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GTAT > SEC Filings for GTAT > Form 10-Q on 7-Aug-2014All Recent SEC Filings




Quarterly Report

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

Cautionary Statements Concerning Forward-Looking Statements This Quarterly Report on Form 10-Q contains "forward-looking statements" that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect, could cause our results to differ materially from those expressed or implied by such forward-looking statements. The statements contained in this Quarterly Report on Form 10-Q that are not purely historical are "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Forward-looking statements are identified by the use of words such as, but not limited to, "anticipate," "believe," "continue," "could," "estimate," "prospects," "forecasts," "expect," "intend," "may," "will," "plan," "target," and similar expressions or variations intended to identify forward-looking statements and include statements about our expectations of future periods with respect to, among other things:
• the Company expects to incur production start-up expenses related to the Arizona facility in the near term;

•         based on the Company's operational plans and financial forecasts, the
          Company expects to maintain compliance with the operating metrics and
          financial covenants in the Prepayment Agreement and management believes
          that the Company will have sufficient cash resources to fund operations
          for at least the next twelve months;

•         the Company may terminate purchase commitments for DSS inventory
          components in fiscal 2014 and beyond and the Company will negotiate
          with the vendors to determine the amount payable upon termination of
          these purchase orders as applicable;

•         the Company expects to incur additional restructuring charges (and
          information regarding the amount, nature and timing of such charges);

•         legal proceedings and claims to which the Company is subject are not
          expected to have a material effect on the Company's financial position,
          results of operations or cash flows;

•         the Company does not believe that it is probable that any material
          amounts will be paid under indemnification provisions to which it is

•         the Company intends to settle the principal amounts of its 2017 Notes
          and 2020 Notes in cash;

•         the Company will continue to offer ASF units for sale for certain

•         the Company expects to be able to commence sapphire material production
          in volume at the Arizona facility;

•         there is additional installation of the necessary growth and related
          equipment in Mesa, as well as further process tuning, before the ramp
          up will be completed;

• future capital expenditure rates and costs at the Mesa facility;

•         upon completion of the ramp up the Company no longer will expect to
          incur the same level of capital expenditures and production ramp up

•         until the production ramp-up is completed in Mesa, the Company expects
          that equipment sales in the sapphire segment will continue to account
          for a majority of sapphire revenues;

•         all information under the heading "Factors Affecting the Results of Our

• timing of delivery of our equipment products;

• Company expects that most of its customers will substantially perform on their contractual obligations;

• the Company will supply sapphire material from its Mesa facility;

•         the Company expects to continue to invest in new research and
          development projects and attempt to expand certain existing product
          bases and introduce new products;

• statements regarding our ability to realize tax assets;

•         the Company plans to vigorously defend all tax positions taken in
          connection with any tax filings that are under review;

•         the Company believes that its existing cash, customer deposits and
          prepayment installment proceeds will be sufficient to satisfy working
          capital requirements, commitments for capital expenditures and other
          cash requirements for at least the next twelve months;

• Company's ability to hold investments until maturity;

• market risk from changes in exchange rates;

•         the Company's management is committed to continuous improvement of
          internal control processes and will continue to diligently review the
          Company's reporting controls and procedures the Company expects that
          its remediation efforts will continue throughout fiscal year 2014;

•         the ASF systems (and other assets) in the Company's Arizona sapphire
          material production facility are expected to be used exclusively to
          supply sapphire material under the MDSA;

•         the HiCz™ tool is designed to enable the production of high efficiency
          monocrystalline solar ingots (and is targeted at improving the ingot
          performance compared to that of multicrystalline silicon materials);

• expected capital expenditures for fiscal year 2014;

• future contingent payment obligations; and

•         all information regarding future product releases (including HiCz,
          Hyperion ion implanted, and PVD equipment and the performance metrics
          and benefits of those tools);

These statements are based on the beliefs and assumptions of our management based on information currently available to management. Such forward-looking statements are subject to risks, uncertainties and other important factors that could cause actual results and the timing of certain events to differ materially from future results expressed or implied by such forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, factors discussed in Part I, "Item 1A. Risk Factors" in our Annual Report on Form 10-K for the year ended December 31, 2013 and Part II, Item 1A "Risk Factors" and included elsewhere in this Quarterly Report on Form 10-Q. Forward-looking statements speak only as of the date of this Quarterly Report on Form 10-Q (or other date as specified in this Quarterly Report on Form 10-Q) or, as of the date given if provided in another filing with the SEC. We undertake no obligation, and disclaim any obligation, to publicly update or review any forward-looking statements to reflect events or circumstances after the date of such statements.
Company Overview
GT Advanced Technologies Inc. is a leading diversified technology company producing advanced materials and innovative crystal growth equipment for the global consumer electronics, power electronics, solar and LED industries. Our products are designed to accelerate the adoption of advanced materials that improve performance and lower the cost of manufacturing. References herein to "we," "us," "our" and "Company" are to GT Advanced Technologies Inc., operating through its subsidiaries.
We operate through three business segments: our sapphire business, our polysilicon business and our photovoltaic, or PV, business. Sapphire Business
Our sapphire business manufactures and sells sapphire material, sapphire growth equipment and certain other related sapphire technologies. Our sapphire material is manufactured using our advanced sapphire crystal growth furnace, or ASF system, at our facilities in Salem, Massachusetts and Mesa, Arizona. The facility in Mesa is, however, still in the production ramp-up phase. Our new sapphire material production operations in Arizona are intended to be used to provide sapphire materials for Apple Inc. We will continue to offer our ASF systems for sale to sapphire manufacturers in certain select markets, as permitted under our arrangements with Apple, including the LED industry and for a range of other applications. In addition, we recognized revenue in the three month period ended June 28, 2014, for the first time, in connection with the sale of specialty high temperature refractory metal furnaces. Polysilicon Business
Our polysilicon business manufactures and sells silicon deposition reactors, or SDRs, used to react gases at high temperatures to produce polysilicon, the key raw material used in silicon-based solar wafers and cells, while also offering

engineering services and related equipment. In addition, the polysilicon business sells hydrochlorination technology and equipment which is utilized to convert silicon tetrachloride into trichlorosilane (TCS), which is used as seed material in the manufacture of high purity silicon. Hydrochlorination technology is designed to improve the efficiency and lower the costs of polysilicon production.
Photovoltaic Business
Our PV business manufactures and sells directional solidification, or DSS, crystallization furnaces and ancillary equipment used to cast crystalline silicon ingots by melting and cooling polysilicon in a precisely controlled process. These ingots are used to make photovoltaic wafers which are, in turn, used to make solar cells. In addition, we are currently developing an equipment offering based on the continuously-fed Czochralski (HiCz™) growth technology which is targeted at improving the ingot performance compared to that of multicrystalline silicon materials.

Recent Developments

Agreements with Apple Inc.

On October 31, 2013, GTAT Corporation (or GTAT) and Apple Inc. entered into the Master Development and Supply Agreement ("MDSA"), pursuant to which GTAT Corporation will supply sapphire material to Apple. GTAT has granted Apple certain intellectual property rights in connection with its sapphire growth technologies and the right to purchase a license for certain other intellectual property of GTAT. Pursuant to the terms of the MDSA, GTAT granted exclusive rights to Apple under which it agreed to not sell sapphire material or related sapphire growth equipment or technologies for use in certain applications. While the MDSA specifies the Company's minimum and maximum supply commitments, Apple has no minimum purchase requirements under the terms of the MDSA.

On October 31, 2013, GTAT also entered into a Prepayment Agreement with Apple pursuant to which GTAT is eligible to receive $578 million, which we refer to as the Prepayment Amount, in four separate installments. Receipt of such installments is subject to meeting certain conditions, including technical and performance metrics. The Prepayment Amount is to be used exclusively to purchase components necessary for the manufacture of ASF systems and related equipment principally for use at the Arizona facility leased from Apple. The ASF systems and related equipment will be used exclusively to supply sapphire material to Apple, subject to certain exceptions under which such sapphire can be provided to other parties. GTAT is required to repay the Prepayment Amount ratably (on a quarterly basis) over a five year period beginning in January 2015, either as a credit against amounts due from Apple purchases of sapphire goods under the MDSA or as a direct cash payment. The Prepayment Amount is non-interest bearing. The Company's obligation to repay the Prepayment Amount may be accelerated under certain circumstances, including if the Company does not meet certain financial metrics or meet certain technical and performance covenants. The Company's obligations under the Prepayment Agreement are secured by (i) the assets held by GT Equipment Holdings LLC (a wholly-owned subsidiary of the Company and the legal owner of the ASF systems and related equipment used in the Arizona facility that were purchased with the Prepayment Amount) and (ii) a pledge of all of the equity interests of GT Equipment Holdings LLC. Due to the debt-like characteristics of the Prepayment Amount,

we have determined the installments of the Prepayment Amount that we receive should be recorded as debt at fair value on the date each installment is received. The difference between the fair value of the debt and the Prepayment Amount proceeds received ("debt discount") is consideration under the MDSA and accounted for as deferred revenue. The debt discount is being amortized to interest expense over a 6-year period ending December 2019, and interest expense of $10,824 was recognized in the six months ended June 28, 2014. The first three installments of $225 million, $111 million, and $103 million were received on November 15, 2013, January 23, 2014, and April 4, 2014, respectively. As of June 28, 2014, $350.6 million is reflected within Prepayment Obligation and $100,795 is recorded as deferred revenue.

On October 31, 2013, GTAT also entered into a lease agreement (the "Arizona Lease") with an affiliate of Apple in order to lease a facility in Mesa, Arizona that GTAT will use for the purpose of manufacturing the sapphire material under the MDSA.

In the eight months from October 31, 2013, when we entered into the MDSA, facility lease and related agreements with Apple Inc. to June 28, 2014, we have expended significant capital resources in order convert the 1.4 million square foot building in Mesa, Arizona from a shell to a volume sapphire growth and fabrication facility. In connection with our sapphire material operations in Mesa, we have incurred approximately $524 million related to capital expenditures, primarily to obtain sapphire material growth and related production equipment. During the three and six months ended June 28, 2014, the Company incurred significant costs in connection with inventory losses and production inefficiencies as a result of the qualification of sapphire growth and fabrication equipment and the establishment of related production processes. The ramp up of the facility over this eight month period entailed significant infrastructure build-out and expansion of the work force, in addition to the purchase, installation and operation of the sapphire growth and fabrication equipment.

We have experienced production inefficiencies in Mesa, including costs related to: production process tuning necessary to generate saleable material; qualification of consumable materials that are necessary for the operation of the equipment at the site and the qualification of the supply chain for this operation. Due to these issues, the Mesa operation is operating at a per unit and total cost structure substantially above the targeted cost structure for the facility. During the three months ended June 28, 2014, we had write-downs of inventory to net realizable value, losses on produced inventory not deemed to be saleable and inventory spoilage as a result of plant construction related interruptions.

There is still additional installation of the necessary growth and related equipment, as well as further process tuning, before the ramp up will be completed. As expected, the capital expenditures in connection with purchasing and installing of growth systems and the commencement of volume operations have resulted in significant operating costs. Such operating costs and capital expenditures have had a material impact on our financial position at June 28, 2014 and our financial results for the three and six months ended June 28, 2014. While we do expect the rate of capital expenditures to decrease in the third and fourth quarters of fiscal 2014 as compared to the quarter ended June 28, 2014, we will continue to incur significant costs to install and qualify the balance of the equipment that are required to be operating in the Mesa facility. The increase in these capital expenses and other costs, and the overall material impact on our financial statements, were a result of the transition from an equipment business with low capital requirements to the rapid development of our material manufacturing operations which requires significant expenses to commence operations on the scale required under the MDSA with Apple. Upon completion of the ramp up we no longer expect to incur the level of capital expenditures and production ramp up costs as described above.

As noted above, Apple is not under any contractual obligation to purchase sapphire material from the Mesa facility and the MDSA does not specify whether or when sapphire materials will be incorporated into any product. Our obligation to commence repayment of the Prepayment Amount will begin in January 2015, regardless of the quantities of sapphire material purchased by Apple. Until the production ramp up is completed, we expect that equipment sales in our sapphire segment will continue to account for a majority of our sapphire revenues.

Factors Affecting the Results of Our Operations The following are some of the factors, trends and events that we expect will affect our future results of operations:

• As a result of the agreements that we entered into with Apple Inc. in October 2013, our sapphire business continues to undergo a transition from being principally a provider of crystal growth equipment to being a provider of both crystal growth equipment and sapphire materials. We continue to make progress on the build-out and ramp up of production of our principal sapphire material manufacturing facility in Mesa. It is our goal to improve production efficiencies to achieve the targeted cost structure, but we expect to continue to incur sapphire production ramp up costs in the near term. We also expect to continue to experience low or negative margins until the ramp up is completed on this operation. Additionally, we expect that we will continue to make significant capital investments in the facility during the remainder of fiscal 2014 in order to bring the facility to a volume production capacity. The success of our sapphire materials business will be driven, in large part, by the continued funding of Apple pursuant to the Prepayment Agreement (which the final installment could be halted and/or repayment accelerated under certain circumstances, including if we do not meet certain financial metrics or meet certain technical and performance covenants and requirements), our ability to timely commence full-scale, volume operations at our Arizona facility and Apple purchasing sapphire materials from us in adequate quantities, among other factors. Apple is under no obligation to purchase any sapphire materials from us. If Apple does not purchase a sufficient amount of sapphire materials, we may be required to repay all or a portion of the $578 million prepayment using our own cash resources with repayment terms over the five year period beginning in January 2015.

• Demand for our polysilicon and PV equipment products and services are driven by end-user demand for solar power and demand for our sapphire equipment and materials which is driven by end-user demand for sapphire material, including LED-quality material. There has been an extended period of excess capacity that has led to solar and sapphire material manufacturers building inventory. In order for our customers to decrease inventories that have been built up, we believe that companies selling polysilicon, solar cells and wafers and sapphire material, including some of our equipment customers, during 2012 and 2013, had to sell at prices that provided little or no margin. While there has been some demand for polysilicon, solar cells and wafers and sapphire material, and even increased demand at certain periods, it has not been sufficient to eliminate the existing excess capacity and inventory. At the

end of 2013 and in early 2014, there were indications that the PV market was beginning to exhibit signs of greater demand by end users, including in Japan. In spite of these positive indicators, we expect that demand for our PV and polysilicon capital equipment may remain limited during the remainder of 2014. Sapphire markets are also showing positive indicators of growth and we expect that the demand for additional sapphire equipment may result in sales even earlier than the expected increased demand for PV and polysilicon equipment.

• The current limited demand for our PV and polysilicon equipment products and the excess capacity in the end markets our equipment customers sell into is exacerbated by trade tensions between China and the U.S. and certain other jurisdictions. We believe that certain of our customers are delaying any purchasing or expansion plans until these various trade disputes are resolved and we do not expect such resolution to take place in the immediate future and, in fact, expect that they will grow more adversarial as certain market participants challenge the effectiveness and appropriateness of various tariff structures instituted by the applicable authorities.

• We have continued to make investments in developing new technology, such as our HiCz puller, silicon carbide furnace, GT specialty high temperature refractory metal furnace and PVD tools, Merlin solar cell technology and our Hyperion™ ion implanter. During the fiscal year ending December 31, 2014, we will continue to invest in these technologies, although we do not expect to recognize any significant revenue from these investments in 2014.

In addition, our results of operations are affected by a number of other factors including the availability, quality and market price of polysilicon, alumina material, helium and certain process consumables, availability of raw materials, foreign exchange rates, interest rates, commodity prices (including molybdenum, steel and graphite prices) and macroeconomic factors, including the availability of capital that may be needed by our customers, as well as political, regulatory and legal conditions in the international markets in which we conduct business, including China.

Order Backlog
Our order backlog primarily consists of amounts due under written contractual commitments and signed purchase orders for PV, polysilicon and sapphire equipment not yet shipped to customers and deferred revenue (which represents amounts for equipment that has been shipped to customers but not yet recognized as revenue). Contracts in our order backlog for PV, polysilicon and sapphire equipment generally require the customer to either post a standby letter of credit in our favor and/or make advance payment prior to shipment of equipment. Order backlog reported in this Quarterly Report on Form 10-Q excludes any amounts attributable to sapphire materials.

From the date of a written commitment, we generally would expect to deliver PV and sapphire equipment products over a period ranging from three to nine months and polysilicon products over a period ranging from twelve to eighteen months, however, in certain cases revenue may be recognized over longer periods. Although most of our orders require substantial non-refundable deposits, our order backlog as of any particular date should not be relied upon as indicative of our revenues for any future period.

If a customer fails to perform its outstanding contractual obligations on a timely basis, and such failure continues after notice of breach and a cure period, we may terminate the contract. Our contracts generally do not contain cancellation provisions, and in the event of a customer breach the customer may be liable for cash damages resulting from the material breach of the terms of the agreement. During the six months ended June 28, 2014, we have identified certain contracts in our order backlog that have not been terminated or modified, however, we expect that the customers associated with these contracts will not fulfill their obligations under these respective contracts. As a result, during the six months ended June 28, 2014, we modified or removed contracts from our reported order backlog resulting in a $1.9 million reduction (100% of the reduction was attributable to one contract that has not been legally terminated or modified, but we have removed the amount from our reported backlog). During the fiscal year ended December 31, 2013, we terminated, modified or removed contracts resulting in a $415.6 million reduction in our order backlog (96% of the reduction was attributable to four contracts, of which $33.1 million related to contracts that have not been legally terminated or modified). During the fiscal year ended December 31, 2013, we recorded revenues of $19.3 million from terminated contracts.

Although we have a reasonable expectation that most of our customers will substantially perform on their contractual obligations, we attempt to monitor those contracts that we believe to be at risk. Due to industry market conditions, as noted

above, we have removed certain amounts from our order backlog that are attributable to contracts that we do not believe our customers will fulfill (but which have not been formally terminated or modified).

We conduct negotiations with certain customers who have requested that we extend their delivery schedules or make other contract modifications, or who have not provided letters of credit or made payments in accordance with the terms of their contracts. We engage in a certain level of these negotiations in the ordinary course. We monitor the effect, if any, that these negotiations may have on our future revenue recognition. If we cannot come to an agreement with these customers, or if we believe our customers cannot or will not perform their obligations, our order backlog could be reduced. Other customers with contracts in our order backlog that are not currently under negotiation, or that we do not currently consider to be at risk, may approach us with similar requests in the future, or may fail to provide letters of credit or to make payments when due. If we cannot come to an agreement with these customers, our order backlog could be further reduced. If we do come to an agreement with customers on extending delivery schedules, the timing of expected revenue recognition could be pushed into periods later than we had anticipated.

The table below sets forth our order backlog as of June 28, 2014 and December 31, 2013 (dollars in millions):

                             June 28, 2014                   December 31, 2013
                        Amount       % of Backlog          Amount         % of Backlog

Photovoltaic Segment $      3                1 %     $      11                    2 %
Polysilicon Segment       292               46 %           299                   50 %
Sapphire Segment          333               53 %           292                   48 %
Total                $    628              100 %     $     602                  100 %

Our order backlog as of June 28, 2014, included deferred revenue of $64.9 million, of which $0.7 million related to our PV business, $53.9 million related to our polysilicon business and $10.3 million related to our sapphire business. Cash received in deposits related to our order backlog where deliveries have not yet occurred was $101.3 million as of June 28, 2014.

As of June 28, 2014, our order backlog consisted of contracts with five PV customers, contracts with eleven polysilicon customers, and contracts with seventeen sapphire equipment customers. Our order backlog as of June 28, 2014, included $261.3 million, $143.0 million and $70.2 million attributed to three different customers, each of which individually represents 42%, 23% and 11%, . . .

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