Cree, Inc.
CREE INC (Form: 10-Q, Received: 01/19/2011 17:05:21)
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 December 26, 2010

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 0-21154

 

 

CREE, INC.

(Exact name of registrant as specified in its charter)

 

 

 

North Carolina   56-1572719

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

4600 Silicon Drive

Durham, North Carolina

  27703
(Address of principal executive offices)   (Zip Code)

(919) 313-5300

(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

The number of shares outstanding of the registrant’s common stock, par value $0.00125 per share, as of January 12, 2011, was 109,369,943.

 

 

 


Table of Contents

CREE, INC.

FORM 10-Q

For the Quarterly Period Ended December 26, 2010

INDEX

 

Description

   Page No.  

PART I – FINANCIAL INFORMATION

     3   

Item 1.

 

Financial Statements

     3   
 

Consolidated Balance Sheets as of December 26, 2010 (unaudited) and June 27, 2010

     3   
 

Consolidated Statements of Income for the three and six months ended December 26, 2010 (unaudited) and December 27, 2009 (unaudited)

     4   
 

Consolidated Statements of Cash Flow for the six months ended December 26, 2010 (unaudited) and December 27, 2009 (unaudited)

     5   
 

Notes to Consolidated Financial Statements (unaudited)

     6   

Item 2.

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

     16   

Item 3.

 

Quantitative and Qualitative Disclosures About Market Risk

     24   

Item 4.

 

Controls and Procedures

     24   

PART II – OTHER INFORMATION

     25   

Item 1.

 

Legal Proceedings

     25   

Item 1A.

 

Risk Factors

     25   

Item 2.

 

Unregistered Sale of Equity Securities and Use of Proceeds

     35   

Item 3.

 

Defaults Upon Senior Securities

     35   

Item 4.

 

(Removed and Reserved)

     35   

Item 5.

 

Other Information

     35   

Item 6.

 

Exhibits

     35   

SIGNATURE

     36   

 

2


Table of Contents

PART I – FINANCIAL INFORMATION

 

Item 1. Financial Statements

CREE, INC.

CONSOLIDATED BALANCE SHEETS

 

     December 26,
2010
(Unaudited)
     June 27, 2010  
     (Thousands, except per share data)  

ASSETS

     

Current assets:

     

Cash and cash equivalents

   $ 465,557       $ 397,431   

Short-term investments

     645,271         668,974   
                 

Total cash, cash equivalents, and short-term investments

     1,110,828         1,066,405   

Accounts receivable, net

     135,132         117,535   

Income tax receivable

     3,645         —     

Inventories

     145,517         112,241   

Deferred income taxes

     19,435         18,823   

Prepaid expenses and other current assets

     38,671         40,159   
                 

Total current assets

     1,453,228         1,355,163   

Property and equipment, net

     495,928         419,726   

Intangible assets, net

     103,621         106,109   

Goodwill

     326,178         313,019   

Other assets

     4,656         5,159   
                 

Total assets

   $ 2,383,611       $ 2,199,176   
                 

LIABILITIES AND SHAREHOLDERS’ EQUITY

     

Current liabilities:

     

Accounts payable, trade

   $ 80,595       $ 63,826   

Accrued salaries and wages

     19,760         26,247   

Income taxes payable

     —           14,375   

Other current liabilities

     21,414         15,643   

Contingent payment due related to LLF acquisition

     13,159         —     
                 

Total current liabilities

     134,928         120,091   

Long-term liabilities:

     

Deferred income taxes

     39,398         39,398   

Other long-term liabilities

     20,469         11,639   
                 

Total long-term liabilities

     59,867         51,037   

Commitments and contingencies (Note 11)

     

Shareholders’ equity:

     

Preferred stock, par value $0.01; 3,000 shares authorized at December 26, 2010 and June 27, 2010; none issued and outstanding

     —           —     

Common stock, par value $0.00125; 200,000 shares authorized at December 26, 2010 and June 27, 2010; 109,308 and 108,002 shares issued and outstanding at December 26, 2010 and June 27, 2010, respectively

     136         135   

Additional paid-in-capital

     1,561,402         1,507,435   

Accumulated other comprehensive income, net of taxes

     11,160         12,171   

Retained earnings

     616,118         508,307   
                 

Total shareholders’ equity

     2,188,816         2,028,048   
                 

Total liabilities and shareholders’ equity

   $ 2,383,611       $ 2,199,176   
                 

The accompanying notes are an integral part of the consolidated financial statements.

 

3


Table of Contents

CREE, INC.

(UNAUDITED)

CONSOLIDATED STATEMENTS OF INCOME

 

     Three Months Ended     Six Months Ended  
     December 26,
2010
     December 27,
2009
    December 26,
2010
     December 27,
2009
 
     (Thousands, except per share data)  

Revenue, net

   $ 256,983       $ 199,475      $ 525,420       $ 368,605   

Cost of revenue, net

     135,837         105,405        273,745         200,757   
                                  

Gross profit

     121,146         94,070        251,675         167,848   

Operating expenses:

          

Research and development

     29,233         19,325        53,965         39,499   

Sales, general and administrative

     33,366         25,560        62,568         49,173   

Amortization of acquisition related intangibles

     2,706         3,045        5,412         6,090   

Loss on disposal or impairment of long-lived assets

     429         110        901         403   
                                  

Total operating expenses

     65,734         48,040        122,846         95,165   

Operating income

     55,412         46,030        128,829         72,683   

Non-operating income:

          

Gain on sale of investments, net

     —           1        1         1   

Other non-operating income (expense)

     63         (41     —           90   

Interest income, net

     2,170         2,001        4,186         3,631   
                                  

Income from operations before income taxes

     57,645         47,991        133,016         76,405   

Income tax expense

     7,870         14,205        25,205         21,593   
                                  

Net income

   $ 49,775       $ 33,786      $ 107,811       $ 54,812   
                                  

Earnings per share:

          

Basic net income per share

   $ 0.46       $ 0.32      $ 1.00       $ 0.56   
                                  

Diluted net income per share

   $ 0.45       $ 0.32      $ 0.98       $ 0.55   
                                  

Shares used in per share calculation:

          

Basic

     108,364         104,591        108,032         97,876   
                                  

Diluted

     109,976         106,607        109,817         99,836   
                                  

The accompanying notes are an integral part of the consolidated financial statements.

 

4


Table of Contents

CREE, INC.

(UNAUDITED)

CONSOLIDATED STATEMENTS OF CASH FLOW

 

     Six Months Ended  
     December 26,
2010
    December 27,
2009
 
     (Thousands)  

Cash flows from operating activities:

    

Net income

   $ 107,811      $ 54,812   

Adjustments to reconcile net income to net cash provided by operating activities:

    

Depreciation and amortization

     50,318        44,578   

Stock-based compensation

     17,981        11,681   

Excess tax benefit from share-based payment arrangements

     (9,277     (15,526

Loss on disposal or impairment of long-lived assets

     901        403   

Provision for doubtful accounts

     (890     (49

Gain on sale of investment in securities

     (1     (1

Amortization of premium/discount on investments

     7,618        2,541   

Changes in operating assets and liabilities:

    

Accounts receivable

     (16,038     (10,368

Inventories

     (32,871     (14,352

Prepaid expenses and other assets

     1,991        (2,005

Accounts payable, trade

     22,516        (3,818

Accrued expenses and other liabilities

     (4,303     14,803   
                

Net cash provided by operating activities

     145,756        82,699   
                

Cash flows from investing activities:

    

Purchases of property and equipment

     (126,387     (61,826

Payment of COTCO contingent consideration

     —          (57,050

Purchases of investments

     (194,872     (356,157

Proceeds from maturities of investments

     147,502        40,317   

Proceeds from sale of property and equipment

     1        302   

Proceeds from sale of available-for-sale investments

     61,833        —     

Purchases of patent and licensing rights

     (5,199     (4,811
                

Net cash used in investing activities

     (117,122     (439,225
                

Cash flows from financing activities:

    

Net proceeds from issuance of common stock

     29,977        533,213   

Excess tax benefit from share-based payment arrangements

     9,277        15,526   
                

Net cash provided by financing activities

     39,254        548,739   
                

Effects of foreign exchange changes on cash and cash equivalents

     238        190   
                

Net increase in cash and cash equivalents

     68,126        192,403   

Cash and cash equivalents:

    

Beginning of period

   $ 397,431      $ 290,154   

End of period

   $ 465,557      $ 482,557   
                

The accompanying notes are an integral part of the consolidated financial statements.

 

5


Table of Contents

CREE, INC.

(UNAUDITED)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 1. Basis of Presentation and Changes in Significant Accounting Policies

Overview

Cree, Inc. (the “Company”) develops and manufactures semiconductor materials and devices primarily based on silicon carbide (“SiC”), gallium nitride (“GaN”) and related compounds. The physical and electronic properties of SiC and GaN offer technical advantages over traditional silicon, gallium arsenide (“GaAs”), sapphire and other materials used for certain electronic applications. The Company currently focuses its expertise in SiC and GaN on light emitting diode (“LED”) products. The Company also develops power and radio frequency (“RF”) products. The Company has products commercially available in each of these categories.

The Company derives the largest portion of its revenue from the sales of LED products. These products consist of LED components, LED chips, LED lighting products and SiC wafers. Also included are revenues derived from government agencies to support the development of LED lighting. In addition, the Company generates revenue from sales of power and RF products. These products include power rectifiers made from SiC, which provide faster switching speeds than comparable silicon-based power devices, and also include RF devices made from SiC or GaN, which allow for higher power densities as compared to silicon or gallium arsenide. Also included are revenues derived from government agencies to support the development of SiC- and GaN-based power and RF technology.

The majority of the Company’s products are manufactured at production facilities located in North Carolina and China. The Company also uses contract manufacturers for certain aspects of product fabrication. The Company operates research and development facilities in North Carolina, California and China (including Hong Kong).

The Company currently operates its business as one reportable segment.

Basis of Presentation

The consolidated balance sheet at December 26, 2010 and the consolidated statements of income for the three and six months ended December 26, 2010 and December 27, 2009, and the consolidated statements of cash flows for the six months ended December 26, 2010 and December 27, 2009 (“Consolidated Financial Statements”) have been prepared by the Company and have not been audited. In the opinion of management, all normal and recurring adjustments necessary to present fairly the consolidated financial position, results of operations and cash flows at December 26, 2010, and for all periods presented, have been made. The consolidated balance sheet at June 27, 2010 has been derived from the audited financial statements as of that date.

Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) have been condensed or omitted. It is suggested that these financial statements be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the fiscal year ended June 27, 2010 (“fiscal 2010”). The results of operations for the period ended December 26, 2010 are not necessarily indicative of the operating results that may be attained for the entire fiscal year ending June 26, 2011 (“fiscal 2011”).

Certain fiscal 2010 amounts in the accompanying Consolidated Financial Statements have been reclassified to conform to the fiscal 2011 presentation. These reclassifications had no effect on previously reported consolidated net income or shareholders’ equity.

Recently Adopted Accounting Pronouncements

Transfers of Financial Assets

In June 2009, the Financial Accounting Standards Board (the “FASB”) issued new guidance concerning the transfer of financial assets. This guidance amends the criteria for a transfer of a financial asset to be accounted for as a sale, creates more stringent conditions for reporting a transfer of a portion of a financial asset as a sale, changes the initial measurement of a transferor’s interest in transferred financial assets, eliminates the qualifying special-purpose entity

 

6


Table of Contents

concept and provides for new disclosures. This guidance became effective for the Company beginning in the first quarter of fiscal 2011. The Company’s adoption of the new accounting guidance did not have a significant impact on its Consolidated Financial Statements.

Determining the Primary Beneficiary of a Variable Interest Entity

In June 2009, the FASB issued new guidance concerning the determination of the primary beneficiary of a variable interest entity (“VIE”). This new guidance amends current U.S. GAAP by: requiring ongoing reassessments of whether an enterprise is the primary beneficiary of a VIE; amending the quantitative approach previously required for determining the primary beneficiary of the VIE; modifying the guidance used to determine whether an entity is a VIE; adding an additional reconsideration event (e.g., troubled debt restructurings) for determining whether an entity is a VIE; and requiring enhanced disclosures regarding an entity’s involvement with a VIE. This guidance became effective for the Company beginning in the first quarter of fiscal 2011. The Company’s adoption of the new accounting guidance did not have a significant impact on its Consolidated Financial Statements.

Interactive Data Filing with the SEC

On January 30, 2009, the SEC released the final rules requiring all registered companies to use eXtensible Business Reporting Language (“XBRL”) when submitting financial statements to the SEC. The new rules initially require interactive data reporting only by domestic and foreign large accelerated filers (those that prepare their financial statements in accordance with U.S. GAAP and have a worldwide public common equity float above $5.0 billion) for their first quarterly period ending after June 15, 2009 and all periods thereafter. As the Company did not originally meet this large accelerated filer requirement on the initial measurement date due to its market capitalization at that time, this reporting requirement only became effective for the Company in the first quarter of fiscal 2011. The Company provided its first quarter fiscal 2011 financial statements to the SEC using XBRL in compliance with the new SEC rules.

Revenue Recognition with Multiple Deliverables

In October 2009, the FASB issued new standards for revenue recognition with multiple deliverables. These new standards impact the determination of when the individual deliverables included in a multiple-element arrangement may be treated as separate units of accounting. Additionally, these new standards modify the manner in which the transaction consideration is allocated across the separately identified deliverables by no longer permitting the residual method of allocating arrangement consideration. This guidance became effective for the Company beginning in the first quarter of fiscal 2011. The Company’s adoption of the new accounting guidance did not have a significant impact on its Consolidated Financial Statements.

Recently Issued Accounting Pronouncements

Fair Value Disclosures

In January 2010, the FASB issued amended standards requiring additional fair value disclosures. The amended standards require disclosures of transfers in and out of Levels 1 and 2 of the fair value hierarchy, as well as requiring gross basis disclosures for purchases, sales, issuances and settlements within the Level 3 reconciliation. Additionally, the update clarifies the requirement to determine the level of disaggregation for fair value measurement disclosures and to disclose valuation techniques and inputs used for both recurring and nonrecurring fair value measurements in either Level 2 or Level 3. The Company adopted the new guidance in the third quarter of fiscal 2010, except for the disclosures related to purchases, sales, issuance and settlements, which will be effective for the Company beginning in the first quarter of fiscal 2012. Because these new standards are related primarily to disclosures, their adoption has not had and is not expected to have a significant impact on the Company’s Consolidated Financial Statements.

Note 2. Acquisitions

Acquisition of LED Lighting Fixtures, Inc.

On February 29, 2008 the Company acquired LED Lighting Fixtures, Inc. (“LLF”) through a wholly owned subsidiary that merged into Cree, Inc. on June 27, 2010. The Company acquired all of the outstanding share capital of LLF in exchange for total upfront consideration of $80.8 million, consisting of (1) $16.5 million in cash, (2) approximately 1.9 million shares of the Company’s common stock valued at $58.8 million, and (3) the assumption of fully vested LLF employee stock options valued at $4.5 million. The Company incurred transaction costs of approximately $1.0 million consisting primarily of professional fees incurred relating to attorneys, accountants and valuation advisors. Under the acquisition terms,

 

7


Table of Contents

additional consideration of up to $26.4 million would become payable to the former shareholders of LLF if defined product development targets and key employee retention measures were achieved over the three calendar years following the acquisition.

LLF met the conditions necessary for the earn-out payment for the calendar years ended December 31, 2008 and 2009 and as a result, the Company made a cash payment in the amount of $4.4 million to the former shareholders of LLF in the third quarter of fiscal 2009 and a cash payment in the amount of $8.8 million to the former shareholders of LLF in the third quarter of fiscal 2010, thus increasing goodwill in the Company’s consolidated financial statements. As of December 26, 2010, the final $13.2 million of contingent consideration to the former shareholders of LLF was accrued based on the Company’s review of the status of conditions necessary for the earn-out payment. The Company intends to make a $13.2 million cash payment to the former shareholders of LLF during its third quarter of fiscal 2011. This additional payment is reflected as a current liability and an increase to goodwill in the Company’s consolidated financial statements.

The assets, liabilities, and operating results of LLF have been included in the Company’s Consolidated Financial Statements from the date of acquisition and are reflected in all periods presented in the accompanying financial statements.

Acquisition of COTCO Luminant Device Limited

On March 30, 2007, the Company acquired COTCO Luminant Device Limited, a Hong Kong company (now Cree Hong Kong Limited) (“COTCO”), from COTCO Holdings Limited, a Hong Kong company (now United Luminous International (Holdings) Limited) (“Holdings”). The Company acquired all of the outstanding share capital of COTCO in exchange for consideration consisting of approximately 7.6 million shares of the Company’s common stock and $77.3 million cash. Under the acquisition terms, additional consideration would become payable to Holdings or its designees in the event COTCO achieved specific EBITDA targets over the Company’s two full fiscal years following the acquisition. For fiscal 2008 results, the Company made a cash payment in the amount of $60.0 million in fiscal 2009. For fiscal 2009 results, the Company made a cash payment in the amount of $57.1 million in fiscal 2010. These incremental payments were treated as additional purchase price and resulted in an increase to goodwill in the Company’s consolidated financial statements.

The assets, liabilities, and operating results of COTCO have been included in the Company’s Consolidated Financial Statements from the date of acquisition and are reflected in all periods presented in the accompanying financial statements.

Note 3. Financial Statement Details

Accounts Receivable, net

The following is a summary of the components of accounts receivable, net (in thousands):

 

     December 26,
2010
    June 27,
2010
 

Billed trade receivables

   $ 159,781      $ 138,642   

Unbilled contract receivables

     1,712        1,391   
                
     161,493        140,033   

Allowance for sales returns and other incentives

     (25,509     (20,551

Allowance for bad debts

     (852     (1,947
                

Total accounts receivable, net

   $ 135,132      $ 117,535   
                

 

8


Table of Contents

Inventories

The following is a summary of the components of inventories (in thousands):

 

     December 26,
2010
     June 27,
2010
 

Raw material

   $ 32,527       $ 24,858   

Work-in-progress

     68,520         57,180   

Finished goods

     44,470         30,203   
                 

Total inventories

   $ 145,517       $ 112,241   
                 

Note 4. Investments

Short-term investments consist of high grade municipal and corporate bonds and other debt securities. The Company classifies its marketable securities as available-for-sale. This is based upon management’s determination that the underlying cash invested in these securities is available for operations as necessary.

The following table provides a summary of marketable investments by type (in thousands):

 

     December 26, 2010  
     Amortized
Cost
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
    Estimated Fair
Value
 

Municipal bonds

   $ 452,891       $ 2,916       $ (617   $ 455,190   

Corporate bonds

     112,981         1,251         (213     114,019   

Municipal variable rate demand notes

     2,850         —           —          2,850   

U.S. agency securities

     60,556         530         (17     61,069   

U.S. government securities

     2,006         9         —          2,015   

Non-U.S. government securities

     10,118         10         —          10,128   
                                  

Total

   $ 641,402       $ 4,716       $ (847   $ 645,271   
                                  

 

     June 27, 2010  
     Amortized
Cost
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
    Estimated Fair
Value
 

Municipal bonds

   $ 441,653       $ 3,502       $ (117   $ 445,038   

Corporate bonds

     120,991         1,478         (20     122,449   

Municipal variable rate demand notes

     15,685         —           (1     15,684   

U.S. agency securities

     72,531         615         (32     73,114   

U.S. government securities

     7,533         76         —          7,609   

Non-U.S. government securities

     5,091         —           (11     5,080   
                                  

Total

   $ 663,484       $ 5,671       $ (181   $ 668,974   
                                  

 

9


Table of Contents

The contractual maturities of marketable investments at December 26, 2010 were as follows (in thousands):

 

     Within One
Year
     After One,
Within Five
Years
     After Five,
Within Ten
Years
     After Ten
Years
     Total  

Municipal bonds

   $ 169,086       $ 286,105       $ —         $ —         $ 455,191   

Corporate bonds

     26,690         87,329         —           —           114,019   

Municipal variable rate demand notes

     —           —           —           2,850         2,850   

U.S. agency securities

     20,634         40,435         —           —           61,069   

U.S. government securities

     2,015         —           —           —           2,015   

Non-U.S. government securities

     10,127         —           —           —           10,127   
                                            

Total

   $ 228,552       $ 413,869       $ —         $ 2,850       $ 645,271   
                                            

Note 5. Fair Value of Financial Instruments

Under U.S. GAAP, fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (i.e., “the exit price”) in an orderly transaction between market participants at the measurement date. In determining fair value, the Company uses various valuation approaches, including quoted market prices and discounted cash flows. U.S. GAAP also establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are obtained from independent sources and can be validated by a third party, whereas, unobservable inputs reflect assumptions regarding what a third party would use in pricing an asset or liability. The fair value hierarchy is broken down into three levels based on the reliability of inputs as follows:

 

   

Level 1 - Valuations based on quoted prices in active markets for identical instruments that the Company is able to access. Since valuations are based on quoted prices that are readily and regularly available in an active market, valuation of these products does not entail a significant degree of judgment.

 

   

Level 2 - Valuations based on quoted prices in active markets for instruments that are similar, or quoted prices in markets that are not active for identical or similar instruments, and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets.

 

   

Level 3 - Valuations based on inputs that are unobservable and significant to the overall fair value measurement.

The financial assets for which the Company performs recurring fair value remeasurements are cash equivalents and short-term investments. As of December 26, 2010, financial assets utilizing Level 1 inputs included money market funds and investments traded on active securities exchanges. Financial assets utilizing Level 2 inputs included corporate bonds, municipal bonds and variable rate demand notes, and U.S. agency securities. Level 2 assets are valued using a third-party pricing services consensus price which is a weighted average price based on multiple sources. These sources determine prices utilizing market income models which factor in, where applicable, transactions of similar assets in active markets, transactions of identical assets in infrequent markets, interest rates, bond or credit default swap spreads and volatility. The Company does not have any significant financial assets requiring the use of Level 3 inputs. There were no transfers between Level 1 and Level 2 during the six months ended December 26, 2010.

 

10


Table of Contents

The following table sets forth financial instruments carried at fair value within the U.S. GAAP hierarchy and using the lowest level of input (in thousands):

 

     Financial Instruments Carried at Fair Value
as of December 26, 2010
 
     Quoted Prices
in Active
Markets for
Identical Items

(Level 1)
     Significant
Other
Observable
Inputs (Level 2)
     Significant
Unobservable
Inputs (Level 3)
     Total  

Assets:

           

Cash equivalents

           

Money market funds

   $ 23,974       $ —         $ —         $ 23,974   

Municipal bonds

     —           15,601         —           15,601   

U.S. agency securities

     —           11,898         —           11,898   
                                   

Total cash equivalents

     23,974         27,499         —           51,473   

Short-term investments

           

Municipal bonds

     —           455,191         —           455,191   

Corporate bonds

     —           114,019         —           114,019   

Municipal variable rate demand notes

     —           2,850         —           2,850   

U.S. agency securities

     —           61,069         —           61,069   

U.S. government securities

     2,015         —           —           2,015   

Non-U.S. government securities

     —           10,127         —           10,127   
                                   

Total short-term investments

     2,015         643,256         —           645,271   
                                   

Total assets

   $ 25,989       $ 670,755       $ —         $ 696,744   
                                   

The Company utilizes specific identification in computing realized gains and losses on the sale of investments. Realized gains and losses from the sale of investments are included in “Gain on sale of investments, net” and unrealized gains and losses are included as a separate component of equity, net of tax, unless the loss is determined to be “other-than-temporary.”

The Company evaluates its investments for possible impairment or a decline in fair value below cost basis that is deemed to be “other-than-temporary” on a periodic basis. It considers such factors as the length of time and extent to which fair value has been below cost basis, the financial condition of the investee, and its ability and intent to hold the investment for a period of time that may be sufficient for an anticipated recovery in market value.

Note 6. Intangible Assets

Intangible Assets, net

The following table reflects the components of intangible assets, net (in thousands):

 

     December 26,
2010
    June 27,
2010
 

Customer relationships

   $ 52,620      $ 52,620   

Developed technology

     51,860        51,860   

Patent and license rights

     76,789        71,762   
                
   $ 181,269      $ 176,242   

Accumulated amortization

     (77,648     (70,133
                

Intangible assets, net

   $ 103,621      $ 106,109   
                

Total amortization expense, including the amortization of acquisition related intangibles, patents and license rights, recognized during the three and six months ended December 26, 2010 was $3.8 and $7.6 million, respectively. For the three and six months ended December 27, 2009, total amortization expense, including amortization of acquisition related intangibles, patents and license rights was $4.1 and $8.1 million, respectively.

 

11


Table of Contents

Goodwill

Goodwill increased during the six months ended December 26, 2010 due to the accrual of the final $13.2 million earn-out payment related to the LLF acquisition that was considered additional purchase price and recorded as an increase to goodwill.

Note 7. Shareholders’ Equity

In September 2009, the Company issued and sold 12.65 million shares of its common stock, with net proceeds of approximately $434.0 million.

As of December 26, 2010, there remained approximately 4.5 million shares of the Company’s common stock approved for repurchase under a repurchase program authorized by the Board of Directors that extends through June 2011. During the six months ended December 26, 2010, the Company did not repurchase any shares under the repurchase program.

The following presents a summary of activity in comprehensive income, net (in thousands):

 

     Three Months Ended      Six Months Ended  
     December 26,
2010
    December 27,
2009
     December 26,
2010
    December 27,
2009
 

Net income

   $ 49,775      $ 33,786       $ 107,811      $ 54,812   

Other comprehensive income:

         

Net unrealized (loss) gain on available-for-sale securities, net of tax (expense) benefit of $1,177, $(202), $611, and $(459), respectively

     (1,945     333         (1,010     717   
                                 

Total other comprehensive income

     (1,945     333         (1,010     717   
                                 

Comprehensive income

   $ 47,830      $ 34,119       $ 106,801      $ 55,529   
                                 

Note 8. Earnings Per Share

The following presents the computation of basic earnings per share (in thousands, except per share data):

 

     Three Months Ended      Six Months Ended  
     December 26,
2010
     December 27,
2009
     December 26,
2010
     December 27,
2009
 

Basic:

           

Net income

   $ 49,775       $ 33,786       $ 107,811       $ 54,812   
                                   

Weighted average common shares

     108,364         104,591         108,032         97,876   
                                   

Basic earnings per share

   $ 0.46       $ 0.32       $ 1.00       $ 0.56   
                                   

 

12


Table of Contents

The following computation reconciles the differences between the basic and diluted earnings per share presentations (in thousands, except per share data):

 

     Three Months Ended      Six Months Ended  
     December 26,
2010
     December 27,
2009
     December 26,
2010
     December 27,
2009
 

Diluted:

           

Net income

   $ 49,775       $ 33,786       $ 107,811       $ 54,812   
                                   

Weighted average common shares - basic

     108,364         104,591         108,032         97,876   

Dilutive effect of stock options, unvested shares and ESPP purchase rights

     1,612         2,016         1,785         1,960   
                                   

Weighted average common shares - diluted

     109,976         106,607         109,817         99,836   
                                   

Diluted earnings per share

   $ 0.45       $ 0.32       $ 0.98       $ 0.55   
                                   

Potential common shares that would have the effect of increasing diluted earnings per share are considered to be antidilutive. In accordance with U.S. GAAP, these shares were not included in calculating diluted earnings per share. For the three and six months ended December 26, 2010 there were 2.3 and 1.6 million shares, respectively, not included in calculating diluted earnings per share because their effect was antidilutive. For the three and six months ended December 27, 2009 there were 2.4 and 2.2 million shares, respectively, not included in calculating diluted earnings per share because their effect was antidilutive.

Note 9. Stock-Based Compensation

The Company currently has one equity-based compensation plan from which stock-based compensation awards can be granted to employees and directors. In addition, the Company has plans that have been terminated as to future grants, but under which options are currently outstanding. The Company also has an Employee Stock Purchase Plan that provides employees with the opportunity to purchase the Company’s common stock at 85% of the fair market value of the common stock at two designated times each year.

Stock Option Awards

The following table summarizes outstanding option awards as of December 26, 2010, and changes during the six months then ended (in thousands, except per share data):

 

     Number of
Shares
    Weighted-
Average
Exercise Price
 

Outstanding at June 27, 2010

     5,638      $ 31.23   

Granted

     2,193        55.74   

Exercised

     (1,089     27.87   

Forfeited or expired

     (159     66.29   
          

Outstanding at December 26, 2010

     6,583      $ 39.10   
          

 

13


Table of Contents

Restricted Stock and Stock Unit Awards

A summary of nonvested shares of restricted stock and stock unit awards outstanding under the Company’s 2004 Long-Term Incentive Compensation Plan as of December 26, 2010, and changes during the six months then ended, follows (in thousands, except per share data):

     Number  of
Shares/Units
    Weighted-
Average  Grant-
Date Fair
Value
 

Nonvested at June 27, 2010

     418      $ 28.68   

Granted

     211        55.32   

Vested

     (149     28.38   

Forfeited

     —          —     
          

Nonvested at December 26, 2010

     480      $ 40.49   
          

Stock-Based Compensation Valuation and Expense

The Company accounts for its employee stock-based compensation plan using the fair value method. The fair value method requires the Company to estimate the grant date fair value of its stock-based awards and amortize this fair value to compensation expense over the requisite service period or vesting term.

To estimate the fair value of the Company’s stock option awards the Company currently uses the Black-Scholes option-pricing model. The determination of the fair value of stock-based payment awards on the date of grant using an option-pricing model is affected by the Company’s stock price as well as assumptions regarding a number of complex and subjective variables. These variables include the expected stock price volatility over the term of the awards, actual and projected employee stock option exercise behaviors, risk-free interest rate and expected dividends. Due to the inherent limitations of option-valuation models available today, including future events that are unpredictable and the estimation process utilized in determining the valuation of the stock-based awards, the ultimate value realized by award holders may vary significantly from the amounts expensed in the Company’s financial statements.

For restricted stock and stock unit awards, grant date fair value is based upon the market price of the Company’s common stock on the date of the grant. This fair value is then amortized to compensation expense over the requisite service period or vesting term.

Stock-based compensation expense is recorded net of estimated forfeitures such that expense is recorded only for those stock-based awards that are expected to vest. A forfeiture rate is estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from initial estimates.

Total stock-based compensation expense was as follows (in thousands):

 

     Three Months Ended      Six Months Ended  

Income Statement Classification

   December 26,
2010
     December 27,
2009
     December 26,
2010
     December 27,
2009
 

Cost of goods sold

   $ 1,351       $ 729       $ 2,483       $ 1,554   

Research and development

     2,183         1,388         3,998         2,652   

Sales, general and administrative

     6,443         3,952         11,500         7,475   
                                   

Total operating expenses

     8,626         5,340         15,498         10,127   
                                   

Total

   $ 9,977       $ 6,069       $ 17,981       $ 11,681   
                                   

Note 10. Income Taxes

The variation between the Company’s effective income tax rate and the U.S. statutory rate of 35 percent is primarily due to the consolidation of our foreign operations, which are subject to income taxes at lower statutory rates. A change in the mix of pretax income from these various tax jurisdictions can have a significant impact on the Company’s periodic effective tax rate.

 

14


Table of Contents

Under U.S. GAAP, a two-step approach is followed to recognize and measure uncertain tax positions. The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates that it is more likely than not that the position will be sustained on audit, including resolution of related appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount that is cumulatively more than 50% likely to be realized upon ultimate settlement.

At June 27, 2010, the Company had recorded $7.6 million of unrecognized tax benefits. During the six months ended December 26, 2010, there were no changes to that amount of recognized tax benefits. As a result, the total amount of unrecognized tax benefits as of December 26, 2010 is $7.6 million. If any portion of this $7.6 million is recognized, the Company will then include that portion in the computation of its effective tax rate. Although the ultimate timing of the resolution and/or closure of audits is highly uncertain, the Company believes it is reasonably possible that approximately $1.4 million of gross unrecognized tax benefits will change in the next 12 months.

The Company’s policy is to include interest and penalties related to unrecognized tax benefits within the income tax expense line item in the consolidated statements of income. As of December 26, 2010, the Company had accrued $80 thousand of interest and penalties.

The Company files U.S. federal, U.S. state, and foreign tax returns. For U.S. federal purposes, the Company is generally no longer subject to tax examinations for fiscal years ended June 29, 2008 and prior. The Company was notified during the quarter that the IRS will begin an examination of the Company’s corporate tax return for the fiscal year ended June 28, 2009. For foreign purposes, the Company is generally no longer subject to examination for tax periods 1999 and prior. During the quarter, the Hong Kong tax authorities commenced an examination for fiscal years 2008 and 2009. For U.S. state tax returns the Company is generally no longer subject to tax examinations for fiscal years prior to 2007. Certain federal and state carryforward tax attributes generated in prior years remain subject to examination and adjustment.

Note 11. Commitments and Contingencies

Please refer to the section entitled “Litigation” under Note 13 – Commitments and Contingencies of the Notes to the Consolidated Financial Statements in Item 8 of the Company’s Annual Report on Form 10-K for the fiscal year ended June 27, 2010 and Note 11 – Commitments and Contingencies and Note 12 – Subsequent Events of the Notes to Consolidated Financial Statements in Part I, Item 1 of the Company’s Quarterly Report on Form 10-Q for the quarter ended September 26, 2010 for a description of material legal proceedings including the proceedings discussed below. The following is an update to the Company’s legal proceedings.

The Fox Group, Inc. v. Cree, Inc. and Dow Corning Corporation

The Company reported in its most recent Annual Report on Form 10-K that a patent infringement action is pending against it in the U.S. District Court for the Eastern District of Virginia. The complaint, which was filed on June 29, 2010, alleges that the Company is infringing two U.S. patents by making, using, selling, and/or offering for sale silicon carbide substrates and products that use silicon carbide that practice the inventions claimed in the patents, and it requests a judgment against the Company for damages in an unspecified amount, an injunction against infringements, attorneys’ fees and costs. On August 30, 2010, the Company filed an answer and counterclaims in which it denies any infringement and asserts, among other defenses, that the patents are invalid and are unenforceable. The counterclaims seek a declaratory judgment that the Company has not infringed the patents and that the patents are invalid and unenforceable. The court has scheduled the trial for July 2011 and discovery has commenced.

Cree, Inc. v. SemiLEDs Corporation and Helios Crew Corp.

The Company is the plaintiff in an action against defendants SemiLEDs Corporation and its subsidiary, Helios Crew Corp., pending in the U.S. District Court for the District of Delaware. The action was commenced by the filing of a complaint on October 8, 2010. The complaint alleges the defendants are infringing three U.S. patents owned by the Company. The three patents are No. 7,737,459 entitled “High Output Group III Nitride Light Emitting Diodes,” No. 7,211,833 entitled “Light Emitting Diodes Including Barrier Layers/Sublayers” and No. 7,611,915, entitled “Methods for Manufacturing Light Emitting Diodes Including Barrier Layers/Sublayers.” The suit seeks monetary damages and an injunction against future infringements. On November 3, 2010 the defendants filed an answer and counterclaims in which they deny any infringement and assert, among other defenses, that the patents are invalid. The counterclaims seek a declaratory judgment that the defendants have not infringed the patents and that the patents are invalid.

 

15


Table of Contents

 

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

Information set forth in this Quarterly Report on Form 10-Q contains various “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended (Securities Act), and Section 21E of the Securities Exchange Act of 1934, as amended (Exchange Act). All information contained in this report relative to future markets for our products and trends in and anticipated levels of revenue, gross margins and expenses, as well as other statements containing words such as “believe,” “project,” “may,” “will,” “anticipate,” “target,” “plan,” “estimate,” “expect” and “intend” and other similar expressions constitute forward-looking statements. These forward-looking statements are subject to business, economic and other risks and uncertainties, both known and unknown, and actual results may differ materially from those contained in the forward-looking statements. Any forward-looking statements we make are as of the date made and we have no duty to update them if our views later change. These forward-looking statements should not be relied upon as representing our views as of any date subsequent to the date of this Quarterly Report. Examples of risks and uncertainties that could cause actual results to differ materially from historical performance and any forward-looking statements include, but are not limited to, those described in “Risk Factors” in Part II, Item 1A of this Quarterly Report.

The following discussion is designed to provide a better understanding of our unaudited consolidated financial statements, including a brief discussion of our business and products, key factors that impacted our performance, and a summary of our operating results. The following discussion should be read in conjunction with the unaudited condensed consolidated financial statements and the notes thereto included in Part I, Item 1 of this Quarterly Report on Form 10-Q, and the consolidated financial statements and notes thereto and Management’s Discussion and Analysis of Financial Condition and Results of Operations contained in our Annual Report on Form 10-K for the year ended June 27, 2010. Historical results and percentage relationships among any amounts in the financial statements are not necessarily indicative of trends in operating results for any future periods.

Overview

Cree, Inc. (Cree, we, our, or us) is a leading innovator of lighting-class light emitting diodes (LEDs), LED lighting and semiconductor solutions for wireless and power applications. Our solutions are driving improvements in applications such as general illumination, video displays, automotive, electronic signs and signals, variable-speed motors and wireless systems.

We develop and manufacture semiconductor materials and devices primarily based on silicon carbide (SiC), gallium nitride (GaN) and related compounds. The physical and electronic properties of SiC and GaN offer technical advantages over traditional silicon, gallium arsenide (GaAs), sapphire and other materials used for certain electronic applications.

We derive the largest portion of our revenue from the sales of our LED products. These products consist of LED components, LED chips, LED lighting products and SiC wafers. As we develop and improve our LED technology and the market focuses on energy efficiency, we believe the potential market for LED lighting applications will continue to expand. Our success in selling LED products depends upon our ability to drive adoption and offer innovative products and solutions that enable our customers to succeed in the market. By driving adoption we believe we can influence the direction of the market and open more opportunities for LEDs. Innovation is critical to maintain and grow our competitive position, especially as we face competition from various companies such as Nichia Corporation, OSRAM Semiconductor GmbH and Philips Lumileds Lighting Company, LLC, or other companies that may be targeting the LED lighting marketplace. Also included in LED product revenues are revenues derived from government agencies to support the development of LED lighting.

In addition, we generate revenue from sales of power and RF products. Also included are revenues derived from government agencies to support the development of SiC- and GaN-based power and RF technology.

The majority of our products are manufactured at our production facilities located in North Carolina and China. We also use contract manufacturers for certain aspects of product fabrication. We operate research and development facilities in North Carolina, California, and China (including Hong Kong).

We currently operate our business as one reportable segment.

 

16


Table of Contents

Industry Dynamics and Trends

There are a number of other industry factors that affect our business which include, among others:

 

   

Overall Demand for Products and Applications using LEDs. Our potential for growth depends significantly on the adoption of LEDs within the general lighting market and our ability to affect this rate of adoption. Although LED lighting has grown rapidly in recent years, adoption of LEDs for general lighting is relatively new, still limited, and faces significant challenges before widespread adoption. These uncertainties related to adoption make demand difficult to forecast for us and our distributors.

 

   

Intense and Constantly Evolving Competitive Environment . Competition in the industry is intense and new companies are entering the LED market. Product pricing pressures exist as market participants often undertake pricing strategies to gain or protect market share. To remain competitive, market participants must continuously increase product performance and reduce costs to offset lower average sales prices.

 

   

Technological Innovation and Advancement. Innovations and advancements in LED technology continue to expand the potential commercial application of LEDs particularly in the general illumination market. However, new technologies or standards could emerge, or improvements could be made in existing technologies, that reduce or limit the demand for LEDs in certain markets.

 

   

Regulatory Actions Concerning Energy Efficiency . Many countries have already instituted or have announced plans to institute government regulations and programs designed to encourage or mandate increased energy efficiency, even in some cases banning forms of incandescent lighting, which are advancing the adoption of more energy efficient lighting solutions such as LEDs.

 

   

Intellectual Property Issues. Market participants rely on patented and non-patented proprietary information relating to product development, manufacturing capabilities and other core competencies of their business. Protection of intellectual property is critical. Therefore, steps such as additional patent applications, confidentiality and non-disclosure agreements, as well as other security measures are generally taken. To enforce or protect intellectual property rights, litigation or threatened litigation commonly occurs.

Highlights of the Second Quarter Fiscal 2011

The following is a summary of our financial results for the three months ended December 26, 2010:

 

   

Our year over year revenues increased 29% to $257.0 million;

 

   

We achieved operating income of $55.4 million in the second quarter of fiscal 2011 compared to $46.0 million in the second quarter of fiscal 2010. Net income per diluted share was $0.45 compared to $0.32 for the second quarter of fiscal 2010;

 

   

We spent $64.7 million on capital expenditures in the second quarter of fiscal 2011 compared to $41.4 million in the second quarter of fiscal 2010 as we continue to expand our manufacturing capacity; and

 

   

Combined cash, cash equivalents and marketable investments increased to $1,110.8 million at December 26, 2010 compared to $1,066.4 million at June 27, 2010.

Business Outlook

We project that the markets for our products will remain highly competitive during the remainder of fiscal 2011. We anticipate focusing on the following key areas, among others, in response to this competitive environment:

 

   

Build on our leadership in LED lighting. We plan to continue to be a catalyst for LED lighting adoption by developing innovative products that lead the market and enable new applications for LED lighting, such as the recent demonstration of the brightest, most-efficient LED-based A-lamp to date that meets ENERGY STAR ® performance requirements for a 60-watt standard LED replacement bulb. We see such new product launches and demonstrations as an important part of our effort to fundamentally change perceptions about LED lighting.

 

   

Better enable our customers to develop high quality LED based lighting products. We want to facilitate our customers’ ability to create and successfully release high quality LED based lighting products. To accomplish this objective, we plan to continue to develop higher performing LED components that increase the value proposition for LED lighting and reduce their initial cost. We also plan to offer more highly integrated products, like the XLamp ® CXA20 LED array, which is the first lighting-class array that can enable a 60-watt A-lamp equivalent. Additionally, we plan to expand our sales, applications and customer support capabilities.

 

   

Expand and enhance our production capacity. We plan to invest in the capacity to drive scale and support our transition to 150mm wafer production. In fiscal 2011, we are targeting to expand our production capacity at multiple points along the LED manufacturing process. In addition, we plan to increase research and development spending to support our efforts around our 150mm wafer capabilities and the development of new products.

 

17


Table of Contents

 

   

Continue to invest in and grow our SiC power product line. We have experienced growing sales of our SiC power products in recent quarters. We have also seen rising demand for energy efficient power switching technology and believe this product line is well positioned to grow over the next several years. We recently released our first SiC switch product, a 1200v SiC MOSFET, which we believe will expand the market opportunity for our products.

Results of Operations

The following table sets forth certain consolidated statement of income data for the periods indicated:

 

     Three Months Ended
December 26, 2010
    Three Months Ended
December 27, 2009
 

(Dollars in Thousands, Except Per Share Data)

   Dollars      % of Revenue     Dollars     % of Revenue  

Revenue, net

   $ 256,983         100   $ 199,475        100

Cost of revenue, net

     135,837         53     105,405        53
                                 

Gross profit

     121,146         47     94,070        47
                                 

Research and development

     29,233         11     19,325        10

Sales, general and administrative

     33,366         13     25,560        13

Amortization of acquisition related intangibles

     2,706         1     3,045        2

Loss on disposal or impairment of long-lived assets

     429         0     110        0
                                 

Operating income

     55,412         22     46,030        23

Gain on sale of investments, net

     —           0     1        0

Other non-operating income

     63         0     (41     0

Interest income, net

     2,170         1     2,001        1
                                 

Income before income taxes

     57,645         22     47,991        24

Income tax expense

     7,870         3     14,205        7
                                 

Net income

     49,775         19     33,786        17
                     

Diluted earnings per share

   $ 0.45         $ 0.32     
                     
     Six Months Ended
December 26, 2010
    Six Months Ended
December 27, 2009
 

(Dollars in Thousands, Except Per Share Data)

   Dollars      % of Revenue     Dollars     % of Revenue  

Revenue, net

   $ 525,420         100   $ 368,605        100

Cost of revenue, net

     273,745         52     200,757        54
                                 

Gross profit

     251,675         48     167,848        46
                                 

Research and development

     53,965         10     39,499        11

Sales, general and administrative

     62,568         12     49,173        13

Amortization of acquisition related intangibles

     5,412         1     6,090        2

Loss on disposal or impairment of long-lived assets

     901         0     403        0
                                 

Operating income

     128,829         25     72,683        20

Gain on sale of investments, net

     1         0     1        0

Other non-operating income

     —           0     90        0

Interest income, net

     4,186         1     3,631        1
                                 

Income before income taxes

     133,016         25     76,405        21

Income tax expense

     25,205         5     21,593        6
                                 

Net income

     107,811         21 %       54,812        15 %  
                     

Diluted earnings per share

   $ 0.98         $ 0.55     
                     

 

18


Table of Contents

Revenues

Revenues for the three and six months ended December 26, 2010 and December 27, 2009 were comprised of the following (in thousands, except percentages):

 

     Three Months Ended                  Six Months Ended               
     December 26,
2010
    December 27,
2009
    Change     December 26,
2010
    December 27,
2009
    Change  

LED products

   $ 229,699      $ 181,986      $ 47,713         26   $ 474,065      $ 338,013      $ 136,052         40

Percent of total revenues

     89     91          90     92     

Power and RF products

     27,284        17,489        9,795         56     51,355        30,592        20,763         68

Percent of total revenues

     11     9          10     8     
                                                      

Total revenues

   $ 256,983      $ 199,475      $ 57,508         29   $ 525,420      $ 368,605      $ 156,815         43
                                                      

LED Products

We derive the largest portion of our revenue from the sale of our LED products which comprised approximately 89% and 91% of our total revenues for the second quarter of fiscal 2011 and fiscal 2010, respectively. For the six months ended December 26, 2010 and December 27, 2009, revenue from the sale of our LED products comprised approximately 90% and 92% of our total revenues, respectively.

Revenue from LED products increased approximately 26% to $229.7 million in the second quarter of fiscal 2011 from $182.0 million in the second quarter of fiscal 2010. For the six months ended December 26, 2010, revenue from our LED products increased approximately 40% to $474.1 million from $338.0 million for the six months ended December 27, 2009. Our year over year sales growth was primarily driven by increased sales of LED components. The blended average selling price (ASP) for our LED products increased by 50% in the second quarter of fiscal 2011 compared to the second quarter of fiscal 2010. This increase was due to a shift in product mix to a higher proportion of revenues generated from sales of our LED components and LED lighting products versus our LED chips.

Power and RF Products

Revenues from our power and RF products comprised approximately 11% and 9% of our total revenues for the second quarter of fiscal 2011 and fiscal 2010, respectively. For the six months ended December 26, 2010 and December 27, 2009, revenue from the sale of our power and RF products comprised approximately 10% and 8% of our total revenues, respectively.

Revenue from power and RF increased approximately 56% to $27.3 million in the second quarter of fiscal 2011 from $17.5 million in the second fiscal quarter of 2010. For the six months ended December 26, 2010, revenue from our power and RF products increased approximately 68% to $51.4 million from $30.6 million for the six months ended December 27, 2009. The increase in our power and RF products revenue was primarily due to increased orders for SiC Schottky diodes and GaN monolithic microwave integrated circuits, or (MMICs).

Gross Profit

Cost of revenue includes materials, labor and overhead costs incurred internally or paid to contract manufacturers to produce our products. Gross profit in dollars and gross margin were as follows (in thousands, except percentages):

 

     Three Months Ended                  Six Months Ended               
     December 26,
2010
    December 27,
2009
    Change     December 26,
2010
    December 27,
2009
    Change  

Total gross profit

   $ 121,146      $ 94,070      $ 27,076         29   $ 251,675      $ 167,848      $ 83,827         50

Total gross margin

     47     47          48     46     

Gross profit in the second quarter of fiscal 2011 increased approximately 29% to $121.1 million from $94.1 million in the second quarter of fiscal 2010. For the six months ended December 26, 2010 gross profit increased approximately 50% to $251.7 million from $167.8 million for the six months ended December 27, 2009. For the second quarter of fiscal 2011 our gross margin remained flat relative to the second quarter of fiscal 2010. For the six months ended December 26, 2010 our gross margin increased to 48% from 46% for the six months ended December 27, 2009. Factors contributing to the increase in gross margin were changes in product mix to higher margin products and lower production costs across our product lines due to higher production yields.

 

19


Table of Contents

Research and Development

Research and development expenses include costs associated with the development of new products, enhancements of existing products and general technology research. These costs consist primarily of employee compensation and benefits, occupancy costs, consulting costs and the cost of development equipment and supplies.

The following sets forth our research and development expenses in dollars and as a percentage of revenues (in thousands, except percentages):

 

     Three Months Ended                  Six Months Ended               
     December 26,
2010
    December 27,
2009
    Change     December 26,
2010
    December 27,
2009
    Change  

Research and development

   $ 29,233      $ 19,325      $ 9,908         51   $ 53,965      $ 39,499      $ 14,466         37

Percent of total revenues

     11     10          10     11     

Research and development expenses in the second quarter of fiscal 2011 increased 51% to $29.2 million from $19.3 million in the second quarter of fiscal 2010. For the six months ended December 26, 2010 research and development expenses increased 37% to $54.0 million from $39.5 million for the six months ended December 27, 2009. The increase was primarily due to increased spending to support the development of 150mm wafer capabilities as well as continued research and development activities focusing on brighter LED chips, LED components, LED lighting products, and power products. Our research and development expenses vary significantly from quarter to quarter based on a number of factors, including: the timing of new product introductions, timing of expenditures and the number and nature of our ongoing research and development activities. However, we anticipate that in general our research and development expenses will continue to increase over time to support future growth.

Sales, General and Administrative

Sales, general and administrative expenses are composed primarily of costs associated with our sales and marketing personnel and our executive and administrative personnel (for example, legal, finance, information technology and human resources personnel) and consist of 1) salaries and related compensation costs, 2) consulting and other professional services (such as litigation and other outside legal counsel fees, audit and other compliance costs), 3) facilities and insurance costs, and 4) travel and other costs. The following table sets forth our sales, general and administrative expenses in dollars and as a percentage of revenues (in thousands, except percentages):

 

     Three Months Ended                  Six Months Ended               
     December 26,
2010
    December 27,
2009
    Change     December 26,
2010
    December 27,
2009
    Change  

Sales, general and administrative

   $ 33,366      $ 25,560      $ 7,806         31   $ 62,568      $ 49,173      $ 13,395         27

Percent of total revenues

     13     13          12     13     

Sales, general and administrative expenses in the second quarter of fiscal 2011 increased 31% to $33.4 million from $25.6 million in the second quarter of fiscal 2010. For the six months ended December 26, 2010 sales, general and administrative expenses increased 27% to $62.6 million from $49.2 million for the six months ended December 27, 2009. The increase in second quarter of fiscal 2011 is primarily due to an increase in spending on sales and marketing as we expand our direct sales resources and channels and invest in building the Cree brand. Additionally, costs increased due to higher patent litigation costs.

Amortization of Acquisition Related Intangibles

As a result of our acquisitions, we have recorded various intangible assets that require amortization, including customer relationships and developed technologies. During fiscal 2007, we acquired INTRINSIC Semiconductor Corporation and COTCO, resulting in $63.7 million of amortizable intangible assets principally composed of customer relationships and developed technology. In fiscal 2008, we acquired LLF, resulting in an additional $41.2 million of amortizable intangible assets. These intangible assets are principally composed of developed technology that specifically relates to technologies underlying the development of LED lighting products for the general illumination market. Amortization of intangible assets related to our acquisitions is as follows (in thousands):

 

     Three Months Ended                  Six Months Ended               
     December 26,
2010
     December 27,
2009
     Change     December 26,
2010
     December 27,
2009
     Change  

INTRINSIC

   $ 186       $ 186       $ —          0   $ 372       $ 372       $ —          0

COTCO

     1,734         2,073         (339     -16     3,468         4,146         (678     -16

LLF

     786         786         —          0     1,572         1,572         —          0
                                                                    

Total

   $ 2,706       $ 3,045       $ (339     -11   $ 5,412       $ 6,090       $ (678     -11
                                                                    

 

20


Table of Contents

Loss on Disposal or Impairment of Long-Lived Assets

We operate a capital intensive business. As such, we dispose of a certain level of our equipment in the normal course of business as our production processes change due to production improvement initiatives or product mix changes. Due to the risk of technological obsolescence or changes in our production process, we regularly review our equipment for possible impairments in value. The following table sets forth our loss on disposal or impairment of long-lived assets (in thousands):

 

     Three Months Ended                   Six Months Ended                
     December 26,
2010
     December 27,
2009
     Change     December 26,
2010
     December 27,
2009
     Change  

Loss on disposal or impairment of long- lived assets, net

   $ 429       $ 110       $ 319         290   $ 901       $ 403       $ 498         124

We recorded a net loss of $0.4 million on the disposal of long-lived assets in the second quarter of fiscal 2011 compared to a net loss of $0.1 million in the second quarter of fiscal 2010. For the six months ended December 26, 2010 we recorded a loss of $0.9 million compared to $0.4 million for the six months ended December 27, 2009. The fiscal 2011 losses are due to the disposal of certain equipment due to manufacturing process changes and due to the impairment of certain capitalized patent costs.

Non-Operating Income

The following table sets forth our non-operating income (in thousands):

 

     Three Months Ended                 Six Months Ended               
     December 26,
2010
     December 27,
2009
    Change     December 26,
2010
     December 27,
2009
     Change  

Gain on sale of investments, net

   $ —         $ 1      $ (1     -100   $ 1       $ 1       $  —          0

Other non-operating income (expense)

   $ 63       $ (41   $ 104        -254   $ —         $ 90       $ (90     -100

Interest income, net

   $ 2,170       $ 2,001      $ 169        8   $ 4,186       $ 3,631       $ 555        15

We have no debt or lines of credit and we are in a net interest income position. We have historically invested portions of our available cash in fixed interest rate securities such as high-grade corporate debt, commercial paper, government securities, municipal bonds, and other fixed interest rate investments. The primary objective of our investments is to preserve principal while maximizing our yields.

Net interest income was $2.2 million compared to $2.0 million for the second quarter of fiscal 2011 and fiscal 2010, respectively. For the six months ended December 26, 2010 net interest income was $4.2 million compared to $3.6 million for the six months ended December 27, 2009. Year over year changes in interest income are due to a combination of fluctuations in interest rates on our cash and investments and differences between the periods in our average cash and investment balances.

Other non-operating income is comprised primarily of foreign exchange gains and losses.

Income Tax Expense

The following table sets forth our income tax expense in dollars (in thousands) and our effective tax rate:

 

     Three Months Ended                 Six Months Ended               
     December 26,
2010
    December 27,
2009
    Change     December 26,
2010
    December 27,
2009
    Change  

Income tax expense

   $ 7,870      $ 14,205      $ (6,335     -45   $ 25,205      $ 21,593      $ 3,612         17

Effective tax rate

     13.7     29.6         18.9     28.3     

The variation between the Company’s effective tax rate and the U.S. statutory rate of 35 percent is primarily due to the consolidation of our foreign operations, which are subject to income taxes at lower statutory rates. A change in the mix of pretax income from these various tax jurisdictions can have a material impact on our periodic effective tax rate.

 

21


Table of Contents

We recorded income tax expense of $7.9 million for an effective tax rate of 13.7% in the second quarter of fiscal 2011 as compared to income tax expense of $14.2 million for an effective tax rate of 29.6% in the second quarter of fiscal 2010. For the six months ended December 26, 2010 we recorded income tax expense of $25.2 million for an effective tax rate of 18.9% compared to income tax expense of $21.6 million for an effective tax rate of 28.3% for the six months ended December 27, 2009. The decrease in our effective tax rate is primarily due to the following:

 

   

An overall higher percentage of income in lower tax jurisdictions outside the United States.

 

   

On December 17, 2010, the U.S. government passed the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (H.R. 4853) which included a retroactive extension of the Research and Development tax credit. As a result of the changes in the applicable tax laws resulting from the act, we estimated a benefit of approximately $4.0 million. A portion of this, $2.1 million, was treated as a discrete event and recorded as a reduction to our income tax expense for the three months ended December 26, 2010.

 

   

During the first quarter of fiscal 2011, we were awarded a tax holiday on our operations in Malaysia. In certain conditions this arrangement allows us a tax holiday for ten years starting in fiscal 2011.

 

   

During fiscal 2010, we were notified by the Internal Revenue Service that we had been allocated $39 million of federal tax credits as part of the American Recovery and Reinvestment Act of 2009 (Internal Revenue Code Section 48C). This $39 million allocation was based upon our projecting that we would put into service approximately $130 million of qualified equipment into our United States manufacturing locations over the following three years. We generated $10.8 million of 48C credits in fiscal 2010. We anticipate generating the remainder of the awarded 48C credits (approximately $28.2 million) during fiscal 2011. The tax benefit (net of related basis adjustments) will be amortized into income over the useful life (5 years) of the underlying equipment that was placed in service to generate these credits. In fiscal 2011, we anticipate we will recognize approximately a $5.1 million income tax benefit related to these credits, of this amount, $2.6 million has been recorded in the first six months of fiscal 2011.

Liquidity and Capital Resources

Overview

We require cash to fund our operating expenses and working capital requirements, including outlays for research and development, capital expenditures, strategic acquisitions and investments. Our principal sources of liquidity are cash on hand, marketable investments and cash generated from operations. Our ability to generate cash from operations has been one of our fundamental strengths and has provided us with substantial flexibility in meeting our operating, financing and investing needs. We have no debt or lines of credit and have minimal lease commitments. Based on past performance and current expectations, we believe our cash and cash equivalents, investments, cash generated from operations and our ability to access capital markets will satisfy our working capital needs, capital expenditures, investment requirements, stock repurchases, contractual obligations, commitments and other liquidity requirements associated with our operations through at least the next 12 months.

From time to time, we evaluate strategic opportunities, including potential acquisitions, divestitures or investments in complementary businesses and we anticipate continuing to make such evaluations. We may also access capital markets through the issuance of new debt or additional shares of common stock in connection with the acquisition of complementary businesses or other significant assets or for other strategic opportunities.

Financial Condition

Our liquidity and capital resources depend on our cash flows from operations and our working capital. Our working capital increased to $1.3 billion as of December 26, 2010 from $1.2 billion at June 27, 2010, primarily due to positive cash flows from operations. The following table presents the components of our cash conversion cycle for our second fiscal quarter of 2011 and fourth fiscal quarter of 2010:

 

     December 26,
2010
    June 27,
2010
    Change  

Days of sales outstanding (a)

     47        40        7        18

Days of supply in inventory (b)

     96        76        20        26

Days in accounts payable (c)

     (53     (43     (10     23
                                

Cash conversion cycle

     90        73        17        23
                                

 

(a) Days of sales outstanding (DSO) calculates the average collection period of our accounts receivable. DSO is based on the ending net trade receivables and the most recent quarterly revenue for each period. DSO is calculated by dividing accounts receivable, net of allowance for doubtful accounts and revenue reserves, by average net revenue for the current quarter (90 days).

 

22


Table of Contents
(b) Days of supply in inventory (DSI) measures the average number of days from procurement to sale of our product. DSI is based on net ending inventory and most recent quarterly cost of sales for each period. DSI is calculated by dividing net ending inventory by average cost of goods sold for the current quarter (90 days).
(c) Days in accounts payable (DPO) calculates the average number of days our payables remain outstanding before payment. DPO is based on ending accounts payable and most recent quarterly cost of sales for each period. DPO is calculated by dividing accounts payable by average cost of goods sold for the current quarter (90 days).

Overall our cash conversion cycle, or days to cash, increased primarily due to an increase in inventory on hand. The increase in inventory is primarily related to our building product in response to a higher demand forecast than our actual results.

As of December 26, 2010, all of our investments had investment grade ratings, and any such investments that were in an unrealized loss position at December 26, 2010 were in such position due to interest rate changes, sector credit rating changes or company-specific rating changes. As we intend and believe that we have the ability to hold such investments for a period of time that will be sufficient for anticipated recovery in market value, we currently expect to receive the full principal or recover our cost basis in these securities. When evaluating our investments for possible impairment, we review factors such as the length of time and extent to which fair value has been below our cost basis, the financial condition of the entity in which the investment is made, and our ability and intent to hold the investment for a period of time that may be sufficient for anticipated recovery in market value. The declines in value of the securities in our portfolio are considered to be temporary in nature and, accordingly, we do not believe these securities are impaired as of December 26, 2010.

We believe our current working capital and anticipated cash flows from operations will be adequate to meet our cash needs for our daily operations and capital expenditures for the remainder of fiscal 2011. We have and may continue to use a portion of our available cash and cash equivalents, or funds underlying our marketable securities, to repurchase shares of our common stock. With our strong working capital position, we believe that we have the ability to continue to invest in further development of our products and, when necessary or appropriate, make selective acquisitions or other strategic investments to strengthen our product portfolio, secure key intellectual properties, or expand our production capacity.

Cash Flows

In summary, our cash flows were as follows (in thousands):

 

     Six Months Ended              
     December 26,
2010
    December 27,
2009
    Change  

Cash provided by operating activities

   $ 145,756      $ 82,699      $ 63,057        76

Cash used in investing activities

     (117,122     (439,225     322,103        -73

Cash provided by financing activities

     39,254        548,739        (509,485     -93

Effects of foreign exchange changes

     238        190        48        25
                                

Net increase in cash and cash equivalents

   $ 68,126      $ 192,403      $ (124,277     -65
                                

The following is a discussion of our primary sources and uses of cash in our operating, investing and financing activities.

Cash Flows from Operating Activities

Net cash provided by operating activities was $145.8 million in the first six months of fiscal 2011 compared to $82.7 million for the first six months of fiscal 2010. This increase was primarily driven by a year over year rise in our net income, offset in part by higher levels of inventory and receivables.

Cash Flows from Investing Activities

Our investing activities primarily relate to transactions within our investments, strategic acquisitions, purchase of property, plant and equipment and purchase of patent and license rights. Net cash used in investing activities was $117.1 million for the first six months of fiscal 2011 compared to $439.2 million for the first six months of fiscal 2010. This year over year decrease was primarily the result of an overall net decrease in investment activity. This decrease was partially offset by an increase in our current year capital expenditures for property, plant and equipment to expand our global production capacity.

 

23


Table of Contents

We will continue to closely monitor our capital expenditures, while making strategic investments to develop our existing products, pursue strategic initiatives where appropriate and invest in our manufacturing and information technology infrastructure to meet the needs of our business. We target committing capital of approximately $250 to $260 million in fiscal 2011 for capital expenditures.

Cash Flows from Financing Activities

Net cash provided by financing activities was $39.3 million for the first six months of fiscal 2011 compared to $548.7 million for the first six months of fiscal 2010. This year over year decrease was primarily related to our sale of 12.65 million shares of our common stock in a follow-on public offering during fiscal 2010, with net proceeds of approximately $434.0 million.

Off-Balance Sheet Arrangements

We do not use off-balance sheet arrangements with unconsolidated entities or related parties, nor do we use other forms of off-balance sheet arrangements. Accordingly, our liquidity and capital resources are not subject to off-balance sheet risks from unconsolidated entities. As of December 26, 2010, we did not have any off-balance sheet arrangements, as defined in Item 303(a)(4)(ii) of SEC Regulation S-K.

We have entered into leases primarily for certain of our facilities in the normal course of business. These arrangements are often referred to as a form of off-balance-sheet financing. Please refer to Part II, Item 7 of our Annual Report on Form 10-K for the fiscal year ended June 27, 2010, in the section entitled “Contractual Obligations” for the future minimum lease payments due under our operating leases as of June 27, 2010.

Critical Accounting Policies and Estimates

For information about our other critical accounting policies and estimates, see the “Critical Accounting Policies and Estimates” section of “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K for the fiscal year ended June 27, 2010.

Recent Accounting Pronouncements

See Note 1, “Basis of Presentation and Changes in Significant Accounting Policies,” to our unaudited financial statements in Part I, Item 1 of this Quarterly Report for a description of recent accounting pronouncements, including the expected dates of adoption and estimated effects, if any, on our consolidated financial statements.

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk

For quantitative and qualitative disclosures about our market risks, see Item 7A of our Annual Report on Form 10-K for the fiscal year ended June 27, 2010.

 

Item 4. Controls and Procedures

Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the period covered by this Form 10-Q. Based on such evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of the end of the period covered by the Form 10-Q, our disclosure controls and procedures are effective in that they provide reasonable assurances that the information we are required to disclose in the reports we file or submit under the Exchange Act are recorded, processed, summarized and reported within the time periods required by the United States Securities and Exchange Commission’s rules and forms and that such information is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

We routinely review our internal control over financial reporting and from time to time make changes intended to enhance the effectiveness of our internal control over financial reporting. We will continue to evaluate the effectiveness of our disclosure controls and procedures and internal control over financial reporting on an ongoing basis and will take action as appropriate. There have been no changes to our internal control over financial reporting, as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act, during the second quarter of fiscal 2011 that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

24


Table of Contents

PART II – OTHER INFORMATION

 

Item 1. Legal Proceedings

The information required by this item is set forth under Note 11 of Notes to Consolidated Financial Statements included in Part I, Item 1 of this Quarterly Report, and is incorporated herein by reference.

 

Item 1A. Risk Factors

Described below are various risks and uncertainties that may affect our business. The descriptions below include any material changes to and supersede the description of the risk factors affecting our business previously disclosed in “Part I, Item IA. Risk Factors” of our Annual Report on Form 10-K for the fiscal year ended June 27, 2010. If any of the risks described below actually occurs, our business, financial condition or results of operations could be materially and adversely affected.

We face significant challenges managing our growth as the market adopts LEDs for general lighting.

Our potential for growth depends significantly on the adoption of LEDs within the general lighting market and our ability to affect this rate of adoption. Although LED lighting has grown rapidly in recent years, adoption of LEDs for general lighting is relatively new, still limited and faces significant challenges before widespread adoption. In order to manage our growth and business strategy effectively, we must continue to:

 

   

maintain, expand and purchase adequate manufacturing facilities and equipment to meet customer demand;

 

   

maintain a sufficient supply of raw materials to support our growth;

 

   

expand research and development, sales and marketing, technical support, distribution capabilities and administrative functions;

 

   

expand the skills and capabilities of our current management team;

 

   

add experienced senior level managers; and

 

   

attract and retain qualified employees.

While we intend to focus on managing our costs and expenses, over the long term we expect to invest substantially to support our growth and may have additional unexpected costs. For example, we purchased a 565,000-square-foot facility in Huizhou, Guangdong Province, China to support LED chip and LED component production and we recently announced our intention to expand LED wafer production at our facility in North Carolina. However, such investments take time to become fully operational, and we may not be able to expand quickly enough to exploit targeted market opportunities. There are also inherent execution risks in starting up a new factory that could increase costs and reduce our operating results, including design and construction cost overruns, poor production process yields and reduced quality control during the start-up phase.

We are also increasingly dependent on information technology to enable us to improve the effectiveness of our operations and to maintain financial accuracy and efficiency. If we do not allocate and effectively manage the resources necessary to build, implement and sustain the proper technology infrastructure, we could be subject to transaction errors, processing inefficiencies, loss of customers, business disruptions or loss of or damage to intellectual property through security breach.

In connection with our efforts to cost-effectively manage our growth, we have increasingly relied on subcontractors for production capacity, logistics support and certain administrative functions including hosting of certain information technology software applications. If these service providers do not perform effectively, we may not be able to achieve the expected cost savings and may incur additional costs to correct errors or fulfill customer demand. Depending on the function involved, such errors may also lead to business disruption, processing inefficiencies or the loss of or damage to intellectual property through security breach, or impact employee morale. Our operations may also be negatively impacted if any of these service providers do not have the financial capability to meet our growing needs.

 

25


Table of Contents

The markets in which we operate are highly competitive and have evolving technical requirements.

The markets for our products are highly competitive. In the LED market, we compete with companies that manufacture or sell LED chips and LED components as well as those that sell LED lighting products. Competitors continue to offer new LED products with aggressive pricing and improved performance. Competitive pricing pressures may accelerate the rate of decline of our average sales prices.

With the growth potential for LEDs, we may face increased competition in the future. For example, Samsung has entered the LED market and Taiwan Semiconductor Manufacturing Company has announced its intention to enter the LED market as well. Additionally, new technologies could emerge or improvements could be made in existing technologies that may also reduce the demand for LEDs in certain markets.

As competition increases, in order to continue to grow our business, we need to continue to develop new products that meet or exceed the needs of our customers. Additionally, we anticipate that increased competition will result in pressure to lower the selling prices of our products. Therefore, our ability to continually produce more efficient, higher brightness LEDs that meet the evolving needs of our customers at lower costs will be critical to our success. Competitors may also try to align with some of our strategic customers. This could mean lower prices for our products, reduced demand for our products and a corresponding reduction in our ability to recover development, engineering and manufacturing costs. Any of these developments could have an adverse effect on our business, results of operations or financial condition.

We depend on a limited number of customers for a substantial portion of our revenues, and the loss of, or a significant reduction in purchases by, one or more of these customers could adversely affect our operating results.

We receive a significant amount of our revenues from a limited number of customers. For example, in fiscal 2010, two distribution customers, Arrow Electronics, Inc. and World Peace Industrial Co. Ltd., individually accounted for more than 10% of our net revenue, for a combined total of 30% of our total net revenue. Sales to these and most of our other large customers are made on a purchase order basis, which does not generally require any long-term customer commitments. Therefore, these customers may alter their past purchasing behavior with little or no notice to us for various reasons, including: developing, or, in the case of our distributors, their customers developing, their own product solutions; choosing to purchase product from our competitors; incorrectly forecasting end market demand for their products; or experiencing a reduction in their market share in the markets for which they purchase our products. If our customers alter their past (or expected) purchasing behavior, or if we encounter any problems collecting amounts due from them, our financial condition and results of operations could be negatively impacted.

If we are unable to effectively develop, manage and expand our distribution channels for our products, our operating results may suffer.

We have expanded into business channels that are different from those that we have historically operated in as we grow our business and sell LED lighting products and more LED components versus LED chips. If we are unable to effectively penetrate these channels or develop channels to ensure our products are reaching the appropriate customer base, our financial results may be adversely impacted. In addition, if we successfully penetrate or develop these channels, we cannot guarantee that customers will accept our products or that we will be able to manufacture and deliver them in the timeline established by our customers.

A substantial portion of our products are sold through distributors. We rely on distributors to develop and expand their customer base as well as anticipate demand from their customers. If they are not successful, our growth and profitability may be impacted. We typically recognize revenue on product sold to distributors when the item is shipped and title passes to the distributor (sell-in method). Distributors must balance the need to have enough products in stock in order to meet their customers’ needs against the risk of potential inventory obsolescence. The risks of inventory obsolescence are especially true with technological products. In addition, certain distributors have limited rights to return inventory under stock rotation programs and have limited price protection rights for which we make estimates. We evaluate inventory levels in the distribution channel, current economic trends and other related factors in order to account for these factors in our judgments and estimates. As inventory levels and product return trends change we revise our estimates and our operating results could be impacted.

Our LED revenues are highly dependent on our customers’ ability to produce, market and sell more integrated products using our LED products.

Because our customers generally integrate our LED products into the products that they produce, market and sell, our LED revenues depend on getting our LED products designed into a larger number of our customers’ products and in turn,

 

26


Table of Contents

our customers’ ability to produce, market and sell their LED products. For example, we have current and prospective customers that create, or plan to create, lighting systems using our LED components. However, the traditional lighting industry is still developing technical expertise with LED related designs, which may limit the success of our customers’ products. Even if our customers are able to develop and produce LED lighting products, there can be no assurance that our customers will be successful in marketing and selling these products in the marketplace.

We also have current and prospective customers that create white LED components using our blue LEDs, in combination with phosphors. Sales of blue LED chips are highly dependent upon our customers’ ability to procure efficient phosphors, develop high quality and highly efficient white LED components and gain access to the necessary intellectual property rights. Even if our customers are able to develop competitive white LED components using our blue LED chips, there can be no assurance that our customers will be successful in the marketplace.

The adoption of or changes in government policies, standards or regulations relating to the efficiency, performance or other aspects of LED lighting or changes in government policies, standards or regulations that discourage the use of certain traditional lighting technologies, could impact the demand for our LED products.

The adoption of or changes in government policies, standards or regulations relating the efficiency, performance or other aspects of LED lighting may impact the demand for our LED products. For example, the Chinese government recently delayed purchases of LED street and tunnel lighting while developing new standards for the required performance for such lighting products in China. The process resulted in reduced short-term demand for those lighting applications.

Demand for our LED products may also be impacted by changes in government policies, standards or regulations that discourage the use of certain traditional lighting technologies. For example, the Energy Independence and Security Act of 2007 in the United States imposes constraints on the sale of incandescent lights beginning in 2012. These constraints may be eliminated or delayed by legislative action, which could have a negative impact on demand for our products.

Our results of operations, financial condition and business could be harmed if we were unable to balance customer demand and capacity.

As customer demand for our products changes, we must be able to ramp up or adjust our production capacity to meet demand. We are continually taking steps to address our manufacturing capacity needs for our products. For example, we purchased a 565,000-square-foot facility in Huizhou, Guangdong Province, China to support LED chip and LED component production and we recently announced our intention to expand LED wafer production at our facility in North Carolina. If we are not able to increase our production capacity at our targeted rate, or if there are unforeseen costs associated with adjusting our capacity levels, we may not be able to achieve our financial targets.

Conversely, due to the proportionately high fixed cost nature of our business (such as facility expansion costs), if demand does not increase at the rate forecasted, we may not be able to manage manufacturing expenses or overhead costs at the same rate as demand, which could also result in lower margins and adversely impact our business and results of operations. Therefore, if product demand decreases or we fail to forecast demand accurately, we may be required to record impairments on our long-lived assets, including facilities and equipment as well as intangible assets, and we could be required to record excess capacity charges, all of which would have a negative impact on our results of operations. Also, excess inventory may result in us recording inventory write-off charges.

In addition, our efforts to improve quoted delivery lead-time performance may result in corresponding reductions in order backlog. A decline in backlog levels could result in more variability and less predictability in our quarter-to-quarter net sales and operating results.

As a result of our continued expansion into new markets existing customers may reduce orders.

Through acquisitions and organic growth, we continue to expand into new markets. In these new markets, some of our current customers may now perceive us as a competitor. In response, our customers may reduce their orders for our products. This reduction in orders could occur faster than our sales growth in these new markets, which could adversely affect our business, results of operations or financial condition.

Our operating results are substantially dependent on the development and acceptance of new products.

Our future success may depend on our ability to develop new and lower cost solutions for existing and new markets and for customers to accept those solutions. We must introduce new products in a timely and cost-effective manner, and we must secure production orders for those products from our customers. The development of new products is a highly complex process, and we historically have experienced delays in completing the development and introduction of new products. Our research and development efforts are aimed at solving increasingly complex problems, and we do not expect that all of our projects will be successful. The successful development and introduction of these new products depends on a number of factors, including the following:

 

   

achievement of technology breakthroughs required to make commercially viable devices;

 

   

the accuracy of our predictions for market requirements;

 

   

our ability to predict, influence, and/or react to evolving standards;

 

   

acceptance of our new product designs;

 

   

acceptance of new technology in certain markets;

 

   

the availability of qualified research and development personnel;

 

   

our timely completion of product designs and development;

 

   

our ability to expand sales and influence key customers to adopt our products;

 

   

our ability to develop repeatable processes to manufacture new products in sufficient quantities, with the desired specifications and at competitive costs for commercial sales;

 

   

our ability to effectively transfer products and technology developed in one country to our manufacturing facilities in other countries;

 

   

our customers’ ability to develop competitive products incorporating our products; and

 

   

acceptance of our customers’ products by the market.

If any of these or other factors becomes problematic, we may not be able to develop and introduce these new products in a timely or cost-effective manner.

If we fail to evaluate and execute strategic opportunities successfully, our business may suffer.

From time to time, we evaluate strategic opportunities available to us for product, technology or business transactions, such as business acquisitions or divestitures. For example, in March 2007 we acquired COTCO and in February 2008 we acquired LLF. If we choose to enter into such transactions, we face certain risks, such as, failure of an acquired business to meet our performance expectations, diversion of management attention, retention of existing customers of our current and acquired businesses, and difficulty integrating an acquired business’s operations, personnel and financial and operating systems into our current business.

We may not be able to adequately address these risks or any other problems that arise from our recent or future acquisitions or divestitures. Any failure to successfully evaluate strategic opportunities and address risks or other problems that arise related to any such business transaction could adversely affect our business, results of operations or financial condition.

 

27


Table of Contents

Variations in our production yields could impact our ability to reduce costs and could cause our margins to decline and our operating results to suffer.

All of our products are manufactured using technologies that are highly complex. The number of usable items, or yield, from our production processes may fluctuate as a result of many factors, including but not limited to the following:

 

   

variability in our process repeatability and control;

 

   

contamination of the manufacturing environment;

 

   

equipment failure, power outages, system failures or variations in the manufacturing process;

 

   

lack of consistency and adequate quality and quantity of piece parts and other raw materials, and other bill of materials items;

 

   

production yield loss, inventory shrinkage or human errors;

 

   

defects in production processes (including system assembly) either within our facilities or at our subcontractors; and

 

   

any transitions or changes in our production process, planned or unplanned.

In the past, we have experienced difficulties in achieving acceptable yields on new products, which has adversely affected our operating results. We may experience similar problems in the future, and we cannot predict when they may occur or their severity.

In addition, our ability to convert volume manufacturing to larger diameter substrates can be an important factor in allowing for a more cost effective manufacturing process. If we are unable to make this transition in a timely or cost effective manner, our results could be negatively impacted.

In some instances, we may offer products for future delivery at prices based on planned yield improvements or increased cost efficiencies from other production advances. Failure to achieve these planned improvements or advances could significantly affect our margins and operating results.

If our products fail to perform or fail to meet customer requirements or expectations, we could incur significant additional costs, including costs associated with the recall of those items.

The manufacture of our products involves highly complex processes. Our customers specify quality, performance and reliability standards that we must meet. If our products do not meet these standards, we may be required to replace or rework the products. In some cases, our products may contain undetected defects or flaws that only become evident after shipment. Even if our products meet standard specifications, our customers may attempt to use our products in applications they were not designed for or in products that were not designed or manufactured properly, resulting in product failures and creating customer satisfaction issues.

We have experienced product quality, performance or reliability problems from time to time and defects or failures may occur in the future. If failures or defects occur, we may need to recall our products. These recalls could result in significant losses due to:

 

   

costs associated with the removal, collection and destruction of the product recalled;

 

   

payments made to replace recalled product;

 

   

a rise in warranty expense and costs associated with customer support;

 

   

the write down or destruction of existing inventory subject to the recall;

 

   

lost sales due to the unavailability of product for a period of time;

 

   

delays, cancellations or rescheduling of orders for our products; or

 

   

increased product returns.

We also may be the target of product liability lawsuits, and could suffer losses from a significant product liability judgment against us if the use of our products at issue is determined to have caused injury. A significant product recall or product liability case could also result in adverse publicity, damage to our reputation, and a loss of customer confidence in our products.

Litigation could adversely affect our operating results and financial condition.

We are often involved in patent infringement litigation as described in Note 13, “Commitments and Contingencies,” to our consolidated financial statements included in Item 8 of our Annual Report on Form 10-K for the fiscal year ended

 

28


Table of Contents

June 27, 2010. Defending against existing and potential litigation will likely require significant attention and resources and, regardless of the outcome, result in significant legal expenses, which could adversely affect our results unless covered by insurance or recovered from third parties. If our defenses are ultimately unsuccessful, or if we are unable to achieve a favorable resolution, we could be liable for damage awards that could materially affect our results of operations and financial condition.

Where necessary, we may initiate litigation to enforce our patent or other intellectual property rights. Any such litigation may require us to spend a substantial amount of time and money and could distract management from our day-to-day operations. Moreover, there is no assurance that we will be successful in any such litigation.

Our business may be impaired by claims that we, or our customers, infringe the intellectual property rights of others.

Vigorous protection and pursuit of intellectual property rights characterize our industry. These traits have resulted in significant and often protracted and expensive litigation. Litigation to determine the validity of patents or claims by third parties of infringement of patents or other intellectual property rights could result in significant legal expense and divert the efforts of our technical personnel and management, even if the litigation results in a determination favorable to us. In the event of an adverse result in such litigation, we could be required to:

 

   

pay substantial damages;

 

   

indemnify our customers;

 

   

stop the manufacture, use and sale of products found to be infringing;

 

   

incur asset impairment charges;

 

   

discontinue the use of processes found to be infringing;

 

   

expend significant resources to develop non-infringing products or processes; or

 

   

obtain a license to use third party technology.

There can be no assurance that third parties will not attempt to assert infringement claims against us, or our customers, with respect to our products. In addition, our customers may face infringement claims directed to the customer’s products that incorporate our products, and an adverse result could impair the customer’s demand for our products. We have also promised certain of our customers that we will indemnify them in the event they are sued by our competitors for infringement claims directed to the products we supply. Under these indemnification obligations, we may be responsible for future payments to resolve infringement claims against them.

From time to time, we receive correspondence asserting that our products or processes are or may be infringing patents or other intellectual property rights of others. If we believe the assertions may have merit or in other appropriate circumstances, we take steps to seek to obtain a license or to avoid the infringement. However, we cannot predict whether a license will be available; that we would find the terms of any license offered acceptable; or that we would be able to develop an alternative solution. Failure to obtain a necessary license or develop an alternative solution could cause us to incur substantial liabilities and costs and to suspend the manufacture of affected products.

There are limitations on our ability to protect our intellectual property.

Our intellectual property position is based in part on patents owned by us and patents licensed to us. We intend to continue to file patent applications in the future, where appropriate, and to pursue such applications with U.S. and foreign patent authorities.

However, our existing patents are subject to expiration and we cannot be sure that additional patents will be issued on any new applications around the covered technology or that our existing or future patents will not be successfully contested by third parties. Also, since issuance of a valid patent does not prevent other companies from using alternative, non-infringing technology, we cannot be sure that any of our patents, or patents issued to others and licensed to us, will provide significant commercial protection, especially as new competitors enter the market.

We periodically discover products that are counterfeit reproductions of our products or that otherwise infringe on our intellectual property rights. The actions we take to establish and protect trademarks, patents, and other intellectual property rights may not be adequate to prevent imitation of our products by others, and therefore, may adversely affect our sales and our brand and result in the shift of customer preference away from our products.

We also rely on trade secrets and other non-patented proprietary information relating to our product development and manufacturing activities. We try to protect this information through appropriate efforts to maintain its secrecy, including

 

29


Table of Contents

requiring employees and third parties to sign confidentiality agreements. We cannot be sure that these efforts will be successful or that the confidentiality agreements will not be breached. We also cannot be sure that we would have adequate remedies for any breach of such agreements or other misappropriation of our trade secrets, or that our trade secrets and proprietary know-how will not otherwise become known or be independently discovered by others.

Our business may be adversely affected by uncertainties in the global financial markets and our, or our customers’ or suppliers’, ability to access the capital markets.

Global financial markets continue to reflect uncertainty about a sustained global economic recovery. Given these uncertainties, there could be future disruptions in the global economy, financial markets and consumer confidence. If economic conditions deteriorate unexpectedly, our business and results of operations could be materially and adversely affected. For example, our customers, or their customers, may continue to experience difficulty obtaining the financing necessary to support historical or projected purchasing patterns, which could negatively affect our results of operations.

Although we believe we have adequate liquidity and capital resources to fund our operations internally, our inability to access the capital markets on favorable terms in the future, or at all, may adversely affect our financial performance. The inability to obtain adequate financing from debt or capital sources in the future could force us to self-fund strategic initiatives or even forego certain opportunities, which in turn could potentially harm our performance.

Our operations in foreign countries, including China and other Asian countries, expose us to certain risks inherent in doing business internationally, which may adversely affect our business, results of operations or financial condition.

As a result of acquisitions and organic growth, we have operations, manufacturing facilities and subcontract arrangements in foreign countries that expose us to certain risks. For example, fluctuations in exchange rates may affect our revenues, expenses and results of operations as well as the value of our assets and liabilities as reflected in our financial statements. We are also subject to other types of risks, including the following:

 

   

protection of intellectual property and trade secrets;

 

   

tariffs, customs and other barriers to importing/exporting materials and products in a cost effective and timely manner;

 

   

timing and availability of export licenses;

 

   

rising labor costs;

 

   

disruptions in or inadequate infrastructure of the foreign countries where we operate;

 

   

difficulties in accounts receivable collections;

 

   

difficulties in staffing and managing international operations;

 

   

the burden of complying with foreign and international laws and treaties; and

 

   

the burden of complying with and changes in international taxation policies.

In some instances, we have been provided and may continue to receive competing incentives from foreign governments to encourage our investment in certain countries, regions, or areas outside of the United States. In particular, we have received and may continue to receive such incentives in connection with our operations in China, as the Chinese national and local governments seek to encourage the development of the technology industry in China. Government incentives may include tax rebates, reduced tax rates, favorable lending policies and other measures, some or all of which may be available to us due to our foreign operations. Any of these incentives could be reduced or eliminated by governmental authorities at any time. Any reduction or elimination of incentives currently provided to our operations could adversely affect our business and results of operations. These same governments also may provide increased incentives to or require production processes that favor local companies, which could further negatively impact our business and results of operations.

Abrupt political change, terrorist activity and armed conflict pose a risk of general economic disruption in affected countries, which could also result in an adverse effect on our business and results of operations.

 

30


Table of Contents

We are subject to risks related to international sales and purchases.

We expect that revenue from international sales will continue to represent the majority of our total revenue. In fiscal 2010, approximately 81% of our revenue was derived from sales to non-U.S. customers, with approximately 40% of revenue from sales to customers in China (including Hong Kong). As such, a significant slowdown in these foreign economies or lower investments in new infrastructure could have a negative impact on our sales. We also purchase a portion of the materials included in our products from overseas sources.

Our international sales and purchases are subject to numerous U.S. and foreign laws and regulations, including, without limitation, tariffs, trade barriers, regulations relating to import-export control, technology transfer restrictions, the International Traffic in Arms Regulation promulgated under the Arms Export Control Act, the Foreign Corrupt Practices Act and the anti-boycott provisions of the U.S. Export Administration Act. If we fail to comply with these laws and regulations, we could be liable for administrative, civil or criminal liabilities, and in the extreme case, we could be suspended or debarred from government contracts or our export privileges could be suspended, which could have a material adverse effect on our business.

International sales and purchases are also subject to a variety of other risks, including risks arising from currency fluctuations, collection issues and taxes. Our international sales are subject to variability as our selling prices become less competitive in countries with currencies that are declining in value against the U.S. Dollar and more competitive in countries with currencies that are increasing in value against the U.S. Dollar. In addition, our international purchases can become more expensive if the U.S. Dollar weakens against the foreign currencies in which we are billed.

We have not entered into any foreign currency derivative financial instruments; however, we may choose to do so in the future in an effort to manage or hedge our foreign exchange rate risk.

We rely on a number of key sole source and limited source suppliers, and are subject to high price volatility on certain commodity inputs.

We depend on a number of sole source and limited source suppliers for certain raw materials, including rare earth elements, components, services and equipment used in manufacturing our products, including key materials and equipment used in critical stages of our manufacturing processes. Although alternative sources generally exist for these items, qualification of many of these alternative sources could take up to six months or longer. Where possible, we attempt to identify and qualify alternative sources for our sole and limited source suppliers.

We generally purchase these sole or limited source items with purchase orders, and we have limited guaranteed supply arrangements with such suppliers. We do not control the time and resources that these suppliers devote to our business, and we cannot be sure that these suppliers will perform their obligations to us. Additionally, general shortages in the marketplace of certain raw materials or key components, such as passive electrical components used in LED lighting applications, may adversely impact our business. In the past, we have experienced decreases in our production yields when suppliers have varied from previously agreed upon specifications that have impacted our cost of sales.

Additionally, the inability of our suppliers to access capital efficiently could cause disruptions in their businesses, thereby negatively impacting ours. This risk may increase if the general economic downturn negatively affects key suppliers or a significant number of our other suppliers. Any delay in product delivery or other interruption or variation in supply from these suppliers could prevent us from meeting commercial demand for our products. If we were to lose key suppliers, our key suppliers were unable to support our demand for any reason, or we were unable to identify and qualify alternative suppliers, our manufacturing operations could be interrupted or hampered significantly.

 

31


Table of Contents

We rely on arrangements with independent shipping companies, such as Federal Express and United Parcel Service, for the delivery of our products from vendors and to customers in both the United States and abroad. The failure or inability of these shipping companies to deliver products, or the unavailability of their shipping services, even temporarily, could have a material adverse effect on our business. We may also be adversely affected by an increase in freight surcharges due to rising fuel costs and added security.

In our fabrication process we consume a number of precious metals and other commodities, which are subject to high price volatility. Our operating margins could be significantly affected if we are not able to pass along price increases to our customers. In addition, production could be disrupted by the unavailability of the resources used in production such as water, silicon, electricity and gases. Future environmental regulations could restrict supply or increase the cost of certain of those materials.

Changes in our effective tax rate may have an adverse effect on our results of operations.

Our future effective tax rates may be adversely affected by a number of factors including:

 

   

changes in government administrations, such as the Presidency and Congress of the U.S. as well as in the states and countries in which we operate;

 

   

changes in tax laws or interpretation of such tax laws and changes in generally accepted accounting principles;

 

   

the jurisdiction in which profits are determined to be earned and taxed;

 

   

the resolution of issues arising from tax audits with various authorities;

 

   

changes in the valuation of our deferred tax assets and liabilities;

 

   

adjustments to estimated taxes upon finalization of various tax returns;

 

   

increases in expenses not deductible for tax purposes, including write-offs of acquired in-process research and development and impairment of goodwill in connection with acquisitions;

 

   

changes in available tax credits;

 

   

the recognition and measurement of uncertain tax positions;

 

   

the lack of sufficient excess tax benefits (credits) in our additional paid in capital (APIC) pool in situations where our realized tax deductions for certain stock-based compensation awards (such as non-qualified stock options and restricted stock) are less than those originally anticipated; and

 

   

the repatriation of non-U.S. earnings for which we have not previously provided for U.S. taxes, or any changes in legislation that may result in these earnings being taxed within the U.S., regardless of our decision regarding repatriation of funds.

For example, proposals have been made by various U.S. governmental bodies to change the U.S. tax laws that include, among other things, limiting U.S. tax deductions for expenses related to un-repatriated foreign-source income and modifying the U.S. foreign tax credit rules. Although the scope of the proposed changes is unclear, it is possible that these or other changes in U.S. tax laws could increase our U.S. income tax liability and adversely affect our profitability. At this time, we cannot determine the timing that the proposed changes, if enacted, would become effective.

Any significant increase in our future effective tax rates could adversely impact net income for future periods. In addition, the determination of our income tax provision requires complex estimations, significant judgments and significant knowledge and experience concerning the applicable tax laws. To the extent our income tax liability materially differs from our income tax provisions and accruals due to factors, including the above, which were not anticipated at the time we estimated our tax provision, our net income or cash flows could be adversely affected.

 

32


Table of Contents

In order to compete, we must attract, motivate and retain key employees, and our failure to do so could harm our results of operations.

Hiring and retaining qualified executives, scientists, engineers, technical staff and sales personnel is critical to our business, and competition for experienced employees in our industry can be intense. As a global company, this issue is not limited to the United States, but includes our other locations such as Europe and China (including Hong Kong). For example, there is substantial competition in China for qualified and capable personnel, particularly experienced engineers and technical personnel, which may make it difficult for us to recruit and retain qualified employees. Also, within Huizhou, China, there are other large companies building manufacturing plants that will likely attract qualified employees. If we are unable to staff sufficient and adequate personnel at our China facilities, we may experience lower revenues or increased manufacturing costs, which would adversely affect our results of operations.

To help attract, motivate and retain key employees, we use benefits such as stock-based compensation awards, which include non-qualified stock options and restricted stock. If the value of such stock awards does not appreciate, as measured by the performance of the price of our common stock, or if our share-based compensation otherwise ceases to be viewed as a valuable benefit, our ability to attract, retain and motivate employees could be weakened, which could harm our business and results of operations.

We may be subject to intellectual property theft or misuse, which could harm our business and results of operations.

We may face attempts by others to gain unauthorized access through the Internet to our information technology systems. These attempts might be the result of industrial or other espionage, or actions by hackers seeking to harm us. We actively seek to prevent, detect and investigate any security incidents, but in some cases we might be unaware of an incident or its magnitude and effects. The theft and/or unauthorized use or publication of our trade secrets and other confidential business information as a result of such an incident could adversely affect our competitive position and the value of our investment in research and development, product development, and marketing could be reduced. Our business could be subject to significant disruption, and we could suffer monetary or other losses.

If U.S. government agencies discontinue or curtail their funding for our research and development programs, our business may suffer.

Changes in U.S. federal budget priorities could adversely affect our results of operations and business if they impact revenues we earn under government contracts or other government-sponsored research and development. Historically, government agencies have funded a significant portion of our research and development activities. When the government changes budget priorities, such as in times of war or financial crisis, our funding has the risk of being redirected to other programs. Government contracts are also subject to the risk that the government agency may not appropriate and allocate all funding contemplated by the contract. In addition, our government contracts generally permit the contracting authority to terminate the contracts for the convenience of the government. The full value of the contracts would not be realized if they were prematurely terminated. Furthermore, we may be unable to incur sufficient allowable costs to generate the full estimated contract values and there is some risk that any technologies developed under these contracts may not have commercial value. If government funding is discontinued or reduced, our ability to develop or enhance products could be limited, and our business, results of operations and financial condition could be adversely affected.

Our failure to comply with applicable environmental laws and regulations worldwide could harm our business and results of operations.

The manufacturing, assembling and testing of our products require the use of hazardous materials that are subject to a broad array of environmental, health and safety laws and regulations. Our failure to comply with any of these applicable laws or regulations could result in:

 

   

regulatory penalties, fines, legal liabilities, and the forfeiture of certain tax benefits;

 

   

suspension of production;

 

   

alteration of our fabrication, assembly and test processes; and

 

   

curtailment of our operations or sales.

In addition, our failure to manage the use, transportation, emission, discharge, storage, recycling or disposal of hazardous materials could subject us to increased costs or future liabilities. Existing and future environmental laws and regulations could also require us to acquire pollution abatement or remediation equipment, modify our product designs or incur other expenses, such as permit costs, associated with such laws and regulations. Many new materials that we are evaluating for use in our operations may be subject to regulation under existing or future environmental laws and regulations that may restrict our use of one or more of such materials in our manufacturing, assembly and test processes or products. Any of these restrictions could harm our business and results of operations by increasing our expenses or requiring us to alter our manufacturing processes.

 

33


Table of Contents

Catastrophic events may disrupt our business.

A disruption or failure of our systems or operations in the event of a natural disaster, health pandemic, such as an influenza outbreak within our workforce, or man-made catastrophic event could cause delays in completing sales, continuing production or performing other critical functions of our business, especially in the case of our single site for SiC wafer and LED fabrication. A catastrophic event that results in the destruction or disruption to our supply chain or any of our critical business or information technology systems could severely affect our ability to conduct normal business operations and, as a result, our operating results could be adversely affected.

Our results of operations could vary as a result of the methods, estimates and judgments that we use in applying our accounting policies, including changes in the accounting regulations to be applied.

The methods, estimates and judgments that we use in applying our accounting policies have a significant impact on our results of operations (see “Critical Accounting Policies and Estimates” in our Management’s Discussion and Analysis of Financial Condition and Results of Operations included in Item 7 of our Annual Report on Form 10-K for the fiscal year ended June 27, 2010). Such methods, estimates and judgments are, by their nature, subject to substantial risks, uncertainties and assumptions, and factors may arise over time that lead us to change our methods, estimates and judgments. Changes in those methods, estimates and judgments could significantly affect our results of operations.

Likewise, our results of operations may be impacted due to changes in the accounting rules to be applied, such as the increased use of fair value measurement rules and the potential requirement that U.S. registrants prepare financial statements in accordance with International Financial Reporting Standards.

Our stock price may be volatile.

Historically, our common stock has experienced substantial price volatility, particularly as a result of significant fluctuations in our revenue, earnings and margins over the past few years and variations between our actual financial results and the published expectations of analysts. For example, the closing price per share of our common stock on the NASDAQ Global Select Market ranged from a low of $12.57 in fiscal 2009 to a high of $83.38 in fiscal 2010. If our future operating results or margins are below the expectations of stock market analysts or our investors, our stock price will likely decline.

Speculation in the press or investment community about our strategic position, financial condition, results of operations, or significant transactions can also cause changes in our stock price. In particular, speculation around our market opportunities for energy efficient lighting may have a dramatic effect on our stock price, especially as various government agencies announce their planned investments in energy efficient technology, including lighting.

We may be required to record a significant charge to earnings if our goodwill or amortizable intangible assets become impaired.

We are required under generally accepted accounting principles to review our amortizable intangible assets and investments in equity interests for impairment when events or changes in circumstances indicate the carrying value may not be recoverable. Goodwill is required to be tested for impairment at least annually. Factors that may be considered a change in circumstances indicating that the carrying value of our amortizable intangible assets or goodwill may not be recoverable include a decline in stock price and market capitalization and slower growth rates in our industry. We may be required to record a significant charge to earnings in our consolidated financial statements during the period in which any impairment of our amortizable intangible assets or goodwill is determined to exist. This could adversely impact our results of operations.

We are exposed to fluctuations in the market value of our investment portfolio and in interest rates, and therefore, impairment of our investments or lower investment income could harm our earnings.

We are exposed to market value and inherent interest rate risk related to our investment portfolio. We have historically invested portions of our available cash in fixed interest rate securities such as high-grade corporate debt, commercial paper, government securities and other fixed interest rate investments. The primary objective of our investments is to preserve principal and we only acquire investments rated “AAA.” However, our investments are generally not FDIC insured and may lose value and/or become illiquid regardless of their rating.

 

34


Table of Contents

 

Item 2. Unregistered Sale of Equity Securities and Use of Proceeds

Not applicable.

 

Item 3. Defaults Upon Senior Securities

Not applicable.

 

Item 4. (Removed and Reserved)

 

Item 5. Other Information

Not applicable.

 

Item 6. Exhibits

The following exhibits are being filed herewith and are numbered in accordance with Item 601 of Regulation S-K:

 

Exhibit
No.

  

Description

  3.1    Bylaws, as amended (incorporated herein by reference to Exhibit 3.1 to the Company’s Current Report on Form 8-K, dated October 25, 2010, as filed with the Securities and Exchange Commission on October 29, 2010)
10.1    Form of Cree, Inc. Indemnification Agreement for Directors and Officers (incorporated herein by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K, dated October 25, 2010, as filed with the Securities and Exchange Commission on October 29, 2010)
10.2    2004 Long-Term Incentive Compensation Plan, as amended (incorporated herein by reference to Exhibit 10.2 to the Company’s Current Report on Form 8-K, dated October 25, 2010, as filed with the Securities and Exchange Commission on October 29, 2010)
10.3    Amendment One to Non-Employee Director Stock Compensation and Deferral Program
10.4    Form of Master Stock Option Award Agreement for Grants of Nonqualified Stock Options
31.1    Certification by Chief Executive Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2    Certification by Chief Financial Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1    Certification by Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2    Certification by Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101    The following materials from Cree Inc.’s Quarterly Report on Form 10-Q for the fiscal quarter ended December 26, 2010 formatted in XBRL (eXtensible Business Reporting Language) and furnished electronically herewith: (i) Consolidated Balance Sheets; (ii) Consolidated Statements of Income; (iii) Consolidated Statements of Cash Flows; and (iv) Notes to Consolidated Financial Statements*

 

* Pursuant to Rule 406T of Regulation S-T, the Interactive Data Files in Exhibit 101 hereto are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, are deemed not filed for purposes of Section 18 of the Securities and Exchange Act of 1934, as amended, and otherwise are not subject to liability under those sections.

 

35


Table of Contents

SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

  CREE, INC
January 19, 2011  
 

/s/ John T. Kurtzweil

  John T. Kurtzweil
  Executive Vice President, Chief Financial Officer and Treasurer
  (Authorized Officer and Principal Financial and Chief Accounting Officer)

 

36


Table of Contents

EXHIBIT INDEX

 

Exhibit
No.

 

Description

  3.1   Bylaws, as amended (incorporated herein by reference to Exhibit 3.1 to the Company’s Current Report on Form 8-K, dated October 25, 2010, as filed with the Securities and Exchange Commission on October 29, 2010)
10.1   Form of Cree, Inc. Indemnification Agreement for Directors and Officers (incorporated herein by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K, dated October 25, 2010, as filed with the Securities and Exchange Commission on October 29, 2010)
10.2   2004 Long-Term Incentive Compensation Plan, as amended (incorporated herein by reference to Exhibit 10.2 to the Company’s Current Report on Form 8-K, dated October 25, 2010, as filed with the Securities and Exchange Commission on October 29, 2010)
10.3   Amendment One to Non-Employee Director Stock Compensation and Deferral Program
10.4   Form of Master Stock Option Award Agreement for Grants of Nonqualified Stock Options
31.1   Certification by Chief Executive Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2   Certification by Chief Financial Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1   Certification by Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2   Certification by Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101   The following materials from Cree Inc.’s Quarterly Report on Form 10-Q for the fiscal quarter ended December 26, 2010 formatted in XBRL (eXtensible Business Reporting Language) and furnished electronically herewith: (i) Consolidated Balance Sheets; (ii) Consolidated Statements of Income; (iii) Consolidated Statements of Cash Flows; and (iv) Notes to Consolidated Financial Statements*

 

* Pursuant to Rule 406T of Regulation S-T, the Interactive Data Files in Exhibit 101 hereto are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, are deemed not filed for purposes of Section 18 of the Securities and Exchange Act of 1934, as amended, and otherwise are not subject to liability under those sections.

 

37

Exhibit 10.3

AMENDMENT ONE

TO THE

CREE, INC. NON-EMPLOYEE DIRECTOR STOCK COMPENSATION AND

DEFERRAL PROGRAM

THIS AMENDMENT to the Cree, Inc. Non-Employee Director Stock Compensation and Deferral Program (the “Program”) is effective as of October 25, 2010.

WITNESSETH:

WHEREAS , Cree, Inc. (the “Company”) adopted the Program effective January 1, 2010;

WHEREAS, the Company desires to amend the Program to clarify that an individual who is standing for election as a member of the Board of Directors of the Company and who would become eligible to participate in the Program upon such election shall be permitted to make an initial deferral election pursuant to Section 4.02(a) of the Program prior to the date of such election, not just within the period of thirty (30) days beginning on the date of such election;

NOW, THEREFORE , the Company hereby amends the Program as follows effective October 25, 2010:

 

1. A new Section 3.04 is added as follows:

“3.04 Newly Elected Director : If an individual submits his or her Election Form prior to the date on which he or she becomes a Director, the date on which the individual becomes a Director will be the transaction date for purposes of determining the Fair Market Value of a share under Section 2.13, and such transaction will be deemed to have occurred before the end of the regular trading session on such date regardless of the actual time the individual becomes a Director. If a new Director files an Election Form on or after the date on which the individual becomes a Director, Director Compensation for subsequent Fiscal Quarters will be converted or credited, as applicable, in accordance with the provisions of Section 5.01 or Section 5.02, respectively.”

 

2. The third sentence of Section 4.01(a) is amended to read as follows:

“When an individual first becomes a Director, he or she may only elect to defer the portion of his or her eligible Director Compensation for the calendar year in which he or she becomes a Director that is earned for services performed after the date the deferral election becomes irrevocable pursuant to Section 4.02(b).”

 

3. The third sentence of Section 4.02(a) is deleted in its entirety and replaced with the following:

“In addition, an individual who newly becomes a Director during a calendar year may submit an Election Form during the period that begins on the date on which the individual is


nominated as a Director and ends on the date that is 30 days after the date on which the individual becomes a Director. Any such election form filed before the date on which the individual becomes a Director shall apply with respect to Director Compensation for the calendar year in which he or she becomes a Director that is earned for services performed after the deferral election becomes irrevocable pursuant to Section 4.02(b). Any such Election Form filed on or after the date on which the individual becomes a Director shall apply only with respect to Director Compensation earned for Fiscal Quarters beginning in such calendar year after the date on which the Election Form is received by the Plan Administrator.”

 

4. The third sentence of Section 4.02(b) is deleted in its entirety and replaced with the following:

“Except as provided in the remainder of this paragraph, an election is irrevocable once received. A Director may amend or revoke any election until such Election Form is determined by the Plan Administrator to be properly completed. Such determination shall be made by the date and time specified by the Plan Administrator, but in any event not later than December 31 st of the immediately preceding calendar year in the case of a calendar year election, or, in the case of an election by a newly elected Director, not later than the day before the date the individual becomes a Director if he or she files an Election Form prior to such date, or if the individual files an Election Form on or after the date he or she becomes a Director, not later than the earlier of (i) 30 days from the date the individual becomes a Director, or (ii) the day immediately preceding the first day of the next Fiscal Quarter.”

IN WITNESS WHEREOF, this Amendment is hereby executed by a duly authorized officer of the Company effective as of the 25th day of October, 2010.

 

CREE, INC.

By:

 

    /s/ Adam H. Broome

  Name:   Adam H. Broome
  Title:   Vice President, Legal

Exhibit 10.4

LOGO

MASTER STOCK OPTION AWARD AGREEMENT

TERMS AND CONDITIONS

(For Grants of Nonqualified Stock Options)

This Master Stock Option Award Agreement, including any country-specific terms set forth in an appendix hereto that are applicable to you (the “Appendix”) (collectively, the “Agreement”), is entered into between you (the “Participant” named below) and Cree, Inc., a corporation formed under the laws of the State of North Carolina (the “Company”).

This Agreement states the terms and conditions that govern nonqualified stock options (each an “Option”) the Company may from time to time award granting you the right to purchase shares (the “Shares”) of the Common Stock of Cree, Inc. (the “Common Stock”). This Agreement governs only grants of options made under the Company’s 2004 Long-Term Incentive Compensation Plan (the “Plan”). The number of Shares, vesting schedule and per share purchase price applicable to each Option will be stated in a Notice of Grant issued by the Company. A Notice of Grant, together with the terms and conditions set forth in this Agreement and the Plan, constitute the entire agreement between you and the Company with respect to the Option described in the Notice of Grant.

Unless otherwise specified in a Notice of Grant or agreed to in writing by you and the Company, this Agreement will apply to all Options granted to you under the Plan on and after the effective date stated below. This Agreement is subject to and will be construed in accordance with the Plan. Unless otherwise defined in this Agreement or a Notice of Grant, capitalized terms used in this Agreement and defined in the Plan will have the same meaning as defined in the Plan.

Please indicate that you have read and agree to the terms and conditions of this Agreement by signing below and returning the signed copy to the Company at its principal offices in Durham, North Carolina. By your signature below, you agree to be bound by the provisions of this Agreement and the Plan and Notices of Grant applicable to the Options to which this Agreement applies.

Effective for awards made on or after September 1, 2010.

 

By:   LOGO      
  Charles M. Swoboda, Chairman, President
and Chief Executive Officer
   

Signature

Print Name:


 

Cree, Inc. Master Stock Option Award

Agreement Terms and Conditions

Page 2 of 14

1. Grants of Options . Subject to the terms and conditions contained in this Agreement, the Notice of Grant applicable to the Award and the Plan, the Company may, from time to time in its discretion, grant you Options to purchase Shares.

 

2. Term of Options . Unless sooner terminated in accordance with the Plan or this Agreement or as otherwise provided in the Notice of Grant, each Option will expire and cease to be exercisable upon the first to occur of the following:

 

  (a) the expiration of ninety (90) calendar days following your Termination of Service, except where the termination results from your death or Disability or where your death occurs following the termination but while the Option is otherwise still exercisable;

 

  (b) the expiration of one (1) year following your Termination of Service if the termination results from your death;

 

  (c) the expiration of one (1) year following your Termination of Service if the termination results from your Disability, except where your death occurs after the termination but while the Option is otherwise still exercisable;

 

  (d) the expiration of one (1) year following your death if your death occurs after your Termination of Service but while the Option is otherwise still exercisable; or

 

  (e) the seventh (7th) anniversary of the Grant Date of the Option, at 11:59 P.M., local time, Durham, North Carolina.

Upon expiration or termination of an Option, the Option will have no further effect and cannot thereafter be exercised to purchase any Shares.

 

3. Vesting . Each Option will vest and become exercisable in accordance with the schedule set out on the corresponding Notice of Grant or such other vesting provisions expressly provided therein. All Options will become fully vested and exercisable to purchase all Shares subject to the Option, to the extent not already vested and exercisable, upon your Termination of Service on account of your death or Disability, unless otherwise provided in the Notice of Grant.

 

4. Forfeiture upon Termination of Service. Except as otherwise provided in this Agreement or the Plan, upon your Termination of Service you will forfeit the Option with respect to any Shares as to which the Option has not vested as of the date of your Termination of Service.

 

5. Exercise of Option . To exercise an Option, you must complete, execute and deliver to the Company a notice of exercise in a form approved by the Company and pay to the Company the purchase price for the number of Shares specified in the notice together with all Tax-Related Items (as defined in Section 6 below) the Company is required to withhold, collect, or account for pursuant to this Agreement. Exercise of the Option will be effective only when the notice and required payments are actually received by the Company or upon your execution of a “broker-assisted exercise” or “cashless exercise” transaction with a broker approved by the Company. Furthermore, if the exercise is facilitated through a “broker-assisted exercise” or “cashless exercise” transaction by a brokerage firm you have designated, you agree that the brokerage firm is acting as your agent in the transaction and that the Company may rely upon notices, instructions and information given by such firm in connection with the exercise, as if the same were given by you. The Company will make the Shares available for electronic delivery in the U.S., and where allowed by applicable law outside the U.S., to an account you designate in writing, within three (3) business days after the Company receives the notice of exercise and required payments. In situations where electronic delivery is not available, the Company will deliver a certificate or certificates for the purchased Shares to you, or to such other person as you designate in writing.

 

6. Responsibility for Taxes.

 

  (a)

For purposes of this Agreement, “Tax-Related Items” means any or all income tax, social insurance tax, payroll tax, payment on account or other tax-related items that may be applicable to Awards under this Agreement by law or regulation of any governmental authority, whether federal, state or local, domestic or foreign. Regardless of any action the Company takes with respect to withholding Tax-Related Items, you acknowledge that you are ultimately responsible for all Tax-Related Items and that such Tax-Related Items may exceed the amount actually withheld by the Company or the Employer. You further acknowledge that


 

Cree, Inc. Master Stock Option Award

Agreement Terms and Conditions

Page 3 of 14

 

the Company and/or the Employer (1) make no representations or undertakings regarding the treatment of any Tax-Related items in connection with any aspect of the Option, including, without limitation, the grant, vesting or exercise of any Option, the subsequent sale of Shares acquired pursuant to such exercise and the receipt of any dividends or dividend equivalents pursuant to Shares; and (2) do not commit to and are under no obligation to structure the terms of the grant or any aspect of any Option to reduce or eliminate your liability for Tax-Related Items or to achieve any particular tax result. Furthermore, if you have become subject to tax in more than one jurisdiction between the Grant Date and the date of any relevant taxable event, you acknowledge that the Company and/or the Employer (or former Employer, as applicable) may be required to withhold or account for Tax-Related Items in more than one jurisdiction.

 

  (b) Prior to any relevant taxable or tax withholding event, as applicable, you will pay or make adequate arrangements satisfactory to the Company and/or the Employer to satisfy all Tax-Related Items. In this regard, you authorize the Company and/or the Employer, or their respective agents, at their discretion, to satisfy the obligations with regard to all Tax-Related Items by one or a combination of the following: (1) withholding from your wages or other cash compensation paid to you by the Company and/or the Employer; or (2) withholding from proceeds of the sale of Shares acquired upon exercise of any Option; or (3) withholding in Shares to be issued upon exercise of any Option.

 

  (c) To avoid negative accounting treatment, the Company may withhold or account for Tax-Related Items by considering applicable minimum statutory withholding amounts or other applicable withholding rates. If the obligation for Tax-Related Items is satisfied by withholding in Shares, you shall be deemed, for tax purposes, to have been issued the full number of Shares subject to the exercised Option, notwithstanding that a number of Shares is held back solely for the purpose of paying the Tax-Related Items due as a result of any aspect of your participation in the Plan.

 

  (d) You shall pay to the Company or the Employer any amount of Tax-Related Items that the Company or the Employer may be required to withhold or account for as a result of your participation in the Plan that cannot be satisfied by the means previously described. The Company may refuse to honor the exercise of any Option and refuse to deliver the Shares if you fail to comply with your obligations in connection with the Tax-Related Items.

 

7. Transfer of Option. Neither an Option nor any rights under an Option may be assigned, pledged as collateral or otherwise transferred, except as permitted by the Plan, nor may an Option or such rights be subject to attachment, execution or other judicial process. In the event of any attempt to assign, pledge or otherwise dispose of an Option or any rights under an Option, except as permitted by the Plan, or in the event of the levy of any attachment, execution or similar judicial process upon the rights or interests conferred by an Option, the Committee may in its discretion terminate the Option upon notice to you.

 

8. Rights Prior to Exercise . You will have no rights as a shareholder with respect to any Shares until such Shares have been duly issued by the Company or its transfer agent pursuant to exercise of an Option.

 

9. Termination of Service .

 

  (a) Unless otherwise provided in the Notice of Grant, for purposes of this Agreement “Termination of Service” means the discontinuance of your relationship with the Company as an employee of the Company or the Employer or any subsidiary or affiliate of the Company under the Plan or as a member of the Board of Directors of Cree, Inc. Except as determined otherwise by the Committee, you will not be deemed to have incurred a Termination of Service if the capacity in which you provide services to the Company changes (for example, you change from being a non-employee director to being an employee) or if you transfer employment among the various subsidiaries or affiliates of the Company constituting the Employer, so long as there is no interruption in your provision of services to the Company or other Employer as an employee or as a non-employee member of the Board of Directors of Cree, Inc. The Committee, in its discretion, will determine whether you have incurred a Termination of Service. You will not be deemed to have incurred a Termination of Service during a period for which you are on military leave, sick leave, or other leave of absence approved by the Employer.

 

  (b)

If you are deemed to have incurred a Termination of Service (whether or not in breach of local labor laws), your right to vest in the Options under the Plan, if any, will terminate and any post-termination exercise period will commence effective as of the date that you are no longer actively employed and will not be


 

Cree, Inc. Master Stock Option Award

Agreement Terms and Conditions

Page 4 of 14

 

extended by any notice period mandated under local law ( e.g. , active employment would not include a period of “garden leave” or similar period pursuant to local law); the Committee, in its discretion, will determine when you are no longer actively employed for purposes of the Option grant.

 

10. Provisions of the Plan . The provisions of the Plan are incorporated by reference in this Agreement as if set out in full in this Agreement. To the extent that any conflict may exist between any other provision of this Agreement and a provision of the Plan, the Plan provision will control. All decisions of the Committee with respect to the interpretation, construction and application of the Plan or this Agreement shall be final, conclusive and binding upon you and the Company.

 

11. Detrimental Activity. The Committee in its sole discretion may cancel, terminate, suspend or otherwise limit or restrict exercise of the unexercised portion of an Option if you engage in any “Detrimental Activity” (as defined below). In addition, if you engage in any Detrimental Activity prior to or within one (1) year after your Termination of Service, the Committee in its sole discretion may require you to pay to the Company the amount of all gain you realized from any exercise of an Option beginning six (6) months prior to your Termination of Service, provided that the Committee gives you notice of such requirement within one (1) year after your Termination of Service. In that event, the Company will be entitled to setoff such amount against any amount the Company owes to you, in addition to any other rights the Company may have. For purposes of this section:

 

  (a) “Company” includes Cree, Inc. and all other Employers under the Plan.

 

  (b) “Detrimental Activity” means any of the following conduct, as determined by the Committee in good faith:

 

  (1) the performance of services for any Competing Business (as defined below), whether as an employee, officer, director, consultant, agent, contractor or in any other capacity, except to the extent expressly permitted by any written agreement between you and the Company;

 

  (2) the unauthorized disclosure or use of any trade secrets or other confidential information of the Company;

 

  (3) any attempt to induce an employee to leave employment with the Company to perform services elsewhere, or any attempt to cause a customer or supplier of the Company to curtail or cancel its business with the Company;

 

  (4) breach of any confidentiality, noncompetition, nonsolicitation or nondisparagement obligations, or any obligations relating to the disclosure, assignment or protection of inventions, undertaken by you in any written agreement between you and the Company; or

 

  (5) any act of fraud, misappropriation, embezzlement, or tortious or criminal behavior that adversely impacts the Company.

 

  (c)

“Competing Business” means any corporation, partnership, university, government agency or other entity or person (other than the Company) that is conducting research directed to, developing, manufacturing, marketing, distributing, or selling any product, service, or technology that is competitive with any part of the Company’s Business (as defined below). “Company’s Business” means the development, manufacture, marketing, distribution, or sale of, or the conduct of research directed to, any product, service, or technology that the Company is developing, manufacturing, marketing, distributing, selling, or conducting research directed to, at any time during your employment or other relationship with the Company, except that following your Termination of Service the Company’s Business will be determined as of the time of such termination. As of the effective date of this Agreement, the Company’s Business includes but is not limited to the conduct of research directed to, development, manufacture, marketing, distribution, and/or sale of the following products, services, and technologies: (1) silicon carbide (SiC) materials for electronic applications; (2) SiC materials for gemstone applications; (3) A III nitride materials for electronic applications; (4) light-emitting diode (LED) devices and components; (5) power semiconductor devices made using SiC and/or A III nitride materials and components incorporating such devices; (6) radio frequency (RF) and microwave devices made using SiC and/or A III nitride materials and components and modules incorporating such devices; (7) LED backlights for liquid crystal displays (LCDs); (8) lighting products, modules, fixtures or devices incorporating any of the above materials or technology; and (9) other semiconductor devices made using SiC and/or A III nitride materials and components incorporating such devices. You acknowledge that during your employment or other relationship with the Company the


 

Cree, Inc. Master Stock Option Award

Agreement Terms and Conditions

Page 5 of 14

 

Company’s Business may expand or change and you agree that any such expansions and changes shall expand or contract the definition of the Company’s Business accordingly.

 

12. Data Privacy. You hereby explicitly and unambiguously consent to the collection, use and transfer, in electronic or other form, of your personal data as described in this Agreement and any other Option grant materials by and among, as applicable, your Employer, the Company and its subsidiaries and affiliates, for the exclusive purpose of implementing, administering and managing your participation in the Plan.

You understand that the Employer holds or may hold certain personal information about you, including, but not limited to, your name, home address and telephone number, date of birth, social insurance number or other identification number, salary, nationality, position title, any shares of stock or directorships held in the Company, details of all Options or any other entitlement to Shares awarded, canceled, exercised, vested, unvested or outstanding in your favor, for the purpose of implementing, administering and managing the Plan (“Data”).

You understand that Data may be transferred to any third parties as may be selected by the Company currently or in the future, which are assisting the Company in the implementation, administration and management of the Plan. You understand that these recipients may be located in the United States or elsewhere, and that the recipient’s country (e.g., the United States) may have different data privacy laws and protections than your country. You understand that you may request a list with the names and addresses of any potential recipients of the Data by contacting the Company’s Stock Plan Administrator. You authorize the Company and any other possible recipients that may assist the Company (presently or in the future) with implementing, administering and managing the Plan to receive, possess, use, retain and transfer the Data, in electronic or other form, for the purposes of implementing, administering and managing your participation in the Plan, including any requisite transfer of such Data as may be required to a broker or other third party whom you subsequently may elect to deposit any Shares acquired under the Plan. You understand that Data will be held pursuant to this Agreement only as long as the Company considers it necessary to implement, administer and manage your participation in the Plan. You understand that you may, at any time, view Data, request additional information about the storage and processing of Data, require any necessary amendments to Data or refuse or withdraw the consents above, in any case without cost, by contacting in writing the Company’s Stock Plan Administrator. You acknowledge, however, that refusing or withdrawing your consent may affect your ability to participate in the Plan.

 

13. Language. If you have received this Agreement or any other document related to the Plan translated into a language other than English and if the translated version differs in meaning from the English version, the English version will control.

 

14. Electronic Delivery. The Company may, in its sole discretion, deliver any documents related to current or future participation in the Plan by electronic means. You hereby consent to receive such documents by electronic delivery and agree to participate in the Plan through an on-line or electronic system established and maintained by the Company or another third party designated by the Company. Signed documents delivered to either party via facsimile or in portable document format will have the same effect as an original, unless otherwise required by applicable law.

 

15. General.

 

  (a) Nothing in this Agreement will be construed as: (1) constituting a commitment, agreement or understanding of any kind that the Company or any other Employer will continue your employment or other relationship with the Company; or (2) limiting or restricting either party’s right to terminate your employment or other relationship.

 

  (b) This Agreement shall be binding upon and inure to the benefit of the parties and their respective successors and permitted assigns. You may not assign any rights under this Agreement without the written consent of the Company, which it may withhold in its sole discretion; any such attempted assignment without the Company’s written consent shall be void. The Company may assign its rights under this Agreement at any time upon notice to you.

 

  (c)

Notices under this Agreement must be in writing and delivered either by hand or by a reputable domestic or international carrier (postage prepaid and return receipt or proof of delivery requested), and, in the case of


 

Cree, Inc. Master Stock Option Award

Agreement Terms and Conditions

Page 6 of 14

 

notices to the Company, addressed to its principal executive offices to the attention of the Stock Plan Administrator, and, in your case, addressed to your address as shown on the Employer’s records.

 

  (d) This Agreement shall be governed by and construed in accordance with the laws of the State of North Carolina, without regard to the conflict of law provisions thereof, as if made and to be performed wholly within such State. For purposes of litigating any dispute that arises directly or indirectly from the relationship of the parties evidenced by the Option or this Agreement, the parties hereby submit to and consent to the exclusive jurisdiction of the State of North Carolina, agree that such litigation shall be conducted in the courts of Durham County, North Carolina, or the federal courts for the United States for the Middle District of North Carolina, and no other courts, where the Option grant is made and/or to be performed.

 

  (e) No amendment or modification of this Agreement shall be valid unless the same is in writing and signed by you and by an authorized representative of the Company. If any provision of this Agreement is held to be invalid or unenforceable, such determination shall not affect the other provisions of the Agreement and the Agreement shall be construed as if the invalid or unenforceable provision were omitted and a valid and enforceable provision, as nearly comparable as possible, substituted in its place.

 

  (f) Notwithstanding any prior option agreement between you and the Company under which Options may have been awarded, unless otherwise specified in the corresponding Notice of Grant, this Agreement, together with the corresponding Notice(s) of Grant and the Plan, set forth all of the promises, agreements and understandings between you and Company relating to each Option granted pursuant to this Agreement.

 

  (g) Shares issued upon exercise of an Option may be subject to such stop transfer orders and other restrictions as the Committee may deem advisable under applicable law or the rules and regulations of the U.S. Securities and Exchange Commission or any stock exchange or trading system upon which the common stock of the Company is listed, and the Committee may cause a legend or legends to be placed on any such certificates or the stock records of the Company to make appropriate reference to such restrictions.

 

  (h) You agree that each Option granted pursuant to the Plan, even if later forfeited, serves as additional, valuable consideration for your obligations, if any, undertaken in any existing agreement between you and the Company and/or other Employer regarding confidential information, noncompetition, nonsolicitation or similar covenants.

 

  (i) You acknowledge, represent and warrant to the Company, and agree with the Company, that (i) except for information provided in the Company’s filings with the U.S. Securities and Exchange Commission and in the Company’s current prospectus relating to the Plan, you have not relied and will not rely upon the Committee, the Company, an Employer or any employee or agent of the Company or an Employer in determining whether to accept or exercise an Option, or in connection with any disposition of Shares purchased upon exercise of an Option, or with respect to any tax consequences related to the grant or exercise of an Option or the disposition of Shares purchased pursuant to exercise of an Option, and (ii) you will seek from your own professional advisors such investment, tax and other advice as you believe necessary.

 

  (j) You acknowledge that you may incur a substantial tax liability as a result of exercise of an Option. You assume full responsibility for all such consequences and the filing of all tax returns and related elections you may be required or find desirable to file. If you are required to make any valuation of an Option or Shares purchased pursuant to exercise of the Option under any federal, state or other applicable tax law, and if the valuation affects any tax return or election of the Company or the Employer or affects the Company’s financial statement reporting, you agree that the Company may determine the value and that you will observe any determination so made by the Company in all tax returns and elections filed by you.

 

  (k) You acknowledge that copies of the Plan and Plan prospectus are available upon written or telephonic request to the Company’s Stock Plan Administrator.

 

16. Severability. The provisions of this Agreement are severable and if any one or more provisions is determined to be illegal or otherwise unenforceable, in whole or in part, the remaining provisions shall nevertheless be binding and enforceable.


 

Cree, Inc. Master Stock Option Award

Agreement Terms and Conditions

Page 7 of 14

 

17. Nature of Grant. In accepting any grant, you acknowledge, understand and agree that:

 

  (a) the Plan is established voluntarily by the Company, is discretionary in nature and may be modified, amended, suspended or terminated by the Company at any time, unless expressly provided otherwise in the Plan or the Agreement;

 

  (b) the grant of Options is voluntary and occasional and does not create any contractual or other right to receive future grants of options, or benefits in lieu of options, even if options have been granted repeatedly in the past;

 

  (c) all decisions with respect to future option grants, if any, will be at the sole discretion of the Company;

 

  (d) your participation in the Plan is voluntary;

 

  (e) your participation in the Plan will not create a right to further employment with the Company or the Employer and will not interfere with the ability of the Company or the Employer to terminate your employment relationship at any time;

 

  (f) the Options and the Shares subject to the Options are an extraordinary item that does not constitute compensation of any kind for services of any kind rendered to the Company and that is outside the scope of your employment or service contract, if any;

 

  (g) the Options and the Shares subject to the Options are not intended to replace any pension rights or compensation;

 

  (h) the Options and the Shares subject to the Options are not part of normal or expected compensation or salary for any purposes, including, but not limited to, calculating any severance, resignation, termination, redundancy, dismissal, end of service payments, bonuses, long-service awards, pension or retirement or welfare benefits or similar payments, and in no event should be considered as compensation for, or relating in any way to, past services for the Company, the Employer, or any subsidiary or affiliate of the Company;

 

  (i) the Option grant and your participation in the Plan will not be interpreted to form an employment or service contract or relationship with the Company, the Employer or any subsidiary or affiliate of the Company;

 

  (j) the future value of the Shares is unknown and cannot be predicted with certainty;

 

  (k) if the Shares do not increase in value, the Options will have no value;

 

  (l) if you exercise your Option and obtain Shares, the value of those Shares acquired upon exercise may increase or decrease in value, even below the Share purchase price;

 

  (m) no claim or entitlement to compensation or damages shall arise from forfeiture of any Option resulting from termination of your employment by the Company or the Employer (for any reason whatsoever and whether or not in breach of local labor laws), and, in consideration of the grant of the Options, to which you otherwise are not entitled, you irrevocably agree never to institute any claim against the Company, the Employer, or any subsidiary or affiliate of the Company, waive your ability, if any, to bring any such claim, and release the Company and the Employer from any such claim; if, notwithstanding the foregoing, any such claim is allowed by a court of competent jurisdiction, then, by participating in the Plan, you shall be deemed irrevocably to have agreed not to pursue such claim and agree to execute any and all documents necessary to request dismissal or withdrawal of such claims; and

 

  (n) the Options and the benefits under the Plan, if any, will not automatically transfer to another company in the case of a merger, takeover, or transfer of liability.

 

18. No Advice Regarding Grant. The Company is not providing any tax, legal, or financial advice, nor is the Company making any recommendations regarding your participation in the Plan, or your acquisition or sale of the underlying Shares. You are hereby advised to consult with your own personal tax, legal and financial advisors regarding your participation in the Plan before taking any action related to the Plan.

 

19.

Appendix. Notwithstanding any provisions in this Agreement, the Option grant shall be subject to any special terms and conditions set forth in any Appendix to this Agreement for your country to the extent that the Company determines that the application of such terms and conditions is necessary or advisable in order to comply with local law or to facilitate the administration of the Plan. Moreover, if you relocate to or from one of


 

Cree, Inc. Master Stock Option Award

Agreement Terms and Conditions

Page 8 of 14

 

the countries included in the Appendix, the special terms and conditions for the country you are moving from and/or the country you are moving to will apply to you to the extent that the Company determines that the application of such terms and conditions is necessary or advisable in order to comply with local law or to facilitate the administration of the Plan. The Appendix is incorporated in and constitutes part of this Agreement.

 

20. Imposition of Other Requirements. The Company reserves the right to impose other requirements on your participation in the Plan, on the Options and on any Shares acquired under the Plan, to the extent that the Company determines it is necessary or advisable in order to comply with local law or to facilitate the administration of the Plan, and to require you to sign any additional agreements or undertakings that may be necessary to accomplish the foregoing.


 

Cree, Inc. Master Stock Option Award

Agreement Terms and Conditions

Page 9 of 14

APPENDIX

ADDITIONAL TERMS AND CONDITIONS OF THE

MASTER STOCK OPTION AWARD AGREEMENT

TERMS AND CONDITIONS

(For Grants of Nonqualified Stock Options)

TERMS AND CONDITIONS

This Appendix includes additional terms and conditions that govern the Option granted to you under the Plan if you are in one of the countries listed below on the Grant Date. Unless otherwise defined in this Appendix, capitalized terms used in this Appendix and defined in the Plan, Agreement, or a Notice of Grant will have the same meaning as defined in the Plan, Agreement, or a Notice of Grant, as applicable.

NOTIFICATIONS

This Appendix also includes information regarding exchange controls and certain other issues of which you should be aware with respect to your participation in the Plan. The information is based on securities, exchange control, and other laws in effect in the respective countries as of July 2010. Such laws are often complex and change frequently. The Company strongly recommends that you do not rely on the information in this Appendix as the only source of information relating to the consequences of your participation in the Plan because such information may be outdated when you exercise an Option or sell any Shares acquired upon exercise.

In addition, the information contained in this Appendix is general in nature and may not apply to your particular situation, and the Company cannot assure you of a particular result. Accordingly, you are advised to seek appropriate professional advice as to how the relevant laws in your country may apply to your situation.

Finally, if you are a citizen or resident of a country other than the one in which you are currently working, transfer employment after the Grant Date, or are considered a resident of another country for local law purposes, the information contained in this Appendix may not apply to you.

AUSTRIA

NOTIFICATIONS

Consumer Protection Information. You may be entitled to revoke acceptance of the Agreement under the Austrian Consumer Protection Act (the “Act”), subject to the conditions listed below, if the Act is applicable to the Agreement and the Plan:

(i) If you accept the Option outside the business premises of the Company, you may be entitled to revoke your acceptance, provided the revocation is made within one week of your having accepted the Agreement.

(ii) The revocation must be in writing to be valid. It is sufficient if you return the Agreement to the Company or the Company’s representative with language that can be understood as a refusal to conclude or honor the Agreement, provided the revocation is sent within the timeframe discussed in (i) above.

Exchange Control Information. If you hold Shares acquired under the Plan outside of Austria, you are exempt from filing a report with the Austrian National Bank if the value of your Shares does not exceed €30,000,000 at the end of any given quarter and does not exceed €5,000,000 as of December 31 of any given year. If the former threshold is exceeded, you must file a quarterly report; if the latter threshold is exceeded, you must file an annual report. The reporting deadline for the annual report is March 31 of the year following any year in which the €5,000,000 threshold is exceeded.

When you sell Shares acquired under the Plan, you may be required to file an exchange control report. If the transaction volume of all accounts held abroad exceeds €3,000,000 in a month, such transactions must be reported monthly, on or before the 15th day of the following month.


 

Cree, Inc. Master Stock Option Award

Agreement Terms and Conditions

Page 10 of 14

CHINA

TERMS AND CONDITIONS

PRC Nationals Only . The country-specific terms and conditions set forth in this China Appendix apply to you if you are a People’s Republic of China (“PRC”) national.

Term of Options. Due to exchange control laws and regulations in the PRC, the following provisions replace paragraphs (a) – (e) of Section 2:

 

  (a) the expiration of ninety (90) calendar days following your Termination of Service, except where the termination results from your death or Disability or where your death occurs following the termination but while the Option is otherwise still exercisable, or, if later, ninety (90) calendar days following the date the Company receives final exchange control approval of the Plan from the relevant PRC State Administration of Foreign Exchange (“SAFE”) branch office;

 

  (b) the expiration of six (6) months following your Termination of Service if the termination results from your death, or, if later, six (6) months following the date the Company receives final exchange control approval of the Plan from the relevant SAFE branch office;

 

  (c) the expiration of six (6) months following your Termination of Service if the termination results from your Disability, except where your death occurs after the termination but while the Option is otherwise still exercisable, or, if later, six (6) months following the date the Company receives final exchange control approval of the Plan from the relevant SAFE branch office;

 

  (d) the expiration of six (6) months following your death if your death occurs after your Termination of Service but while the Option is otherwise still exercisable, or, if later, six (6) months following the date the Company receives final exchange control approval of the Plan from the relevant SAFE branch office; or

 

  (e) the seventh (7th) anniversary of the Grant Date of the Option, at 11:59 P.M., local time, Durham, North Carolina.

Exercise of Option. The following provision supplements Section 5 of the Agreement:

Due to exchange control laws and regulations in the PRC, your exercise must be facilitated only through a “cashless sell-all exercise” transaction by a brokerage firm acceptable to the Company, such that all Shares specified in the notice of exercise will be sold immediately upon exercise and the proceeds of sale, less the purchase price, any Tax-Related Items (as defined in Section 6(a) below) and broker’s fees or commissions, will be remitted to you in accordance with any applicable exchange control laws and regulations. You will not be permitted to hold any Shares upon exercise. You agree that the brokerage firm is acting as your agent in the transaction and that the Company may rely upon notices, instructions and information given by such firm in connection with the exercise, as if the same were given by you. The Company reserves the right to provide you with additional exercise methods in the future, depending on developments in applicable local law.

Exchange Control Restriction. You understand and agree that, if you are a PRC national, due to exchange control laws and regulations in the PRC, you will be required to repatriate immediately to the PRC the cash proceeds from the cashless exercise of the Option. You understand further that, under applicable laws and regulations, such repatriation may need to be effectuated through a special foreign exchange account established by the Company or a subsidiary or affiliate of the Company, and you consent and agree that the proceeds from the cashless exercise of the Option may be transferred to such special account before being delivered to you. Moreover, if the proceeds from your cashless exercise are converted to local currency, you acknowledge that the Company (including its subsidiaries and affiliates) is under no obligation to secure any particular currency conversion rate and may face delays in converting the proceeds to local currency due to exchange control restrictions in the PRC. You agree to bear the risk of any currency conversion rate fluctuation between the date that your proceeds are delivered to any special foreign exchange account and the date on which the proceeds are converted to local currency. You also agree to comply with any other requirements that may be imposed by the Company in the future in order to facilitate compliance with exchange control requirements in the PRC.

GERMANY

NOTIFICATIONS

Exchange Control Information. Cross-border payments in excess of €12,500 must be reported monthly to the German Federal Bank. If you use a German bank to transfer a cross-border payment in excess of €12,500 in connection with the sale of Shares acquired under the Plan, the bank will make the report on your behalf.


 

Cree, Inc. Master Stock Option Award

Agreement Terms and Conditions

Page 11 of 14

HONG KONG

NOTIFICATIONS

Securities Warning : The Option and any Shares acquired upon exercise of the Option do not constitute a public offering of securities under Hong Kong law and are available only to directors of Cree, Inc. and employees and former employees of the Company and its subsidiaries and affiliates. The Agreement, the Plan and other incidental communication materials have not been prepared in accordance with the rules applicable to and are not intended to constitute a “prospectus” for a public offering of securities under applicable Hong Kong securities legislation, nor have the documents been reviewed by any regulatory authority in Hong Kong. The Option and any related documentation are intended only for the personal use of each eligible director or employee of the Employer, the Company, or its subsidiaries or affiliates and may not be distributed to any other person. If you are in doubt as to any of the contents of the Agreement or the Plan, you should obtain independent professional advice.

Nature of Scheme. The Company specifically intends that the Plan will not be an occupational retirement scheme for purposes of the Occupational Retirement Schemes Ordinance.

TERMS AND CONDITIONS

Sale of Shares. If any portion of the Option vests and becomes exercisable within six (6) months of the Grant Date, you agree that you will not exercise the Option and sell the Shares acquired upon exercise before the six-month anniversary of the Grant Date.

INDIA

TERMS AND CONDITIONS

Exercise of Option. The following provision supplements Section 5 of the Agreement:

Due to exchange control laws and regulations in India, your exercise may not be facilitated through a “cashless sell-to-cover” exercise transaction. In a “cashless sell-to-cover” exercise transaction, the Shares specified in the notice of exercise with a fair market value sufficient to cover the purchase price, Tax-Related Items (as defined in Section 6(a) below) and broker’s fees or commissions are sold immediately upon exercise and any remaining Shares are issued to you. You are not restricted from exercising the Option by any of the other means set forth in Section 5 of the Agreement. The Company reserves the right to provide you with additional exercise methods in the future, depending on developments in applicable local law.

Exchange Control Restriction. Regardless of the method by which you exercise the Option, you understand and agree that you must repatriate all proceeds from the sale of Shares to India within 90 days. You must maintain the foreign inward remittance certificate (“FIRC”) received from the bank in which you deposited the foreign currency, so that you may provide the FIRC as proof of repatriation upon request from the Reserve Bank of India or the Employer. You understand that you are solely responsible for ensuring compliance with applicable exchange control laws in India.

ITALY

TERMS AND CONDITIONS

Exercise of Option. The following provision supplements Section 5 of the Agreement:

Due to securities laws in Italy, your exercise must be facilitated only through a “cashless sell-all exercise” transaction by a brokerage firm acceptable to the Company, such that all Shares specified in the notice of exercise will be sold immediately upon exercise and the proceeds of sale, less the purchase price, any Tax-Related Items (as defined in Section 6(a) below) and broker’s fees or commissions, will be remitted to you in accordance with any applicable exchange control laws and regulations. You will not be permitted to hold any Shares after exercise. The Company reserves the right to provide you with additional exercise methods in the future, depending on developments in applicable local law.

Data Privacy Notice. The following provision replaces Section 12 of the Agreement:

You understand that the Employer, the Company and any of its subsidiaries or affiliates hold certain personal information about you, including, without limitation, your name, home address and telephone number, date of birth, social insurance or other identification number, salary, nationality, job title, any Shares or directorships held in the Company or any of its subsidiaries or affiliates, details or all Options or any other entitlement to Shares


 

Cree, Inc. Master Stock Option Award

Agreement Terms and Conditions

Page 12 of 14

awarded, canceled, exercised, vested, unvested, or outstanding in your favor, for the exclusive purpose of implementing, managing and administering the Plan (“Data”) and in compliance with applicable laws and regulations.

You also understand that providing the Company with Data is necessary for the performance of the Plan and that your refusal to provide such Data would make it impossible for the Company to perform its contractual obligations and may affect your ability to participate in the Plan. The Controller of personal data processing is Cree, Inc., with registered offices at 4600 Silicon Drive, Durham, North Carolina 27703, U.S.A., and, pursuant to Legislative Decree no. 196/2003, its representative in Italy is Cree Europe GmbH, via Alfredo Tornaghi 59, Cassano d’Adda , Milano 20062, Italia.

You understand that Data will not be publicized, but it may be transferred to banks, other financial institutions, or brokers involved in the management and administration of the Plan. You understand that Data also may be transferred to the Company’s independent registered public accounting firm, Ernst & Young LLP, or such other public accounting firm that may be engaged by the Company in the future. You understand further that the Company and/or any of its subsidiaries or affiliates will transfer Data among themselves as necessary for the purposes of implementing, administering and managing your participation in the Plan, and that the Company and/or any of its subsidiaries or affiliates may each further transfer Data to third parties assisting the Company in implementation, administration and management of the Plan, including any requisite transfer of Data to a broker or other third party with whom you may elect to deposit any Shares acquired under the Plan. Such recipients may receive, possess, use, retain and transfer Data in electronic or other form, for the purposes of implementing, administering and managing your participation in the Plan. You understand that these recipients may be located in or outside of the European Economic Area, such as in the United States or elsewhere and in locations that might not provide the same level of protection as intended under Italian data privacy laws. Should the Company exercise its discretion in suspending all necessary legal obligations in connection with the management and administration of the Plan, it will delete Data as soon as it has completed all necessary legal obligations connected with the management and administration of the Plan.

You understand that Data processing related to the purposes specified above shall take place under automated or non-automated conditions, anonymously when possible, that comply with the purposes for which Data is collected and with confidentiality and security provisions as set forth by applicable laws and regulations, with specific reference to Legislative Decree no. 196/2003.

The processing activity, including communication, and the transfer of Data abroad, including outside of the European Economic Area, as herein specified and pursuant to applicable laws and regulations, does not require your consent thereto, as the processing is necessary to performance of contractual obligations related to implementation, administration and management of the Plan. You understand that, pursuant to Section 7 of the Legislative Decree no. 196/2003, you have a right, without limitation, to access, delete, update, correct, or terminate, for legitimate reason, the Data processing. Furthermore, you are aware that Data will not be used for direct marketing purposes. In addition, Data provided can be reviewed and questions or complaints may be addressed by contacting your local human resources representative.

Plan Document Acknowledgment. By accepting the Option, you acknowledge that you have received a copy of the Plan and the Agreement, that you have reviewed these documents in their entity, and that you fully understand and accept all provisions of the Plan and the Agreement.

You acknowledge having read and specifically and expressly approve the following sections of the Agreement: Section 4 (“Forfeiture upon Termination of Service”), Section 6 (“Responsibility for Taxes”), Section 13 (“Language”), Section 15(d) regarding North Carolina, U.S.A. law governing the Agreement, Section 17 (“Nature of Grant”), and the above Data Privacy Notice section included in this Appendix.

NOTIFICATIONS

Exchange Control Information. You are required to report in your annual tax return: (a) any transfer of cash or Shares to or from Italy exceeding €10,000 or the equivalent amount in U.S. dollars; and (b) any foreign investments or investments exceeding €10,000 held outside of Italy at the end of the calendar year if such investments (Options, cash, or Shares) may result in income taxable in Italy, which will include reporting any vested Options if their intrinsic value ( i.e. , the difference between the fair market value of the Shares subject to the vested Options at the end of the calendar year and the purchase price) combined with other foreign assets exceeds €10,000, and (c) the amount of the transfers to and from abroad that have had an impact during the calendar year on your foreign investments or investments held outside of Italy. Under certain circumstances, you may be exempt from the requirement under (a) above if the transfer or investment is made through an authorized broker resident in Italy.


 

Cree, Inc. Master Stock Option Award

Agreement Terms and Conditions

Page 13 of 14

JAPAN

NOTIFICATIONS

Exchange Control Information. If you acquire Shares valued at more than ¥100,000,000 in a single transaction, you must file a Securities Acquisition Report with the Ministry of Finance through the Bank of Japan within 20 days of the purchase of Shares.

If you pay more than ¥30,000,000 in a single transaction for the purchase of Shares, you must file a Payment Report with the Ministry of Finance through the Bank of Japan by the 20 th day of the month following the month in which the payment was made. The precise reporting requirements vary depending on whether the relevant payments are made through a bank in Japan.

A Payment Report is required independently of a Securities Acquisition Report. Therefore, if the total amount that you pay upon a one-time transaction for exercising the Option and purchasing Shares exceeds ¥100,000,000, then you must file both a Payment Report and a Securities Acquisition Report.

KOREA

NOTIFICATIONS

Exchange Control Information. To remit funds out of Korea to exercise the Option by means of a cash exercise method, you must obtain a confirmation of the remittance by a foreign exchange bank in Korea. You likely will need to present to the bank processing the transaction supporting documentation establishing the nature of the remittance.

If you receive US$500,000 or more from the sale of Shares, Korean exchange control laws require that you repatriate the proceeds to Korea within 18 months of the sale.

MALAYSIA

NOTIFICATIONS

Insider Trading Notification. You should be aware of the Malaysian insider-trading rules, which may impact your acquisition or disposal of Shares or the Option under the Plan. Under Malaysian insider-trading rules, you are prohibited from acquiring or selling Shares or rights to Shares ( e.g. , the Option) when in possession of information that is not generally available and that you know or should know will have a material effect on the price of Shares once such information is generally available.

Director Notification Obligation. If you are a director of the Company’s Malaysian subsidiary or affiliate, you are subject to certain notification requirements under the Malaysian Companies Act. Among these requirements is an obligation to notify the Malaysian subsidiary or affiliate in writing when you receive or dispose of an interest ( e.g. , the Option or Shares) in the Company or any related company. Such notifications must be made within 14 days of receiving or disposing of any interest in the Company or any related company.

SINGAPORE

NOTIFICATIONS

SECURITIES EXEMPTION: The Option is granted to you by the Company pursuant to the “Qualifying Person” exemption under section 273(1)(f) of the Singapore Securities and Futures Act (Chapter 289, 2006 Ed.) (“SFA”). The Plan has not been lodged or registered as a prospectus with the Monetary Authority of Singapore. You should note that the grant of the Option is subject to section 257 of the SFA, and you may not make a subsequent offer or sale in Singapore of any Shares acquired at exercise unless such sale or offer in Singapore is made pursuant to the exemptions under Part XIII Division (i) Subdivision (4) (other than section 280) of the SFA (Cap 289, 2006 Ed.).

Director Notification Obligation. If you are a director, associate director, or shadow director of a Singaporean subsidiary or affiliate of the Company, you are subject to certain notification requirements under the Singapore Companies Act. Among these requirements is an obligation to notify the Singaporean subsidiary or affiliate of the Company in writing when you receive an interest ( e.g. , the Option or Shares) in the Company or any subsidiary or affiliate of the Company. In addition, you must notify the Singaporean subsidiary or affiliate when you sell Shares or shares of any other subsidiary or affiliate of the Company (including when you sell Shares at exercise of the Option). These notifications must be made within two (2) days of acquiring or disposing of an interest in the Company or any subsidiary or affiliate of the Company. In addition, within two (2) days of becoming a director, you must notify the


 

Cree, Inc. Master Stock Option Award

Agreement Terms and Conditions

Page 14 of 14

Singaporean subsidiary or affiliate of any interest that you may have in the Company or any subsidiary or affiliate of the Company.

SWEDEN

There are no country-specific provisions.

TAIWAN

NOTIFICATIONS

Exchange Control Information. You may remit and acquire foreign currency (including proceeds from the sale of Shares) in an amount up to US$5,000,000 per year without justification. If the transaction amount is TWD500,000 or more in a single transaction, you must submit a Foreign Exchange Transaction Form. If the transaction amount is US$500,000 or more in a single transaction, you also must provide supporting documentation to the satisfaction of the bank involved in the transaction.

TURKEY

NOTIFICATIONS

Exchange Control Information. Turkish exchange control regulations require Turkish residents to buy Shares through financial intermediary institutions that are approved under the Capital Markets Law ( i.e. , banks licensed in Turkey). Therefore, if you use cash to pay the purchase price to exercise the Options, the funds must be remitted through a bank or other financial institution licensed in Turkey. A wire transfer of funds by a Turkish bank will satisfy this requirement. This requirement does not apply if the exercise is facilitated through a “broker-assisted exercise” or “cashless exercise” transaction by a brokerage firm you have designated.

UNITED KINGDOM

TERMS AND CONDITIONS

Tax-Related Items. The following provision supplements Section 6 of the Agreement:

You agree that, if you do not pay or the Employer, the Company or one of its subsidiaries or affiliates does not withhold from you the full amount of Tax-Related Items within ninety (90) days of the event giving rise to the Tax-Related Items (the “Taxable Event”) or such other period specified in Section 222(1)(c) of the U.K. Income Tax (Earnings and Pensions) Act 2003 (the “Due Date”), the amount shall constitute a loan owed by you to the Employer, the Company or one of its subsidiaries or affiliates, effective as of the Due Date. You agree that the loan will bear interest at the official HMRC rate and immediately will be due and repayable by you, and the Employer, the Company or one of its subsidiaries or affiliates may recover it at any time thereafter by any of the means referred to in Section 6 of the Agreement. You also authorize the Company to delay the issuance of any Shares to you unless and until the loan is repaid in full.

Notwithstanding the foregoing, if you are an executive officer or director within the meaning of Section 13(k) of the Securities Exchange Act of 1934, as amended, the above terms will not apply. In the event that you are an executive officer or director and Tax-Related Items are not collected by the Due Date, the amount of any uncollected Tax-Related Items may constitute a benefit to you on which additional income tax and National Insurance contributions may be payable. You will be responsible for reporting any income tax and National Insurance contributions due on this additional benefit directly to HMRC under the self-assessment regime.

Exhibit 31.1

Certification by Chief Executive Officer

pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934, as adopted

pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

I, Charles M. Swoboda, certify that:

 

  1. I have reviewed this quarterly report on Form 10-Q of Cree, Inc.;

 

  2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

 

  3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

 

  4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

 

  (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

 

  (b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

 

  (c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

 

  (d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

 

  5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

 

  (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

 

  (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

January 19, 2011

 

/s/ Charles M. Swoboda

Charles M. Swoboda
Chairman, President and Chief Executive Officer

Exhibit 31.2

Certification by Chief Financial Officer

pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934, as adopted

pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

I, John T. Kurtzweil, certify that:

 

  1. I have reviewed this quarterly report on Form 10-Q of Cree, Inc.;

 

  2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

 

  3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

 

  4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

 

  (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

 

  (b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

 

  (c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

 

  (d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

 

  5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

 

  (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

 

  (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

January 19, 2011

 

/s/ John T. Kurtzweil

John T. Kurtzweil
Executive Vice President, Chief Financial Officer and Treasurer

Exhibit 32.1

Certification by Chief Executive Officer

pursuant to 18 U.S.C. Section 1350,

as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

In connection with the Quarterly Report of Cree, Inc. (the “Company”) on Form 10-Q for the quarterly period ended December 26, 2010 as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Charles M. Swoboda, Chairman, President and Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, to my knowledge, that:

 

  1. The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and

 

  2. The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

 

/s/ Charles M. Swoboda

Charles M. Swoboda
Chairman, President and Chief Executive Officer
January 19, 2011

This Certification is being furnished solely to accompany the Report pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, and shall not be deemed “filed” by the Company for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, and shall not be incorporated by reference into any filing of the Company under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, whether made before or after the date of this Report, irrespective of any general incorporation language contained in such filing.

A signed original of this written statement required by Section 906 of the Sarbanes-Oxley Act of 2002 has been provided to the Company and will be retained by the Company and furnished to the Securities and Exchange Commission or its staff upon request.

Exhibit 32.2

Certification by Chief Financial Officer

pursuant to 18 U.S.C. Section 1350,

as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

In connection with the Quarterly Report of Cree, Inc. (the “Company”) on Form 10-Q for the quarterly period ended December 26, 2010 as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, John T. Kurtzweil, Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, to my knowledge, that:

 

  1. The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and

 

  2. The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

 

/s/ John T. Kurtzweil

John T. Kurtzweil
Executive Vice President, Chief Financial Officer and Treasurer
January 19, 2011

This Certification is being furnished solely to accompany the Report pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, and shall not be deemed “filed” by the Company for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, and shall not be incorporated by reference into any filing of the Company under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, whether made before or after the date of this Report, irrespective of any general incorporation language contained in such filing.

A signed original of this written statement required by Section 906 of the Sarbanes-Oxley Act of 2002 has been provided to the Company and will be retained by the Company and furnished to the Securities and Exchange Commission or its staff upon request.