| MKS INSTRUMENTS INC Item 1A Risk Factors Our business depends substantially on capital spending in the semiconductor industry which is characterized by periodic fluctuations that may cause a reduction in demand for our products |
| We estimate that approximately 71prca, 74prca and 69prca, of our net sales for the years ended December 31, 2005, 2004 and 2003, respectively, were to semiconductor capital equipment manufacturers and semiconductor device manufacturers, and we expect that sales to such customers will continue to account for a substantial majority of our sales |
| Our business depends upon the capital expenditures of semiconductor device manufacturers, which in turn depend upon the demand for semiconductors |
| Periodic reductions in demand for the products manufactured by semiconductor capital equipment manufacturers and semiconductor device manufacturers may adversely affect our business, financial condition and results of operations |
| Historically, the semiconductor market has been highly cyclical and has experienced periods of overcapacity, resulting in significantly reduced demand for capital equipment |
| For example, in 2001 through the first half of 2003, we experienced a significant reduction in demand from OEM customers, and lower gross margins due to reduced absorption of manufacturing overhead |
| In addition, many semiconductor manufacturers have operations and customers in Asia, a region that in past years has experienced serious economic problems including currency devaluations, debt defaults, lack of liquidity and recessions |
| We cannot be certain that semiconductor downturns will not continue or recur |
| A decline in the level of orders as a result of any downturn or slowdown in the semiconductor capital equipment industry could have a material adverse effect on our business, financial condition and results of operations |
| Our quarterly operating results have fluctuated, and are likely to continue to vary significantly, which may result in volatility in the market price of our common stock |
| As a result, a decrease in demand for our products from one or more customers could occur with limited advance notice and could have a material adverse effect on our results of operations in any particular period |
| A significant percentage of our expenses is relatively fixed and based in part on expectations of future net sales |
| The inability to adjust spending quickly enough to compensate for any shortfall would magnify the adverse impact of a shortfall in net sales on our results of operations |
| Factors that could cause fluctuations in our net sales include: • the timing of the receipt of orders from major customers; • shipment delays; 9 _________________________________________________________________ [66]Table of Contents • disruption in sources of supply; • seasonal variations of capital spending by customers; • production capacity constraints; and • specific features requested by customers |
| In addition, our quarterly operating results may be adversely affected due to charges incurred in a particular quarter, for example, relating to inventory obsolescence, bad debt or asset impairments |
| As a result of the factors discussed above, it is likely that we may in the future experience quarterly or annual fluctuations and that, in one or more future quarters, our operating results may fall below the expectations of public market analysts or investors |
| In any such event, the price of our common stock could decline significantly |
| The loss of net sales to any one of our major customers would likely have a material adverse effect on us |
| Our top ten customers accounted for approximately 48prca, 49prca and 42prca of our net sales for the years ended December 31, 2005, 2004 and 2003, respectively |
| The loss of a major customer or any reduction in orders by these customers, including reductions due to market or competitive conditions, would likely have a material adverse effect on our business, financial condition and results of operations |
| During the years ended December 31, 2005, 2004 and 2003, one customer, Applied Materials, accounted for approximately 18prca, 20prca and 18prca, respectively, of our net sales |
| None of our significant customers, including Applied Materials, has entered into an agreement requiring it to purchase any minimum quantity of our products |
| The demand for our products from our semiconductor capital equipment customers depends in part on orders received by them from their semiconductor device manufacturer customers |
| Attempts to lessen the adverse effect of any loss or reduction of net sales through the rapid addition of new customers could be difficult because prospective customers typically require lengthy qualification periods prior to placing volume orders with a new supplier |
| Our future success will continue to depend upon: • our ability to maintain relationships with existing key customers; • our ability to attract new customers; • our ability to introduce new products in a timely manner for existing and new customers; and • the success of our customers in creating demand for their capital equipment products which incorporate our products |
| As part of our business strategy, we have entered into and may enter into or seek to enter into business combinations and acquisitions that may be difficult and costly to integrate, may be disruptive to our business, may dilute stockholder value or may divert management attention |
| We made several acquisitions in the years 2000 through 2002 and, more recently, in January 2006 |
| As a part of our business strategy, we may enter into additional business combinations and acquisitions |
| Acquisitions are typically accompanied by a number of risks, including the difficulty of integrating the operations, technology and personnel of the acquired companies, the potential disruption of our ongoing business and distraction of management, expenses related to the acquisition and potential unknown liabilities associated with acquired businesses |
| If we are not successful in completing acquisitions that we may pursue in the future, we may be required to reevaluate our growth strategy, and we may incur substantial expenses and devote significant management time and resources in seeking to complete proposed acquisitions that will not generate benefits for us |
| In addition, with future acquisitions, we could use substantial portions of our available cash as all or a portion of the purchase price |
| We could also issue additional securities as consideration for these acquisitions, 10 _________________________________________________________________ [67]Table of Contents which could cause significant stockholder dilution |
| Our prior acquisitions and any future acquisitions may not ultimately help us achieve our strategic goals and may pose other risks to us |
| As a result of our previous acquisitions, we have added several different decentralized operating and accounting systems, resulting in a complex reporting environment |
| We expect that we will need to continue to modify our accounting policies, internal controls, procedures and compliance programs to provide consistency across all our operations |
| In order to increase efficiency and operating effectiveness and improve corporate visibility into our decentralized operations, we are currently implementing a new worldwide Enterprise Resource Planning (“ERP”) system |
| We completed our first site implementation in October 2005 and we expect to continue to implement the ERP system by converting our remaining operations in phases over the next few years |
| Although we have a plan to accomplish the ERP implementation, we may risk potential disruption of our operations during the conversion periods and the implementation could require significantly more management time and we could incur significantly higher implementation costs than currently estimated |
| An inability to convince semiconductor device manufacturers to specify the use of our products to our customers that are semiconductor capital equipment manufacturers would weaken our competitive position |
| The markets for our products are highly competitive |
| Our competitive success often depends upon factors outside of our control |
| For example, in some cases, particularly with respect to mass flow controllers, semiconductor device manufacturers may direct semiconductor capital equipment manufacturers to use a specified supplier’s product in their equipment |
| Accordingly, for such products, our success will depend in part on our ability to have semiconductor device manufacturers specify that our products be used at their semiconductor fabrication facilities |
| In addition, we may encounter difficulties in changing established relationships of competitors that already have a large installed base of products within such semiconductor fabrication facilities |
| If our products are not designed into successive generations of our customers’ products, we will lose significant net sales during the lifespan of those products |
| Our success depends on our products being designed into new generations of equipment for the semiconductor industry |
| We must develop products that are technologically advanced so that they are positioned to be chosen for use in each successive generation of semiconductor capital equipment |
| If customers do not choose our products, our net sales may be reduced during the lifespan of our customers’ products |
| In addition, we must make a significant capital investment to develop products for our customers well before our products are introduced and before we can be sure that we will recover our capital investment through sales to the customers in significant volume |
| We are thus also at risk during the development phase that our products may fail to meet our customers’ technical or cost requirements and may be replaced by a competitive product or alternative technology solution |
| If that happens, we may be unable to recover our development costs |
| The semiconductor industry is subject to rapid demand shifts which are difficult to predict |
| As a result, our inability to expand our manufacturing capacity in response to these rapid shifts may cause a reduction in our market share |
| Our ability to increase sales of certain products depends in part upon our ability to expand our manufacturing capacity for such products in a timely manner |
| If we are unable to expand our manufacturing capacity on a timely basis or to manage such expansion effectively, our customers could implement our competitors’ products and, as a result, our market share could be reduced |
| Because the semiconductor industry is subject to rapid demand shifts which are difficult to foresee, we may not be able to increase capacity quickly enough to respond to a rapid increase in demand |
| Additionally, capacity expansion could increase our fixed operating expenses and if sales levels do not increase to offset the additional expense levels associated with any 11 _________________________________________________________________ [68]Table of Contents such expansion, our business, financial condition and results of operations could be materially adversely affected |
| We operate in a highly competitive industry |
| The market for our products is highly competitive |
| Principal competitive factors include: • historical customer relationships; • product quality, performance and price; • breadth of product line; • manufacturing capabilities; and • customer service and support |
| Although we believe that we compete favorably with respect to these factors, we may not be able to continue to do so |
| We encounter substantial competition in most of our product lines |
| Certain of our competitors may have greater financial and other resources than we have |
| In some cases, competitors are smaller than we are, but well established in specific product niches |
| We may encounter difficulties in changing established relationships of competitors with a large installed base of products at such customers’ fabrication facilities |
| In addition, our competitors can be expected to continue to improve the design and performance of their products |
| Competitors may develop products that offer price or performance features superior to those of our products |
| If our competitors develop superior products, we may lose existing customer and market share |
| Sales to foreign markets constitute a substantial portion of our net sales; therefore, our net sales and results of operations could be adversely affected by downturns in economic conditions in countries outside of the United States |
| International sales include sales by our foreign subsidiaries, but exclude direct export sales |
| International sales accounted for approximately 37prca, 34prca and 41prca, of net sales for the years ended December 31, 2005, 2004 and 2003, respectively, a significant portion of which were sales to Japan |
| We anticipate that international sales will continue to account for a significant portion of our net sales |
| In addition, certain of our key domestic customers derive a significant portion of their revenues from sales in international markets |
| Therefore, our sales and results of operations could be adversely affected by economic slowdowns and other risks associated with international sales |
| We have significant foreign operations, and outsource certain operations offshore, which pose significant risks |
| We have significant international sales, service, engineering and manufacturing operations in Europe and Asia, and have outsourced a portion of our manufacturing to Mexico |
| We may expand the level of manufacturing and certain other operations that we do offshore in order to take advantage of cost efficiencies available to us in those countries |
| However, we may not achieve the significant cost savings or other benefits that we anticipate from this program |
| These foreign operations expose us to operational and political risks that may harm our business, including: • political and economic instability; • fluctuations in the value of currencies and high levels of inflation, particularly in Asia and Europe; • changes in labor conditions and difficulties in staffing and managing foreign operations, including, but not limited to, labor unions; • reduced or less certain protection for intellectual property rights; • greater difficulty in collecting accounts receivable and longer payment cycles; • burdens and costs of compliance with a variety of foreign laws; 12 _________________________________________________________________ [69]Table of Contents • increases in duties and taxation; • imposition of restrictions on currency conversion or the transfer of funds; • changes in export duties and limitations on imports or exports; • expropriation of private enterprises; and • unexpected changes in foreign regulations |
| If any of these risks materialize, our operating results may be adversely affected |
| Unfavorable currency exchange rate fluctuations may lead to lower operating margins or may cause us to raise prices, which could result in reduced sales |
| Currency exchange rate fluctuations could have an adverse effect on our net sales and results of operations and we could experience losses with respect to our hedging activities |
| Unfavorable currency fluctuations could require us to increase prices to foreign customers, which could result in lower net sales by us to such customers |
| Alternatively, if we do not adjust the prices for our products in response to unfavorable currency fluctuations, our results of operations could be adversely affected |
| In addition, most sales made by our foreign subsidiaries are denominated in the currency of the country in which these products are sold and the currency they receive in payment for such sales could be less valuable at the time of receipt as a result of exchange rate fluctuations |
| We enter into forward foreign exchange contracts and may enter into local currency purchased options to reduce currency exposure arising from intercompany sales of inventory |
| However, we cannot be certain that our efforts will be adequate to protect us against significant currency fluctuations or that such efforts will not expose us to additional exchange rate risks |
| Key personnel may be difficult to attract and retain |
| Our success depends to a large extent upon the efforts and abilities of a number of key employees and officers, particularly those with expertise in the semiconductor manufacturing and similar industrial manufacturing industries |
| The loss of key employees or officers could have a material adverse effect on our business, financial condition and results of operations |
| We believe that our future success will depend in part on our ability to attract and retain highly skilled technical, financial, managerial and marketing personnel |
| We cannot be certain that we will be successful in attracting and retaining such personnel |
| Our proprietary technology is important to the continued success of our business |
| Our failure to protect this proprietary technology may significantly impair our competitive position |
| As of December 31, 2005, we owned 253 US patents, 170 foreign patents and had 104 pending US patent applications |
| Although we seek to protect our intellectual property rights through patents, copyrights, trade secrets and other measures, we cannot be certain that: • we will be able to protect our technology adequately; • competitors will not be able to develop similar technology independently; • any of our pending patent applications will be issued; • domestic and international intellectual property laws will protect our intellectual property rights; or • third parties will not assert that our products infringe patent, copyright or trade secrets of such parties |
| Protection of our intellectual property rights may result in costly litigation |
| Litigation may be necessary in order to enforce our patents, copyrights or other intellectual property rights, to protect our trade secrets, to determine the validity and scope of the proprietary rights of others or to defend against claims of infringement |
| We are, from time to time, involved in lawsuits enforcing or defending our intellectual property rights and may be involved in such litigation in the future |
| Such litigation could result 13 _________________________________________________________________ [70]Table of Contents in substantial costs and diversion of resources and could have a material adverse effect on our business, financial condition and results of operations |
| We may need to expend significant time and expense to protect our intellectual property regardless of the validity or successful outcome of such intellectual property claims |
| If we lose any litigation, we may be required to seek licenses from others or change, stop manufacturing or stop selling some of our products |
| The market price of our common stock has fluctuated and may continue to fluctuate for reasons over which we have no control |
| The stock market has from time to time experienced, and is likely to continue to experience, extreme price and volume fluctuations |
| Prices of securities of technology companies have been especially volatile and have often fluctuated for reasons that are unrelated to the operating performance of the companies |
| The market price of shares of our common stock has fluctuated greatly since our initial public offering and could continue to fluctuate due to a variety of factors |
| In the past, companies that have experienced volatility in the market price of their stock have been the objects of securities class action litigation |
| If we were the object of securities class action litigation, it could result in substantial costs and a diversion of our management’s attention and resources |
| Our dependence on sole, limited source suppliers, and international suppliers, could affect our ability to manufacture products and systems |
| We rely on sole, limited source suppliers and international suppliers for a few of our components and subassemblies that are critical to the manufacturing of our products |
| This reliance involves several risks, including the following: • the potential inability to obtain an adequate supply of required components; • reduced control over pricing and timing of delivery of components; and • the potential inability of our suppliers to develop technologically advanced products to support our growth and development of new systems |
| We believe that in time we could obtain and qualify alternative sources for most sole, limited source and international supplier parts |
| Seeking alternative sources of the parts could require us to redesign our systems, resulting in increased costs and likely shipping delays |
| We may be unable to redesign our systems, which could result in further costs and shipping delays |
| These increased costs would decrease our profit margins if we could not pass the costs to our customers |
| Further, shipping delays could damage our relationships with current and potential customers and have a material adverse effect on our business and results of operations |
| We are subject to governmental regulations |
| If we fail to comply with these regulations, our business could be harmed |
| We are subject to federal, state, local and foreign regulations, including environmental regulations and regulations relating to the design and operation of our products |
| We must ensure that the affected products meet a variety of standards, many of which vary across the countries in which our systems are used |
| For example, the European Union has published directives specifically relating to power supplies |
| In addition, the European Union has issued directives relating to regulation of recycling and hazardous substances, which may be applicable to our products, or to which some customers may voluntarily elect to adhere to |
| We must comply with any applicable regulation adopted in connection with these directives in order to ship affected products into countries that are members of the European Union |
| We believe we are in compliance with current applicable regulations, directives and standards and have obtained all necessary permits, approvals, and authorizations to conduct our business |
| However, compliance with future regulations, directives and standards, or customer demands beyond such requirements, could require us to modify or redesign certain systems, make 14 _________________________________________________________________ [71]Table of Contents capital expenditures or incur substantial costs |
| If we do not comply with current or future regulations, directives and standards: • we could be subject to fines; • our production could be suspended; or • we could be prohibited from offering particular systems in specified markets |
| Certain stockholders have a substantial interest in us and may be able to exert substantial influence over our actions |
| As of December 31, 2005, John R Bertucci, our Executive Chairman, and certain members of his family, in the aggregate, beneficially owned approximately 17prca of our outstanding common stock |
| As a result, these stockholders, acting together, may be able to exert substantial influence over our actions |
| Pursuant to the acquisition of the ENI Business of Emerson Electric Co |
| (“Emerson”), we issued approximately 12cmam000cmam000 shares of common stock to Emerson and its wholly owned subsidiary, Astec America, Inc |
| Emerson owned approximately 18prca of our outstanding common stock as of December 31, 2005, and a representative of Emerson is a member of our board of directors |
| Accordingly, Emerson may be able to exert substantial influence over our actions |
| Some provisions of our restated articles of organization, as amended, our amended and restated by-laws and Massachusetts law could discourage potential acquisition proposals and could delay or prevent a change in control of us |
| Anti-takeover provisions could diminish the opportunities for stockholders to participate in tender offers, including tender offers at a price above the then current market price of the common stock |
| Such provisions may also inhibit increases in the market price of the common stock that could result from takeover attempts |
| For example, while we have no present plans to issue any preferred stock, our board of directors, without further stockholder approval, may issue preferred stock that could have the effect of delaying, deterring or preventing a change in control of us |
| The issuance of preferred stock could adversely affect the voting power of the holders of our common stock, including the loss of voting control to others |
| In addition, our amended and restated by-laws provide for a classified board of directors consisting of three classes |
| The classified board could also have the effect of delaying, deterring or preventing a change in control of us |
| Changes in financial accounting standards may adversely affect our reported results of operations |
| A change in accounting standards or practices could have a significant effect on our reported results and may even affect our reporting of transactions completed before the change was effective |
| New accounting pronouncements and varying interpretations of existing accounting pronouncements have occurred and may occur in the future |
| Such changes may adversely affect our reported financial results or may impact our related business practice |
| For example, Statement on Financial Accounting Standards Nodtta 123R “Share-Based Payment”, which requires us to measure all employee stock-based compensation awards using a fair value method and record such expense in our consolidated financial statements, when adopted in the first quarter of 2006, will have a material adverse impact on our consolidated financial statements as reported under generally accepted accounting principles in the United States |
| The adoption of this statement will adversely impact our gross margin as well as our operating expenses in 2006 |