingencies”. FSP 141(R)-1 will have the same effective date as SFAS No. 141(R), and will therefore be effective for Applied in fiscal 2010. Applied expects that FSP 141(R)-1 will have an impact on its consolidated financial statements, but the nature and magnitude of the specific effects will depend upon the nature, term and size of the acquired contingencies.

 

In December 2008, the FASB issued FSP No. FAS 132(R)-1, “Employers’ Disclosures about Postretirement Benefit Plan Assets” (FSP 132(R)-1). FSP 132(R)-1 amends FASB Statement No. 132 (revised 2003), “Employers’ Disclosures about Pensions and Other Postretirement Benefits,” to provide guidance on an employer’s disclosures about plan assets of a defined benefit pension or other postretirement plan. The new disclosures are required to be included in financial statements for fiscal years ending after December 15, 2009. Applied is evaluating the impact of the implementation of FSP 132(R)-1 on its consolidated financial statements.

 

In December 2007, the FASB issued Statement No. 141 (revised), “Business Combinations” (SFAS 141(R)). The standard changes the accounting for business combinations, including the measurement of acquirer shares issued in consideration for a business combination, the recognition of contingent consideration, the accounting for preacquisition gain and loss contingencies, the recognition of capitalized in-process research and development, the accounting for acquisition-related restructuring cost accruals, the treatment of acquisition-related transaction costs, and the recognition of changes in the acquirer’s income tax valuation allowance. SFAS 141(R) will be effective for Applied in fiscal 2010, with early adoption prohibited. Applied expects that SFAS 141(R) will have an impact on its consolidated financial statements, but the nature and magnitude of the specific effects will depend upon the nature, terms and size of the acquisitions it consummates after the effective date.

 

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In December 2007, the FASB issued Statement No. 160, “Noncontrolling Interests in Consolidated Financial Statements, an amendment of ARB No. 51” (SFAS 160). The standard changes the accounting for noncontrolling (minority) interests in consolidated financial statements, including the requirements to classify noncontrolling interests as a component of consolidated stockholders’ equity, and the elimination of “minority interest” accounting in results of operations with earnings attributable to noncontrolling interests reported as part of consolidated earnings. Additionally, SFAS 160 revises the accounting for both increases and decreases in a parent’s controlling ownership interest. SFAS 160 will be effective for Applied in fiscal 2010, with early adoption prohibited. Applied is evaluating the potential impact of the implementation of SFAS 160 on its financial position and results of operations.

 

In February 2007, the FASB issued Statement No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities Including an Amendment of FASB Statement No. 115” (SFAS 159), which permits entities to elect to measure many financial instruments and certain other items at fair value that are not currently required to be measured at fair value. This election is irrevocable. SFAS 159 became effective for Applied beginning with its 2009 fiscal year. Applied has not elected the fair value measurement option for its financial assets or liabilities that are not currently required to be measured at fair value.

 

In September 2006, the FASB issued Statement No. 157, “Fair Value Measurements” (SFAS 157). SFAS 157 defines fair value, establishes a framework for measuring fair value in accordance with generally accepted accounting principles, and expands disclosures about fair value measurements. In February 2008, the FASB issued FSP 157-1, “Application of FASB Statement No. 157 to FASB Statement No. 13 and Other Accounting Pronouncements That Address Fair Value Measurements for Purposes of Lease Classification or Measurement under Statement 13” (FSP 157-1) as well as FSP 157-2, “Effective Date of FASB Statement No. 157” (FSP 157-2). FSP 157-1 amends SFAS 157 to remove certain leasing transactions from its scope. FSP 157-2 delays the effective date for Applied of SFAS 157 for all non-financial assets and non-financial liabilities, except for items that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually), until the beginning of Applied’s first quarter of fiscal 2010. The measurement and disclosure requirements related to financial assets and financial liabilities are effective for Applied beginning in the first quarter of fiscal 2009. In October 2008, the FASB issued FSP 157-3, “Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active” (FSP 157-3). FSP 157-3 clarifies the application of SFAS 157 in a market that is not active, and provides guidance on the key considerations in determining the fair value of a financial asset when the market for that financial asset is not active. Applied adopted the effective portions of SFAS 157 beginning in the first quarter of fiscal 2009. See Note 4 for information and related disclosures regarding Applied’s fair value measurements.

 

 

In May 2009, Applied amended its 5-year $1.0 billion revolving credit agreement, which continues to have a scheduled expiration date of January 2012. The amendment modifies certain terms of the credit agreement, including (i) replacing the existing funded-debt-to-adjusted-earnings ratio financial covenant with a minimum liquidity covenant and a funded-debt-to-total-capital ratio covenant and (ii) increasing the facility fee and applicable interest rate margins on advances. To date, Applied has not requested or received any borrowings under the credit agreement.

 

 

All statements in this Quarterly Report on Form 10-Q and those made by the management of Applied, other than statements of historical fact, are forward-looking statements. Examples of forward-looking statements include statements regarding Applied’s future financial or operating results, cash flows and cash deployment strategies, declaration of dividends, share repurchases, business strategies, projected costs, products, competitive positions, management’s plans and objectives for future operations, research and development, acquisitions and joint ventures, growth opportunities, customers, working capital, liquidity, investment portfolio and policies and legal proceedings, as well as industry trends and outlooks. These forward-looking statements are based on management’s estimates, projections and assumptions as of the date hereof and include the assumptions that underlie such statements. Forward-looking statements may contain words such as “may,” “will,” “should,” “could,” “would,” “expect,” “plan,” “anticipate,” “believe,” “estimate,” “predict,” “potential” and “continue,” the negative of these terms, or other comparable terminology. Any expectations based on these forward-looking statements are subject to risks and uncertainties and other important factors, including those discussed in Part II, Item 1A, “Risk Factors,” below and elsewhere in this report. Other risks and uncertainties may be disclosed in Applied’s prior Securities and Exchange Commission (SEC) filings. These and many other factors could affect Applied’s future financial condition and operating results and could cause actual results to differ materially from expectations based on forward-looking statements made in this document or elsewhere by Applied or on its behalf. Applied undertakes no obligation to revise or update any forward-looking statements.

 

Overview

 

Applied provides Nanomanufacturing Technology^tm solutions for the global semiconductor, flat panel display, solar and related industries, with a broad portfolio of innovative equipment, service and software products. Applied’s customers are primarily manufacturers of semiconductors, flat panel liquid crystal displays (LCDs), solar photovoltaic cells and modules (solar PVs), flexible electronics and energy-efficient glass. Applied operates in four reportable segments: Silicon, Applied Global Services, Display, and Energy and Environmental Solutions. Product development and manufacturing activities occur primarily in North America, Europe, Israel and Asia. Applied’s broad range of equipment and service products are highly technical and are sold primarily through a direct sales force.

 

Applied’s results historically have been driven primarily by worldwide demand for semiconductors, which in turn depends on end-user demand for electronic products. Each of Applied’s businesses is subject to cyclical industry conditions, as demand for manufacturing equipment and services can change depending on supply and demand for chips, LCDs, solar PVs and other electronic devices, as well as other factors, such as global economic and market conditions, and technological advances in fabrication processes.

 

Applied incurred net losses for the three and six months ended April 26, 2009, and management expects that industry conditions will remain extremely challenging for the remainder of fiscal 2009. Credit constraints in the financial markets and the weak global economy are compounding the impact of the highly cyclical markets in which Applied operates. Negative trends in consumer spending and pervasive economic uncertainty led some customers to significantly reduce factory operations and to reduce their projected spending plans during the first half of fiscal 2009, which severely impacted demand for manufacturing equipment and services. Factory utilization rates among a number of semiconductor and display manufacturers began to increase in the second quarter of fiscal 2009. However, a meaningful improvement in the equipment sector will depend on a sustainable recovery in customers’ end markets that can keep factories running at higher utilization and encourage investments in new capacity, as well as advanced technologies. In this uncertain macroeconomic and industry climate, Applied’s ability to forecast customer demand and the Company’s future performance is extremely limited. Applied currently expects that orders and net sales will be down overall in fiscal 2009.

The following table presents certain significant measurements for the three and six months ended April 26, 2009 and April 27, 2008:

 

 

Financial results for the second quarter of fiscal 2009 reflected significantly reduced demand for manufacturing equipment and services due to unfavorable global economic and industry conditions. Total orders decreased significantly from the second quarter of fiscal 2008, primarily due to reduced demand for semiconductor and display products and services. Lower demand resulted in lower sales and gross margin. Net sales decreased during the second quarter of fiscal 2009 compared to the second quarter of fiscal 2008, due to reduced demand for semiconductor equipment and services, partially offset by increased sales of solar manufacturing products. In addition, Applied recorded certain pre-tax charges of $166 million during the second quarter of fiscal 2009 that were associated with the poor economic and industry environment. These pre-tax charges consisted of equity investment impairments of: $77 million related to Applied’s equity method investment in Sokudo Co., Ltd. (Sokudo) and other strategic investments; additional inventory-related charges of $47 million; restructuring and asset impairment charges of $27 million; and bad debt provisions of $15 million.

 

Financial results for the first six months of fiscal 2009 similarly reflected significantly reduced demand for manufacturing equipment and services due to poor economic and industry conditions. Total orders decreased significantly from the first six months of fiscal 2008, primarily due to reduced demand for semiconductor and display products and services. Net sales decreased during the first six months of fiscal 2009 compared to the first six months of fiscal 2008, due primarily to a decrease in demand from semiconductor equipment and spares customers, partially offset by increased sales of solar manufacturing products. The net loss for the first six months of fiscal 2009 also reflected lower net sales and included restructuring charges of $145 million associated with a restructuring program announced on November 12, 2008; an impairment of equity method investment and other strategic investments of $77 million; inventory-related charges of $67 million; and bad debt provisions of $63 million.

 

Results of Operations

 

Applied received new orders of $649 million for the second quarter of fiscal 2009, down 73 percent from the second quarter of fiscal 2008. The decrease in new orders was across all segments and was primarily attributable to a decline in demand for equipment and services from semiconductor customers and lower demand by LCD equipment customers. New orders of $1.6 billion for the first six months of fiscal 2009 were down 68 percent from the first six months of fiscal 2008. The decrease in new orders for the first six months of fiscal 2009 was primarily attributable to declines in demand for equipment and services from semiconductor customers and decreased demand for LCD equipment.

New orders by geographic region (determined by the location of customers’ facilities) for the three and six months ended April 26, 2009 and April 27, 2008 were as follows: