Lam Research Corporation
LAM RESEARCH CORP (Form: 10-Q, Received: 10/25/2016 06:01:47)
Table of Contents


 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
   ___________________________________________________________
FORM 10-Q
  ___________________________________________________________
  (Mark One)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 25, 2016
or  
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from                      to                     
Commission file number 0-12933  
___________________________________________________________
LAM RESEARCH CORPORATION
(Exact name of registrant as specified in its charter)
___________________________________________________________
Delaware
 
94-2634797
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
4650 Cushing Parkway
Fremont, California
 
94538
(Address of principal executive offices)
 
(Zip Code)
(510) 572-0200
(Registrant’s telephone number, including area code)
__________________________________________________

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes   x     No   ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes   x     No   ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act:
Large accelerated filer
 
x
  
Accelerated filer
 
¨
 
 
 
 
Non-accelerated filer
 
¨   (Do not check if a smaller reporting company)
  
Smaller reporting company
 
¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes   ¨     No   x
As of October 20, 2016 , the Registrant had 162,829,959  shares of common stock outstanding.
 


Table of Contents



LAM RESEARCH CORPORATION
TABLE OF CONTENTS
 
 
 
Page No.
 
 
 
 
 
Item 1.
 
 
 
 
 
 
Item 2.
Item 3.
Item 4.
 
 
 
 
 
 
 
 
Item 1.
Item 1A.
Item 2.
Item 3.
Item 4.
Item 5.
Item 6.



Table of Contents


PART I. FINANCIAL INFORMATION

ITEM 1.
Financial Statements

LAM RESEARCH CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)
(unaudited)
 
 
Three Months Ended
September 25,
2016
 
September 27,
2015
Revenue
$
1,632,419

 
$
1,600,043

Cost of goods sold
916,222

 
877,680

Gross margin
716,197

 
722,363

Research and development
235,240

 
234,209

Selling, general and administrative
165,010

 
152,726

Total operating expenses
400,250

 
386,935

Operating income
315,947

 
335,428

Other expense, net
(23,154
)
 
(27,121
)
Income before income taxes
292,793

 
308,307

Income tax expense
(28,958
)
 
(19,628
)
Net income
$
263,835

 
$
288,679

Net income per share:
 
 
 
Basic
$
1.64

 
$
1.82

Diluted
$
1.47

 
$
1.66

Number of shares used in per share calculations:
 
 
 
Basic
160,607

 
158,352

Diluted
180,017

 
174,374

Cash dividend declared per common share
$
0.30

 
$
0.30


3



Table of Contents


LAM RESEARCH CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(in thousands)
(unaudited)

 
 
Three Months Ended
September 25,
2016
 
September 27,
2015
Net income
$
263,835

 
$
288,679

Other comprehensive income (loss), net of tax:
 
 
 
Foreign currency translation adjustment
4,501

 
(7,822
)
Cash flow hedges:
 
 
 
Net unrealized losses during the period
(2,421
)
 
(544
)
Net losses reclassified into earnings
11,950

 
341

 
9,529

 
(203
)
Available-for-sale investments:
 
 
 
Net unrealized (losses) gains during the period
(2,723
)
 
2,748

Net losses reclassified into earnings
903

 
20

 
(1,820
)
 
2,768

Defined benefit plans, net change in unrealized component
123

 
95

Other comprehensive loss, net of tax
12,333

 
(5,162
)
Comprehensive income
$
276,168

 
$
283,517


See Notes to Condensed Consolidated Financial Statements


4

Table of Contents


LAM RESEARCH CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except per share data)
 
 
September 25,
2016
 
June 26,
2016
(unaudited)
 
(1)
ASSETS
 
 
 
Cash and cash equivalents
$
5,861,701

 
$
5,039,322

Investments
1,352,775

 
1,788,612

Accounts receivable, less allowance for doubtful accounts of $7,124 as of September 25, 2016 and $5,155 as of June 26, 2016
1,290,317

 
1,262,145

Inventories
931,581

 
971,911

Prepaid expenses and other current assets
162,628

 
151,160

Total current assets
9,599,002

 
9,213,150

Property and equipment, net
649,587

 
639,608

Restricted cash and investments
255,640

 
250,421

Goodwill
1,385,838

 
1,386,276

Intangible assets, net
526,593

 
564,921

Other assets
219,702

 
209,939

Total assets
$
12,636,362

 
$
12,264,315

LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
Trade accounts payable
$
349,743

 
$
348,199

Accrued expenses and other current liabilities
765,655

 
772,910

Deferred profit
417,855

 
349,199

Current portion of convertible notes and capital leases
952,999

 
947,733

Total current liabilities
2,486,252

 
2,418,041

Senior notes, convertible notes, and capital leases, less current portion
3,378,179

 
3,378,129

Income taxes payable
241,671

 
231,514

Other long-term liabilities
142,910

 
134,562

Total liabilities
6,249,012

 
6,162,246

Commitments and contingencies

 

Temporary equity, convertible notes
202,467

 
207,552

Stockholders’ equity:
 
 
 
Preferred stock, at par value of $0.001 per share; authorized - 5,000 shares, none outstanding

 

Common stock, at par value of $0.001 per share; authorized, 400,000 shares; issued and outstanding, 161,706 shares at September 25, 2016 and 160,201 shares at June 26, 2016
162

 
160

Additional paid-in capital
5,627,839

 
5,572,898

Treasury stock, at cost, 100,767 shares at September 25, 2016 and 101,071 shares at June 26, 2016
(4,421,665
)
 
(4,429,317
)
Accumulated other comprehensive loss
(57,000
)
 
(69,333
)
Retained earnings
5,035,547

 
4,820,109

Total stockholders’ equity
6,184,883

 
5,894,517

Total liabilities and stockholders’ equity
$
12,636,362

 
$
12,264,315

 
(1) Derived from audited financial statements

See Notes to Condensed Consolidated Financial Statements


5

Table of Contents


LAM RESEARCH CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
 
 
Three Months Ended
September 25,
2016
 
September 27,
2015
CASH FLOWS FROM OPERATING ACTIVITIES:
 
 
 
Net income
$
263,835

 
$
288,679

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
74,562

 
70,590

Deferred income taxes
7,633

 
(5,563
)
Equity-based compensation expense
38,595

 
35,774

Income tax benefit on equity-based compensation plans

 
3,545

Excess tax benefit on equity-based compensation plans

 
(3,572
)
Amortization of note discounts and issuance costs
6,830

 
9,831

Other, net
16,807

 
10,011

Changes in operating assets and liabilities
64,962

 
39,702

Net cash provided by operating activities
473,224

 
448,997

CASH FLOWS FROM INVESTING ACTIVITIES:
 
 
 
Capital expenditures and intangible assets
(41,979
)
 
(49,454
)
Purchases of available-for-sale securities
(38,149
)
 
(358,854
)
Sales and maturities of available-for-sale securities
469,899

 
330,651

Transfer of restricted cash and investments
(5,219
)
 

Other, net
(7,800
)
 
(1,500
)
Net cash provided by (used for) investing activities
376,752

 
(79,157
)
CASH FLOWS FROM FINANCING ACTIVITIES:
 
 
 
Principal payments on long-term debt and capital lease obligations and payments for debt issuance costs
(371
)
 
(96
)
Proceeds from issuance of long-term debt, net of issuance costs

 

Excess tax benefit on equity-based compensation plans

 
3,572

Treasury stock purchases
(1,854
)
 
(98,385
)
Dividends paid
(48,052
)
 
(47,659
)
Reissuance of treasury stock related to employee stock purchase plan
19,320

 
19,245

Proceeds from issuance of common stock
1,459

 
377

Other, net
(10
)
 
(300
)
Net cash (used for) provided by financing activities
(29,508
)
 
(123,246
)
Effect of exchange rate changes on cash and cash equivalents
1,911

 
(3,808
)
Net increase in cash and cash equivalents
822,379

 
242,786

Cash and cash equivalents at beginning of period
5,039,322

 
1,501,539

Cash and cash equivalents at end of period
$
5,861,701

 
$
1,744,325

Schedule of noncash transactions:


 


Accrued payables for stock repurchases

 
7,624

Accrued payables for capital expenditures
11,631

 
6,761

Dividends payable
48,397

 
47,896

Transfers of inventory to (from) property and equipment, net
13,419

 
(779
)

See Notes to Condensed Consolidated Financial Statements


6

Table of Contents


LAM RESEARCH CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
September 25, 2016
(Unaudited)
NOTE 1 — BASIS OF PRESENTATION
The accompanying unaudited Condensed Consolidated Financial Statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and the instructions to Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting only of normal recurring adjustments) considered necessary for a fair presentation have been included. The accompanying unaudited Condensed Consolidated Financial Statements should be read in conjunction with the audited Consolidated Financial Statements of Lam Research Corporation (“Lam Research” or the “Company”) for the fiscal year ended June 26, 2016 , which are included in the Company’s Annual Report on Form 10-K as of and for the year ended June 26, 2016 (the “2016 Form 10-K”). The Company’s reports on Form 10-K, Form 10-Q and Form 8-K are available online at the Securities and Exchange Commission website on the Internet. The address of that site is www.sec.gov . The Company also posts its reports on Form 10-K, Form 10-Q and Form 8-K on its corporate website at http://investor.lamresearch.com . The content on any website referred to in this Form 10-Q is not a part of or incorporated by reference in this Form 10-Q unless expressly noted.
The condensed consolidated financial statements include the accounts of Lam Research and its wholly-owned subsidiaries. All intercompany accounts and transactions have been eliminated in consolidation. The Company’s reporting period is a 52/53-week fiscal year. The Company’s current fiscal year will end June 25, 2017 and includes 52  weeks. The quarters ended September 25, 2016 (the “September 2016 quarter”) and September 27, 2015 (the “September 2015 quarter”) included 13 weeks.
NOTE 2 — RECENT ACCOUNTING PRONOUNCEMENTS
In May 2014, the FASB released Accounting Standards Update (“ASU”) 2014-9, “Revenue from Contracts with Customers” to supersede nearly all existing revenue recognition guidance under GAAP. The core principle of the standard is to recognize revenues when promised goods or services are transferred to customers in an amount that reflects the consideration that is expected to be received for those goods or services. The new standard defines a five step process to achieve this core principle and, in doing so, it is possible more judgment and estimates may be required within the revenue recognition process than required under existing GAAP, including identifying performance obligations in the contract, estimating the amount of variable consideration to include in the transaction price and allocating the transaction price to each separate performance obligation.
In April 2016, FASB released ASU 2016-10, "Revenue from Contracts with Customers." The amendment clarifies guidance in ASU 2014-09, “Revenue from Contracts with Customers” to improve guidance on criteria in assessing whether promises to transfer goods and services are separately identifiable and improve the understanding of the licensing implementation guidance.
In May 2016, FASB released ASU 2016-12, "Revenue from Contracts with Customers." which also clarifies guidance in ASU 2014-09 on assessing collectability, non-cash consideration, presentation of sales tax and completed contracts and contract modification in transition.
The Company is required to adopt these standards starting in the first quarter of fiscal year 2019 using either of two methods: (i) retrospective to each prior reporting period presented with the option to elect certain practical expedients as defined within the standard; or (ii) retrospective with the cumulative effect of initially applying the standard recognized at the date of initial application and providing certain additional disclosures as defined per the standard. The Company has not yet selected a transition method, and is in the process of determining the impact that the new standard will have on its Condensed Consolidated Financial Statements. The Company does not plan to early adopt this standard.
In April 2015, the FASB released ASU 2015-3, “Interest – Imputation of Interest.” The amendment requires that debt issuance costs related to recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. The Company adopted this standard in the September 2016 quarter, with retrospective application to the June 26, 2016 Condensed Consolidated Balance Sheet. The adoption did not have a material impact to the Condensed Consolidated Financial Statements.
In September 2015, the FASB released ASU 2015-16, “Business Combinations - Simplifying the Accounting for Measurement-Period Adjustments,” which eliminates the requirement to restate prior period financial statements for

7





measurement period adjustments. Instead, the cumulative impact of measurement period adjustments, including the impact on prior periods, is required to be recognized in the reporting period in which the adjustment is identified. The Company adopted this standard in the September 2016 quarter, with no impact to the Condensed Consolidated Financial Statements.
In November 2015, the FASB issued ASU 2015-17, “Balance Sheet Classification of Deferred Taxes.” This ASU amends existing guidance to require that deferred income tax assets and liabilities be classified as non-current in a classified balance sheet, and eliminates the prior guidance which required an entity to separate deferred tax assets and liabilities into a current amount and a non-current amount in a classified balance sheet. The amendments in this ASU are effective for the Company beginning in its first quarter of fiscal year 2018. Earlier application is permitted as of the beginning of an interim or annual period. Additionally, the new guidance may be applied either prospectively to all deferred tax assets and liabilities or retrospectively to all periods presented. The Company is evaluating the timing of adoption, but plans to adopt the guidance prospectively with an anticipated reclassification from current assets and liabilities to non-current assets and liabilities on its Condensed Consolidated Balance Sheet.
In January 2016, FASB released ASU 2016-1, “Financial Instruments - Overall - Recognition and Measurement of Financial Assets and Financial Liabilities.” The amendment changes the accounting for and financial statement presentation of equity investments, other than those accounted for under the equity method of accounting or those that result in consolidation of the investee. The amendment provides clarity on the measurement methodology to be used for the required disclosure of fair value of financial instruments measured at amortized cost on the balance sheet and clarifies that an entity should evaluate the need for a valuation allowance on deferred tax assets related to available-for-sale securities in combination with the entity's other deferred tax assets, among other changes. The Company is required to adopt this standard starting in the first quarter of fiscal year 2019 and does not anticipate that implementation will have a material impact on its Condensed Consolidated Financial Statements.
In January 2016, FASB released ASU 2016-2, "Leases." The amendment requires an entity to recognize right-of-use assets and lease liabilities on its balance sheet and disclose key information about leasing arrangements. The amendment offers specific accounting guidance for a lessee, a lessor and sale and leaseback transactions. Lessees and lessors are required to disclose qualitative and quantitative information about leasing arrangements to enable a user of the financial statements to assess the amount, timing and uncertainty of cash flows arising from leases. The Company is required to adopt this standard starting in the first quarter of fiscal year 2020. Early adoption is permitted. The Company is currently in the process of evaluating the impact of adoption on its Condensed Consolidated Financial Statements.
In March 2016, FASB released ASU 2016-9, "Compensation - Stock Compensation." Key changes in the amendment include:
entities will be required to recognize all excess tax benefits or deficiencies as an income tax benefit or expense in the income statement, eliminating APIC pools;
entities will no longer be required to delay recognition of excess tax benefits until they are realized;
entities will be required to classify the excess tax benefits as an operating activity in the statement of cash flows;
entities will be allowed to elect an accounting policy to either estimate the number of forfeitures, or account for forfeitures as they occur; and
entities can withhold up to the maximum individual statutory tax rate without classifying the awards as a liability, the cash paid to satisfy the statutory income tax withholding obligations shall be classified as a financing activity in the statement of cash flows.
The Company is required to adopt this standard starting in the first quarter of fiscal year 2018. The Company is currently in the process of evaluating the impact of adoption on its Condensed Consolidated Financial Statements.
In June 2016, FASB released ASU 2016-13, "Financial Instruments - Credit Losses." The amendment revises the impairment model to utilize an expected loss methodology in place of the currently used incurred loss methodology, which will result in more timely recognition of losses on financial instruments, including, but not limited to, available for sale debt securities and accounts receivable. The Company is required to adopt this standard starting in the first quarter of fiscal year 2021. Early adoption is permitted. The Company is currently in the process of evaluating the impact of adoption on its Condensed Consolidated Financial Statements.
NOTE 3 — EQUITY-BASED COMPENSATION PLANS
The Company has stock plans that provide for grants of equity-based awards to eligible participants, including stock options, restricted stock units (“RSUs”), and market-based performance RSUs (“market-based PRSUs”) of Lam Research common

8





stock (“Common Stock”). An option is a right to purchase Common Stock at a set price. An RSU award is an agreement to issue a set number of shares of Common Stock at the time of vesting. The Company’s market-based PRSUs contain both a market condition and a service condition. The Company’s options, RSU and market-based PRSU awards typically vest over a period of three years . The Company also has an employee stock purchase plan that allows employees to purchase its Common Stock at a discount through payroll deductions.
The Company recognized the following equity-based compensation expense and related income tax benefit in the Condensed Consolidated Statements of Operations:
 
Three Months Ended
 
September 25,
2016
 
September 27,
2015
 
(in thousands)
Equity-based compensation expense
$
38,595

 
$
35,774

Income tax benefit recognized related to equity-based compensation expense
$
10,905

 
$
6,097

The estimated fair value of the Company’s stock-based awards, less expected forfeitures, is amortized over the awards’ vesting term on a straight-line basis.
Stock Options and RSUs
The Lam Research Corporation 2015 Stock Incentive Plan, as amended, 2007 Stock Incentive Plan, as amended and 2011 Stock Incentive Plan, as amended (collectively the “Stock Plans”) provide for the grant of non-qualified equity-based awards to eligible employees and non-employee directors of the Company and its subsidiaries. A summary of stock plan transactions is as follows:
 
Options Outstanding
 
Restricted Stock Units Outstanding
 
Number of
Shares
 
Weighted-
Average
Exercise Price
 
Number of
Shares
 
Weighted-
Average
Fair Market
Value
at Grant
June 26, 2016
907,411

 
$
47.41

 
4,335,104

 
$
69.30

Granted

 
$

 
34,458

 
$
87.59

Exercised
(54,364
)
 
$
32.29

 
N/A

 
N/A

Canceled

 
$

 
(50,640
)
 
$
67.67

Vested restricted stock
N/A

 
N/A

 
(61,540
)
 
$
65.09

September 25, 2016
853,047

 
$
48.37

 
4,257,382

 
$
69.51


As of September 25, 2016 , there was $4.1 million of total unrecognized compensation cost related to unvested stock options granted and outstanding; that cost is expected to be recognized over a weighted-average remaining vesting period of 2.2 years . As of September 25, 2016 , there was $187.4 million of total unrecognized compensation expense related to unvested RSUs granted; that expense is expected to be recognized over a weighted-average remaining period of 2.0 years .
ESPP
The 1999 Employee Stock Purchase Plan, as amended and restated (the “1999 ESPP”), allows employees to designate a portion of their base compensation to be withheld through payroll deductions and used to purchase Common Stock at a purchase price per share equal to the lower of 85% of the fair market value of Common Stock on the first or last day of the applicable purchase period. Each offering period generally lasts up to 14 months and includes three interim purchase dates.

9





Purchase rights under the 1999 ESPP were valued using the Black-Scholes option valuation model and the following weighted-average assumptions for the three months ended September 25, 2016 and September 27, 2015 :
 
Three Months Ended
September 25,
2016
 
September 27,
2015
Expected term (years)
0.77

 
0.68

Expected stock price volatility
33.02
%
 
31.56
%
Risk-free interest rate
0.43
%
 
0.18
%
Dividend Yield
1.14
%
 
0.93
%

As of September 25, 2016 , there was $19.0 million of unrecognized compensation expense related to the 1999 ESPP, which is expected to be recognized over a remaining period of approximately 1.1 years .
NOTE 4 — OTHER EXPENSE, NET
The significant components of other expense, net, are as follows:
 
Three Months Ended
 
September 25,
2016
 
September 27,
2015
 
(in thousands)
Interest income
$
12,763

 
$
5,760

Interest expense
(41,429
)
 
(24,661
)
Gains (losses) on deferred compensation plan related assets, net
6,172

 
(5,164
)
Foreign exchange gains (losses), net
1,219

 
(698
)
Other, net
(1,879
)
 
(2,358
)
 
$
(23,154
)
 
$
(27,121
)
Interest income in the three months ended September 25, 2016 increased, as compared to the three months ended September 27, 2015 , due to higher cash balances and increased interest rates. Interest expense in the three months ended September 25, 2016 increased, as compared to the three months ended September 27, 2015 , primarily due to interest expense associated with the $2.4 billion Senior Note issuance in the three months ended June 26, 2016 .
NOTE 5 — INCOME TAX EXPENSE
The Company recorded an income tax expense of $29.0 million for the three months ended September 25, 2016 , which yielded an effective tax rate of approximately 9.9% .
The difference between the U.S. federal statutory tax rate of 35% and the Company’s effective tax rate for the three months ended September 25, 2016 is primarily due to income in lower tax jurisdictions .

10





NOTE 6 — NET INCOME PER SHARE
Basic net income per share is computed by dividing net income by the weighted-average number of shares of Common Stock outstanding during the period. Diluted net income per share is computed using the treasury stock method, for dilutive stock options, RSUs, convertible notes, and warrants. Dilutive shares outstanding include the effect of the convertible notes. Refer to Note 11 for additional information regarding the Company's convertible notes. The following table reconciles the numerators and denominators of the basic and diluted computations for net income per share. 
 
Three Months Ended
 
September 25,
2016
 
September 27,
2015
 
(in thousands, except per share data)
Numerator:
 
 
 
Net income
$
263,835

 
$
288,679

Denominator:
 
 
 
Basic average shares outstanding
160,607

 
158,352

Effect of potential dilutive securities:
 
 
 
Employee stock plans
2,142

 
2,544

Convertible notes
15,220

 
13,120

Warrants
2,048

 
358

Diluted average shares outstanding
180,017

 
174,374

Net income per share - basic
$
1.64

 
$
1.82

Net income per share - diluted
$
1.47

 
$
1.66


For purposes of computing diluted net income per share, weighted-average common shares do not include potentially dilutive securities that are anti-dilutive under the treasury stock method. The following potentially dilutive securities were excluded:
 
Three Months Ended
 
September 25,
2016
 
September 27,
2015
 
(in thousands)
Number of options and RSUs excluded
196

 
93

Diluted shares outstanding do not include any effect resulting from the note hedges associated with the Company’s 2018 Notes as their impact would have been anti-dilutive.
NOTE 7 — FINANCIAL INSTRUMENTS
The Company maintains an investment portfolio of various holdings, types, and maturities. The Company’s mutual funds, which are related to the Company’s obligations under the deferred compensation plan, are classified as trading securities. Investments classified as trading securities are recorded at fair value based upon quoted market prices. Differences between the cost and fair value of trading securities are recognized as other income (expense) in the Condensed Consolidated Statements of Operations. All of the Company’s other investments are classified as available-for-sale and consequently are recorded in the Condensed Consolidated Balance Sheets at fair value with unrealized gains or losses reported as a separate component of accumulated other comprehensive income (loss), net of tax.
Fair Value
The Company defines fair value as the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. When determining the fair value measurements for assets and liabilities required or permitted to be recorded at fair value, the Company considers the principal or most advantageous market in which it would transact, and it considers assumptions that market participants would use when pricing the asset or liability.
A fair value hierarchy has been established that prioritizes the inputs to valuation techniques used to measure fair value. The level of an asset or liability in the hierarchy is based on the lowest level of input that is significant to the fair value measurement. Assets and liabilities carried at fair value are classified and disclosed in one of the following three categories:

11





Level 1: Valuations based on quoted prices in active markets for identical assets or liabilities with sufficient volume and frequency of transactions.
Level 2: Valuations based on observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or model-derived valuations techniques for which all significant inputs are observable in the market or can be corroborated by observable market data, for substantially the full term of the assets or liabilities.
Level 3: Valuations based on unobservable inputs to the valuation methodology that are significant to the measurement of fair value of assets or liabilities and based on non-binding, broker-provided price quotes and may not have been corroborated by observable market data.
The Company’s primary financial instruments include its cash, cash equivalents, investments, restricted cash and investments, long-term investments, accounts receivable, accounts payable, long-term debt and capital leases, and foreign currency related derivative instruments. The estimated fair value of cash, accounts receivable and accounts payable approximates their carrying value due to the short period of time to their maturities. The estimated fair values of capital lease obligations approximate their carrying value as the substantial majority of these obligations have interest rates that adjust to market rates on a periodic basis. Refer to Note 11 for additional information regarding the fair value of the Company’s convertible notes senior notes.

The following table sets forth the Company’s cash, cash equivalents, investments, restricted cash and investments, and other assets measured at fair value on a recurring basis as of September 25, 2016 and June 26, 2016 :  
 
September 25, 2016
 
 
 
 
 
 
 
 
(Reported Within)
Cost
 
Unrealized
Gain
 
Unrealized
(Loss)
 
Fair Value
 
Cash and
Cash
Equivalents
 
Investments
 
Restricted
Cash &
Investments
 
Other
Assets
(in thousands)
Cash
$
768,071

 
$

 
$

 
$
768,071

 
$
762,458

 
$

 
$
5,613

 
$

Level 1:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Time Deposit
913,725

 

 

 
913,725

 
663,698

 

 
250,027

 

Money Market Funds
4,180,031

 

 

 
4,180,031

 
4,180,031

 

 

 

U.S. Treasury and Agencies
366,017

 
951

 
(3
)
 
366,965

 
86,092

 
280,873

 

 

Mutual Funds
39,010

 
1,773

 
(195
)
 
40,588

 

 

 

 
40,588

Level 1 Total
5,498,783

 
2,724

 
(198
)
 
5,501,309

 
4,929,821

 
280,873

 
250,027

 
40,588

Level 2:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Municipal Notes and Bonds
201,502

 
183

 
(76
)
 
201,609

 

 
201,609

 

 

Government-Sponsored Enterprises
31,701

 
49

 
(14
)
 
31,736

 

 
31,736

 

 

Foreign Government Bonds
14,357

 
20

 
(1
)
 
14,376

 

 
14,376

 

 

Corporate Notes and Bonds
937,712

 
2,871

 
(201
)
 
940,382

 
169,422

 
770,960

 

 

Mortgage Backed Securities — Residential
15,747

 
53

 
(141
)
 
15,659

 

 
15,659

 

 

Mortgage Backed Securities — Commercial
37,661

 
18

 
(117
)
 
37,562

 

 
37,562

 

 

Level 2 Total
1,238,680

 
3,194

 
(550
)
 
1,241,324

 
169,422

 
1,071,902

 

 

Total
$
7,505,534

 
$
5,918

 
$
(748
)
 
$
7,510,704

 
$
5,861,701

 
$
1,352,775

 
$
255,640

 
$
40,588

 

12





 
June 26, 2016
 
 
 
 
 
 
 
 
(Reported Within)
Cost
 
Unrealized
Gain
 
Unrealized
(Loss)
 
Fair Value
 
Cash and
Cash
Equivalents
 
Investments
 
Restricted
Cash &
Investments
 
Other
Assets
(in thousands)
Cash
$
418,216

 
$

 
$

 
$
418,216

 
$
412,573

 
$

 
$
5,643

 
$

Level 1:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Time Deposit
904,243

 

 

 
904,243

 
659,465

 

 
244,778

 

Money Market Funds
3,904,288

 

 

 
3,904,288

 
3,904,288

 

 

 

U.S. Treasury and Agencies
446,530

 
2,041

 
(2
)
 
448,569

 
62,996

 
385,573

 

 

Mutual Funds
39,318

 
1,400

 
(397
)
 
40,321

 

 

 

 
40,321

Level 1 Total
5,294,379

 
3,441

 
(399
)
 
5,297,421

 
4,626,749

 
385,573

 
244,778

 
40,321

Level 2:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Municipal Notes and Bonds
265,386

 
355

 
(16
)
 
265,725

 

 
265,725

 

 

U.S. Treasury and Agencies
8,068

 
151

 

 
8,219

 

 
8,219

 

 

Government-Sponsored Enterprises
31,885

 
91

 
(13
)
 
31,963

 

 
31,963

 

 

Foreign Government Bonds
41,440

 
76

 
(4
)
 
41,512

 

 
41,512

 

 

Corporate Notes and Bonds
979,566

 
4,341

 
(566
)
 
983,341

 

 
983,341

 

 

Mortgage Backed Securities — Residential
17,395

 
37

 
(152
)
 
17,280

 

 
17,280

 

 

Mortgage Backed Securities — Commercial
55,129

 
30

 
(160
)
 
54,999

 

 
54,999

 

 

Level 2 Total
1,398,869

 
5,081

 
(911
)
 
1,403,039

 

 
1,403,039

 

 

Total
$
7,111,464

 
$
8,522

 
$
(1,310
)
 
$
7,118,676

 
$
5,039,322

 
$
1,788,612

 
$
250,421

 
$
40,321

The Company accounts for its investment portfolio at fair value. Realized gains (losses) for investment sales are specifically identified. Management assesses the fair value of investments in debt securities that are not actively traded through consideration of interest rates and their impact on the present value of the cash flows to be received from the investments. The Company also considers whether changes in the credit ratings of the issuer could impact the assessment of fair value. The Company did not recognize any losses on investments due to other-than-temporary impairments during the three months ended September 25, 2016 or September 27, 2015 . Additionally, gross realized gains and gross realized (losses) from sales of investments were approximately $2.6 million and $0.2 million , respectively, in the three months ended September 25, 2016 and $0.2 million and $0.7 million , respectively, in the three months ended September 27, 2015 .


13





The following is an analysis of the Company’s cash, cash equivalents, investments, and restricted cash and investments in unrealized loss positions:
 
September 25, 2016
Unrealized Losses
Less Than 12 Months
 
Unrealized Losses
12 Months or Greater
 
Total
Fair Value
 
Gross
Unrealized
Loss
 
Fair Value
 
Gross
Unrealized
Loss
 
Fair Value
 
Gross
Unrealized
Loss
(in thousands)
 
Municipal Notes and Bonds
$
110,401

 
$
(71
)
 
$
1,995

 
$
(5
)
 
$
112,396

 
$
(76
)
 
U.S. Treasury & Agencies
8,247

 
(3
)
 

 

 
8,247

 
(3
)
 
Mutual Funds

 

 
8,964

 
(195
)
 
8,964

 
(195
)
 
Government-Sponsored Enterprises
419

 

 
621

 
(14
)
 
1,040

 
(14
)
 
Foreign Government Bonds
4,250

 
(1
)
 

 

 
4,250

 
(1
)
 
Corporate Notes and Bonds
147,348

 
(83
)
 
47,805

 
(118
)
 
195,153

 
(201
)
Mortgage Backed Securities — Residential
8,469

 
(57
)
 
3,897

 
(84
)
 
12,366

 
(141
)
Mortgage Backed Securities — Commercial
28,585

 
(82
)
 
6,318

 
(35
)
 
34,903

 
(117
)
 
$
307,719

 
$
(297
)
 
$
69,600

 
$
(451
)
 
$
377,319

 
$
(748
)
The amortized cost and fair value of cash equivalents, investments and restricted investments with contractual maturities are as follows as of September 25, 2016 :
 
Cost
 
Estimated
Fair
Value
(in thousands)
Due in one year or less
$
5,898,756

 
$
5,898,959

Due after one year through five years
730,005

 
733,625

Due in more than five years
69,692

 
69,461

 
$
6,698,453

 
$
6,702,045

The Company has the ability, if necessary, to liquidate its investments in order to meet the Company’s liquidity needs in the next 12 months. Accordingly, those investments with contractual maturities greater than one year from the date of purchase nonetheless are classified as short-term on the accompanying Condensed Consolidated Balance Sheets.
Derivative Instruments and Hedging
The Company carries derivative financial instruments (“derivatives”) on its Condensed Consolidated Balance Sheets at their fair values. The Company enters into foreign currency forward derivative contracts and foreign currency options with financial institutions with the primary objective of reducing volatility of earnings and cash flows related to foreign currency exchange rate fluctuations. The counterparties to these derivative contracts are large global financial institutions that the Company believes are creditworthy, and therefore, it does not consider the risk of counterparty nonperformance to be material.

14





Cash Flow Hedges
The Company’s financial position is routinely subjected to market risk associated with foreign currency exchange rate fluctuations on non-U.S. dollar transactions or cash flows, primarily from Japanese yen-denominated revenues, and euro denominated and Korean won-denominated expenses. The Company’s policy is to mitigate the foreign exchange risk arising from the fluctuations in the value of these non-U.S. dollar denominated transactions or cash flows through a foreign currency cash flow hedging program, using forward contracts and foreign currency options that generally expire within 12 months and no later than 24 months . These hedge contracts are designated as cash flow hedges and are carried on the Company’s balance sheet at fair value with the effective portion of the contracts’ gains or losses included in accumulated other comprehensive income (loss) and subsequently recognized in revenue/expense in the same period the hedged items are recognized.
In addition, the Company enters into forward-starting interest rate swap agreements to hedge against the variability of cash flows due to changes in certain benchmark interest rates on fixed rate debt. These instruments are designated as cash flow hedges at inception and are settled in conjunction with the issuance of debt. The effective portion of the contracts’ gain or loss is included in accumulated other comprehensive (loss) and is amortized into income as the hedged item impacts earnings. During fiscal year ended June 26, 2016 and June 28, 2015 , the Company entered into and settled a series of forward-starting interest rate swap agreements, with a total notional value of $600 million and $375 million , respectively, that were settled in conjunction with the issuance of debt during the three months ended June 26, 2016 and March 29, 2015, respectively.
At inception and at each quarter end, hedges are tested prospectively and retrospectively for effectiveness using regression analysis. Changes in the fair value of the forward contracts due to changes in time value are excluded from the assessment of effectiveness and are recognized in revenue or expense in the current period. The change in time value related to these contracts was not material for all reported periods. Changes in the fair value of foreign exchange options due to changes in time value are included in the assessment of effectiveness. To qualify for hedge accounting, the hedge relationship must meet criteria relating both to the derivative instrument and the hedged item. These criteria include identification of the hedging instrument, the hedged item, the nature of the risk being hedged and how the hedging instrument’s effectiveness in offsetting the exposure to changes in the hedged item’s fair value or cash flows will be measured. There were no material gains or losses during three months ended September 25, 2016 and September 27, 2015 associated with ineffectiveness or forecasted transactions that failed to occur.
To receive hedge accounting treatment, all hedging relationships are formally documented at the inception of the hedge and the hedges must be tested to demonstrate an expectation of providing highly effective offsetting changes to future cash flows on hedged transactions. When derivative instruments are designated and qualify as effective cash flow hedges, the Company recognizes effective changes in the fair value of the hedging instrument within accumulated other comprehensive income (loss) until the hedged exposure is realized. Consequently, with the exception of excluded time value associated with the forward contracts and hedge ineffectiveness recognized, the Company’s results of operations are not subject to fluctuation as a result of changes in the fair value of the derivative instruments. If hedges are not highly effective or if the Company does not believe that the underlying hedged forecasted transactions will occur, the Company may not be able to account for its derivative instruments as cash flow hedges. If this were to occur, future changes in the fair values of the Company’s derivative instruments would be recognized in earnings. Additionally, related amounts previously recorded in other comprehensive income would be reclassified to income immediately. As of September 25, 2016 , the Company had losses of $5.3 million accumulated in other comprehensive income, net of tax, related to foreign exchange cash flow hedges which it expects to reclassify from other comprehensive income into earnings over the next 12 months . Additionally, the Company had a net loss of $0.8 million accumulated in other comprehensive income, net of tax, related to interest rate contracts which it expects to reclassify from other comprehensive income into earnings over the next 9.7 years . As a result of the October 5, 2016 termination of the Agreement and Plan of Merger and Reorganization with KLA-Tencor Corporation ("KLA-Tencor") (see Note 15 for additional information), a gain of approximately $1.1 million accumulated in other comprehensive income, net of tax, related to interest rate contracts associated with the 2026 Notes (as defined in Note 11) will be reclassified into earnings in the three months ended December 25, 2016.
Fair Value Hedges
During the fiscal year ended June 26, 2016 , the Company entered into a series of interest rate contracts with a total notional value of $400 million whereby the Company receives fixed rates and pays variable rates based on certain benchmark interest rates, resulting in a net increase or decrease to interest expense, a component of Other expense, net in our Condensed Consolidated Statement of Operations. These interest rate contracts are designated as fair value hedges and hedge against changes in the fair value of our debt portfolio. The Company concluded that these interest rate contracts meet the criteria necessary to qualify for the short-cut method of hedge accounting, and as such an assumption is made that the change in the fair value of the hedged debt, due to changes in the benchmark rate, exactly offsets the change in the fair value of the interest rate swap. Therefore, the derivative is considered to be effective at achieving offsetting changes in the fair value of the hedged liability, and no ineffectiveness is recognized.

15





Balance Sheet Hedges
The Company also enters into foreign currency forward contracts to hedge fluctuations associated with foreign currency denominated monetary assets and liabilities, primarily third party accounts receivables, accounts payables and intercompany receivables and payables. These forward contracts are not designated for hedge accounting treatment. Therefore, the change in fair value of these derivatives is recorded as a component of other income (expense) and offsets the change in fair value of the foreign currency denominated assets and liabilities, which are also recorded in other income (expense).
As of September 25, 2016 , the Company had the following outstanding foreign currency contracts that were entered into under its cash flow and balance sheet hedge program:
 
Notional Value
Derivatives Designated as
Hedging Instruments:
 
Derivatives Not Designated
as Hedging Instruments:
(in thousands)
Foreign Currency Forward Contracts
 
 
 
 
 
 
 
 
Buy Contracts
 
Sell Contracts
 
Buy Contracts
 
Sell Contracts
Japanese yen
$

 
$
104,039

 
$

 
$
181,405

Swiss franc

 

 
7,387

 

Euro
24,049

 

 
31,518

 

Korean won
5,740

 

 
9,402

 

Chinese renminbi

 

 
8,215

 
 
Singapore dollar

 

 
33,867

 

Taiwan dollar

 

 
22,790

 

 
$
29,789

 
$
104,039

 
$
113,179

 
$
181,405

 
 
 
 
 
 
 
 
Foreign Currency Option Contracts
 
 
 
 
 
 
 
 
Buy Put
 
Sell Put
 
Buy Put (1)
 
Sell Put
Japanese yen
$

 
$

 
$
15,695

 
$
15,695

(1) Contracts were entered into and designated as cash flow hedges under ASC 815, contracts were subsequently de-designated, changes in fair market value subsequent to de-designation effect current earnings.
The fair value of derivative instruments in the Company’s Condensed Consolidated Balance Sheets as of September 25, 2016 and June 26, 2016 were as follows:
 
September 25, 2016
 
June 26, 2016
Fair Value of Derivative Instruments (Level 2)
 
Fair Value of Derivative Instruments (Level 2)
Asset Derivatives
 
Liability Derivatives
 
Asset Derivatives
 
Liability Derivatives
Balance Sheet
Location
 
Fair Value
 
Balance Sheet
Location
 
Fair Value
 
Balance Sheet
Location
 
Fair Value
 
Balance Sheet
Location
 
Fair Value
(in thousands)
Derivatives designated as hedging instruments:
 
 
 
 
 
 
 
 
Foreign exchange forward contracts
Prepaid expense
and other assets
 
$
113

 
Accrued liabilities
 
$
5,734

 
Prepaid expense
and other assets
 
$
249

 
Accrued liabilities
 
$
16,585

Interest rate contracts, short-term
Accrued expenses and other current liabilities
 
2,623

 
Prepaid expense
and other assets
 

 
Accrued expenses and other current liabilities
 
50

 
Prepaid expense
and other assets
 
159

Interest rate contracts, long-term
Other assets
 
4,968

 
Other long-term liabilities
 

 
Other assets
 
8,661

 
Other long-term liabilities
 

 
Derivatives not designated as hedging instruments:
 
 
 
 
 
 
 
 
Foreign exchange forward contracts
Prepaid expense
and other assets
 
279

 
Accrued
liabilities
 
83

 
Prepaid expense
and other assets
 
107

 
Accrued
liabilities
 
1,529

Total derivatives
 
 
$
7,983

 
 
 
$
5,817

 
 
 
$
9,067

 
 
 
$
18,273


16





Under the master netting agreements with the respective counterparties to the Company’s derivative contracts, subject to applicable requirements, the Company is allowed to net settle transactions of the same currency with a single net amount payable by one party to the other. However, the Company has elected to present the derivative assets and derivative liabilities on a gross basis on its balance sheet. As of September 25, 2016 , the potential effect of rights of off-set associated with the above foreign exchange and interest rate contracts would be an offset to assets and liabilities by $4.4 million , resulting in a net derivative asset of $3.6 million and net derivative liability of $1.4 million . As of June 26, 2016 , the potential effect of rights of set-off associated with the above foreign exchange contracts would be an offset to both assets and liabilities by $6.4 million , resulting in a net derivative asset of $2.7 million and a net derivative liability of $11.9 million . The Company is not required to pledge, nor is the Company entitled to receive, cash collateral for these derivative transactions.
The effect of derivative instruments designated as cash flow hedges on the Company’s Condensed Consolidated Statements of Operations, including accumulated other comprehensive income (“AOCI”) was as follows:
 
Three Months Ended September 25, 2016
 
Three Months Ended September 27, 2015
Effective Portion
Ineffective 
Portion
and Amount
Excluded from
Effectiveness
 
Effective Portion
Ineffective 
Portion
and Amount
Excluded from
Effectiveness
 
Location of 
Gain (Loss)
Recognized 
in or 
Reclassified
into Income
Gain (Loss)
Recognized
in AOCI
Gain (Loss)
Reclassified
from AOCI
into Income
Gain (Loss)
Recognized
in Income
 
Loss
Recognized
in AOCI
Gain (Loss)
Reclassified
from AOCI
into Income
Gain (Loss)
Recognized
in Income
Derivatives Designated
as Hedging Instruments
 
(in thousands)
Foreign Exchange Contracts
Revenue
$
(2,913
)
 
$
(13,605
)
 
$
705

 
$
(69
)
 
$
(1,378
)
 
$
32

Foreign Exchange Contracts
Cost of goods sold
235

 
173

 
(67
)
 
(415
)
 
1,505

 
(22
)
Foreign Exchange Contracts
Selling, general, and
administrative
(24
)
 
(9
)
 
(21
)
 
(173
)
 
258

 
(7
)
Interest Rate Contracts
Other expense, net

 
9

 

 

 
(94
)
 

 
 
$
(2,702
)
 
$
(13,432
)
 
$
617

 
$
(657
)
 
$
291

 
$
3

The effect of derivative instruments not designated as cash flow hedges on the Company’s Condensed Consolidated Statements of Operations was as follows:
 
 
Three Months Ended
 
September 25, 2016
 
September 27, 2015
Derivatives Not Designated as Hedging Instruments:
Location 
of (Loss) Gain
Recognized 
in Income
 
Loss Recognized
in Income
 
Gain 
Recognized
in Income
 
 
 
(in thousands)
Foreign Exchange Contracts
Other 
income
 
$
(383
)
 
$
6,007

Concentrations of Credit Risk
Financial instruments that potentially subject the Company to concentrations of credit risk consist principally of cash and cash equivalents, investments, restricted cash and investments, trade accounts receivable, and derivative financial instruments used in hedging activities. Cash is placed on deposit at large global financial institutions. Such deposits may be in excess of insured limits. Management believes that the financial institutions that hold the Company’s cash are creditworthy and, accordingly, minimal credit risk exists with respect to these balances.
The Company’s overall portfolio of available-for-sale securities must maintain an average minimum rating of “AA-” or “Aa3” as rated by Standard and Poor’s, Moody’s Investor Services, or Fitch Ratings. To ensure diversification and minimize concentration, the Company’s policy limits the amount of credit exposure with any one financial institution or commercial issuer.


17





The Company is exposed to credit losses in the event of nonperformance by counterparties on foreign currency forward hedge contracts that are used to mitigate the effect of exchange rate fluctuations, and on contracts related to structured share repurchase arrangements. These counterparties are large global financial institutions and, to date, no such counterparty has failed to meet its financial obligations to the Company.
Credit risk evaluations, including trade references, bank references and Dun & Bradstreet ratings, are performed on all new customers and the Company monitors its customers’ financial condition and payment performance. In general, the Company does not require collateral on sales.
NOTE 8 — INVENTORIES
Inventories are stated at the lower of cost (first-in, first-out method) or market. System shipments to Japanese customers, for which title does not transfer until customer acceptance, are classified as finished goods inventory and carried at cost until title transfers. Inventories consist of the following:
 
September 25,
2016
 
June 26,
2016
(in thousands)
Raw materials
$
549,406

 
$
536,844

Work-in-process
139,120

 
151,406

Finished goods
243,055

 
283,661

 
$
931,581

 
$
971,911

NOTE 9 — GOODWILL AND INTANGIBLE ASSETS
Goodwill
The balance of goodwill is approximately $1.4 billion as of September 25, 2016 and June 26, 2016 . As of September 25, 2016 , $61.1 million of the goodwill balance is tax deductible and the remaining balance is not tax deductible due to purchase accounting and applicable foreign law.
Intangible Assets
The following table provides the Company’s intangible assets as of September 25, 2016 :
 
Gross
 
Accumulated
Amortization
 
Net
(in thousands)
Customer relationships
$
615,193

 
$
(317,130
)
 
$
298,063

Existing technology
643,261

 
(422,518
)
 
220,743

Patents
36,553

 
(29,335
)
 
7,218

Other intangible assets
36,114

 
(35,545
)
 
569

Total intangible assets
$
1,331,121

 
$
(804,528
)
 
$
526,593


The following table provides the Company’s intangible assets as of June 26, 2016 :
 
Gross
 
Accumulated
Amortization
 
Net
(in thousands)
Customer relationships
$
615,272

 
$
(300,711
)
 
$
314,561

Existing technology
643,433

 
(401,036
)
 
242,397

Patents
36,053

 
(28,701
)
 
7,352

Other intangible assets
36,114

 
(35,503
)
 
611

Total intangible assets
$
1,330,872

 
$
(765,951
)
 
$
564,921

The Company recognized $38.7 million and $39.0 million in intangible asset amortization expense during the three months ended September 25, 2016 and September 27, 2015 , respectively.

18





The estimated future amortization expense of intangible assets, excluding those with indefinite lives, as of September 25, 2016 was as follows:
Fiscal Year
Amount
 
(in thousands)
2017 (remaining 9 months)
$
116,002

2018
153,337

2019
115,263

2020
50,194

2021
47,792

Thereafter
44,005

 
$
526,593

NOTE 10 — ACCRUED EXPENSES AND OTHER CURRENT LIABILITIES
Accrued expenses and other current liabilities consist of the following:
 
September 25,
2016
 
June 26,
2016
(in thousands)
Accrued compensation
$
357,134

 
$
331,528

Warranty reserves
103,226

 
100,321

Income and other taxes payable
68,057

 
86,723

Dividend payable
48,397

 
48,052

Other
188,841

 
206,286

 
$
765,655

 
$
772,910

 
 
 
 

19





NOTE 11 — LONG-TERM DEBT AND OTHER BORROWINGS
As of September 25, 2016 and June 26, 2016 , the Company's outstanding debt consisted of the following:
 
September 25, 2016
 
June 26, 2016
 
Amount
(in thousands)
 
Effective Interest Rate
 
Amount
(in thousands)
 
Effective Interest Rate
Fixed-rate 1.25% Convertible Notes Due May 15, 2018 ("2018 Notes")
$
449,947

(1)  
5.27
%
 
$
449,954

(3)  
5.27
%
Fixed-rate 2.75% Senior Notes Due March 15, 2020 ("2020 Notes")
500,000

 
2.88
%
 
500,000

 
2.88
%
Fixed-rate 2.80% Senior Notes Due June 15, 2021 ("2021 Notes")
800,000

 
2.95
%
 
800,000

 
2.95
%
Fixed-rate 3.45% Senior Notes Due June 15, 2023 ("2023 Notes")
600,000

 
3.60
%
 
600,000

 
3.60
%
Fixed-rate 3.80% Senior Notes Due March 15, 2025 ("2025 Notes")
500,000

 
3.87
%
 
500,000

 
3.87
%
Fixed-rate 3.90% Senior Notes Due June 15, 2026 ("2026 Notes")
1,000,000

 
4.01
%
 
1,000,000

 
4.01
%
Fixed-rate 2.625% Convertible Notes Due May 15, 2041 ("2041 Notes")
699,883

(1)  
4.28
%
 
699,895

(3)  
4.28
%
Total debt outstanding, at par
4,549,830

 
 
 
4,549,849

 
 
Unamortized discount
(226,811
)
 
 
 
(232,727
)
 
 
Fair value adjustment - interest rate contracts
7,592

 
 
 
8,552

 
 
Unamortized bond issuance costs
(6,781
)
 
 
 
(7,213
)
(4)  
 
Total debt outstanding, at carrying value
$
4,323,830

 
 
 
$
4,318,461

 
 
Reported as:
 
 
 
 
 
 
 
Current portion of long-term debt
$
945,836

(2)  
 
 
$
940,537

(2)  
 
Long-term debt
3,377,994

 
 
 
3,377,924

 
 
Total debt outstanding, at carrying value
$
4,323,830

 
 
 
$
4,318,461

 
 
____________________________
(1) As of September 25, 2016 , these notes were convertible at the option of the bondholder, as a result of the condition described in (2) below. Upon closure of the conversion period, Notes not converted will be reclassified back into noncurrent liabilities and the temporary equity will be reclassified into permanent equity.
(2) As of the report date the market value of the Company's Common Stock was greater than 130% of the convertible notes conversion price for 20 or more of the 30 consecutive trading days preceding the quarter-end. As a result, the convertible notes were classified in current liabilities and a portion of the equity component, representing the unamortized discount, was classified in temporary equity on the Company's Consolidated Balance Sheets.
(3) As of June 26, 2016 , these notes were convertible at the option of the bond holder, as a result of the condition described in (2) above.
(4) The Company adopted ASU 2015-3, regarding the simplification of the presentation of bond issuance costs, which requires that bond issuance costs related to a recognized liability be presented on the balance sheet as a direct reduction from the carrying amount of that debt liability, consistent with debt discounts. The Company applied the accounting standard update on a retrospective basis by reclassifying the presentation of bond issuance costs totaling $1.76 million which was originally included in prepaid assets and other current assets against current portion of convertible notes and capital leases, and $5.45 million which was originally included in other assets against senior notes, convertible notes, and capital leases, less current portion on the Condensed Consolidated Balance Sheets for June 26, 2016 . There is no impact to the Company's Condensed Consolidated Statements of Operation, Stockholders' Equity, or Cash Flows for the fiscal year ended June 26, 2016 .
Convertible Senior Notes
In May 2011, the Company issued and sold $450 million in aggregate principal amount of 1.25% Convertible Senior Notes due May  2018 (the “2018 Notes”) at par. The Company pays cash interest at an annual rate of 1.25% , on the 2018 Notes, on a semi-annual basis on May 15 and November 15 of each year.
In June 2012, with the acquisition of Novellus, the Company assumed $700 million in aggregate principal amount of 2.625% Convertible Senior Notes due May 2041 (the “2041 Notes,” and collectively with the 2018 Notes, the “Convertible Notes”). The Company pays cash interest at an annual rate of 2.625% , on a semi-annual basis on May 15 and November 15 of each year on the 2041 Notes. The 2041 Notes also have a contingent interest payment provision that may require the Company to pay additional interest, up to 0.60%  per year, based on certain thresholds, beginning with the semi-annual interest payment on May 15, 2021, and upon the occurrence of certain events, as outlined in the indenture governing the 2041 Notes.
The Company separately accounts for the liability and equity components of the Convertible Notes. The initial debt components of the Convertible Notes were valued based on the present value of the future cash flows using the Company’s

20





borrowing rate at the date of the issuance or assumption for similar debt instruments without the conversion feature, which equals the effective interest rate on the liability component disclosed in the table below, respectively. The equity component was initially valued equal to the principle value of the notes, less the present value of the future cash flows using the Company’s borrowing rate at the date of the issuance or assumption for similar debt instruments without a conversion feature, which equated to the initial debt discount.
Under certain circumstances, the Convertible Notes may be converted into shares of the Company’s Common Stock. The number of shares each debenture is convertible into is based on conversion rates, disclosed in the table below. Conversions in the three months ended September 25, 2016 were not material.
Selected additional information regarding the Convertible Notes outstanding as of September 25, 2016 and June 26, 2016 , the Convertible Notes consisted of the following:
 
September 25, 2016
 
June 26, 2016
2018 Notes
 
2041 Notes
 
2018 Notes
 
2041 Notes
(in thousands, except years, percentages, conversion rate, and conversion price)
Carrying amount of permanent equity component, net of tax
$
77,064

 
$153,384
 
$
72,992

 
$
152,397

Carrying amount of temporary equity component, net of tax
$
27,818

 
$
174,649

 
$
31,894

 
$
175,658

Remaining amortization period (years)
1.6

 
24.6

 
1.9

 
24.9

Fair Value of Notes (Level 2)
$
701,242

 
$
1,906,194

 
 
 
 
Conversion rate (shares of common stock per $1,000 principal amount of notes)
16.3893

 
29.4126

 
 
 
 
Conversion price (per share of common stock)
$
61.02

 
$
34.00

 
 
 
 
If-converted value in excess of par value
$
226,868

 
$
1,189,443

 
 
 
 
Estimated share dilution using average quarterly stock price $90.25 per share
2,389


12,830

 
 
 
 
Convertible Note Hedges and Warrants
Concurrent with the issuance of the 2018 Notes and $450 million of notes that matured in May of 2016 (the "2016 Notes"), the Company purchased a convertible note hedge and sold warrants. The warrants settlement is contractually defined as net share settlement. The exercise price is adjusted for certain corporate events, including dividends on the Company’s Common Stock. During the three months ended September 25, 2016 , warrants associated with the 2016 Notes were exercised resulting in the issuance of approximately 1.1 million shares of the Company's Common Stock. As of September 25, 2016 , the warrants associated with the 2018 Notes had not been exercised and remained outstanding.
In conjunction with the convertible note hedge, counterparties agreed to sell to the Company shares of Common Stock equal to the number of shares issuable upon conversion of the 2018 Notes in full. The convertible note hedge transactions will be settled in net shares and will terminate upon the earlier of the maturity date or the first day none of the respective notes remain outstanding due to conversion or otherwise. Settlement of the convertible note hedge in net shares, based on the number of shares issued upon conversion of the 2018 Notes, on the expiration date would result in the Company receiving net shares equivalent to the number of shares issuable by the Company upon conversion of the 2018 Notes. The exercise price is adjusted for certain corporate events, including dividends on the Company’s Common Stock.

21





The following table presents the details of the warrants and convertible note hedge arrangements as of September 25, 2016 :
 
2016 Notes
 
2018 Notes
(shares in thousands)
Warrants:
 
 
 
Underlying shares
3,098

 
7,375

Estimated share dilution using average quarterly stock price $90.25 per share
694

 
1,354

Exercise price
$
69.07

 
$
73.68

Expiration date range
August 15 - October 21, 2016

 
August 15 - October 23, 2018

 
Convertible Note Hedge:
 
 
 
 
Number of shares available from counterparties

 
7,374

Exercise price
$

 
$
61.02

Senior Notes
On March 12, 2015, the Company completed a public offering of $500 million aggregate principal amount of the Company’s Senior Notes due March, 2020 (the “2020 Notes”) and $500 million aggregate principal amount of the Company’s Senior Notes due March, 2025 (the “2025 Notes” and, together with the 2020 Notes, the “Senior Notes”). The Company pays interest at an annual rate of 2.75% and 3.80% , respectively, on the 2020 Notes and 2025 Notes, on a semi-annual basis on March 15 and September 15 of each year. During the year ended June 26, 2016 , the Company entered into a series of interest rate contracts hedging the fair value of a portion of the 2025 Notes par value, whereby the Company receives a fixed rate and pays a variable rate based on a certain benchmark interest rate. Refer to Note 7 for additional information regarding these interest rate contracts.
The Company may redeem the Senior Notes at a redemption price equal to 100% of the principal amount of such series (“par”), plus a “make whole” premium as described in the indenture in respect of the Senior Notes and accrued and unpaid interest before February 15, 2020 , for the 2020 Notes and before December 15, 2024 for the 2025 Notes. The Company may redeem the Senior Notes at par, plus accrued and unpaid interest at any time on or after February 15, 2020 for the 2020 Notes and on or after December 24, 2024 for the 2025 Notes. In addition, upon the occurrence of certain events, as described in the indenture, the Company will be required to make an offer to repurchase the Senior Notes at a price equal to 101% of the principal amount of the Senior Notes, plus accrued and unpaid interest.
On June 7, 2016, The Company completed a public offering of $800.0 million aggregate principal amount of Senior Notes due June 2021 (the "2021 Notes"), $600.0 million aggregate principal amount of Senior Notes due June 2023 (the "2023 Notes") and $1.0 billion aggregate principal amount of Senior Notes due June 2026 (the "2026 Notes" together with the 2020, 2021, 2023, and 2025 Notes, the “Senior Notes”). The Company will pay interest at an annual rate of 2.80% , 3.45% and 3.90% , respectively, on the 2021 Notes, 2023 Notes and 2026 Notes, on a semi-annual basis on June 15 and December 15 of each year, beginning December 15, 2016.
As a result of the October 5, 2016 termination of the Agreement and Plan of Merger and Reorganization with KLA-Tencor (see Note 15 for additional information), the 2023 Notes and the 2026 Notes were redeemed on October 13, 2016 under the Special Mandatory Redemption terms of the indenture governing these Notes. The Company was required to redeem all of the 2023 Notes and the 2026 Notes then outstanding, at a special mandatory redemption price equal to 101% of the aggregate principal amount of such notes, plus accrued and unpaid interest of approximately $21.0 million from the date of initial issuance. In addition, in conjunction with the Special Mandatory Redemption of the 2023 Notes and the 2026 Notes in the three months ended December 25, 2016, the Company will recognize approximately $2.5 million of loan issuance costs to other expense, net. The 2021 Notes are not subject to Special Mandatory Redemption.
The Company may redeem the 2021 Notes at a redemption price equal to 100% of the principal amount of such series (“par”), plus a “make whole” premium as described in the indenture in respect to the 2021 Notes and accrued and unpaid interest before May 15, 2021. The Company may redeem the 2021 Notes at par, plus accrued and unpaid interest at any time on or after May 15, 2021. In addition, upon the occurrence of certain events, as described in the indenture, the Company will be required to make an offer to repurchase the 2021 Notes at a price equal to 101% of the principal amount of the respective note, plus accrued and unpaid interest.

22





Selected additional information regarding the Senior Notes outstanding as of September 25, 2016 is as follows: 
 
Remaining Amortization period
 
Fair Value of Notes (Level 2)
 
(years)
 
(in thousands)
2020 Notes
3.4
 
$
501,375

2021 Notes
4.7
 
$
821,224

2023 Notes
*
 
$
615,000

2025 Notes
8.4
 
$
514,100

2026 Notes
*
 
$
1,046,340


* As a result of the October 5, 2016 termination of the Agreement and Plan of Merger and Reorganization with KLA-Tencor (see Note 15 for additional information), the 2023 Notes and the 2026 Notes were redeemed on October 13, 2016 under the Special Mandatory Redemption terms of the indenture governing these Notes.

Interest Cost
The following table presents the amount of interest cost recognized relating to both the contractual interest coupon and amortization of the debt discount, issuance costs, and effective portion of interest rate contracts with respect to the Convertible Notes, the Senior Notes, the term loan agreement and the revolving credit facility during the three months ended September 25, 2016 and September 27, 2015 .
 
Three Months Ended
September 25,
2016
 
September 27,
2015
(in thousands)
Contractual interest coupon
$
34,712

 
$
14,451

Amortization of interest discount
5,914

 
9,122

Amortization of issuance costs
918

 
652

Effect of interest rate contracts, net
(1,058
)
 
94

Total interest cost recognized
$
40,486

 
$
24,319

Term Loan Agreement
On May 13, 2016, we entered into an Amended and Restated Term Loan Agreement (the “Amended and Restated Term Loan Agreement”), which amends and restates the Term Loan Agreement we entered into on November 10, 2015 with a syndicate of lenders. The Amended and Restated Term Loan Agreement provides for a commitment of $1,530.0 million senior unsecured term loan facility composed of two tranches (the "Commitments"); (i) a $1,005.0 million tranche of 3-year senior unsecured loans; and (ii) a $525.0 million tranche of 5-year senior unsecured loans. The Commitments automatically terminated on October 5, 2016, upon termination of the Agreement and Plan of Merger and Reorganization with KLA-Tencor Corporation (see Note 15 for additional detail). In conjunction with the termination of the Commitments the Company will release approximately $3.7 million of loan issuance costs to other expense, net in the three months ended December 25, 2016.
Revolving Credit Facility
On November 10, 2015, we entered into an Amendment and Restatement Agreement (as amended on April 26, 2016 by Amendment No. 1 to the Amended and Restated Credit Agreement, and as further amended, restated, supplemented or otherwise modified from time to time, the “Amended and Restated Credit Agreement”), which amends and restates the Company's prior unsecured Credit Agreement, dated March 12, 2014 (as amended by Amendment No. 1, dated March 5, 2015). The Amended and Restated Credit Agreement provides for an increase to our revolving unsecured credit facility, from $300.0 million to $750.0 million with a syndicate of lenders. It includes an expansion option, subject to certain requirements, for us to request an increase in the facility of up to an additional $250.0 million , for a potential total commitment of $1.0 billion . Proceeds from the credit facility can be used for general corporate purposes. The facility matures on November 10, 2020. Termination of the Agreement and Plan of Merger and Reorganization with KLA-Tencor Corporate has no effect to the Amended and Restated Credit Agreement.
Interest on amounts borrowed under the credit facility is, at the Company’s option, based on (i) a base rate, defined as the greatest of (a) prime rate, (b) Federal Funds rate plus 0.5% , or (c) one-month LIBOR plus 1.0% , plus a spread of 0.0% to 0.5% , or (ii) LIBOR multiplied by the statutory rate, plus a spread of 0.9% to 1.5% in each case as the applicable spread is determined

23





based on the rating of the Company’s non-credit enhanced, senior unsecured long-term debt. Principal and any accrued and unpaid interest is due and payable upon maturity. Additionally, the Company will pay the lenders a quarterly commitment fee that varies based on the Company’s credit rating. The Restated Credit Agreement contains affirmative covenants, negative covenants, financial covenants and events of default that are substantially similar to those in the Amended and Restated Term Loan Agreement. As of September 25, 2016 , the Company had no borrowings outstanding under the credit facility and was in compliance with all financial covenants.
NOTE 12 — COMMITMENTS AND CONTINGENCIES
Operating Leases and Related Guarantees
The Company leases certain of its administrative, research and development (“R&D”) and manufacturing facilities, regional sales/service offices, and certain equipment under non-cancelable operating leases. Certain of the Company’s facility leases for buildings located at its Fremont, California headquarters and certain other facility leases provide the Company with options to extend the leases for additional periods or to purchase the facilities. Certain of the Company’s facility leases provide for periodic rent increases based on the general rate of inflation.
The Company has operating leases regarding certain improved properties in Fremont and Livermore, California (the “Operating Leases”). The Company was required to maintain cash collateral in an aggregate of approximately $250.0 million in separate interest-bearing accounts as security for the Company’s obligations. These amounts are recorded with other restricted cash and investments in the Company’s Condensed Consolidated Balance Sheet as of September 25, 2016 .
During the term of the Operating Leases and when the terms of the Operating Leases expire, the property subject to those Operating Leases may be remarketed. The Company has guaranteed to the lessor that each property will have a certain minimum residual value. The aggregate guarantee made by the Company under the Operating Leases is generally no more than approximately $220.4 million ; however, under certain default circumstances, the guarantee with regard to an Operating Lease may be 100% of the lessor’s aggregate investment in the applicable property, which in no case will exceed $250.0 million , in the aggregate.
Other Guarantees
The Company has issued certain indemnifications to its lessors for taxes and general liability under some of its agreements. The Company has entered into certain insurance contracts that are intended to limit its exposure to such indemnifications. As of September 25, 2016 , the Company had not recorded any liability in connection with these indemnifications, as it does not believe, based on information available, that it is probable that any amounts will be paid under these guarantees.
Generally, the Company indemnifies, under pre-determined conditions and limitations, its customers for infringement of third party intellectual property rights by the Company’s products or services. The Company seeks to limit its liability for such indemnity to an amount not to exceed the sales price of the products or services subject to its indemnification obligations. The Company does not believe, based on information available, that it is probable that any material amounts will be paid under these guarantees.

The Company provides guarantees and standby letters of credit to certain parties as required for certain transactions initiated during the ordinary course of business. As of September 25, 2016 , the maximum potential amount of future payments that it could be required to make under these arrangements and letters of credit was $13.0 million . The Company does not believe, based on historical experience and information currently available, that it is probable that any amounts will be required to be paid.


24





Warranties
The Company provides standard warranties on its systems. The liability amount is based on actual historical warranty spending activity by type of system, customer, and geographic region, modified for any known differences such as the impact of system reliability improvements.
Changes in the Company’s product warranty reserves were as follows:
 
Three Months Ended
September 25,
2016
 
September 27,
2015
(in thousands)
Balance at beginning of period
$
100,321

 
$
93,209

Warranties issued during the period
34,855

 
34,203

Settlements made during the period
(32,228
)
 
(28,458
)
Changes in liability for pre-existing warranties
278

 
14

Balance at end of period
$
103,226

 
$
98,968

Legal proceedings
While the Company is not currently a party to any legal proceedings that it believes material, the Company is either a defendant or plaintiff in various actions that have arisen from time to time in the normal course of business, including intellectual property claims. The Company accrues for a liability when it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. Significant judgment is required in both the determination of probability and the determination as to whether a loss is reasonably estimable. To the extent there is a reasonable possibility that the losses could exceed the amounts already accrued, the Company believes that the amount of any such additional loss would be immaterial to the Company’s business, financial condition, and results of operations.
NOTE 13 — STOCK REPURCHASE PROGRAM
On April 29, 2014, the Board of Directors authorized the repurchase of up to $850 million of Common Stock. These repurchases can be conducted on the open market or as private purchases and may include the use of derivative contracts with large financial institutions, in all cases subject to compliance with applicable law. Repurchases will be funded using the Company’s on-shore cash and on-shore cash generation. This repurchase program has no termination date and may be suspended or discontinued at any time. As of September 25, 2016 the Company has approximately $229.1 million available for purchase under this repurchase program.
The Company suspended share repurchase activity under the repurchase program and made no share repurchases during the three months ended September 25, 2016 . The Company continues to withhold shares through net share settlements to cover minimum tax withholding obligations upon the vesting of restricted stock unit awards granted under the Company’s equity compensation plans, during the three months ended September 25, 2016 , the Company acquired 20,475 shares at a total cost of $1.9 million related to tax withholding. The shares retained by the Company through these net share settlements are not a part of the Board-authorized repurchase program but instead are authorized under the Company’s equity compensation plan.

25





NOTE 14 — ACCUMULATED OTHER COMPREHENSIVE LOSS
The components of accumulated other comprehensive income (loss) (“AOCI”), net of tax at the end of the period, as well as the activity during the period, were as follows:
 
Accumulated foreign
currency 
translation
adjustment
 
Accumulated
unrealized 
holding
gain (loss) on cash flow
hedges
 
Accumulated
unrealized 
holding
gain (loss) on available-
for-sale  investments
 
Accumulated
unrealized 
components
of defined 
benefit plans
 
Total
(in thousands)
Balance as of June 26, 2016
$
(39,528
)
 
$
(15,623
)
 
$
4,896

 
$
(19,078
)
 
$
(69,333
)
Other comprehensive income (loss) before reclassifications
4,302

 
(2,421
)
 
(2,723
)
 
123

 
(719
)
Losses reclassified from accumulated other comprehensive income (loss) to net income
199

(2)  
11,950

(1)  
903

(2)  

 
13,052

Net current-period other comprehensive income (loss)
$
4,501

 
$
9,529

 
$
(1,820
)
 
$
123

 
$
12,333

Balance as of September 25, 2016
$
(35,027
)
 
$
(6,094
)
 
$
3,076

 
$
(18,955
)
 
$
(57,000
)
 
(1) Amount of after tax gain reclassified from AOCI into net income located in revenue: $12,094 loss; cost of goods sold: $147 gain; selling, general and administrative expenses: $9 loss; and other income and expense: $6 gain.
(2) Amount of after tax gain reclassified from accumulated other comprehensive income into net income located in other expense, net.
NOTE 15 – BUSINESS COMBINATIONS
On October 20, 2015, the Company entered into an Agreement and Plan of Merger and Reorganization with KLA-Tencor Corporation. On October 5, 2016, the Company and KLA-Tencor announced that they had mutually agreed to terminate their previously announced Agreement and Plan of Merger and Reorganization. No termination fee is payable by either the Company or KLA-Tencor.

During the three months ended September 25, 2016 the Company expensed acquisition-related costs as incurred of $10.0 million , within selling, general, and administrative expense in the Condensed Consolidated Statement of Operations.


 


26





ITEM 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
CAUTIONARY STATEMENT REGARDING FORWARD LOOKING STATEMENTS
With the exception of historical facts, the statements contained in this discussion are forward-looking statements, which are subject to the safe harbor provisions created by the Private Securities Litigation Reform Act of 1995. Certain, but not all, of the forward-looking statements in this report are specifically identified as forward-looking, by use of phrases and words such as “believe,” “anticipate,” “expect,” “may,” “should,” “could,” and “estimated” other future-oriented terms. The identification of certain statements as “forward-looking” is not intended to mean that other statements not specifically identified are not forward-looking. Forward-looking statements include, but are not limited to, statements that relate to: trends and opportunities in the global economic environment and the semiconductor industry; the anticipated levels of, and rates of change in, future shipments, margins, market share, capital expenditures, international sales, revenue and operating expenses generally; management’s plans and objectives for our current and future operations and business focus; volatility in our quarterly results; customer and end user requirements and our ability to satisfy those requirements; customer capital spending and their demand for our products, and the reliability of indicators of change in customer spending and demand; the effect of variability in our customers' business plans on demand for our equipment and services; changes in demand for our products and in our market share resulting from, among other things, increases in our customers' proportion of capital expenditure (with respect to certain technology inflections); hedging transactions; our ability to defend our market share; our ability to obtain and qualify alternative sources of supply; factors that affect our tax rates; anticipated growth in the industry and the total market for wafer fabrication equipment and our growth relative to such growth; levels of research and development expenditures; the success of joint development relationships with customers, suppliers or other industry members, and outsourced activities; the role of component suppliers in our business; the resources invested to comply with evolving standards and the impact of such efforts; the estimates we make, and the accruals we record, in order to implement our critical accounting policies (including but not limited to the adequacy of prior tax payments, future tax liabilities and the adequacy of our accruals relating to them); our access to capital markets; our intention to pay quarterly dividends and the amounts thereof, if any; our ability and intention to repurchase our shares; our ability to manage and grow our cash position; and the sufficiency of our financial resources to support future business activities (including but not limited to operations, investments, debt service requirements and capital expenditures). Such statements are based on current expectations and are subject to risks, uncertainties, and changes in condition, significance, value, and effect, including without limitation those discussed below under the heading “Risk Factors” within Part II Item 1A and elsewhere in this report and other documents we file from time to time with the Securities and Exchange Commission (“SEC”), such as our annual report on Form 10-K for the year ended June 26, 2016 (our “2016 Form 10-K”) and our current reports on Form 8-K. Such risks, uncertainties and changes in condition, significance, value, and effect could cause our actual results to differ materially from those expressed in this report and in ways not readily foreseeable. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof and are based on information currently and reasonably known to us. We do not undertake any obligation to release the results of any revisions to these forward-looking statements, which may be made to reflect events or circumstances that occur after the date of this report or to reflect the occurrence or effect of anticipated or unanticipated events.
Documents To Review In Connection With Management’s Discussion and Analysis Of Financial Condition and Results Of Operations
For a full understanding of our financial position and results of operations for the three months ended September 25, 2016 , and the related Management’s Discussion and Analysis of Financial Condition and Results of Operations below, you should also read the Condensed Consolidated Financial Statements and notes presented in this Form 10-Q and the financial statements and notes in our 2016 Form 10-K.
EXECUTIVE SUMMARY
Lam Research Corporation (“Lam Research,” “Lam,” “we,” or “our”) has been an innovative supplier of wafer fabrication equipment and services to the semiconductor industry for more than 35 years. Our customers include semiconductor manufacturers that make memory, microprocessors, and other logic integrated circuits for a wide range of electronics; including mobile phones, computers, tablets, wearables, automotive features, storage devices, and networking equipment.
Our market-leading products are designed to help our customers build small, fast, and sophisticated chips essential to computing devices, cars, cloud services and other technologies and devices that power the modern economy. The process of integrated circuits fabrication consists of a complex series of process and preparation steps, and our product offerings in deposition, etch, and clean address a number of the most critical steps in the fabrication process. We leverage our expertise in semiconductor processing to develop technology and/or productivity solutions that typically benefit our customers through

27



Table of Contents


lower defect rates, enhanced yields, faster processing time, and reduced cost as well as by facilitating their ability to meet more stringent performance and design standards.
The semiconductor capital equipment industry has been highly competitive and characterized by rapid changes in demand. Industry cyclicality has been mitigated in recent years by market demands and consolidation among our customers. However, with a reduced number of customers, variability in their business plans can lead to rapid changes in demand for Lam’s equipment and services. The variability in our customers’ investments during any particular period is dependent on several factors including but not limited to electronics demand, economic conditions (both general and in the semiconductor and electronics industries), industry supply and demand, prices for semiconductors, and our customers’ ability to develop and manufacture increasingly complex and costly semiconductor devices.

Demand for our products increased in the quarter ended September 25, 2016 (the "September 2016 quarter") compared to the quarter ended June 26, 2016 (the "June 2016 quarter') primarily as foundry customers made capacity and technology investments. This demand trend manifested as higher shipments in the September 2016 quarter, and we believe demand for our products will strengthen over the next quarter. Technology inflections in our industry, including FinFET transistors, 3D NAND, multiple patterning and advanced packaging have led to an increase in our served addressable market for our deposition and etch products. We believe that, over the longer term, demand for our products should increase as the proportion of customers’ capital expenditures rises in these technology inflection areas and we continue to gain market share.
In October 2015, we entered into an Agreement and Plan of Merger and Reorganization with KLA-Tencor Corporation. On October 5, 2016, we announced that both parties have mutually agreed to terminate that agreement.
The following summarizes certain key financial information for the periods indicated below:
 
Three Months Ended
September 25, 2016
 
June 26,
2016
 
September 27, 2015
(in thousands, except per share data and
percentages)
Revenue
$
1,632,419

 
$
1,546,261

 
$
1,600,043

Gross margin
$
716,197

 
$
698,784

 
$
722,363

Gross margin as a percent of total revenue
43.9
%
 
45.2
%
 
45.1
%
Total operating expenses
$
400,250

 
$
389,543

 
$
386,935