---



UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549



FORM 10-Q



|x | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT OF 1934
|- | -------------------------------------------------------------------------------------------



| | For the quarterly period ended September 30, 2003
| | -------------------------------------------------



or



| ̈ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT OF 1934
|- | --------------------------------------------------------------------------------------------



| | For the transition period from  to
| | ----------------------------------



Commission File No. 000-13059



CERADYNE, INC.

(Exact name of
Registrant as specified in its charter)



|                                                               | 
|-------------------------------------------------------------- | 
|Delaware                                                       | 
|(State or other jurisdiction of incorporation or organization) | 



|3169 Redhill Avenue, Costa Mesa, CA |  | 92626     
|----------------------------------- |  | ----------
|(Address of principal executive)    |  | (Zip Code)



Registrants
telephone number, including area code:     (714) 549-0421



N/A

(Former name, former address and former fiscal year, if changed since last report)



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 is an accelerated filer (as defined in Exchange Act Rule 12b-2).



Yes ̈No  x



Indicate the number of shares outstanding of each of the issuers
classes of common stock, as of the latest practicable date.



|Class                        |  | Outstanding at September 30, 2003
|---------------------------- |  | ---------------------------------
|Common Stock, $.01 par value |  | 10,513,869 Shares                



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Page 1 of 27 Pages



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CERADYNE, INC.

|               |  | INDEX                                                                                                |  | PAGE NO
|-------------- |  | ---------------------------------------------------------------------------------------------------- |  | -------
|               |  |                                                                                                     
|PART I.        |  | FINANCIAL INFORMATION                                                                                |  |        
|               |  |                                                                                                     
|Item 1.        |  | Financial Statements                                                                                 |  |        
|               |  |                                                                                                     
|               |  | Statement Regarding Financial Information                                                            |  | 3      
|               |  |                                                                                                     
|               |  | Condensed Consolidated Balance Sheets September 30, 2003 and December 31, 2002                      |  | 4-5    
|               |  |                                                                                                     
|               |  | Condensed Consolidated Statements of Income Three and Nine Months Ended September 30, 2003 and 2002 |  | 6      
|               |  |                                                                                                     
|               |  | Condensed Consolidated Statements of Cash Flows Nine Months Ended September 30, 2003 and 2002       |  | 7      
|               |  |                                                                                                     
|               |  | Condensed Notes to Consolidated Financial Statements                                                 |  | 8-15   
|               |  |                                                                                                     
|Item 2.        |  | Managements Discussion and Analysis of Financial Conditionand Results of Operations                 |  | 16-23  
|               |  |                                                                                                     
|Item 3.        |  | Quantitative and Qualitative DisclosuresAbout Market Risk                                            |  | 23     
|               |  |                                                                                                     
|Item 4.        |  | Controls and Procedures                                                                              |  | 24     
|               |  |                                                                                                     
|PART II.       |  | OTHER INFORMATION                                                                                    |  |        
|               |  |                                                                                                     
|Item 1.        |  | Legal Proceedings                                                                                    |  | 24     
|               |  |                                                                                                     
|Items 2 and 3. |  | N/A                                                                                                  |  | 24     
|               |  |                                                                                                     
|Item 4.        |  | Submission of Matters to a Vote of Security Holders                                                  |  | 24-25  
|               |  |                                                                                                     
|Item 5.        |  | N/A                                                                                                  |  | 25     
|               |  |                                                                                                     
|Item 6.        |  | Exhibits and Reports on Form 8-K                                                                     |  | 25-26  
|               |  |                                                                                                     
|SIGNATURE      |  |                                                                                                      |  | 26     



2



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CERADYNE, INC.



FORM 10-Q

FOR THE QUARTER ENDED



September 30, 2003





|PART I. | FINANCIAL INFORMATION
|------- | ---------------------



|Item 1. | Financial Statements
|------- | --------------------





| | The Financial Statements included herein have been prepared by Ceradyne, Inc. (the Company), without audit, pursuant to the rules and regulations of the Securities and
Exchange Commission. Certain information normally included in the Financial Statements prepared in accordance with accounting principles generally accepted in the United States has been omitted pursuant to such rules and regulations. However, the
Company believes the disclosures are adequate to make the information presented not misleading. All adjustments have been made which are, in the opinion of management, necessary to a fair statement of the results of the interim periods presented.
The Financial Statements should be read in conjunction with the Financial Statements and notes thereto included in the Companys Annual Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 on Form 10-K for the fiscal
year ended December 31, 2002, as filed with the Securities and Exchange Commission on March 31, 2003.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



3



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CERADYNE, INC.

CONSOLIDATED BALANCE SHEETS

ASSETS

(Amounts in thousands)



|                                                                                                                                                      |  | September 30, 2003 |         |   | December 31, 2002 |  
|----------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------------ | ------- | - | ----------------- | -
|                                                                                                                                                      |  | (Unaudited)        |         |   | (a)               |  
|CURRENT ASSETS                                                                                                                                        |  |                    |         |   |                   |  
|Cash and cash equivalents                                                                                                                             |  | $                  | 28,115  |   |                   | $
|Accounts receivable, net of allowances for doubtful accounts of approximately $207 and $111 at September 30, 2003 and December 31,
2002, respectively |  |                    | 17,980  |   |                   |  
|Other receivables                                                                                                                                     |  |                    | 242     |   |                   |  
|Inventories                                                                                                                                           |  |                    | 16,233  |   |                   |  
|Production tooling                                                                                                                                    |  |                    | 3,659   |   |                   |  
|Prepaid expenses and other                                                                                                                            |  |                    | 2,577   |   |                   |  
|Deferred tax asset                                                                                                                                    |  |                    |        |   |                   |  
|                                                                                                                                                      |  |                    |         |   |                   |  
|TOTAL CURRENT ASSETS                                                                                                                                  |  |                    | 68,806  |   |                   |  
|                                                                                                                                                      |  |                    |         |   |                   |  
|PROPERTY, PLANT & EQUIPMENT, at cost                                                                                                                  |  |                    |         |   |                   |  
|Land                                                                                                                                                  |  |                    | 1,899   |   |                   |  
|Buildings and improvements                                                                                                                            |  |                    | 3,784   |   |                   |  
|Machinery and equipment                                                                                                                               |  |                    | 37,348  |   |                   |  
|Leasehold improvements                                                                                                                                |  |                    | 4,635   |   |                   |  
|Office equipment                                                                                                                                      |  |                    | 3,923   |   |                   |  
|Construction in progress                                                                                                                              |  |                    | 222     |   |                   |  
|                                                                                                                                                      |  |                    |         |   |                   |  
|                                                                                                                                                      |  |                    | 51,811  |   |                   |  
|Less accumulated depreciation and amortization                                                                                                        |  |                    | (28,643 | ) |                   |  
|                                                                                                                                                      |  |                    |         |   |                   |  
|                                                                                                                                                      |  |                    | 23,168  |   |                   |  
|                                                                                                                                                      |  |                    |         |   |                   |  
|COSTS IN EXCESS OF NET ASSETS ACQUIRED                                                                                                                |  |                    | 1,511   |   |                   |  
|                                                                                                                                                      |  |                    |         |   |                   |  
|TOTAL ASSETS                                                                                                                                          |  | $                  | 93,485  |   |                   | $
|                                                                                                                                                      |  |                    |         |   |                   |  





|(a) | Derived from audited financial statements.
|--- | ------------------------------------------





See accompanying condensed notes to Consolidated Financial Statements



4



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CERADYNE, INC.

CONSOLIDATED BALANCE SHEETS

LIABILITIES AND SHAREHOLDERS EQUITY

(Amounts in thousands, except share data)



|                                           |  | September 30, 2003 |        | December 31, 2002
|------------------------------------------ |  | ------------------ | ------ | -----------------
|                                           |  | (Unaudited)        |        | (a)              
|CURRENT LIABILITIES                        |  |                    |        |                  
|Bank line of credit                        |  | $                  |       |                  
|Current portion of long-term debt          |  |                    |       |                  
|Accounts payable                           |  |                    | 7,877  |                  
|Accrued expenses                           |  |                    | 2,976  |                  
|Income taxes payable                       |  |                    | 1,700  |                  
|Deferred revenue                           |  |                    | 54     |                  
|Warranty reserve                           |  |                    |       |                  
|                                           |  |                    |        |                  
|TOTAL CURRENT LIABILITIES                  |  |                    | 12,607 |                  
|                                           |  |                    |        |                  
|LONG-TERM DEBT, NET OF CURRENT PORTION     |  |                    |       |                  
|DEFERRED TAX LIABILITY                     |  |                    | 1,471  |                  
|SHAREHOLDERS EQUITY                       |  |                    |        |                  
|Common stock, $.01 par value,              |  |                    |        |                  
|Authorized18,000,000 shares,              |  |                    |        |                  
|Outstanding10,513,869 shares              |  |                    |        |                  
|and 8,521,034 shares at September 30, 2003 |  |                    |        |                  
|and December 31, 2002, respectively        |  |                    | 69,334 |                  
|Retained Earnings                          |  |                    | 10,073 |                  
|                                           |  |                    |        |                  
|TOTAL SHAREHOLDERS EQUITY                 |  |                    | 79,407 |                  
|                                           |  |                    |        |                  
|TOTAL LIABILITIES AND SHAREHOLDERS EQUITY |  | $                  | 93,485 |                  
|                                           |  |                    |        |                  





|(a) | Derived from audited financial statements.
|--- | ------------------------------------------





See accompanying condensed notes to Consolidated Financial Statements





5



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CERADYNE, INC.

CONSOLIDATED STATEMENTS OF INCOME

(Amounts in thousands, except share data)



|                                         |  | Three Months Ended September 30, |        |   | Nine Months Ended September 30, |  
|---------------------------------------- |  | -------------------------------- | ------ | - | ------------------------------- | -
|                                         |  | 2003                             |        |   | 2002                            |  
|                                         |  | (Unaudited)                      |        |   | (Unaudited)                     |  
|                                         |  |                                  |        |  
|NET SALES                                |  | $                                | 27,043 |   |                                 | $
|COST OF PRODUCT SALES                    |  |                                  | 18,870 |   |                                 |  
|                                         |  |                                  |        |   |                                 |  
|Gross profit                             |  |                                  | 8,173  |   |                                 |  
|                                         |  |                                  |        |   |                                 |  
|OPERATING EXPENSES                       |  |                                  |        |   |                                 |  
|Selling                                  |  |                                  | 627    |   |                                 |  
|General and administrative               |  |                                  | 1,984  |   |                                 |  
|Research and development                 |  |                                  | 575    |   |                                 |  
|                                         |  |                                  |        |   |                                 |  
|                                         |  |                                  | 3,186  |   |                                 |  
|                                         |  |                                  |        |   |                                 |  
|Income from operations                   |  |                                  | 4,987  |   |                                 |  
|                                         |  |                                  |        |   |                                 |  
|OTHER INCOME (EXPENSE):                  |  |                                  |        |   |                                 |  
|Royalty income                           |  |                                  | 30     |   |                                 |  
|Interest income                          |  |                                  | 45     |   |                                 |  
|Interest expense                         |  |                                  | (4     | ) |                                 |  
|Miscellaneous                            |  |                                  | 14     |   |                                 |  
|                                         |  |                                  |        |   |                                 |  
|                                         |  |                                  | 85     |   |                                 |  
|Income before provision for income taxes |  |                                  | 5,072  |   |                                 |  
|                                         |  |                                  |        |  
|PROVISION FOR INCOME TAXES               |  |                                  | 1,775  |   |                                 |  
|                                         |  |                                  |        |   |                                 |  
|NET INCOME                               |  | $                                | 3,297  |   |                                 | $
|                                         |  |                                  |        |   |                                 |  
|BASIC INCOME PER SHARE                   |  | $                                | 0.32   |   |                                 | $
|                                         |  |                                  |        |   |                                 |  
|DILUTED INCOME PER SHARE                 |  | $                                | 0.31   |   |                                 | $
|                                         |  |                                  |        |   |                                 |  





See accompanying condensed notes to Consolidated Financial Statements





6



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CERADYNE, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Amounts in thousands)



|                                                                                            |  | Nine Months Ended September 30, |       
|------------------------------------------------------------------------------------------- |  | ------------------------------- | ------
|                                                                                            |  | 2003(Unaudited)                 |       
|CASH FLOWS FROM OPERATING ACTIVITIES:                                                       |  |                                 |       
|Net Income                                                                                  |  | $                               | 7,029 
|ADJUSTMENTS TO RECONCILE NET INCOME TO NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES: |  |                                 |       
|Depreciation and amortization                                                               |  |                                 | 2,489 
|Deferred income taxes                                                                       |  |                                 | 1,034 
|Change in operating assets and liabilities:                                                 |  |                                 |       
|Accounts receivable, net                                                                    |  |                                 | (6,381
|Other receivables                                                                           |  |                                 | 29    
|Inventories                                                                                 |  |                                 | (126  
|Production tooling                                                                          |  |                                 | (420  
|Prepaid expenses and other                                                                  |  |                                 | (377  
|Accounts payable                                                                            |  |                                 | 2,436 
|Accrued expenses                                                                            |  |                                 | 1,567 
|Income taxes payable                                                                        |  |                                 | 1,700 
|Warranty reserve                                                                            |  |                                 | (596  
|Deferred revenue                                                                            |  |                                 | (159  
|                                                                                            |  |                                 |       
|NET CASH PROVIDED BY OPERATING ACTIVITIES                                                   |  |                                 | 8,225 
|                                                                                            |  |                                 |       
|CASH FLOWS FROM INVESTING ACTIVITIES:                                                       |  |                                 |       
|Purchases of property, plant and equipment                                                  |  |                                 | (6,997
|                                                                                            |  |                                 |       
|NET CASH USED IN INVESTING ACTIVITIES:                                                      |  |                                 | (6,997
|                                                                                            |  |                                 |       
|CASH FLOWS FROM FINANCING ACTIVITIES:                                                       |  |                                 |       
|Proceeds from common stock offering                                                         |  |                                 | 28,463
|Costs of common stock offering                                                              |  |                                 | (535  
|Proceeds from issuance of stock due to exercise of options                                  |  |                                 | 1,157 
|Payments on long-term debt                                                                  |  |                                 | (158  
|Net proceeds from (reduction in) bank line of credit                                        |  |                                 | (2,390
|                                                                                            |  |                                 |       
|NET CASH PROVIDED BY FINANCING ACTIVITIES                                                   |  |                                 | 26,537
|                                                                                            |  |                                 |       
|INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS                                            |  |                                 | 27,765
|                                                                                            |  |                                 |       
|CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD                                              |  |                                 | 350   
|                                                                                            |  |                                 |       
|CASH AND CASH EQUIVALENTS, END OF PERIOD                                                    |  | $                               | 28,115
|                                                                                            |  |                                 |       
|                                                                                            |  |                                
|SUPPLEMENTAL SCHEDULE OF NON-CASH FINANCING ACTIVITIES:                                     |  |                                 |       
|Fulfillment of 401 (k) obligations through the issuance of stock                            |  |                                 | 205   
|                                                                                            |  |                                 |       



See accompanying
condensed notes to Consolidated Financial Statements





7



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CERADYNE, INC.

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2003

(Unaudited)

|
|

|1. | Basis of Presentation
|-- | ---------------------



The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial
statements. In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been included. Operating results for the three-month and the nine-month periods ended September
30, 2003 are not necessarily indicative of the results that may be expected for the year ended December 31, 2003.



The balance sheet at December 31, 2002 has been derived from the audited financial statements at that date, but does not include all of the information
and footnotes required by generally accepted accounting principles for complete financial statements.



For further information, refer to the Consolidated Financial Statements and Notes to Financial Statements included in Ceradynes Annual Report on
Form 10-K for the year ended December 31, 2002.



|2. | Inventories
|-- | -----------



Inventories are valued at the lower of cost (first in, first out) or market. Inventory costs include the cost of material, labor and manufacturing
overhead. The following is a summary of the inventory components as of September 30, 2003 and December 31, 2002 (in thousands):



|                  |  | September 30, 2003 |        | December 31, 2002
|----------------- |  | ------------------ | ------ | -----------------
|Raw Materials     |  | $                  | 2,862  |                  
|Work-In-Process   |  |                    | 9,808  |                  
|Finished Goods    |  |                    | 3,563  |                  
|                  |  |                    |        |                  
|Total Inventories |  | $                  | 16,233 |                  
|                  |  |                    |        |                  



Certain
reclassifications to raw materials, work-in-process and finished goods were made as of December 31, 2002 to more accurately reflect the balances of those items.



8



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|3. | Recent Accounting Pronouncements
|-- | --------------------------------



In July 2002, the Financial Accounting Standards Board, FASB, issued Statement of Financial Accounting Standards, SFAS, No. 146, Accounting for Costs
Associated with Exit or Disposal. This statement addresses financial accounting and reporting for costs associated with exit or disposal activities and nullifies EITF Issue No. 94-3, Liability Recognition for Certain Employee Termination Benefits
and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring). The provisions of this statement are effective for exit or disposal activities initiated after December 31, 2002. The application of this statement did not
have a significant impact on the Companys consolidated financial statements.



In November 2002, the FASB issued Interpretation No. 45, Guarantors Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others (Interpretation).
This Interpretation elaborates on the existing disclosure requirements for most guarantees, including loan guarantees such as standby letters of credit. It also requires that at the time a company issues a guarantee, the company must recognize an
initial liability for the fair market value of the obligations it assumes under that guarantee and must disclose that information in its interim and annual financial statements. The initial recognition and measurement provisions of the
Interpretation apply on a prospective basis to guarantees issued or modified after December 31, 2002. The application of this statement did not have an impact on the Companys consolidated financial statements.



In January 2003, the FASB issued Interpretation No. 46, Consolidation of
Variable Interest Entities-an interpretation of ARB No. 51. This Interpretation addresses consolidation by business enterprises of variable interest entities, which have one or both of the following characteristics: (i) the equity investment at risk
is not sufficient to permit the entity to finance its activities without additional subordinated financial support from other parties, which is provided through other interests that will absorb some or all of the expected losses of the entity, and
(ii) the equity investors lack an essential characteristic of a controlling financial interest. It applies to variable interest entities established after December 31, 2002. Management expects that the application of FIN 46 will not have a
significant impact on the Companys consolidated financial statements.



In April 2003, the FASB issued SFAS No. 149, Amendment of Statement No. 133 on Derivative Instruments and Hedging Activities. This statement is effective for contracts entered into or modified after June 30, 2003 and
for hedging relationships designated after June 30, 2003. It amends and clarifies financial accounting and reporting for derivative instruments, including certain derivative instruments embedded in other contracts and for hedging activities. SFAS
149 amends SFAS 133 for decisions made as part of the Derivatives Implementation Group process that effectively required amendments to SFAS 133, in connection with other FASB projects dealing with financial instruments and in connection with
implementation issues raised in relation to the application of the definition of a derivative. The application of this statement did not have an impact on the Companys consolidated financial statements.



In May 2003, the FASB issued SFAS No. 150, Certain Financial Instruments
with



9



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Characteristics of Both Liabilities and Equity. This statement establishes standards for how a company
clarifies and measures certain financial instruments with characteristics of both liabilities and equity. It requires a company to classify such instruments as liabilities, whereas they previously may have been classified as equity. SFAS 150 is
effective for all financial instruments entered into or modified after May 31, 2003, and otherwise is effective July 1, 2003. The application of this statement did not have an impact on the Companys consolidated financial statements.



|4. | Net Income Per Share
|-- | --------------------



Basic net income per share is computed by dividing net income available to common stockholders by the weighted average number of common shares
outstanding. Diluted net income per share is computed by dividing net income available to common stockholders by the weighted average number of common shares outstanding plus the effect of any dilutive stock options using the treasury stock method.



The following is a summary of the number of shares used for
the computation of net income per common and common equivalent share:



|                                              |  | Three Months Ended September 30 |  | Nine Months Ended September 30
|--------------------------------------------- |  | ------------------------------- |  | ------------------------------
|                                              |  | 2003                            |  | 2002                          
|Weighted average number of shares outstanding |  | 10,323,653                      |  | 8,512,411                     
|Dilutive stock options                        |  | 261,705                         |  | 256,201                       
|                                              |  |                                 |  |                               
|Number of shares used in diluted computations |  | 10,585,358                      |  | 8,768,612                     
|                                              |  |                                 |  |                               



|5. | Line of Credit
|-- | --------------



The Company entered into a new unsecured bank line of credit during August 2003 which expires in August 2005. The Company may borrow up to $10,000,000
with interest on borrowings charged at 1.75 percentage points in excess of the LIBOR rate for a period selected by the Company. The LIBOR rates for the periods that could be selected ranged from approximately 1.12 percent to 1.30 percent at
September 30, 2003. The bank line of credit did not have an outstanding balance at September 30, 2003. Pursuant to the bank line of credit, the Company is subject to certain covenants, which include, among other things, the maintenance of specified
minimum amounts of tangible net worth and quick assets to current liabilities ratio. At September 30, 2003, the Company was in compliance with these covenants.



|6. | Stock-Based Compensation
|-- | ------------------------



The Company applies the provisions of Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees,
in accounting for stock-based compensation; therefore, no compensation expense has been recognized for its fixed stock option plans as options are granted at fair market value based upon the closing price on the grant date. The Company has adopted
the



10



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disclosure requirements for SFAS No. 123, Accounting for Stock-Based Compensation. On
December 31, 2002, the FASB issued SFAS No. 148, Accounting for Stock Based Compensation-Transition and Disclosure, which amends SFAS No. 123. SFAS No. 148 requires more prominent and frequent disclosures about the effects of stock-based
compensation, which the Company adopted in the year ended December 31, 2002. Accordingly, if compensation expense for the Companys stock options had been recognized, based upon the fair value of awards granted, the Companys net income
and earnings per share would have been reduced to the following pro forma amounts:



Three Months EndedSeptember 30,

Nine Months EndedSeptember 30,2003

2002

2003

2002Net income, as reported

$
3,297,000

$
662,000

$
7,029,000

$
1,748,000Deduct: Total stock-based employee compensation expense determined under the fair value based method for all awards, net of
related tax effects


97,000


65,000


204,000


162,000Pro forma net income

$
3,200,000

$
597,000

$
6,825,000

$
1,586,000Net income per share:Basicas reported

$
0.32

$
0.08

$
0.77

$
0.21Basicpro forma

$
0.31

$
0.07

$
0.74

$
0.19Dilutedas reported

$
0.31

$
0.08

$
0.74

$
0.20Dilutedpro forma

$
0.30

$
0.07

$
0.72

$
0.18Weighted average shares outstanding:Basic


10,323,653


8,512,411


9,175,160


8,474,562Diluted


10,585,358


8,768,612


9,436,865


8,718,130




There were no
options granted during the first quarter ended March 31, 2003. Options for 15,000 shares were granted in the second quarter ended June 30, 2003. During the third quarter ended September 30, 2003, options for 96,000 shares were granted.



The pro forma amounts were estimated using the Black-Scholes
option-pricing model with the following assumptions:



Nine Months Ending September 30, 2003Expected term (years)

7.0Volatility

56.97%Annual dividend per share

$00.00Risk-free interest rate

3.62%Weighted-average fair value of options granted

$13.23








11



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The Black-Scholes option valuation model was developed for use in estimating the fair value of traded
options that have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions, including the expected stock price volatility. The Companys options have
characteristics significantly different from those of traded options, and changes in the subjective input assumptions can materially affect the fair value estimate.



|7. | Disclosure About Segments of an Enterprise and Related Information
|-- | ------------------------------------------------------------------



The Company serves its markets and manages its business through three divisions, each of which has its own manufacturing
facilities and administrative and selling functions. The Companys Advanced Ceramic Operations, located in Costa Mesa and Irvine, California, primarily produces armor and orthodontic products, diesel engine parts, components for semiconductor
equipment, and houses the Companys sintered reaction bonded silicon nitride (SRBSN) research and development activities. The Companys cathode development and production are handled through its Semicon Associates division located in
Lexington, Kentucky. Fused silica products, including missile radomes, are produced at the Companys Thermo Materials division located in Scottdale, Georgia.



Ceradynes manufacturing structure is summarized in the following table:





FACILITY LOCATION

PRODUCTSCeradyne Advanced Ceramic Operations Costa Mesa and Irvine, California Approximately 126,000 square feet

Defense Applications:       Lightweight ceramic armor Industrial Applications:       Ceralloy® 147 SRBSN wear parts       Semiconductor equipment components       Precision ceramics Automotive/Diesel Applications:       Ceralloy® 147 SRBSN automotive/diesel engine parts       Ceramic armor system components for civilian vehicles Commercial Applications:       Orthodontic ceramic bracketsCeradyne Semicon Associates Lexington, Kentucky Approximately 35,000 square feet

Industrial Applications:       Ceramic-impregnated dispenser cathodes for microwave tubes, lasers and cathode ray tubes       Samarium cobalt magnetsCeradyne Thermo Materials Scottdale, Georgia Approximately 88,000 square feet

Defense Applications:       Missile radomes (nose cones) Industrial Applications:       Glass tempering rolls       Metallurgical tooling       Castable and other fused silica products       Crucibles for photovoltaic solar cell applications


| | 
|- | 



12



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Ceradyne, Inc.

Segment Disclosures

(Amounts in thousands)



Three Months Ended September 30,



Advanced Ceramic Ops

Semicon Associates

Thermo Materials


Total2003

2002

2003


2002

2003

2002


2003

2002Revenue from External Customers

$
20,689

$
10,469

$
1,695


$
1,493

$
4,659

$
2,338


$
27,043

$
14,300Depreciation and Amortization

$
614

$
532

$
105


$
113

$
123

$
$114


$
842

$
759Segment Income (Loss) before Provision for Income Taxes

$
4,745

$
943

$
(14
)

$
130

$
341

$
(55
)

$
5,072

$
1,018Segment Assets

$
79,539

$
40,096

$
5,908


$
6,384

$
8,038

$
7,110


$
93,485

$
53,590Expenditures for PP&E

$
1,412

$
823

$
88


$
154

$
156

$
163


$
1,656

$
1,140




The following is revenue by
product line for Advanced Ceramic Operations for the quarter ended September 30:



|             |  | 2003 |        | 2002
|------------ |  | ---- | ------ | ----
|Armor        |  | $    | 15,119 |     
|Automotive   |  |      | 1,325  |     
|Orthodontics |  |      | 2,270  |     
|Industrial   |  |      | 1,975  |     
|             |  |      |        |     
|             |  | $    | 20,689 |     
|             |  |      |        |     



Nine Months Ended
September 30,



Advanced Ceramic Ops

Semicon Associates

Thermo Materials


Total2003

2002

2003

2002

2003

2002


2003

2002Revenue from External Customers

$
52,918

$
33,261

$
5,311

$
4,580

$
10,102

$
5,757


$
68,331

$
43,598Depreciation and Amortization

$
1,791

$
1,416

$
339

$
338

$
359

$
365


$
2,489

$
2,119Segment Income before Provision for Income Taxes

$
9,957

$
2,765

$
292

$
295

$
565

$
(371
)

$
10,814

$
2,689Expenditures for PP&E

$
6,361

$
4,320

$
193

$
197

$
443

$
541


$
6,997

$
5,058


The following is revenue by product line for Advanced Ceramic Operations for the nine months
ended September 30:

|             |  | 2003 |        | 2002
|------------ |  | ---- | ------ | ----
|Armor        |  | $    | 37,240 |     
|Automotive   |  |      | 3,167  |     
|Orthodontics |  |      | 6,422  |     
|Industrial   |  |      | 6,089  |     
|             |  |      |        |     
|             |  | $    | 52,918 |     
|             |  |      |        |     





13



---

Ceradyne, Inc.

Segment Disclosures for

Net Sales by Area

Three Months Ended September 30,



Advanced Ceramic Ops


Semicon Associates


Thermo Materials


Total2003


2002


2003


2002


2003


2002


2003


2002U.S. Net Sales (in %)

73
%

70
%

5
%

9
%

12
%

9
%

90
%

88
%Foreign Net Sales (in %)

4
%

3
%

1
%

1
%

5
%

8
%

10
%

12
%Total Net Sales (in %)

77
%

73
%

6
%

10
%

17
%

17
%

100
%

100
%Nine Months Ended September 30,Advanced Ceramic Ops


Semicon Associates


Thermo Materials


Total2003


2002


2003


2002


2003


2002


2003


2002U.S. Net Sales (in %)

75
%

73
%

6
%

9
%

10
%

7
%

91
%

89
%Foreign Net Sales (in %)

3
%

3
%

1
%

2
%

5
%

6
%

9
%

11
%Total Net Sales (in %)

78
%

76
%

7
%

11
%

15
%

13
%

100
%

100
%






14



---

|8. | Legal Proceedings
|-- | -----------------



From time to time, the Company is involved in legal proceedings incidental to its business. The Company believes that pending actions, individually and in
the aggregate, will not have a material adverse effect on its financial condition, results of operations or cash flows, and that adequate provision has been made for the resolution of such actions and proceedings.



|9. | Commitments and Contingencies
|-- | -----------------------------



The U.S. Government Defense Logistics Agency (DLA) notified the Company on March 27, 2002, that 3 lots of Ceradynes small arms protective inserts
(SAPI) for lightweight ceramic armor shipped in January 2002 failed to pass ballistics reverification tests by the Governments designated independent commercial testing laboratory. During the period of December 2001 through March
27, 2002, the Company had shipped approximately $5.1 million under its contract with the DLA. Subsequent to March 27, 2002, the DLA directed the independent testing laboratory to perform reverification testing and $3.4 million of the
shipments were not in testing compliance.



When notified of
these issues on March 27, 2002, the Company voluntarily stopped producing its original SAPI design and actively worked with the Government to understand the quality and testing issues and to resolve the status and disposition of the SAPI plates in
question. The Company completed the development of a modified design for its ceramic SAPI armor plates. Independently performed tests by the Governments designated testing laboratory of the modified design have been successful and the
first article (initial production parts) of this modified design was approved in June 2002.



On August 7, 2002, the Company signed an amendment to the contract with the Government regarding certain of the SAPI plates shipped in December 2001, and
the first quarter 2002. The amendment required that the Company correct or replace at its expense all supplies of the product that did not meet the original contractual requirements. The warranty items were delivered over the period from October
2002 through June 2003. The Company estimated the cost to rework and upgrade the SAPI plates at approximately $650,000 and set up a warranty reserve in that amount, which was recorded in the second quarter ended June 30, 2002 against cost of product
sales. Upon completion of the cost to rework and upgrade the SAPI plates during the second quarter ended June 30, 2003, there was a remaining warranty reserve amount of $148,000 that was credited to cost of product sales.



Changes in the product warranty accrual for the nine months ended September
30, 2003 were as follows:



Warranty accrual, January 1, 2003

$
596,000Warranty expenditures


(448,000
)Remaining balance credited to cost of product sales


(148,000
)Warranty accrual, September 30, 2003

$





15



---

|Item 2. | Managements Discussion and Analysis of Financial Condition and Results
|------- | -----------------------------------------------------------------------

| | of Operations
| | -------------



| | Preliminary Note Regarding Forward-Looking Statements
| | -----------------------------------------------------



| | This Quarterly Report on Form 10-Q contains statements which may constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933
and Section 21E of the Securities and Exchange Act of 1934. One generally can identify forward-looking statements by the use of forward-looking terminology such as believes, may, will, expects,
intends, estimates, anticipates, plans, seeks, or continues, or the negative thereof, or variations thereon, or similar terminology. Forward-looking statements regarding future
events and the future performance of the Company involve risks and uncertainties that could cause actual results to differ materially. Reference is made to the risks and uncertainties which are described in Note 9, Commitments and
Contingencies, of Condensed Notes to Consolidated Financial Statements on page 14 of this report, and in the section captioned Risk Factors in the Companys Prospectus dated July 1, 2003 as filed with the Securities and
Exchange Commission.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Overview
| | --------



| | We develop, manufacture and market advanced technical ceramic products and components for defense, industrial, automotive/diesel and commercial applications. Our primary products
include lightweight ceramic armor for soldiers and military helicopters; ceramic orthodontic brackets; ceramic diesel engine components; ceramic-impregnated dispenser cathodes for microwave tubes, lasers and cathode ray tubes; and ceramic industrial
components for erosion and corrosion resistant applications. Our customers include the U.S. government, prime government contractors and large industrial and commercial manufacturers.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | We categorize our products into four market applications. The table below shows the percentage contribution to our total sales of each market application in the different time
periods.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



Three Months EndedSeptember 30


Nine Months EndedSeptember 302003


2002


2003


2002Defense

66.4
%

36.4
%

61.9
%

41.1
%Industrial

20.1


36.7


23.8


35.3Automotive/Diesel

5.1


14.4


5.0


10.6Commercial

8.4


12.5


9.3


13.0Total

100.0
%

100.0
%

100.0
%

100.0
%




| | The continuing primary factor contributing to our recent growth in sales has been the increased demand by the U.S. military for ceramic body armor that protects soldiers. Recent
military conflicts in Afghanistan and Iraq, as well as an increasingly unstable geopolitical climate and the heightened risk of international conflicts, have resulted in increased orders for these products. The U.S. military has increasingly
demanded that the modern soldier be equipped with ceramic body armor. As a result of this, we have received a number of surge orders for the manufacture of ceramic body armor. In September 2003, we received a four year indefinite quantity contract
from the
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



16



---

| | Department of Defense to supply small arms protective inserts (SAPI) for the U.S. Army. The contract includes a base award for 2004 of approximately $29 million. During October
2003, the Department of Defense exercised an option under this contract for us to supply an additional $14.3 million of SAPI body armor. We expect our shipments of ceramic body armor to be higher in the fourth quarter of 2003 than in the third
quarter of 2003. We expect that the increase in shipments will continue in 2004 due to the surge orders for the conflict in Iraq and as we complete production on current contracts. For the next several quarters, and perhaps longer, fluctuations in
sales of ceramic body armor are likely to be the biggest factor affecting our sales.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Although we expect demand for ceramic body armor to continue for many years, the quantity and timing of government orders depends on a number of factors outside of our control, such
as the amount of U.S. defense budget appropriations and the level of international conflicts. Moreover, ceramic armor contracts generally are awarded in an open competitive bidding process. Therefore, our future level of sales of ceramic body armor
will depend on our ability to successfully compete for this business.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | In May 2003, the prime government contractor for the PAC-3 (Patriot Advanced Capability) missile selected Ceradyne to manufacture the technical ceramic radome blank, diamond grind
the radome blank to precise tolerances and assemble and test the radome components for incorporation on the PAC-3 missile. Previously, the prime contractor made the ceramic radome blank and we performed only the diamond grinding. The prime
contractor has and will continue to provide us with funds to purchase most of the equipment and tooling required for this program. We anticipate that the installation of the equipment and tooling, and the leasehold improvements in the 25,000 square
foot facility that we leased adjacent to our facility in Scottdale, Georgia, will be completed in the first quarter of 2004. Depending on the level of government funding for this program, we expect revenues from sales of radomes for the PAC-3
missile to increase from our historic levels and to continue for several years.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Also in May 2003, we were selected to produce radomes for the Arrow Missile. We will manufacture the technical ceramic radome blank, diamond grind the radome blank to precise
tolerances and assemble and test the radome components. We expect revenues from the sales of the radomes for this system to begin in 2004 and continue for several years.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Other existing products which we believe could have a significant impact on our growth over the long term include ceramic components for heavy-duty diesel truck engines, crucibles
for the photovoltaic cell industry and sales of orthodontic brackets.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Our largest diesel engine components customer informed us in May 2003 that it will triple the number of ceramic cam rollers that it uses in each heavy-duty diesel truck engine from
six to 18. We expect to begin shipping these additional components in the fourth quarter of 2003. We expect that trend will continue in 2004.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------





17



---

| | Results of Operations for the Three and Nine Months Ended September 30, 2003
| | ----------------------------------------------------------------------------



| | Reference is made to the Companys Annual Report on Form 10-K for the fiscal year ended December 31, 2002, for an analysis and detailed discussion of the Companys
financial condition and results of operations for the period covered by that report.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Net Sales. Our net sales for the three months ended September 30, 2003 were $27.0 million, an increase of $12.7 million, or 89.1%, from $14.3 million of net sales in the
corresponding quarter of the prior year. Net sales for the nine months ended September 30, 2003 were $68.3 million, an increase of $24.7 million, or 56.7%, from $43.6 million of net sales in the corresponding period of the prior year.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Net sales for our Advanced Ceramic Operations division for the three months ended September 30, 2003 were $20.7 million, an increase of $10.2 million, or 97.6%, from the $10.5
million in the corresponding quarter of the prior year. The primary reason for this improvement was an increase of $10.6 million, or 235.1%, in net sales of ceramic body armor for defense customers, from the $4.5 million of net sales in the third
quarter of 2002. This increase in net sales of lightweight body armor for military personnel was caused by delivery of orders that were received in the fourth quarter 2002 and the first and second quarters 2003 from the U.S. Department of Defense.
Net sales for our orthodontic brackets product line were $2.3 million, an increase of $479,000, or 26.7%, from net sales of $1.8 million in the corresponding quarter of the prior year. Net sales for our automotive/diesel component product line were
$1.3 million, a decrease of $0.7 million, or 34.3%, from the $2.0 million in the corresponding quarter of the prior year. The Company experienced a temporary surge in orders and shipments in the second and third quarters of 2002 for this product
line. We believe this was due to an effort by diesel truck manufacturers to sell as many diesel trucks as possible prior to October 31, 2002, when new, stricter federal environmental regulations became effective.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | For the nine month period ended September 30, 2003, net sales for our Advanced Ceramic Operations were $52.9 million, an increase of $19.6 million, or 59.1%, from the $33.3 million
in the first nine months of 2002. This improvement was mainly due to an increase in shipments of armor products of $20.3 million, or 119.4%, to $37.2 million from the $17.0 million of armor products shipped during the first nine months of 2002. Net
sales for our orthodontic brackets product line were $6.4 million, an increase of $0.7 million, or 13.0%, from net sales of $5.7 million in the first nine months of 2002. Net sales for our automotive/diesel component product line were $3.2 million,
a decrease of $1.3 million, or 28.8%, from the $4.4 million in the corresponding period of the prior year.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Our Semicon Associates division had net sales for the three months ended September 30, 2003 of $1.7 million, an increase of $200,000, or 13.5%, from the $1.5 million in the
corresponding quarter of the prior year. The increase in sales reflects higher shipments of microwave cathodes during the current quarter versus the same quarter last year. For the nine month period ended September 30, 2003, net sales for the
Semicon Associates division amounted to $5.3 million, an increase of $0.7 million, or 15.9%, from the $4.6 million in the first nine months of 2002. Increases in sales of microwave cathodes accounted for this increase.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------





18



---

| | Our Thermo Materials division posted net sales for the three months ended September 30, 2003 of $4.7 million, an increase of $2.4 million, or 99.3%, from the $2.3 million in the
corresponding quarter of the prior year.This improvement was mainly due to the completion of manufacturing facilities under defense contracts related to future PAC-3 radome production, increase in shipments of defense products and growth in
shipments of ceramic crucibles. For the nine month period ended September 30, 2003, net sales for the Thermo Materials division amounted to $10.1 million, an increase of $4.3 million, or 75.5%, from the $5.8 million in the first nine months of 2002.
During the nine months ended September 30, 2003, completion of defense contracts for the construction of facilities and equipment related to future PAC-3 radome production contributed $3.3 million of the total $4.3 increase in net sales over the
corresponding prior nine months ended September 30, 2002, while an increase in sales of rolls and crucibles added another $0.9 million to the increase in net sales.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Gross Profit. Our gross profit was $8.2 million for the three months ended September 30, 2003, an increase of $5.0 million, or 152.1%, from $3.2 million in the corresponding
prior year quarter. As a percentage of net sales, gross profit was 30.2% for the three months ended September 30, 2003, compared to 22.7% for the corresponding prior year period.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | For the nine months ended September 30, 2003, our gross profit amounted to $19.4 million, an increase of $10.3 million, or 112.3%, from $9.1 million in the nine months ended
September 30, 2002. As a percentage of net sales, gross profit was 28.4% for the nine months ended September 30, 2003, compared to 20.9% for the comparable prior year period.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Our Advanced Ceramic Operations division posted gross profit of $7.0 million for the three months ended September 30, 2003, an increase of $4.4 million, or 167.9%, from $2.6 million
in the corresponding prior year quarter. As a percentage of net sales, gross profit was 33.6% for the three months ended September 30, 2003, compared to 24.8% for the corresponding prior year period.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | The improvement in gross profit during the three months ended September 30, 2003 was a result of increased armor sales, improved absorption of fixed operating expenses, better
manufacturing efficiencies, increased productivity and an improved sales mix when compared to the same period last year.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | For the nine months ended September 30, 2003, gross profit for the Advanced Ceramic Operations division amounted to $16.4 million, an increase of $8.9 million, or 118.7%, from $7.5
million for the corresponding prior year period.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | The nine months ended September 30, 2003 benefited from favorable comparisons from the corresponding prior year period. During the nine months ended September 30, 2002, the Advanced
Ceramic Operations gross profit as a percentage of net sales were negatively impacted by a $650,000 warranty reserve for SAPI armor plates that was recorded in the second quarter of 2002. Gross profit margins were also negatively impacted by
certain other manufacturing and production inefficiencies because of steep manufacturing learning curves to scale up to full production in the automotive/diesel line. Moreover, the Company experienced poor product yields and other manufacturing
inefficiencies as production capacities were being increased to meet rising demand for personal armor and diesel engine components. To overcome these issues, the Company employed lean
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



19



---

| | manufacturing techniques and invested in improving personnel training. Furthermore, in the nine months ended September 30, 2003, gross profit margins of our Advanced Ceramic
Operations were positively affected by a credit of $148,000 representing the unused balance of the warranty reserve established in the second quarter of 2002.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Other factors contributing to the rise in the gross profit as a percentage of net sales during the first nine months of 2003 in our Advanced Ceramic Operations division included
improved labor utilization, better training of personnel, increased workflow through the production facilities, changes in the design of products and an improved sales mix. We also continued to implement lean manufacturing techniques such as Demand
Flow® Technology in the production of diesel engine
components, and we will continue to consider implementing this system, as well as other lean manufacturing techniques, into other product lines.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | During the first nine months of 2003, our Advanced Ceramic Operations division did not experience the same factors that negatively affected gross profit during the same period last
year. Last years gross profit for the first nine months was adversely impacted because we experienced a surge in armor and automotive/diesel orders with short delivery times which did not allow us enough time to prepare for the increased
demands placed upon our personnel, facilities, and manufacturing techniques and capabilities. After installing new systems and adopting new manufacturing techniques in the second half of 2002, we were better prepared during the first nine months of
this year to benefit from higher production and shipment levels from an increasing backlog of orders. These changes led to greater operating leverage, production efficiencies and better absorption of manufacturing overhead costs that resulted in
higher gross profit.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Our Semicon Associates division had gross profit of $180,000 for the three months ended September 30, 2003, a decrease of $147,000, or 45.0%, compared to $327,000 in the prior year
quarter. As a percentage of net sales, gross profit was 10.6% for the three months ended September 30, 2003, compared to 21.9% for the corresponding prior year period. The decrease in gross profit is attributed to lower levels of production which
resulted in reduced absorption of manufacturing overhead costs. Also, charges to cost of product sales for obsolete inventory of $40,000 and $53,000 for scrap and physical inventory adjustments during the three months ended September 30, 2003
reduced gross profit.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | The Semicon Associates division had gross profit of $900,000 for the nine months ended September 30, 2003, an increase of $60,000, or 7.4%, compared to $840,000 in the corresponding
prior year period. As a percentage of net sales, gross profit was 17.0% for the nine months ended September 30, 2003, compared to 18.3% for the corresponding prior year period.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Our Thermo Materials division had gross profit of $1.0 million for the three months ended September 30, 2003, an increase of $0.7 million, or 222.0%, compared to $322,000 in the
prior year quarter. As a percentage of net sales, gross profit was 22.3% for the three months ended September 30, 2003, compared to 13.8% for the corresponding prior year period. The increase in gross profit in the third quarter of 2003 was due to
the completion of manufacturing facilities under defense contracts related to future PAC-3 radome production and to more efficient manufacturing
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



20



---

| | methods resulting in less scrap and rework. During the current quarter, completion of manufacturing facilities under defense contracts and shipments of defense products added $0.7
million to the increase in gross profit over the prior year quarter, while ceramic crucibles and rolls contributed another $100,000 increase to gross profit.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | The Thermo Materials division had gross profit of $2.1 million for the nine months ended September 30, 2003, an increase of $1.3 million, or 162.8%, compared to $0.8 million in the
corresponding prior year period. As a percentage of net sales, gross profit was 20.5% for the nine months ended September 30, 2003, compared to 13.7% for the corresponding prior year period. Completion of manufacturing facilities under defense
contracts related to future PAC-3 radome production and shipments of defense products added $1.2 million to the increase in gross profit during the nine months ended September 30, 2003, while the remaining product lines were relatively flat from the
corresponding year ago period.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Selling Expenses. Selling expenses were $627,000 for the three months ended September 30, 2003, an increase of $113,000, or 22.0%, from $514,000 in the corresponding prior
year quarter. Selling expenses, as a percentage of net sales, decreased from 3.6% for the three months ended September 30, 2002 to 2.3% of net sales for the three months ended September 30, 2003, primarily due to the increase in net sales and better
operating leverage.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | For the nine months ended September 30, 2003, selling expenses were $1.7 million, an increase of $203,000, or 13.5%, from $1.5 million in the corresponding prior year period.
Selling expenses, as a percentage of net sales, decreased from 3.4% for the nine months ended September 30, 2002 to 2.5% of net sales for the nine months ended September 30, 2003, primarily due to the increase in net sales and better operating
leverage.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | General and Administrative Expenses. General and administrative expenses for the three months ended September 30, 2003 were $2.0 million, an increase of $0.8 million, or
60.9%, from $1.2 million in the corresponding prior year quarter. General and administrative expenses, as a percentage of net sales, decreased from 8.6% for the three months ended September 30, 2002 to 7.3% of net sales for the three months ended
September 30, 2003. For the three months ended September 30, 2003, increases in salary, bonus and personnel expenses primarily accounted for the rise in general and administrative expenses.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | For the nine months ended September 30, 2003, general and administrative expenses were $5.5 million, an increase of $2.0 million, or 56.2%, from $3.5 million in the nine months
ended September 30, 2002. General and administrative expenses, as a percentage of net sales, decreased from 8.1% for the nine months ended September 30, 2002 to 8.0% of net sales for the nine months ended September 30, 2003. For the nine-month
period ended September 30, 2003, increases in salary, bonus and personnel expenses primarily accounted for the rise in general and administrative expenses.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Research and Development. Research and development expenses for the three months ended September 30, 2003 were $575,000, an increase of $69,000, or 13.5%, from $506,000 in
the corresponding prior year quarter. Research and
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



21



---

| | development expenses, as a percentage of net sales, decreased from 3.5% for the three months ended September 30, 2002 to 2.1% of net sales for the three months ended September 30,
2003. The decrease as a percentage of sales was primarily due to the increase in net sales.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | For the nine months ended September 30, 2003, research and development expenses were $1.5 million, which was unchanged compared to the corresponding prior year period. Research and
development expenses, as a percentage of net sales, decreased from 3.5% for the nine months ended September 30, 2002 to 2.1% of net sales for the nine months ended September 30, 2003. The decrease as a percentage of sales was primarily due to the
increase in net sales.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Other Income. Other income for the nine months ended September 30, 2003 was $165,000, a decrease of $11,000, or 6.3%, from $176,000 in the corresponding prior year period.
The major cause for the decrease was from lower royalty income.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Interest Expense. Interest expense for the nine months ended September 30, 2003 was $32,000, a decrease of $32,000, or 50%, from $64,000 in the corresponding prior year
period. Interest expense, as a percentage of net sales, was insignificant. The decrease in interest expense was due to lower levels of borrowings and lower interest rates.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Income Taxes. We used a combined federal and state tax rate of 35.0% for the nine months ended September 30, 2003, resulting in a provision for taxes of $3.8 million, an
increase of $2.8 million, or 302.2%, from $0.9 million in the corresponding prior nine month period. Our provision for income taxes for the three months ended September 30, 2003 was $1.8 million, an increase of $1.4 million, or 405.6%, from $356,000
in the corresponding prior year quarter. The effective income tax rate of 35% for the three months ended September 30, 2003 remained the same as in the corresponding prior year quarter.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Liquidity and Capital Resources
| | -------------------------------



| | We generally have met our operating and capital requirements with cash flow from operating activities and borrowings under our bank line of credit. Our cash and cash equivalents
totaled $28.1 million at September 30, 2003, compared to $350,000 at December 31, 2002. We had working capital of $56.2 million at September 30, 2003 and $24.8 million at December 31, 2002.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Our net cash position increased by $27.8 during the nine months ended September 30, 2003, compared to a decrease of $831,000 during the nine months ended September 30, 2002. Cash
flow provided by operating activities during the nine months ended September 30, 2003 amounted to $8.2 million, which was offset by capital expenditures of $7.0 million, including $3.4 million used to purchase our Irvine, California facility, which
we previously leased. We also reduced the balance due under our bank line of credit by $2.4 million. During the nine months ended September 30, 2003, we also generated $27.9 million from the issuance of common stock in our recent public offering,
described below, and $1.2 million from the exercise of stock options. During the nine months ended September 30, 2002, we generated $1.3 million from operating activities and borrowed an additional $2.2 million under our bank line of credit. We also
generated $741,000
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



22



---

| | from the issuance of common stock due to the exercise of stock options during the nine months ended September 30, 2002. These amounts were offset by capital expenditures in the
amount of $5.1 million.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | In May 2002, we increased our revolving bank line of credit from $4.0 million to $7.5 million. The bank line of credit balance of $2.4 million at December 31, 2002 was fully repaid
in July 2003 with a portion of the net proceeds from our recent public offering described below. We established a new unsecured line of credit with a new bank in August 2003 which expires in August 2005. The amount available under the terms of the
new line of credit is $10.0 million and bears interest at 1.75 percentage points in excess of the LIBOR rate for a period selected by the Company. The LIBOR rates for the periods that could be selected ranged from approximately 1.12 percent to 1.30
percent at September 30, 2003. The bank line of credit did not have an outstanding balance at September 30, 2003.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | We entered into a $500,000 capital equipment loan agreement during the third quarter of 1999. The term of this loan was 60 months, with a prepayment penalty, and bears interest at a
fixed rate of 8.18%. In July 2003, we repaid the entire balance due with a portion of the net proceeds from our recent public offering.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | During July 2003, we completed a public offering of 1,725,000 newly issued shares of our common stock at a price to the public of $17.50 per share. We received net proceeds of
approximately $27.9 million from this offering after deducting underwriting discounts and offering expenses.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | We used a portion of the net proceeds of the public offering to repay the outstanding balance under our bank line of credit, and used approximately $108,000 to repay the balance due
under our equipment loan. We used $2.4 million of the net proceeds of the offering to purchase a 115,000 square foot manufacturing plant located on six acres in Lexington, Kentucky, which closed escrow in October 2003. During the next 12 months, we
also plan to use approximately $1.6 million of the net proceeds from the public offering to improve this manufacturing plant. This new plant will increase our production capacity for ceramic components for heavy-duty diesel truck engines. We also
plan to spend approximately $4.7 million to purchase machinery, equipment and furnaces, primarily for the new plant in Kentucky. We intend to use the balance of the net proceeds for working capital and other general corporate purposes.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | We believe that our current cash and cash equivalents on hand and cash we expect to generate from operations will be sufficient to finance our anticipated capital and operating
requirements for at least the next 12 months.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|Item 3. | Quantitative and Qualitative Disclosures About Market Risk
|------- | ----------------------------------------------------------



| | The Company is exposed to market risks related to fluctuations in interest rates on its debt. Currently, the Company does not utilize interest rate swaps, forward or option
contracts on foreign currencies or commodities, or other types of derivative financial instruments. The purpose of the following analysis is to provide a framework to understand the Companys sensitivity to hypothetical changes in interest
rates as of September 30, 2003.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



23



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| | As of September 30, 2003, the Company did not have any debt outstanding. It has an unsecured line of credit with a bank in the amount of $10 million. The bank line of credit
interest rate is charged at 1.75 percentage points in excess of the LIBOR rate for a period selected by the Company. The LIBOR rates for the periods that could be selected ranged from approximately 1.12 percent to 1.30 percent at September 30, 2003.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|Item 4. | Controls and Procedures
|------- | -----------------------



| | The Company carried out an evaluation, under the supervision and with the participation of the Companys management, including its Chief Executive Officer and its Chief
Financial Officer, of the effectiveness of the design and operation of the Companys disclosure controls and procedures as of September 30, 2003, pursuant to Rule 13a-15 under the Securities Exchange Act of 1934. Based upon that
evaluation, the Chief Executive Officer and Chief Financial Officer concluded that those disclosure controls and procedures were adequate to ensure that information required to be disclosed in this report is recorded, processed, summarized and
reported in a timely basis.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



PART II. OTHER INFORMATION



|Item 1. | Legal Proceedings
|------- | -----------------



| | From time to time, the Company is involved in legal proceedings incidental to its business. The Company believes that pending actions, individually and in the aggregate, will not
have a material adverse effect on its financial condition, results of operations or cash flows, and that adequate provision has been made for the resolution of such actions and proceedings.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|Item 2. | N/A
|------- | ---



|Item 3. | N/A
|------- | ---



|Item 4. | Submission of Matters to a Vote of Security Holders
|------- | ---------------------------------------------------



| | The following matters were voted upon at the Annual Meeting of Stockholders held on July 28, 2003:
| | --------------------------------------------------------------------------------------------------



| | 1. | The following six persons were elected to the Board of Directors of the Company to serve until the next annual meeting of stockholders or until their successors are elected and have
qualified:
| | -- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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---

Number of Votes CastFor

Authority WithheldJoel P. Moskowitz

7,598,200

354,203Richard A. Alliegro

7,598,200

354,203Eduard Bagdasarian

7,598,700

353,703Frank Edelstein

7,597,700

354,703Wilford D. Godbold, Jr.

7,598,200

354,203Milton L. Lohr

7,597,700

354,703




| | 2. | The 2003 Stock Incentive Plan was approved by the following vote:
| | -- | -----------------------------------------------------------------



|Number of Votes Cast
|--------------------
|                    
|For                 
|Against             
|Abstain             
|Broker non-votes    



| | 3. | An Amendment to the Certificate of Incorporation to increase the number of authorized shares of Common Stock from 12,000,000 to 18,000,000, was approved by the following vote:
| | -- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|Number of Votes Cast
|--------------------
|For                 
|Against             
|Abstain             
|Broker non-votes    



|Item 5. | N/A
|------- | ---



|Item 6. | Exhibits and Reports on Form 8-K
|------- | --------------------------------



|(a) | Exhibits:
|--- | ---------



|3.1  |  | Restated Certificate of Incorporation of Ceradyne, Inc., as filed with the Secretary of State of Delaware on May 25, 1987.                             
|---- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------
|     | 
|3.2  |  | Certificate of Amendment of Restated Certificate of Incorporation of Ceradyne, Inc., as filed with the Secretary of State of Delaware on July 29, 2003.
|     | 
|31.1 |  | Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                    



25



---

|     | 
|---- | 
|31.2 | 
|     | 
|32.1 | 
|     | 
|32.2 | 



(b)    Reports
on Form 8-K:



| | On July 24, 2003, the Registrant filed a report on Form 8-K to furnish information pursuant to Item 12 relating to the Registrants results of operations for the second quarter
and six months ended June 30, 2003.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | On October 14, 2003, the Registrant filed a report on Form 8-K to furnish information pursuant to Item 12 relating to the Registrants preliminary results of operations for the
third quarter and nine months ended September 30, 2003.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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.



|CERADYNE, INC.
|--------------
|              
|By:           
|              
|              



Dated: November 12, 2003



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Index to Exhibits



|Exhibit |  | Description                                                                                                                                            
|------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------
|        | 
|3.1     |  | Restated Certificate of Incorporation of Ceradyne, Inc., as filed with the Secretary of State of Delaware on May 25, 1987.                             
|        | 
|3.2     |  | Certificate of Amendment of Restated Certificate of Incorporation of Ceradyne, Inc., as filed with the Secretary of State of Delaware on July 29,
2003.
|        | 
|31.1    |  | Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                    
|        | 
|31.2    |  | Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                    
|        | 
|32.1    |  | Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.                                                    
|        | 
|32.2    |  | Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.                                                    



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