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ZIGO > SEC Filings for ZIGO > Form 10-Q on 12-Nov-2013All Recent SEC Filings

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Form 10-Q for ZYGO CORP


12-Nov-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

OVERVIEW

Zygo Corporation is a worldwide supplier of optical metrology instruments, precision optics and electro-optical design and manufacturing services, serving customers in the semiconductor capital equipment, research, defense, life sciences and industrial markets. We conduct the majority of our manufacturing in a 153,500 square foot facility in Middlefield, Connecticut, a 55,300 square foot facility in Richmond, California, and a 110,020 square foot facility in Tucson, Arizona.

Bookings for the first quarter of fiscal 2014 of $37.0 million were essentially flat when compared with bookings of $37.3 million in the first quarter of fiscal 2013 and a decrease of 12% compared with bookings of $42.0 million in the fourth quarter of fiscal 2013. Bookings for the Metrology Solutions segment were 63% of the total; Optical Systems segment bookings were 37%. Backlog was $86.7 million at September 30, 2013, compared with $65.1 million at September 30, 2012, and $89.8 million at June 30, 2013. Bookings and backlog consist of orders expected to be delivered and recognized as revenue within twelve months. Bookings are generally converted to revenue during the period between one month and one year from receipt of order.

During the first quarter of fiscal 2014, several large orders were received. One order, from a medical device company, represents a follow-on order for high performance lens assemblies and a second order, from a semiconductor equipment manufacturer, was for high precision assemblies. While overall orders and shipments related to the semiconductor industry continue to be muted, shipments planned for the second quarter of fiscal 2014 will benefit from the delivery of a significant portion of the multiple orders that were announced during the fourth quarter of fiscal 2013 for advanced metrology systems and optical components in support of 450 mm wafer systems development.

Current year results reflect tax expense at the full annual effective tax rate of 37%. The first quarter of fiscal 2014 tax expense was impacted by discrete tax items related to an error in recording deferred tax asset balances as of June 30, 2013 on state research and development credits and reserves for uncertain tax positions related to transfer pricing.

Critical Accounting Policies, Significant Judgments and Estimates

The discussion and analysis of our financial condition and results of operations are based upon our condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these condensed consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue, and expenses, and related disclosures at the date of our condensed consolidated financial statements. On an ongoing basis, management evaluates its estimates and judgments, including those related to bad debts, inventories, marketable securities, warranty obligations, income taxes, long-lived assets, share-based payments and accruals for health insurance. Management bases its estimates and judgments on historical experience and current market conditions and on various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. As discussed in Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations" of the Company's Annual Report on Form 10-K for the fiscal year ended June 30, 2013, management considers the Company's policies on revenue recognition and allowance for doubtful accounts; inventory valuation; other-than-temporary impairment of marketable securities; share-based compensation; warranty costs; accounting for income taxes; valuation of long-lived assets; and accruals for health insurance to be critical accounting policies due to the estimates, assumptions and application of judgment involved in each.

Adoption of new Accounting Pronouncements

In July 2013, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2013-10, Derivatives and Hedging:
Inclusion of the Fed Funds Effective Swap Rate (or Overnight Index Swap Rate) as a Benchmark Interest Rate for Hedge Accounting Purposes (a consensus of the FASB Emerging Issues Task Force). FASB Accounting Standards Codification ("ASC") 815 provides guidance on the risks that are permitted to be hedged in a fair value or cash flow hedge. Among those risks for financial assets and financial liabilities is the risk of changes in a hedged item's fair value or a hedged transaction's cash flows attributable to changes in the designated benchmark interest rate (referred to as interest rate risk). In the United States, currently only the interest rates on direct Treasury obligations of the U.S. government ("UST") and, for practical reasons, the London Interbank Offered Rate ("LIBOR") swap rate are considered benchmark interest rates. The ASU permits the Overnight Index Swap Rate ("OIS") to be used as a U.S. benchmark interest rate for hedge accounting purposes under FASB ASC 815, in addition to UST and LIBOR. The amendments also remove the restriction on using different benchmark rates for similar hedges. The amendments are effective prospectively for qualifying new or redesignated hedging relationships entered into on or after July 17, 2013. The adoption of this guidance in the first quarter of fiscal 2014 did not have a material impact on our condensed consolidated financial statements.

Recent Accounting Guidance Not Yet Adopted

In July 2013, FASB issued ASU No. 2013-11, Income Taxes: Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists (a consensus of the FASB Emerging Issues Task Force). FASB ASC 740, Income Taxes, does not include explicit guidance on the financial statement presentation of an unrecognized tax benefit when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists. There is diversity in practice in the presentation of unrecognized tax benefits in those instances. Some entities present unrecognized tax benefits as a liability unless the unrecognized tax benefit is directly associated with a tax position taken in a tax year that results in, or that resulted in, the recognition of a net operating loss or tax credit carryforward for that year, and the net operating loss or tax credit carryforward has not been utilized. Other entities present unrecognized tax benefits as a reduction of a deferred tax asset for a net operating loss or tax credit carryforward in certain circumstances. The objective of ASU 2013-11 is to eliminate that diversity in practice.

Under ASU 2013-11, an unrecognized tax benefit, or a portion of an unrecognized tax benefit, should be presented in the financial statements as a reduction to a deferred tax asset for a net operating loss carryforward, a similar tax loss, or a tax credit carryforward, except as follows. To the extent a net operating loss carryforward, a similar tax loss, or a tax credit carryforward is not available at the reporting date under the tax law of the applicable jurisdiction to settle any additional income taxes that would result from the disallowance of a tax position, or the tax law of the applicable jurisdiction does not require the entity to use, and the entity does not intend to use, the deferred tax asset for such purpose, the unrecognized tax benefit should be presented in the financial statements as a liability and should not be combined with deferred tax assets. The assessment of whether a deferred tax asset is available is based on the unrecognized tax benefit and deferred tax asset that exist at the reporting date and should be made presuming disallowance of the tax position at the reporting date. The amendments should be applied prospectively to all unrecognized tax benefits that exist at the effective date. Retrospective application is permitted. The amendments in this ASU are effective for fiscal years, and interim periods within those years, beginning after December 15, 2013. Early adoption is permitted. The effective date for Zygo is the first quarter of fiscal year 2015.

                             Results of Operations



Net Revenue by Segment



                                   Fiscal 2014                  Fiscal 2013
                                          Percentage                   Percentage
(Amounts in millions)        Amount        of Total       Amount        of Total

Quarter ended September 30

Metrology Solutions          $  26.4               66 %   $  25.9               64 %
Optical Systems                 13.7               34 %      14.3               36 %
Total                        $  40.1              100 %   $  40.2              100 %

Net revenue for the three months ended September 30, 2013 decreased $0.1 million compared with the prior year period, reflecting decreases in the Optical Systems segment revenue of 4%, partially offset by an increase in the Metrology Solutions segment of 2%.

The decrease in the Optical Systems segment revenue was primarily due to volume decreases in the extreme precision optics group of $1.9 million related to the sluggish semiconductor capital equipment market and in contract manufacturing of $0.6 million, partially offset by an increase in optical components net revenue of $1.9 million. The increase in the Metrology Solutions segment was due to volume increases of $4.4 million in semiconductor-related products, primarily in lithography products partially offset by the volume reduction in the instruments product lines related to several large systems shipments that occurred in the prior year period.

Revenue from one customer accounted for 14% of net revenue for the three months ended September 30, 2013 and is included in the Metrology Solutions segment, and revenue from another customer accounted for 12% of net revenue for the three months ended September 30, 2012 and is included in the Optical Systems segment.

Revenue denominated in U.S. dollars for the three months ended September 30, 2013 and 2012 were 68% and 79%, respectively. The balance of revenue was denominated in Euro, Yen and Yuan. Revenue denominated in foreign currency is exposed to foreign exchange fluctuations from the time customers are invoiced in foreign currency until collection occurs. Significant changes in the values of foreign currencies relative to the value of the U.S. dollar, or in the general economic conditions in our export markets, could materially impact the revenue from these markets and our consolidated financial position and results of operations.

Gross Margin by Segment



                                              Fiscal 2014                           Fiscal 2013
(Amounts in millions)               Gross Profit       Gross Margin       Gross Profit       Gross Margin

Quarter ended September 30

Metrology Solutions                 $        14.5                 55 %    $        14.3                 55 %
Optical Systems                               3.8                 28 %              3.2                 22 %
Total                               $        18.3                 46 %    $        17.5                 44 %

Gross margin for the three months ended September 30, 2013 was 46%, an increase of two percentage points from the comparable prior year period. Gross margin in the Metrology Solutions segment for the three months ended September 30, 2013 remained unchanged from the prior year period even as the product mix changed with a higher percentage of revenue being derived from lithography shipments in the current year. The gross margin of the Optical Systems segment for the three months ended September 30, 2013 increased by six percentage points compared with the prior year period due to stronger margins achieved on certain custom orders and to product mix.

Selling, General and Administrative Expenses ("SG&A")

                                     Fiscal 2014                     Fiscal 2013
                                          Percentage of                   Percentage of
(Amounts in millions)        Amount        Net Revenue       Amount        Net Revenue

Quarter ended September 30   $  10.0                  25 %   $   8.5                  21 %

SG&A increased in the three months ended September 30, 2013 by $1.5 million from the comparable prior year period, primarily due to costs associated with a terminated acquisition and increased employee-related costs, including group insurance costs.

Research, Development and Engineering Expenses ("RD&E")

                                      Fiscal 2014                     Fiscal 2013
                                           Percentage of                   Percentage of
(Amounts in millions)         Amount        Net Revenue       Amount        Net Revenue

Quarter ended September 30,   $   5.0                  12 %   $   4.6                  11 %

RD&E for the three months ended September 30, 2013 increased by $0.4 million compared with the prior year period primarily due to increases in spending in semiconductor-related projects and costs associated with the instruments product lines, including the Nexview product introduced during the first quarter.

Other Income (Expense)



                                     Fiscal 2014                       Fiscal 2013
                                           Percentage of                     Percentage of
(Amounts in millions)         Amount        Net Revenue       Amount          Net Revenue

Quarter ended September 30   $    0.3                   1 %   $     -                     0 %

Other income for the three months ended September 30, 2013 consisted primarily of an adjustment to reduce the purchase discount liability.

Income Tax Expense

Fiscal 2014 Fiscal 2013
(Amounts in millions) Amount Tax Rate % Amount Tax Rate %

Quarter ended September 30 $ 3.2 85 % $ 1.4 32 %

Income tax expense for the three months ended September 30, 2013 resulted from an annual effective tax rate of 37% and discrete tax items primarily related to an adjustment to correct an error in recording deferred tax asset balances as of June 30, 2013 related to state research and development credits of $3.5 million, which are available for use to offset future state taxes on capital, partially offset by a reduction of reserves against uncertain tax positions of $1.9 million primarily related to transfer pricing. Income tax expense for the three months ended September 30, 2012 included a tax benefit of $0.4 million to correct an error in recording deferred tax asset balances as of June 30, 2012 relating to fixed assets and foreign tax credits.

TRANSACTIONS WITH SHAREHOLDER

Revenue from Canon Inc., a shareholder, and Canon Sales Co., Inc., a distributor of certain of our products in Japan and a subsidiary of Canon Inc. (collectively referred to as "Canon"), amounted to $3.3 million and $2.8 million (8% and 7% of net revenue, respectively) for the three months ended September 30, 2013 and 2012, respectively. Selling prices of products sold to Canon are based, generally, on the terms customarily given to distributors. At September 30, 2013 and June 30, 2013, there were $1.2 million and $1.8 million, respectively, of trade accounts receivable from Canon.

LIQUIDITY AND CAPITAL RESOURCES

We assess our liquidity in terms of our ability to generate cash to fund operating, investing and financing activities. Our principal source of liquidity is cash reserves and operating cash flows. In addition to operating cash flows, other significant factors that could affect our overall management of liquidity include: capital expenditures, customer credit requirements, investments in businesses and the availability of bank lines of credit.

At September 30, 2013, cash and cash equivalents were $84.5 million, an increase of $1.4 million from $83.1 million at June 30, 2013. As of September 30, 2013, there are less than $0.1 million in standby letters of credit outstanding. These letters of credit are used primarily overseas to cover certain warranty periods or to cover future product shipments, expiring at varying dates through January 2014. Cash in a money market account is invested primarily in U.S. government securities. We do not believe there is any risk to liquidity in the money market account, nor are there currently any limits on redemptions.

Cash provided by operating activities for the three months ended September 30, 2013 of $5.2 million was primarily due to net earnings and non-cash adjustments of $7.3 million (primarily due to deferred taxes of $4.0 million) and decreased receivables of $1.9 million, partially offset by a decrease in accounts payable, accrued expenses and taxes payable of $3.5 million. Cash provided by operating activities for the three months ended September 30, 2012 of $0.3 million was primarily due to net earnings and non-cash adjustments of $4.0 million and reductions to receivables of $1.9 million, mostly offset by decreases in accounts payable, accrued expenses and taxes payable of $4.3 million, and revenue recognized in excess of billings on uncompleted contracts of $2.1 million.

Cash used for investing activities for the three months ended September 30, 2013 of $3.3 million resulted from the purchase of property, plant and equipment of $3.3 million, of which $1.7 million was for building improvements. Cash used for investing activities for the three months ended September 30, 2012 of $4.2 million was due primarily to the purchase of the noncontrolling interest of ZygoLOT for 2.5 million or $3.2 million.

Cash used for financing activities for the three months ended September 30, 2013 was $1.0 million, primarily to repurchase restricted stock of $1.1 million. Cash used for financing activities for the three months ended September 30, 2012 was $1.5 million, primarily related to dividend payment to noncontrolling interest of $1.1 million and repurchase of restricted stock of $1.1 million.

Currently, the Company has no outstanding bank debt and does not pay a dividend. In the future, if the need for debt or credit lines arises, there is no assurance that we would be able to secure such financing. We believe we have sufficient cash flows from operations and cash reserves to maintain adequate amounts of liquidity and to meet our future liquidity requirements for at least the next twelve months.

OFF-BALANCE SHEET ARRANGEMENTS

We have not created, and are not party to, any special-purpose or off-balance sheet entities for the purpose of raising capital, incurring debt, or operating parts of our business that are not consolidated into our financial statements. We have not guaranteed any obligations of a third party.

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