Overview

Management's discussion and analysis ("MD&A") of the Company's financial condition, business results and outlook should be read in conjunction with its condensed consolidated financial statements and related notes. Various segments of this MD&A contain forward-looking statements, all of which are presented based on current expectations and may be adversely affected by uncertainties and risk factors (presented throughout this filing and in the Company's Annual Report on Form 10-K for the fiscal 2008 year), that may cause actual results to materially differ from these expectations.

The Company sells substantially all of its photomasks to semiconductor designers and manufacturers, and manufacturers of flat panel displays ("FPD"). Photomask technology is also being applied to the fabrication of other higher performance electronic products such as photonics, micro-electronic mechanical systems and certain nanotechnology applications. The Company's selling cycle is tightly interwoven with the development and release of new semiconductor designs and flat panel applications, particularly as it relates to the semiconductor industry's migration to more advanced design methodologies and fabrication processes. The Company believes that the demand for photomasks primarily depends on design activity rather than sales volumes from products produced using photomask technologies. Consequently, an increase in semiconductor or FPD sales does not necessarily result in a corresponding increase in photomask sales. In addition, the reduced use of customized integrated circuits ("IC"), reductions in design complexity or other changes in the technology or methods of manufacturing semiconductors, or a slowdown in the introduction of new semiconductor or FPD designs could reduce demand for photomasks. Such a reduction in demand could occur even if demand for semiconductors and FPD increases. Advances in semiconductor and photomask design and semiconductor production methods could also reduce the demand for photomasks. Historically, the semiconductor industry has been volatile with sharp periodic downturns and slowdowns. These downturns have been characterized by, among other things, diminished product demand, excess production capacity, and accelerated erosion of selling prices.

The semiconductor industry is currently experiencing a severe downturn due to a significant oversupply of products, which has been further negatively impacted by worsening global economic conditions. These conditions have resulted in reduced average selling prices ("ASPs") and gross margins for the Company and others in the semiconductor industry. In response to these market conditions the Company ceased production of photomasks at its Manchester, U.K. facility in January 2009, and at its Shanghai, China facility in July 2009. The Company has also undertaken additional cost saving measures to increase its competitiveness, including reductions in executive and employee salaries, continued hiring freezes, and reductions of other discretionary costs such as outside services, travel and overtime. Continued unfavorable changes in global economic conditions, including those in Asia, the U.S. or other geographic areas in which the Company does business, may have the effect of reducing the demand for photomasks and further reducing the Company's ASPs and gross margin. For example, continued unfavorable changes in global economic conditions may lead to a decrease in demand for end products whose manufacturing processes involve the use of photomasks. This may result in a reduction in new product design and development by semiconductor manufacturers, which could adversely affect the Company's operations and cash flows.

The effects of the worsening global economy and the tightening credit market are also making it increasingly difficult for the Company and others in the semiconductor industry to obtain external sources of financing to fund their operations. The Company is further pursuing alternatives to increase its capital, and is delaying capital expenditures and implementing further cost-cutting initiatives.

The Company's ability to comply with the financial and other covenants in its debt agreements may be affected by worsening economic or business conditions, or other events. Should the Company be unable to meet one or more of these covenants its lenders may require the Company to repay its outstanding balances prior to the expiration date of the agreements. The Company cannot assure that additional sources of financing would be available to the Company to pay off the Company's long-term borrowings to avoid default. Should the Company default on any of its long-term borrowings, a cross default would occur on its other long-term borrowings, unless amended or waived. As of August 2, 2009, the Company was in compliance with its debt covenants.

Material Changes in Results of Operations
Three and Nine Months ended August 2, 2009 and July 27, 2008

   The following table represents selected operating information expressed as a
percentage of net sales.

                                   Three Months Ended            Nine Months Ended
                               --------------------------   ---------------------------
                               August 2,       July 27,      August 2,       July 27,
                                  2009           2008          2009            2008
                               ----------    ------------   -----------    ------------

Net sales                          100.0%         100.0%        100.0%          100.0%
Cost of sales                      (81.1)         (86.9)        (85.0)           (82.8)
                               ----------    ------------   -----------    ------------
Gross margin                       18.9            13.1          15.0            17.2
Selling, general and
administrative expenses           (10.4)          (13.0)        (11.6)          (13.7)
Research and development
expenses                           (4.0)           (4.0)         (4.4)           (4.1)
Consolidation,                    (11.2)             -
restructuring and related
charges                                                          (4.8)              -
Impairment of long-lived             -            (63.3)
assets                                                           (0.5)          (20.9)
Impairment of goodwill               -           (131.1)           -            (43.4)
                               ----------    ------------   -----------    ------------
Operating loss                     (6.7)         (198.3)         (6.3)          (64.9)

Other income (expense),
net                               (14.9)           (2.4)         (8.6)           (2.0)
                               ----------    ------------   -----------    ------------
Loss before income taxes
and minority interest             (21.6)         (200.7)        (14.9)          (66.9)
Income tax benefit
(provision)                        (1.9)            6.6          (1.1)            1.3
Minority interest                  (0.4)           (0.4)         (0.2)           (0.5)
                               ----------    ------------   -----------    ------------
Net loss                          (23.9)%        (194.5)%       (16.2)%         (66.1)%
                               ----------    ------------   -----------    ------------

All of the following tabular comparisons, unless otherwise indicated, are for the three months ended August 2, 2009 (Q3-09) and July 27, 2008 (Q3-08) and for the nine months ended August 2, 2009 (YTD-09) and July 27, 2008 (YTD-08) in millions of dollars.

Net Sales

                      Three Months Ended           Nine Months Ended
                   ------------------------    -------------------------
                                    Percent                      Percent
                   Q3-09   Q3-08    Change     YTD-09   YTD-08   Change
                   -----   ------   -------    ------   ------   -------

IC                 $71.7   $ 77.1    (7.0)%    $199.1   $237.5   (16.2)%
FPD                 23.7     28.6   (17.1)%      67.6     81.7   (17.3)%
                   -----   ------              ------   ------
Total net sales    $95.4   $105.7    (9.7)%    $266.7   $319.2   (16.5)%
                   -----   ------   -------    ------   ------   -------

Net sales for Q3-09 decreased 9.7% to $95.4 million as compared to $105.7 million for Q3-08. Sales of IC photomasks decreased $5.4 million, primarily due to reduced unit demand and ASPs for mainstream photomasks. The decreased mainstream IC sales were partially mitigated by increased high-end sales. Sales of FPD photomasks decreased $4.9 million due to reduced high-end unit demand and lower high-end ASPs. Revenues attributable to high-end products were $21.4 million in Q3-09 and $25.6 million in Q3-08. High-end photomask applications, which typically have higher ASPs, include mask sets for FPD products using G7 and above technologies and IC products using 65 nanometer and below technologies. By geographic area, net sales in Q3-09 as compared to Q3-08 decreased by $6.4 million or 9.6% in Asia, increased by $1.4 million or 5.9% in North America, and decreased by $5.3 million or 33.8% in Europe. As a percent of total sales in Q3-09, net sales were 63% in Asia, 26% in North America, and 11% in Europe, while net sales in Q3-08 were 63% in Asia, 22 % in North America and 15% in Europe.

Net sales for YTD-09 decreased 16.5% to $266.7 million as compared to $319.2 million for YTD-08. The decrease was caused by lower sales of both IC and FPD photomasks. IC photomask sales decreased $38.4 million primarily due to reduced units and ASPs for mainstream products, which were in part offset by increased high-end sales. FPD photomask sales decreased $14.1 million, primarily as a result of lower ASPs for mainstream products and decreased units for high-end products. The Company's quarterly revenues can be affected by the seasonal purchasing of its customers. The Company is typically impacted during its first fiscal quarter by the North American, European and Asian holiday periods as some customers reduce their effective workdays and orders during this period. This seasonality was experienced to a greater than normal extent during YTD-09 as many of the Company's customers placed their fabs on extended shutdowns.

Gross Margin

                       Three Months Ended                       Nine Months Ended
              ------------------------------------     -----------------------------------
                Q3-09         Q3-08       Percent       YTD-09        YTD-08       Percent
                                           Change                                  Change
              ---------     ---------     --------     ---------     ---------     -------

Gross            $18.1         $13.9         30.0%        $40.1         $54.8      (26.8)%
margin
Percentage                                                 15.0%         17.2%
of net            18.9%         13.1%
sales

Gross margin increased to 18.9% in Q3-09 as compared to 13.1% in Q3-08 primarily due to reduced operating infrastructure, including equipment and salaries and wages. Further, compensation expense decreased as a result of headcount and salary reductions. Gross margin decreased to 15.0% in YTD-09 from 17.2% in YTD-08 primarily due to reduced sales of 16.5% and increased manufacturing costs associated with the U.S. Nanofab, which commenced operations in Q2-08. The Company operates in a high fixed cost environment and, to the extent that the Company's revenues and utilization increase or decrease, gross margin will generally be positively or negatively impacted.

Selling, General and Administrative Expenses

                              Three Months Ended                  Nine Months Ended
                        ------------------------------     -------------------------------
                         Q3-09       Q3-08     Percent      YTD-09      YTD-08     Percent
                                               Change                              Change
                        --------    --------   -------     --------    --------    -------
Selling, general and
 administrative
expenses                  $10.0       $13.7    (27.5)%       $31.0       $43.6     (28.9)%

Percentage of net          10.4%       13.0%                  11.6%       13.7%
sales

Selling, general and administrative expenses decreased $3.7 million to $10.0 million in Q3-09, compared with $13.7 million in Q3-08, primarily as a result of headcount and salary reductions and other cost reduction programs. Selling, general and administrative expenses were $31.0 million and $43.6 million in YTD-09 and YTD-08, respectively. The decrease was primarily related to certain U.S. Nanofab costs reported in selling, general and administrative expenses (prior to it commencing production in Q2-08), reduced compensation costs due in part to reduced employee headcount, and cost reduction programs.

Research and Development

                           Three Months Ended                    Nine Months Ended
                     -------------------------------     ---------------------------------
                      Q3-09       Q3-08      Percent      YTD-09       YTD-08      Percent
                                             Change                                Change
                     -------     -------     -------     --------     --------     -------

Research and           $3.9        $4.3      (10.3)%       $11.7        $13.1      (11.4)%
development

Percentage of net       4.0%        4.0%                     4.4%         4.1%
sales

Research and development expenses consist primarily of global development efforts relating to high-end process technologies for advanced sub-wavelength reticle solutions for IC and FPD technologies. Research and development expenses decreased by $0.4 million to $3.9 million in Q3-09, as compared to $4.3 million in Q3-08. On a YTD basis, research and development expenses decreased $1.4 million to $11.7 million in YTD-09, as compared to $13.1 million in YTD-08. The reduction in research and development expenses in Q3-09 and YTD-09 as compared to the same periods in the prior year were primarily due to reduced expenditures in Asia.

Consolidation, Restructuring and Related Charges

                                       Three Months Ended        Nine Months Ended
                                     ----------------------     --------------------
                                       Q3-09        Q3-08        YTD-09      YTD-08
                                     ---------    ---------     --------    --------

Asset write-downs                        $ 9.9         $ -         $10.5        $ -
Employee terminations                      0.6           -           2.0          -
Other                                      0.2           -           0.2          -
                                     ---------    ---------     --------    --------
Total consolidation, restructuring       $10.7         $ -         $12.7        $ -
 and related charges
                                     ---------    ---------     --------    --------

During Q3-09, the Company ceased the manufacture of photomasks at its Shanghai, China facility. In connection with this restructuring, the Company recorded a total restructure charge of $10.1 million, primarily comprised of impairments of the facility and manufacturing equipment. Approximately 75 employees are expected to be affected by this restructuring. The Company expects the total after tax cost of this restructure to range between $11 million to $13 million through 2010.

During the three months ended February 1, 2009, the Company ceased the manufacture of photomasks at its Manchester, U.K. facility. This initiative began with the recording of a $0.5 million charge for the impairment of certain long-lived assets at the facility in the fourth quarter of fiscal 2008, and includes additional charges of $0.6 million and $2.6 million incurred in Q3-09 and YTD-09, respectively, primarily for employee termination costs and asset write-downs. Approximately 85 employees are expected to be affected by this plan. The Company expects the total after tax cost of this restructure to range between $2 million to $3 million through its expected completion at the end of fiscal 2009.

Impairment of Long-Lived Assets

During the three months ended May 3, 2009, the Company recorded an impairment charge of $1.5 million to reduce the carrying value of its Manchester, U.K. facility to its estimated fair value, which was determined by management using a market approach.

As a result of the Company's projected undiscounted future cash flows related to certain of its asset groups (located in Europe and Asia) being less than the carrying value of those assets, the Company recorded an impairment charge of $66.9 million in Q3-08. As required by SFAS No. 144, "Accounting for the Impairment or Disposal of Long-lived Assets" the carrying value of the assets determined to be impaired were reduced to their fair values. The fair values of the impaired assets were determined based upon market conditions, the income approach which utilized cash flow projections, and other factors.

Impairment of Goodwill

In Q3-08, the Company performed an assessment of the carrying value of its goodwill for the purpose of determining whether it was impaired. Through the third quarter of fiscal 2008, the Company experienced a sustained, significant decline in its stock price. As a result of the decline in stock price, the Company's market capitalization fell significantly below the recorded value of its consolidated net assets during the third quarter of fiscal 2008. Due to the decrease in its market capitalization and quarterly net losses incurred in YTD-08, in accordance with the requirements of Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets," the Company performed the abovementioned assessment.

Based on the results of the Company's initial assessment of goodwill for impairment, it was determined that the carrying value of the Company's net assets exceeded its estimated fair value. Therefore, the Company performed a second step of the impairment test to determine the implied fair value of its goodwill. The result of the analysis indicated that there would be no remaining implied value attributable to the Company's goodwill and, accordingly, the Company wrote off all $138.5 million of its goodwill as of July 27, 2008.

Other Income (expense), net

                               Three Months Ended        Nine Months Ended
                              ---------------------     -------------------
                                Q3-09       Q3-08        YTD-09      YTD-08
                              ---------    --------     ---------    ------

Interest expense                $ (5.3)      $(3.3)       $(14.4)    $(8.3)
Investment and other
 income (expense), net            (8.9)        0.7          (8.4)      2.0
                              ---------    --------     ---------    ------
Other income (expense), net     $(14.2)      $(2.6)       $(22.8)    $(6.3)
                              ---------    --------     ---------    ------

Interest expense in Q3-09 and YTD-09 increased as compared to the same periods in the prior year, primarily as a result of higher interest rates on the Company's outstanding debt obligations and increased amortization of debt issuance costs that were incurred in connection with the Company's amendments to its credit facilities.

Investment and other income (expense), net, increased in Q3-09, as compared to Q3-08, primarily due to losses of $6.8 million related to common stock warrants issued in connection with the Company's credit facility amendment on May 15, 2009. These warrants are indexed to and can potentially be settled in the Company's stock and were recorded as a liability during Q3-09. The warrants are required to be remeasured and reported at their fair value, which resulted in the Company recording a non-cash loss of $6.8 million during Q3-09. The balance of the increase in other expense was primarily attributable to foreign currency exchange losses.

On a year-to-date basis, the increase in investment and other income (expense), net was caused by the losses related to the common stock warrants and foreign currency exchange discussed above, as well as decreased investment income associated with lower cash balances.

Income Tax Benefit (Provision)

                                  Three Months Ended        Nine Months Ended
                                 ---------------------     --------------------
                                   Q3-09       Q3-08        YTD-09      YTD-08
                                 ---------    --------     --------    --------

Income tax benefit (provision)      $(1.8)        $7.0       $(2.9)        $4.2
                                 ---------    --------     --------    --------

The effective tax rates for the periods presented differ from the amounts computed by applying the U.S. statutory rate of 35% to the income before taxes primarily because income tax provisions in jurisdictions where the Company generated income were, due to valuation allowances, not significantly offset by income tax benefits in jurisdictions where the Company incurred losses before income taxes.

The Company's operations have followed the migration of semiconductor industry fabrication to Asia, where the Company operates in countries in which it is accorded favorable tax treatment. PKLT, the Company's FPD manufacturing facility in Taiwan, is accorded a tax holiday, which is expected to expire in 2012. In addition, the Company has been accorded a tax holiday in China which is expected to expire in 2011. These tax holidays had no dollar or per share effect in the three and nine months ended August 2, 2009 and July 27, 2008. In Korea and Taiwan, various investment tax credits have been utilized to reduce the Company's effective income tax rate.

As of August 2, 2009 the gross unrecognized tax benefits for income taxes associated with uncertain tax positions totaled approximately $1.8 million. If recognized, the benefits would favorably affect the Company's effective rate in future periods. During the nine months ended August 2, 2009, the Company recognized approximately $1.0 million of tax benefits related to settlements of uncertain tax positions in the U.K. and Germany. Though the Company expects these remaining items may result in a net reduction of its unrecognized tax benefits, an estimate of the expected reduction and related income tax benefit within the next twelve months cannot be made at this time.

Currently, the statutes of limitations remain open subsequent to and including 2005 in the U.S., 2006 in the U.K., 2008 in Germany and 2004 in Korea.

Minority Interest in Consolidated Subsidiaries

Minority interest, which was $0.4 million in Q3-09 and $0.5 million in Q3-08, primarily relates to the minority interest in earnings of the Company's non-wholly owned subsidiary in Taiwan. The Company's ownership in its subsidiary in Taiwan was approximately 58% at August 2, 2009 and November 2, 2008, and its ownership in its subsidiary in Korea was approximately 99.7% at August 2, 2009 and November 2, 2008.

Liquidity and Capital Resources

The Company's working capital increased $11.1 million to $77.5 million at August 2, 2009, as compared to $66.4 million at November 2, 2008, primarily as a result of reduced accounts payable and accrued expenses coupled with cash generated from operations. Cash and cash equivalents increased to $85.5 million at August 2, 2009 as compared to $83.8 million at November 2, 2008. Cash provided by operating activities was $41.6 million for the nine months ended August 2, 2009, as compared to $65.9 million for the same period last year, the decrease primarily due to the Company incurring a greater net loss, before consideration of restructuring and impairment charges, as compared to the same prior year period. Cash used in investing activities for the nine months ended August 2, 2009 was $23.9 million, which is comprised primarily of capital expenditure payments partially offset by a distribution received from the MP Mask joint venture. Cash used in financing activities of $16.5 million for the nine months ended August 2, 2009 was primarily comprised of net repayments of long-term borrowings.

The Company's credit facility was most recently amended on May 15, 2009, and includes the following changes: the maturity date of the credit facility was extended from July 30, 2010 to January 31, 2011; the Company's borrowing limit was reduced from $135 million to $130 million and will be further reduced to $110 million on January 31, 2010 (as compared to $100 million in the prior agreement). As part of this amendment, and along with the June 2009 term loan agreement, the cash interest rate on the outstanding debt balance is the greater of LIBOR or two percent, plus a spread, as defined. Effective with the amendment, payment-in-kind ("PIK") interest will also accrue on the following components of the outstanding debt balance: a) PIK interest of one-and-one-half percent, and increasing fifty basis points per quarter (commencing with the quarter beginning August 3, 2009), to a maximum of three-and-one-half percent on up to $50 million of the outstanding debt balance, and b) PIK interest of one-half percent increasing fifty basis points per quarter to a maximum of two-and-one-half percent on the remaining outstanding debt balance of the credit facility. The PIK interest, $0.3 million of which accrued during the three month period ended August 2, 2009, can be paid during the term of the credit facility or at maturity. As a result of this amendment, $10 million was reclassified on the May 3, 2009 balance sheet from current to long-term debt.

On May 19, 2009, the Company entered into a new lease agreement with Micron Technologies, Inc. (the lessor) for the U.S. Nanofab. Under the provisions of the new lease agreement, quarterly lease payments were reduced and, as compared to the prior lease agreement, will result in cash savings for the Company of approximately $6.5 million in fiscal 2009.

At August 2, 2009, the Company had capital commitments outstanding of approximately $41 million. The Company believes that its currently available resources, together with its capacity for growth, and its access to equity and other sources, will be sufficient to satisfy its currently planned capital expenditures, as well as its anticipated working capital requirements for the remainder of its 2009 fiscal year. However, the Company cannot assure that additional sources of financing would be available to the Company on commercially favorable terms should the Company's capital requirements exceed cash available from operations, existing cash, and cash available under its credit facility.

Cash Requirements

. . .