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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, DC. 20549


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FORM 10-Q


(Mark One)


|      |                                                                                                                                          
|----- | -----------------------------------------------------------------------------------------------------------------------------------------
|[X]   | Quarterly report pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934 for the quarterly period
ended September 30, 2001
|     
|or   
|     
|[   ] | Transition report pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934 for the transition period from  to              

Commission File Number 0-24085

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AXT, INC.

(Exact name of registrant as specified in its charter)


|                                                               |  |                                     
|-------------------------------------------------------------- |  | ------------------------------------
|DELAWARE                                                       |  | 94-3031310                          
|(State or other jurisdiction of
Incorporation or organization) |  | (I.R.S. Employer
Identification No.)

4281 Technology Drive, Fremont, California 94538(Address of principal executive offices)      (Zip code)(510) 683-5900(Registrants telephone number, including area code)



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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 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 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, 2001
|                              |  |                                  
|Common Stock, $.001 par value |  | 22,361,584                       





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TABLE OF CONTENTS



|                              |                                                                                               |                                                      |  |  |  |  |  | 
|----------------------------- | --------------------------------------------------------------------------------------------- | ---------------------------------------------------- |  |  |  |  |  | 
|PART I. FINANCIAL INFORMATION
|                              | Item 1. Financial Statements                                                                 
|                              |                                                                                               | CONDENSED CONSOLIDATED BALANCE SHEETS               
|                              |                                                                                               | CONDENSED CONSOLIDATED INCOME STATEMENTS            
|                              |                                                                                               | CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS     
|                              |                                                                                               | NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
|                              | Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
|                              | Item 3. Quantitative and Qualitative Disclosures About Market Risk                           
|PART II OTHER INFORMATION    
|                              | Item 1. Legal Proceedings                                                                    
|                              | Item 6. Exhibits and reports on Form 8-K                                                     
|SIGNATURES                   



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##### Table of Contents



AXT, INC.
 
TABLE OF CONTENTS

|         |                       |                                                                                                         
|-------- | --------------------- | --------------------------------------------------------------------------------------------------------
|PART I.  | FINANCIAL INFORMATION |                                                                                                         
|        
|         | Item 1.               | Financial Statements.                                                                                   
|        
|         |                       | Condensed Consolidated Balance Sheets at September 30, 2001 and December 31, 2000                       
|        
|         |                       | Condensed Consolidated Income Statements for the three and nine
months ended September 30, 2001 and 2000
|        
|         |                       | Condensed Consolidated Statements of Cash Flows for the nine
months ended September 30, 2001 and 2000   
|        
|         |                       | Notes To Condensed Consolidated Financial Statements                                                    
|        
|         | Item 2.               | Managements Discussion and Analysis of Financial Condition and
Results of Operations                   
|        
|         | Item 3.               | Quantitative and Qualitative Disclosures About Market Risk                                              
|        
|PART II. | OTHER INFORMATION     |                                                                                                         
|        
|         | Item 1.               | Legal Proceedings                                                                                       
|        
|         | Item 6.               | Exhibits and Reports on Form 8-K                                                                        
|        
|         | Signatures           



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##### Table of Contents






PART I. FINANCIAL INFORMATION




Item 1. Financial Statements




AXT, INC.
 
CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited)
(In thousands, except per share data)

|                                      |                               |                                                                                                                    |                            |        |               |         |              |        |         |         | 
|------------------------------------- | ----------------------------- | ------------------------------------------------------------------------------------------------------------------ | -------------------------- | ------ | ------------- | ------- | ------------ | ------ | ------- | ------- | 
|                                      |                               |                                                                                                                    |                            |        | September 30, |         | December 31,
|                                      |                               |                                                                                                                    |                            |        | 2001          |         | 2000        
|                                      |                               |                                                                                                                    |                            |        |               |         |             
|                                      |                               |                                                                                                                    |                            |        | (Unaudited)   |         |              |        |        
|Assets:                               |                               |                                                                                                                    |                            |        |               |         |              |       
|                                      | Current assets                |                                                                                                                    |                            |        |               |         |              |        |        
|                                      |                               | Cash and cash equivalents                                                                                          |                            | $      | 38,823        |         |              | $      | 68,585  |        
|                                      |                               | Short-term investments                                                                                             |                            |        | 8,785         |         |              |        | 30,852  |        
|                                      |                               | Accounts receivable                                                                                                |                            |        | 22,999        |         |              |        | 27,773  |        
|                                      |                               | Inventories                                                                                                        |                            |        | 58,538        |         |              |        | 51,846  |        
|                                      |                               | Prepaid expenses and other current assets                                                                          |                            |        | 5,045         |         |              |        | 3,603   |        
|                                      |                               | Deferred income taxes                                                                                              |                            |        | 6,020         |         |              |        |        |        
|                                      |                               |                                                                                                                    |                            |        |               |         |              |       
|                                      |                               |                                                                                                                    | Total current assets       |        |               | 140,210 |              |        |         | 182,659 | 
|                                      | Property, plant and equipment |                                                                                                                    |                            | 83,640 |               |         |              | 63,401 |        
|                                      | Investments                   |                                                                                                                    |                            | 16,071 |               |         |              |       |        
|                                      | Other assets                  |                                                                                                                    |                            | 4,165  |               |         |              | 3,312  |        
|                                      | Goodwill                      |                                                                                                                    |                            | 1,195  |               |         |              | 848    |        
|                                      |                               |                                                                                                                    |                            |        |               |         |              |       
|                                      |                               |                                                                                                                    | Total assets               |        | $             | 245,281 |              |        | $       | 250,220 | 
|                                      |                               |                                                                                                                    |                            |        |               |         |              |       
|Liabilities and Stockholders Equity: |                               |                                                                                                                    |                            |        |               |         |              |       
|                                      | Current liabilities           |                                                                                                                    |                            |        |               |         |              |        |        
|                                      |                               | Short-term bank borrowing                                                                                          |                            | $      | 386           |         |              | $      | 1,353   |        
|                                      |                               | Accounts payable                                                                                                   |                            |        | 8,424         |         |              |        | 10,009  |        
|                                      |                               | Accrued liabilities                                                                                                |                            |        | 19,896        |         |              |        | 16,651  |        
|                                      |                               | Deferred income taxes                                                                                              |                            |        |              |         |              |        | 3,847   |        
|                                      |                               | Current portion of long-term debt                                                                                  |                            |        | 2,487         |         |              |        | 4,355   |        
|                                      |                               | Current portion of capital lease obligation                                                                        |                            |        | 4,290         |         |              |        | 6,057   |        
|                                      |                               |                                                                                                                    |                            |        |               |         |              |       
|                                      |                               |                                                                                                                    | Total current liabilities  |        |               | 35,483  |              |        |         | 42,272  | 
|                                      |                               | Long-term debt, net of current portion                                                                             |                            |        | 14,820        |         |              |        | 15,123  |        
|                                      |                               | Long-term capital lease, net of current portion                                                                    |                            |        | 11,126        |         |              |        | 7,278   |        
|                                      |                               | Other long-term liabilities                                                                                        |                            |        | 1,356         |         |              |        | 200     |        
|                                      |                               |                                                                                                                    |                            |        |               |         |              |       
|                                      |                               |                                                                                                                    | Total liabilities          |        |               | 62,785  |              |        |         | 64,873  | 
|                                      |                               |                                                                                                                    |                            |        |               |         |              |       
|                                      | Stockholders equity:         |                                                                                                                    |                            |        |               |         |              |        |        
|                                      |                               | Preferred stock, $.001 par value per share; 2,000 shares
authorized; 883
shares issued and outstanding             |                            |        | 3,532         |         |              |        | 3,532   |        
|                                      |                               | Common stock, $.001 par value per share; 70,000 shares
authorized;
22,362 and 21,952 shares issued and outstanding |                            |        | 150,360       |         |              |        | 145,748 |        
|                                      |                               | Deferred compensation                                                                                              |                            |        | (24           | )       |              |        | (107    | )      
|                                      |                               | Retained earnings                                                                                                  |                            |        | 42,828        |         |              |        | 33,980  |        
|                                      |                               | Other comprehensive income (loss)                                                                                  |                            |        | (14,200       | )       |              |        | 2,194   |        
|                                      |                               |                                                                                                                    |                            |        |               |         |              |       
|                                      |                               |                                                                                                                    | Total stockholders equity |        |               | 182,496 |              |        |         | 185,347 | 
|                                      |                               |                                                                                                                    |                            |        |               |         |              |       
|                                      |                               | Total liabilities and stockholders equity                                                                         |                            | $      | 245,281       |         |              | $      | 250,220 |        
|                                      |                               |                                                                                                                    |                            |        |               |         |              |       

See accompanying notes to these unaudited condensed consolidated financial statements.



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AXT, INC.
 
CONDENSED CONSOLIDATED INCOME STATEMENTS (Unaudited)
(In thousands, except per share data)

|                                                       |                                     |                          |        |                    |       |                   |        |        |       |      |         |        |        |   |        |        |        | 
|------------------------------------------------------ | ----------------------------------- | ------------------------ | ------ | ------------------ | ----- | ----------------- | ------ | ------ | ----- | ---- | ------- | ------ | ------ | - | ------ | ------ | ------ | 
|                                                       |                                     |                          |        | Three Months Ended |       | Nine Months Ended
|                                                       |                                     |                          |        | September 30,      |       | September 30,    
|                                                       |                                     |                          |        |                    |       |                  
|                                                       |                                     |                          |        | 2001               |       | 2000              |        | 2001   |       | 2000
|                                                       |                                     |                          |        |                    |       |                   |        |        |       |     
|Revenue                                                |                                     | $                        | 22,783 |                    |       | $                 | 33,132 |        |       | $    | 104,159 |        |        | $ | 83,336 |       
|Cost of revenue                                        |                                     |                          | 17,423 |                    |       |                   | 18,435 |        |       |      | 66,300  |        |        |   | 48,612 |       
|                                                       |                                     |                          |        |                    |       |                   |        |        |       |      |         |        |        |   |        |       
|Gross profit                                           |                                     |                          | 5,360  |                    |       |                   | 14,697 |        |       |      | 37,859  |        |        |   | 34,724 |       
|Operating expenses:                                    |                                     |                          |        |                    |       |                   |        |        |       |      |         |        |        |   |        |       
|                                                       | Selling, general and administrative |                          |        | 5,826              |       |                   |        | 5,134  |       |      |         | 17,105 |        |   |        | 12,627 |       
|                                                       | Research and development            |                          |        | 1,701              |       |                   |        | 3,267  |       |      |         | 6,834  |        |   |        | 6,976  |       
|                                                       |                                     |                          |        |                    |       |                   |        |        |       |      |         |        |        |   |        |       
|                                                       |                                     | Total operating expenses |        |                    | 7,527 |                   |        |        | 8,401 |      |         |        | 23,939 |   |        |        | 19,603 | 
|                                                       |                                     |                          |        |                    |       |                   |        |        |       |      |         |        |        |   |        |       
|Income (loss) from operations                          |                                     |                          | (2,167 | )                  |       |                   | 6,296  |        |       |      | 13,920  |        |        |   | 15,121 |       
|Interest expense                                       |                                     |                          | 493    |                    |       |                   | 762    |        |       |      | 1,637   |        |        |   | 2,680  |       
|Other (income) expense                                 |                                     |                          | (488   | )                  |       |                   | 16     |        |       |      | (1,542  | )      |        |   | (468   | )     
|                                                       |                                     |                          |        |                    |       |                   |        |        |       |      |         |        |        |   |        |       
|Income (loss) before provision for income taxes        |                                     |                          | (2,172 | )                  |       |                   | 5,518  |        |       |      | 13,825  |        |        |   | 12,909 |       
|Provision for income taxes                             |                                     |                          | (782   | )                  |       |                   | 2,097  |        |       |      | 4,977   |        |        |   | 4,916  |       
|                                                       |                                     |                          |        |                    |       |                   |        |        |       |      |         |        |        |   |        |       
|Income (loss) from continuing operations               |                                     |                          | (1,390 | )                  |       |                   | 3,421  |        |       |      | 8,848   |        |        |   | 7,993  |       
|Loss from discontinued operations, net of tax benefits |                                     |                          |       |                    |       |                   | (519   | )      |       |      |        |        |        |   | (766   | )     
|                                                       |                                     |                          |        |                    |       |                   |        |        |       |      |         |        |        |   |        |       
|Net Income (loss)                                      |                                     | $                        | (1,390 | )                  |       | $                 | 2,902  |        |       | $    | 8,848   |        |        | $ | 7,227  |       
|                                                       |                                     |                          |        |                    |       |                   |        |        |       |      |         |        |        |   |        |       
|Basic income (loss) per share:                         |                                     |                          |        |                    |       |                   |        |        |       |      |         |        |        |   |        |       
|                                                       | Income from continuing operations   |                          | $      | (0.06              | )     |                   | $      | 0.17   |       |      | $       | 0.40   |        |   | $      | 0.41   |       
|                                                       | Loss from discontinued operations   |                          |        |                   |       |                   |        | (0.03  | )     |      |         |       |        |   |        | (0.04  | )     
|                                                       | Net income (loss)                   |                          |        | (0.06              | )     |                   |        | 0.14   |       |      |         | 0.40   |        |   |        | 0.37   |       
|Diluted income (loss) per share:                       |                                     |                          |        |                    |       |                   |        |        |       |      |         |        |        |   |        |       
|                                                       | Income from continuing operations   |                          | $      | (0.06              | )     |                   | $      | 0.16   |       |      | $       | 0.39   |        |   | $      | 0.38   |       
|                                                       | Loss from discontinued operations   |                          |        |                   |       |                   |        | (0.03  | )     |      |         |       |        |   |        | (0.04  | )     
|                                                       | Net income (loss)                   |                          |        | (0.06              | )     |                   |        | 0.13   |       |      |         | 0.39   |        |   |        | 0.34   |       
|Shares used in per share calculations:                 |                                     |                          |        |                    |       |                   |        |        |       |      |         |        |        |   |        |       
|                                                       | Basic                               |                          |        | 22,333             |       |                   |        | 19,832 |       |      |         | 22,246 |        |   |        | 19,595 |       
|                                                       | Diluted                             |                          |        | 22,333             |       |                   |        | 21,226 |       |      |         | 22,931 |        |   |        | 21,062 |       

See accompanying notes to these unaudited condensed consolidated financial statements.



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AXT, INC.
 
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
(In thousands)

|                                                         |                                                                     |                                        |                                           |                                                     |        |                   |         |         |         |         |         |  
|-------------------------------------------------------- | ------------------------------------------------------------------- | -------------------------------------- | ----------------------------------------- | --------------------------------------------------- | ------ | ----------------- | ------- | ------- | ------- | ------- | ------- | -
|                                                         |                                                                     |                                        |                                           |                                                     |        | Nine Months Ended
|                                                         |                                                                     |                                        |                                           |                                                     |        | September 30,    
|                                                         |                                                                     |                                        |                                           |                                                     |        |                  
|                                                         |                                                                     |                                        |                                           |                                                     |        | 2001              |         | 2000   
|                                                         |                                                                     |                                        |                                           |                                                     |        |                   |         |        
|CASH FLOWS FROM OPERATING ACTIVITIES:                    |                                                                     |                                        |                                           |                                                     |        |                   |         |        
|                                                         | Net income:                                                         |                                        | $                                         | 8,848                                               |        |                   | $       | 7,227   |        
|                                                         | Adjustments to reconcile net income to cash provided
by operations: |                                        |                                           |                                                     |        |                   |         |         |        
|                                                         |                                                                     | Depreciation                           |                                           |                                                     | 6,187  |                   |         |         | 4,558   |        
|                                                         |                                                                     | Deferred income taxes                  |                                           |                                                     |       |                   |         |         | (1,375  | )      
|                                                         |                                                                     | Amortization of goodwill               |                                           |                                                     | 243    |                   |         |         | 449     |        
|                                                         |                                                                     | Stock compensation                     |                                           |                                                     | 83     |                   |         |         | 83      |        
|                                                         |                                                                     | Premium/discount amortization          |                                           |                                                     | 23     |                   |         |         |        |        
|                                                         |                                                                     | Changes in assets and liabilities:     |                                           |                                                     |        |                   |         |         |         |        
|                                                         |                                                                     |                                        | Accounts receivable                       |                                                     |        | 4,624             |         |         |         | (6,551  | )      
|                                                         |                                                                     |                                        | Inventories                               |                                                     |        | (6,692            | )       |         |         | (11,241 | )      
|                                                         |                                                                     |                                        | Prepaid expenses and other current assets |                                                     |        | (228              | )       |         |         | (426    | )      
|                                                         |                                                                     |                                        | Other assets                              |                                                     |        | (120              | )       |         |         | (2,259  | )      
|                                                         |                                                                     |                                        | Accounts payable                          |                                                     |        | (1,532            | )       |         |         | 1,933   |        
|                                                         |                                                                     |                                        | Accrued liabilities                       |                                                     |        | 3,256             |         |         |         | 7,965   |        
|                                                         |                                                                     |                                        | Other long-term liabilities               |                                                     |        | 64                |         |         |         | (260    | )      
|                                                         |                                                                     |                                        |                                           |                                                     |        |                   |         |        
|                                                         |                                                                     |                                        |                                           | Net cash provided by operating activities           |        |                   | 14,756  |         |         |         | 103     |  
|                                                         |                                                                     |                                        |                                           |                                                     |        |                   |         |        
|CASH FLOWS FROM INVESTING ACTIVITIES:                    |                                                                     |                                        |                                           |                                                     |        |                   |         |        
|                                                         | Purchases of property, plant and equipment                          |                                        |                                           | (24,321                                             | )      |                   |         | (16,807 | )      
|                                                         | Purchases of investments                                            |                                        |                                           | (22,748                                             | )      |                   |         |        |        
|                                                         | Sale of investments                                                 |                                        |                                           | 1,034                                               |        |                   |         |        |        
|                                                         |                                                                     |                                        |                                           |                                                     |        |                   |         |        
|                                                         |                                                                     |                                        |                                           | Net cash used in investing activities               |        |                   | (46,035 | )       |         |         | (16,807 | )
|                                                         |                                                                     |                                        |                                           |                                                     |        |                   |         |        
|CASH FLOWS FROM FINANCING ACTIVITIES:                    |                                                                     |                                        |                                           |                                                     |        |                   |         |        
|                                                         |                                                                     | Proceeds from issuance of common stock |                                           |                                                     | 4,612  |                   |         |         | 94,512  |        
|                                                         |                                                                     | Payments of capital leases             |                                           |                                                     | (3,231 | )                 |         |         | (1,490  | )      
|                                                         |                                                                     | Proceeds from capital leases           |                                           |                                                     | 3,143  |                   |         |         |         |        
|                                                         |                                                                     | Payments of short-term bank borrowings |                                           |                                                     | (966   | )                 |         |         | (11,298 | )      
|                                                         |                                                                     | Payments of long-term debt             |                                           |                                                     | (2,171 | )                 |         |         | (1,328  | )      
|                                                         |                                                                     |                                        |                                           |                                                     |        |                   |         |        
|                                                         |                                                                     |                                        |                                           | Net cash provided by (used in) financing
activities |        |                   | 1,387   |         |         |         | 80,396  |  
|Effect of exchange rate changes                          |                                                                     |                                        | 130                                       |                                                     |        |                   | 18      |        
|                                                         |                                                                     |                                        |                                           |                                                     |        |                   |         |        
|Net decrease in cash and cash equivalents                |                                                                     |                                        | (29,762                                   | )                                                   |        |                   | 63,710  |        
|Cash and cash equivalents at the beginning of the period |                                                                     |                                        | 68,585                                    |                                                     |        |                   | 6,062   |        
|                                                         |                                                                     |                                        |                                           |                                                     |        |                   |         |        
|Cash and cash equivalents at the end of the period       |                                                                     | $                                      | 38,823                                    |                                                     |        | $                 | 69,772  |        
|                                                         |                                                                     |                                        |                                           |                                                     |        |                   |         |        
|Non cash activity:                                       |                                                                     |                                        |                                           |                                                     |        |                   |         |        
|                                                         | Purchase of PP&E through capital leases                             |                                        | $                                         | 2,170                                               |        |                   | $       | 8,170   |        
|                                                         |                                                                     |                                        |                                           |                                                     |        |                   |         |        
|                                                         | Retirements of property, plant and equipment                        |                                        | $                                         | (2,369                                              | )      |                   | $       | (1,558  | )      
|                                                         |                                                                     |                                        |                                           |                                                     |        |                   |         |        

See accompanying notes to these unaudited condensed consolidated financial statements.



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AXT, INC.
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Note 1. Basis of Presentation

The accompanying condensed consolidated financial statements for the three
and nine months ended September 30, 2001 and 2000 are unaudited. The
accompanying unaudited condensed 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, the unaudited
condensed consolidated financial statements reflect all adjustments, consisting
only of normal recurring adjustments, considered necessary to present fairly
the financial position, results of operations and cash flows of AXT, Inc. (the
Company) and its subsidiaries for all periods presented. Certain prior
period reclassifications have been made to conform to the current period
presentation.

Management of the Company has made a number of estimates and assumptions
relating to the reporting of assets and liabilities and the disclosure of
contingent assets and liabilities to prepare these condensed consolidated
financial statements in conformity with generally accepted accounting
principles. Actual results could differ from those estimates.

The results of operations are not necessarily indicative of the results to
be expected in the future or for the full fiscal year. It is recommended that
these condensed consolidated financial statements be read in conjunction with
the Companys consolidated financial statements and the notes thereto included
in its 2000 Annual Report on Form 10-K.

Note 2. Investments

The Company accounts for its cash equivalents and investments in
marketable securities under Statement of Financial Accounting Standards No. 115
or SFAS 115, Accounting for Certain Investments in Debt and Equity
Securities. The Company classifies all investments as available for sale and
carries them at fair market value, which is determined based on quoted market
prices, with net unrealized gains and losses included in comprehensive income,
net of tax. The components of investments at September 30, 2001 are summarized
below (in thousands):

|                                 |  |      |        |            |  |             |        |            |  |   |         |  
|-------------------------------- |  | ---- | ------ | ---------- |  | ----------- | ------ | ---------- |  | - | ------- | -
|                                 |  |      |        |            |  | Aggregate   |        | Unrealized
|Available for sale               |  | Cost |        | Fair value |  | Gain/(loss)
|                                 |  |      |        |            |  |            
|Money market                     |  | $    | 5,245  |            |  | $           | 5,245  |            |  | $ |        |  
|Corporate bonds                  |  |      | 15,876 |            |  |             | 16,071 |            |  |   | 195     |  
|Government agency bonds          |  |      | 4,520  |            |  |             | 4,572  |            |  |   | 52      |  
|Corporate equity securities      |  |      | 27,328 |            |  |             | 4,213  |            |  |   | (23,115 | )
|                                 |  |      |        |            |  |             |        |            |  |   |         |  
|                                 |  | $    | 52,969 |            |  | $           | 30,101 |            |  | $ | (22,868 | )
|                                 |  |      |        |            |  |             |        |            |  |   |         |  
|Recorded as:                     |  |      |        |            |  |             |        |            |  |   |         |  
|Cash equivalents                 |  | $    | 5,245  |            |  |             |        |            |  |   |         |  
|Investments due within one year  |  |      | 8,785  |            |  |             |        |            |  |   |         |  
|Investments due in over one year |  |      | 16,071 |            |  |             |        |            |  |   |         |  
|                                 |  |      |        |            |  |             |        |            |  |   |         |  
|                                 |  | $    | 30,101 |            |  |             |        |            |  |   |         |  
|                                 |  |      |        |            |  |             |        |            |  |   |         |  



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Note 3. Joint Ventures

The Companys Joint venture interests are summarized below (in thousands):

|                                               |  |               |       |              |  |            |       |            |  |              |  |  |    |   |  | 
|---------------------------------------------- |  | ------------- | ----- | ------------ |  | ---------- | ----- | ---------- |  | ------------ |  |  | -- | - |  | 
|                                               |  | Investment    |       | Investment   |  |            |       |            |  |              |  | 
|                                               |  | Balance       |       | Balance      |  |            |       |            |  |              |  | 
|                                               |  | September 30, |       | December 31, |  | Accounting |       | Ownership 
|Affiliate                                      |  | 2001          |       | 2000         |  | Method     |       | Percentage
|                                               |  |               |       |              |  |            |       |           
|Xilingol Tongli Ge Co. Ltd.                    |  | $             | 630   |              |  | $          | 302   |            |  | Equity       |  |  | 25 | %
|Emeishan Jia Mei High Pure Metals Co., Ltd.    |  |               | 629   |              |  |            |      |            |  | Equity       |  |  | 25 | %
|Beijing Ji Ya Semiconductor Material Co., Ltd. |  |               | 1,599 |              |  |            | 1,599 |            |  | Consolidated |  |  | 51 | %
|Nanjing Jin Mei Gallium Co., Ltd.              |  |               | 700   |              |  |            | 700   |            |  | Consolidated |  |  | 88 | %

Note 4. Inventories

The components of inventory are summarized below (in thousands):

|                  |                 |   |               |        |              |   |        |        | 
|----------------- | --------------- | - | ------------- | ------ | ------------ | - | ------ | ------ | 
|                  |                 |   | September 30, |        | December 31,
|                  |                 |   | 2001          |        | 2000        
|                  |                 |   |               |        |             
|Inventories, net: |                 |   |               |        |              |   |        |       
|                  | Raw materials   |   | $             | 22,958 |              |   | $      | 20,623 | 
|                  | Work in process |   |               | 25,544 |              |   |        | 26,795 | 
|                  | Finished goods  |   |               | 10,036 |              |   |        | 4,428  | 
|                  |                 |   |               |        |              |   |        |       
|                  |                 | $ | 58,538        |        |              | $ | 51,846 |       
|                  |                 |   |               |        |              |   |        |       



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Note 5. Net Income Per Share

Basic earnings per common share is calculated by dividing net earnings
available to common stockholders by the weighted average number of common
shares outstanding during the period. Diluted earnings per common and common
equivalent shares include the dilutive effect of common stock equivalents
outstanding during the period calculated using the treasury stock method.
Common stock equivalents consist of the shares issuable upon the exercise of
stock options.

A reconciliation of the numerators and denominators of the basic and
diluted net earnings per share calculations is summarized below (in thousands
except per share data):

|                                                                                 |                                                                           |                      |        |                    |   |                   |        |        |       |      |        |        |     |   |        |        |       | 
|-------------------------------------------------------------------------------- | ------------------------------------------------------------------------- | -------------------- | ------ | ------------------ | - | ----------------- | ------ | ------ | ----- | ---- | ------ | ------ | --- | - | ------ | ------ | ----- | 
|                                                                                 |                                                                           |                      |        | Three Months Ended |   | Nine Months Ended
|                                                                                 |                                                                           |                      |        | September 30,      |   | September 30,    
|                                                                                 |                                                                           |                      |        |                    |   |                  
|                                                                                 |                                                                           |                      |        | 2001               |   | 2000              |        | 2001   |       | 2000
|                                                                                 |                                                                           |                      |        |                    |   |                   |        |        |       |     
|Numerator:                                                                       |                                                                           |                      |        |                    |   |                   |        |        |       |      |        |        |     |   |        |       
|                                                                                 | Net income (loss)                                                         |                      | $      | (1,390             | ) |                   | $      | 2,902  |       |      | $      | 8,848  |     |   | $      | 7,227  |      
|                                                                                 | Less: Preferred stock dividends                                           |                      |        | (44                | ) |                   |        |       |       |      |        | (133   | )   |   |        |       |      
|                                                                                 |                                                                           |                      |        |                    |   |                   |        |        |       |      |        |        |     |   |        |       
|                                                                                 | Income (loss) available to common stockholders                            |                      | $      | (1,434             | ) |                   | $      | 2,902  |       |      | $      | 8,715  |     |   | $      | 7,227  |      
|                                                                                 |                                                                           |                      |        |                    |   |                   |        |        |       |      |        |        |     |   |        |       
|Denominator:                                                                     |                                                                           |                      |        |                    |   |                   |        |        |       |      |        |        |     |   |        |       
|                                                                                 | Denominator for basic earnings per share  weighted
average common shares |                      |        | 22,333             |   |                   |        | 19,832 |       |      |        | 22,246 |     |   |        | 19,595 |      
|                                                                                 | Effect of dilutive securities:                                            |                      |        |                    |   |                   |        |        |       |      |        |        |     |   |        |        |      
|                                                                                 |                                                                           | Common stock options |        |                    |  |                   |        |        | 1,394 |      |        |        | 685 |   |        |        | 1,467 | 
|                                                                                 |                                                                           |                      |        |                    |   |                   |        |        |       |      |        |        |     |   |        |       
|Denominator for dilutive earnings per share                                      |                                                                           |                      | 22,333 |                    |   |                   | 21,226 |        |       |      | 22,931 |        |     |   | 21,062 |       
|                                                                                 |                                                                           |                      |        |                    |   |                   |        |        |       |      |        |        |     |   |        |       
|Basic earnings per share                                                         |                                                                           | $                    | (0.06  | )                  |   | $                 | 0.14   |        |       | $    | 0.40   |        |     | $ | 0.37   |       
|Diluted earnings per share                                                       |                                                                           | $                    | (0.06  | )                  |   | $                 | 0.13   |        |       | $    | 0.39   |        |     | $ | 0.34   |       
|Options excluded from diluted net income
per share as the impact is antidilutive |                                                                           |                      | 2,670  |                    |   |                   | 97     |        |       |      | 1,136  |        |     |   | 90     |       

Undeclared preferred stock dividends payable only upon voluntary
liquidation by the company.

Note 6. Comprehensive Income

The components of comprehensive income are summarized below (in thousands):

|                                                |  |                    |         |                   |  |      |       |      |  |   |         |   |  |   |       | 
|----------------------------------------------- |  | ------------------ | ------- | ----------------- |  | ---- | ----- | ---- |  | - | ------- | - |  | - | ----- | 
|                                                |  | Three Months Ended |         | Nine Months Ended
|                                                |  | September 30,      |         | September 30,    
|                                                |  |                    |         |                  
|                                                |  | 2001               |         | 2000              |  | 2001 |       | 2000
|                                                |  |                    |         |                   |  |      |       |     
|Net Income (loss)                               |  | $                  | (1,390  | )                 |  | $    | 2,902 |      |  | $ | 8,848   |   |  | $ | 7,227 | 
|Foreign currency translation gain (loss)        |  |                    | 263     |                   |  |      | (104  | )    |  |   | 131     |   |  |   | 18    | 
|Unrealized gain (loss) on marketable
securities |  |                    | (9,918  | )                 |  |      |      |      |  |   | (16,525 | ) |  |   |      | 
|                                                |  |                    |         |                   |  |      |       |      |  |   |         |   |  |   |       | 
|Comprehensive income (loss)                     |  | $                  | (11,045 | )                 |  | $    | 2,798 |      |  | $ | (7,546  | ) |  | $ | 7,245 | 
|                                                |  |                    |         |                   |  |      |       |      |  |   |         |   |  |   |       | 



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Note 7. Segment Information

Selected industry segment information is summarized below (in thousands):

|                                        |                                      |  |                    |         |                   |  |      |         |      |  |   |         |   |  |   |         |  
|--------------------------------------- | ------------------------------------ |  | ------------------ | ------- | ----------------- |  | ---- | ------- | ---- |  | - | ------- | - |  | - | ------- | -
|                                        |                                      |  | Three Months Ended |         | Nine Months Ended
|                                        |                                      |  | September 30,      |         | September 30,    
|                                        |                                      |  |                    |         |                  
|                                        |                                      |  | 2001               |         | 2000              |  | 2001 |         | 2000
|                                        |                                      |  |                    |         |                   |  |      |         |     
|Substrates Division                     |                                      |  |                    |         |                   |  |      |         |      |  |   |         |   |  |   |        
|                                        | Net revenues from external customers |  | $                  | 20,455  |                   |  | $    | 31,686  |      |  | $ | 97,326  |   |  | $ | 77,024  |  
|                                        | Gross profit                         |  |                    | 6,470   |                   |  |      | 14,614  |      |  |   | 41,207  |   |  |   | 35,763  |  
|                                        | Operating income                     |  |                    | 1,093   |                   |  |      | 8,717   |      |  |   | 24,111  |   |  |   | 23,136  |  
|                                        | Identifiable assets                  |  |                    | 204,276 |                   |  |      | 182,183 |      |  |   | 204,276 |   |  |   | 182,183 |  
|Opto-electronics Division               |                                      |  |                    |         |                   |  |      |         |      |  |   |         |   |  |   |        
|                                        | Net revenues from external customers |  | $                  | 2,328   |                   |  | $    | 1,446   |      |  | $ | 6,833   |   |  | $ | 6,312   |  
|                                        | Gross profit (loss)                  |  |                    | (1,110  | )                 |  |      | 83      |      |  |   | (3,348  | ) |  |   | (1,039  | )
|                                        | Operating income (loss)              |  |                    | (3,260  | )                 |  |      | (2,421  | )    |  |   | (10,191 | ) |  |   | (8,015  | )
|                                        | Identifiable assets                  |  |                    | 41,005  |                   |  |      | 34,117  |      |  |   | 41,005  |   |  |   | 34,117  |  
|Discontinued Consumer Products Division |                                      |  |                    |         |                   |  |      |         |      |  |   |         |   |  |   |        
|                                        | Identifiable assets                  |  | $                  |        |                   |  | $    | 4,994   |      |  | $ |        |   |  | $ | 4,994   |  
|Total                                   |                                      |  |                    |         |                   |  |      |         |      |  |   |         |   |  |   |        
|                                        | Net revenues from external customers |  | $                  | 22,783  |                   |  | $    | 33,132  |      |  | $ | 104,159 |   |  | $ | 83,336  |  
|                                        | Gross profit                         |  |                    | 5,360   |                   |  |      | 14,697  |      |  |   | 37,859  |   |  |   | 34,724  |  
|                                        | Operating income (loss)              |  |                    | (2,167  | )                 |  |      | 6,296   |      |  |   | 13,920  |   |  |   | 15,121  |  
|                                        | Identifiable assets                  |  |                    | 245,281 |                   |  |      | 221,294 |      |  |   | 245,281 |   |  |   | 221,294 |  

The Company changed the name of its Visible Emitter division to
Opto-electronics division.

The Company sells its products in the United States and in other parts of
the world. Also, the Company has operations in China and Japan. Revenues by
geographic location based on product shipment destination are summarized below
(in thousands):

|              |                          |  |                    |        |                   |  |      |        |      |  |   |         |  |  |   |        | 
|------------- | ------------------------ |  | ------------------ | ------ | ----------------- |  | ---- | ------ | ---- |  | - | ------- |  |  | - | ------ | 
|              |                          |  | Three Months Ended |        | Nine Months Ended
|              |                          |  | September 30,      |        | September 30,    
|              |                          |  |                    |        |                  
|              |                          |  | 2001               |        | 2000              |  | 2001 |        | 2000
|              |                          |  |                    |        |                   |  |      |        |     
|Net revenues: |                          |  |                    |        |                   |  |      |        |      |  |   |         |  |  |   |       
|              | United States            |  | $                  | 12,278 |                   |  | $    | 16,858 |      |  | $ | 51,936  |  |  | $ | 42,446 | 
|              | Canada                   |  |                    | 1,673  |                   |  |      | 3,709  |      |  |   | 6,212   |  |  |   | 4,839  | 
|              | United Kingdom           |  |                    | 1,963  |                   |  |      |       |      |  |   | 11,830  |  |  |   |       | 
|              | Other european countries |  |                    | 2,074  |                   |  |      | 2,062  |      |  |   | 8,321   |  |  |   | 7,454  | 
|              | Taiwan                   |  |                    | 2,601  |                   |  |      | 190    |      |  |   | 12,326  |  |  |   | 1,244  | 
|              | Other asian countries    |  |                    | 2,194  |                   |  |      | 10,313 |      |  |   | 13,534  |  |  |   | 27,353 | 
|              |                          |  |                    |        |                   |  |      |        |      |  |   |         |  |  |   |       
|              | Consolidated             |  | $                  | 22,783 |                   |  | $    | 33,132 |      |  | $ | 104,159 |  |  | $ | 83,336 | 
|              |                          |  |                    |        |                   |  |      |        |      |  |   |         |  |  |   |       



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Note 8. Discontinued Operations

On December 14, 2000, the Companys Board of Directors approved
managements plan to exit the Companys unprofitable consumer products
business. The Company expects to complete the plan by December 31, 2001.

Note 9. Restructuring costs

On December 14, 2000, the Companys Board of Directors approved
managements plan to exit its unprofitable 650 nm laser diode product line
within its Opto-electronics division. As a result, during the fourth quarter
of 2000, the Company recorded a pre-tax restructuring charge of $8.2 million.
The restructuring charge included $2.1 million for incremental costs and
contractual obligations for such items as leasehold termination payments and
other facility exit costs incurred as a direct result of this plan.

Certain information with respect to restructuring costs is summarized
below (in thousands):

|                                        |  |         |       |      |  |          |    |                    |  |   |       |  |  |   |       | 
|--------------------------------------- |  | ------- | ----- | ---- |  | -------- | -- | ------------------ |  | - | ----- |  |  | - | ----- | 
|                                        |  |         |       |      |  | Utilized |    | Balance           
|                                        |  | Reserve |       | Cash |  | Non-cash |    | September 30, 2001
|                                        |  |         |       |      |  |          |    |                   
|Inventory write-off                     |  | $       | 1,844 |      |  | $        |   |                    |  | $ | 1,844 |  |  | $ |      | 
|Property, plant and equipment
write-off |  |         | 3,436 |      |  |          |   |                    |  |   | 3,436 |  |  |   |      | 
|Goodwill write-off                      |  |         | 848   |      |  |          |   |                    |  |   | 848   |  |  |   |      | 
|Other restructuring costs               |  |         | 2,124 |      |  |          | 74 |                    |  |   | 121   |  |  |   | 1,929 | 
|                                        |  |         |       |      |  |          |    |                    |  |   |       |  |  |   |       | 
|                                        |  | $       | 8,252 |      |  | $        | 74 |                    |  | $ | 6,249 |  |  | $ | 1,929 | 
|                                        |  |         |       |      |  |          |    |                    |  |   |       |  |  |   |       | 

The fair value of assets determined to be impaired in accordance with the
guidance for assets to be disposed of in SFAS No. 121, Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of,
were the result of management estimates. The above noted exit costs were
determined in accordance with EITF No. 94-3, Liability Recognition for Certain
Employee Termination Benefits and Other Costs to Exit an Activity. The
restructuring actions, as outlined by the plan, are intended to be executed to
completion by December 31, 2001.

Note 10. Commitments

The Company has entered into contracts to supply several large customers
with GaAs wafers. The contracts guarantee the delivery of a certain number of
wafers between January 1, 2001 and December 31, 2001. The remaining value of
these contracts was $56.6 million as of September 30, 2001. The contract
sales prices are subject to review quarterly and can be adjusted in the event
that raw material prices change. In the event of non-delivery of the
determined wafer quantities in any monthly delivery period, the Company could
be subject to non-performance penalties between 5% and 10% of the value of the
delinquent monthly deliveries. Partial prepayments received for these supply
contracts totaling $8.7 million are included in accrued liabilities at
September 30, 2001.

Note 11. Recent Accounting Pronouncements

In July 2001, the FASB issued Statement of Financial Accounting Standards
No. 141 and No. 142, or SFAS 141, Business Combinations, and SFAS 142,
Goodwill and Other Intangible Assets. Under SFAS 141, all business
combinations must be accounted for using the purchase method of accounting; use
of the pooling-of-interests (pooling) method is prohibited. The provisions of
the statement will apply to all business combinations initiated after June 30,
2001. SFAS 142 will apply to all acquired intangible assets whether acquired
singly, as a part of a group, or in a business combination. The statement will
supersede APB Opinion No. 17, Intangible Assets, and will carry forward
provisions in APB Opinion No. 17 relating to internally developed intangible
assets. Adoption of SFAS 142 will result in ceasing amortization of goodwill.
All of the statement should be applied in fiscal years beginning after December
15, 2001 to all goodwill and other intangible assets recognized in an entitys
statement of financial position at that date, regardless of when those assets
were initially recognized. We believe adoption of the provisions of SFAS 141 and SFAS 142 will not have a
material effect on the Companys financial position or results of operations.



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Note 12. Foreign Exchange Contracts and Transaction Losses

The Company uses short-term forward exchange contracts for hedging
purposes to reduce the effects of adverse foreign exchange rate movements. The
Company has purchased foreign exchange contracts to hedge against certain trade
accounts receivable denominated in Japanese yen. The change in the fair value
of the forward contracts is recognized as part of the related foreign currency
transactions as they occur. As of September 30, 2001, the Companys
outstanding commitments with respect to the foreign exchange contracts, which
were commitments to sell Japanese yen, had a total contract value of
approximately $4.7 million.

The Company incurred foreign transaction exchange gains of $84,500 and
$394,300 for the three and nine months ended September 30, 2001 respectively,
and gains of $54,800 and $97,800 for the three and nine months ended September
30, 2000 respectively.

Note 13. Stockholder Rights Plan.

In April 2001, the Company adopted a Stockholder Rights Plan (the Plan)
designed to enable all stockholders to realize the full value of their
investment and to provide for fair and equal treatment for all stockholders in
the event that an unsolicited attempt is made to acquire the Company. Under the
Plan, stockholders received one Right to purchase one one-thousandth of a share
of a new series of Preferred Stock for each outstanding share of Common Stock
held of record at the close of business on May 30, 2001 at $131.00 per Right,
when someone acquires 15 percent or more of the Companys Common Stock or
announces a tender offer which could result in such person owning 15 percent or
more of the Common Stock. Each one one-thousandth of a share of the new
Preferred Stock has terms designed to make it substantially the economic
equivalent of one share of Common Stock. Prior to someone acquiring 15 percent,
the Rights can be redeemed for $0.001 each by action of the Board of Directors.
Under certain circumstances, if someone acquires 15 percent or more of the
Common Stock, the Rights permit the stockholders other than the acquiror to
purchase the Companys Common Stock having a market value of twice the exercise
price of the Rights, in lieu of the Preferred Stock. Alternatively, when the
Rights become exercisable, the Board of Directors may authorize the issuance of
one share of Common Stock in exchange for each Right that is then exercisable.
In addition, in the event of certain business combinations, the Rights permit
the purchase of the Common Stock of an acquiror at a 50 percent discount.
Rights held by the acquiror will become null and void in both cases. The
Rights expire on April 24, 2011.



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

This Managements Discussion and Analysis of Financial Condition and
Results of Operations includes a number of forward-looking statements that
reflect current views with respect to future events and financial performance.
These forward-looking statements are subject to certain risks and uncertainties
that could cause actual results to differ materially from historical results or
those anticipated. In this report, the words
anticipates, believes,
expects, future, intends, and similar expressions identify
forward-looking statements. Readers are cautioned not to place undue reliance
on these forward-looking statements, which speak only as of the date hereof.
This discussion should be read in conjunction with Managements Discussion and
Analysis of Financial Condition and Results of Operations included in the
Companys Annual Report on Form 10-K for the year ended December 31, 2000 and
the condensed consolidated financial statements included elsewhere in this
report.

Results of Operations

The following table sets forth certain information relating to the
operations of the Company expressed as a percentage of total revenues for the
periods indicated:

|                                                |                                     |                          |       |                    |      |                   |       |      |      |      |       |      |      |  |       |      |      | 
|----------------------------------------------- | ----------------------------------- | ------------------------ | ----- | ------------------ | ---- | ----------------- | ----- | ---- | ---- | ---- | ----- | ---- | ---- |  | ----- | ---- | ---- | 
|                                                |                                     |                          |       | Three Months Ended |      | Nine Months Ended
|                                                |                                     |                          |       | September 30,      |      | September 30,    
|                                                |                                     |                          |       |                    |      |                  
|                                                |                                     |                          |       | 2001               |      | 2000              |       | 2001 |      | 2000
|                                                |                                     |                          |       |                    |      |                   |       |      |      |     
|Revenues                                        |                                     |                          | 100.0 | %                  |      |                   | 100.0 | %    |      |      | 100.0 | %    |      |  | 100.0 | %   
|Cost of revenues                                |                                     |                          | 76.5  |                    |      |                   | 55.6  |      |      |      | 63.7  |      |      |  | 58.3  |     
|                                                |                                     |                          |       |                    |      |                   |       |      |      |      |       |      |      |  |       |     
|Gross profit                                    |                                     |                          | 23.5  |                    |      |                   | 44.4  |      |      |      | 36.3  |      |      |  | 41.7  |     
|Operating expenses:                             |                                     |                          |       |                    |      |                   |       |      |      |      |       |      |      |  |       |     
|                                                | Selling, general and administrative |                          |       | 25.6               |      |                   |       | 15.5 |      |      |       | 16.4 |      |  |       | 15.2 |     
|                                                | Research and development            |                          |       | 7.5                |      |                   |       | 9.9  |      |      |       | 6.6  |      |  |       | 8.4  |     
|                                                |                                     |                          |       |                    |      |                   |       |      |      |      |       |      |      |  |       |     
|                                                |                                     | Total operating expenses |       |                    | 33.1 |                   |       |      | 25.4 |      |       |      | 23.0 |  |       |      | 23.6 | 
|                                                |                                     |                          |       |                    |      |                   |       |      |      |      |       |      |      |  |       |     
|Income (loss) from operations                   |                                     |                          | (9.6  | )                  |      |                   | 19.0  |      |      |      | 13.4  |      |      |  | 18.1  |     
|Interest expense                                |                                     |                          | 2.2   |                    |      |                   | 2.3   |      |      |      | 1.6   |      |      |  | 3.2   |     
|Other (income)                                  |                                     |                          | (2.1  | )                  |      |                   |      |      |      |      | (1.5  | )    |      |  | (0.6  | )   
|                                                |                                     |                          |       |                    |      |                   |       |      |      |      |       |      |      |  |       |     
|Income (loss) before provision for
income taxes |                                     |                          | (9.7  | )                  |      |                   | 16.7  |      |      |      | 13.3  |      |      |  | 15.5  |     
|Provision for income taxes                      |                                     |                          | (3.4  | )                  |      |                   | 6.3   |      |      |      | 4.8   |      |      |  | 5.9   |     
|                                                |                                     |                          |       |                    |      |                   |       |      |      |      |       |      |      |  |       |     
|Income (loss) from continuing operations        |                                     |                          | (6.3  | )                  |      |                   | 10.4  |      |      |      | 8.5   |      |      |  | 9.6   |     
|Loss from discontinued operations               |                                     |                          |      |                    |      |                   | (1.6  | )    |      |      |      |      |      |  | (0.9  | )   
|                                                |                                     |                          |       |                    |      |                   |       |      |      |      |       |      |      |  |       |     
|Net Income (loss)                               |                                     |                          | (6.3  | )%                 |      |                   | 8.8   | %    |      |      | 8.5   | %    |      |  | 8.7   | %   
|                                                |                                     |                          |       |                    |      |                   |       |      |      |      |       |      |      |  |       |     

Three months ended September 30, 2001 compared with three months ended
September 30, 2000

Revenue from continuing operations.Revenue decreased $10.3 million, or
31.2%, to $22.8 million for the three months ended September 30, 2001 compared
with $33.1 million for the three months ended September 30, 2000. Revenue from
our substrate division, which represents 89.8% of total revenue for the three
months ended September 30, 2001 decreased $11.2 million, or 35.4%, to $20.5
million compared with $31.7 million for the three months ended September 30,
2000. Total GaAs substrate revenue decreased $16.3 million, or 59.3%, to $11.1
million for the three months ended September 30, 2001 compared with $27.4
million for the three months ended September 30, 2000. Sales of 5 and 6 GaAs
substrates decreased $4.9 million, or 74.7%, to $1.6 million for the three
months ended September 30, 2001 compared with $6.5 million for the three months
ended September 30, 2000. InP substrate revenue increased $3.9 million, or
95.5%, to $7.9 million for the three months ended September 30, 2001 compared
with $4.0 million for the three months ended September 30, 2000. The decrease
in GaAs substrate revenue was a result of decreased sales volume to existing
and new customers due in part to the current



12



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economic slowdown in the fiber optic and wireless handset markets. Sales
at our opto-electronics division increased $0.9 million, or 61.0% to $2.3
million due to an increase in sales of HBLEDs and VCSELs.

International revenue decreased $5.8 million, or 35.6%, to $10.5 million
for the three months ended September 30, 2001 compared with $16.3 million for
the three months ended September 30, 2000. The decrease is primarily due to
the reduction of unit sales of GaAs substrates to all customers.

Gross margin.Gross margin decreased to 23.5% of total revenue for the
three months ended September 30, 2001 compared with 44.4 % of total revenue for
the three months ended September 30, 2000. Gross margin at the substrate
division decreased to 31.6% of substrate revenue for the three months ended
September 30, 2001 compared with 46.1% of substrate revenue for the period
ended September 30, 2000. The decrease in gross margin at the substrate
division was primarily the result of decreased unit sales. Gross margin at
the opto-electronics division decreased to negative 47.7% of opto-electronics
revenue for the three months ended September 30, 2001 compared with 5.7% of
opto-electronics revenue for the three months ended September 30, 2000.

Selling, general and administrative expenses.Selling, general and
administrative expenses increased $692,000, or 13.5%, to $5.8 million for the
three months ended September 30, 2001 compared with $5.1 million for the three
months ended September 30, 2000. As a percentage of total revenue, selling,
general and administrative expenses were 25.6% for the three months ended
September 30, 2001 compared with 15.5% for the three months ended September 30,
2000.

Research and development expenses.Research and development expenses
decreased $1.6 million, or 47.9%, to $1.7 million for the three months ended
September 30, 2001 compared with $3.3 million for the three months ended
September 30, 2000. As a percentage of total revenue, research and development
expenses were 7.5% for the three months ended September 30, 2001 compared with
9.9% for the three months ended September 30, 2000. The decrease is primarily
due to increased production of our new HBLED and VCSEL products.

Interest expense.Interest expense decreased $269,000, or 35.3%, to
$493,000 for the three months ended September 30, 2001 compared with $762,000
for the three months ended September 30, 2000 due to the repayment of debt.

Other income and expense.Other income increased $504,000 to $488,000 for
the three months ended September 30, 2001 compared with expense of $16,000 for
the three months ended September 30, 2000. The increase was primarily due to
interest earned on cash and investments.

Provision for income taxes.The effective tax rate decreased to 36.0% for
the three months ended September 30, 2001 compared with 38.0% for the three
months ended September 30, 2000. The decrease is primarily the result of
shifting production to China.

Nine months ended September 30, 2001 compared with nine months ended September
30, 2000

Revenue from continuing operations.Revenue increased $20.8 million, or
25.0%, to $104.2 million for the nine months ended September 30, 2001 compared
with $83.4 million for the nine months ended September 30, 2000. Revenue from
our substrate division, which represents 93.4% of total revenue for the nine
months ended September 30, 2001, increased $20.3 million, or 26.4%, to $97.3
million compared with $77.0 million for the nine months ended September 30,
2000. Total GaAs substrate revenue increased $1.2 million, or 1.8%, to $68.4
million for the nine months ended September 30, 2001 compared with $67.2
million for the nine months ended September 30, 2000. Sales of 5 and 6 GaAs
substrates increased $7.5 million, or 67.0%, to $18.8 million for the nine
months ended September 30, 2001 compared with $11.3 million for the nine months
ended September 30, 2000. InP substrate revenue increased $16.6 million, or
196.1%, to $25.0 million for the nine months ended September 30, 2001 compared
with $8.4 million for the nine months ended September 30, 2000. Sales at our
opto-electronics division increased $521,000, or 8.3% to $6.8 million due to an
increase in sales of HBLEDs and VCSELs.



13



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International revenue increased $10.3 million, or 24.7%, to $52.2 million
for the nine months ended September 30, 2001 compared with $41.9 million for
the nine months ended September 30, 2000. The increase is primarily due to
increased unit sales of GaAs and InP substrates in Q1 and Q2 of 2001.

Gross margin.Gross margin decreased to 36.3% of total revenue for the
nine months ended September 30, 2001 compared with 41.7% of total revenue for
the nine months ended September 30, 2000. Gross margin at the substrate
division decreased to 42.3% of substrate revenue for the nine months ended
September 30, 2001 compared with 46.4% of substrate revenue for the nine months
ended September 30, 2000. The decrease in gross margin at the substrate
division was primarily the result of decreased unit sales in Q3 2001. Gross
margin at the opto-electronics division decreased to negative 49.0% of
opto-electronics revenue for the nine months ended September 30, 2001 compared
with negative 16.5% of opto-electronics revenue for the nine months ended
September 30, 2000.

Selling, general and administrative expenses.Selling, general and
administrative expenses increased $4.5 million, or 35.5%, to $17.1 million for
the nine months ended September 30, 2001 compared with $12.6 million for the
nine months ended September 30, 2000. As a percentage of total revenue,
selling, general and administrative expenses were 16.4% for the nine months
ended September 30, 2001 compared with 15.2% for the nine months ended
September 30, 2000. The increase is primarily due to increased unit sales of
GaAs and InP substrates in Q1 and Q2 of 2001.

Research and development expenses.Research and development expenses
decreased $142,000, or 2.0%, to $6.8 million for the nine months ended
September 30, 2001 compared with $7.0 million for the nine months ended
September 30, 2000. As a percentage of total revenue, research and development
expenses were 6.6% for the nine months ended September 30, 2001 compared with
8.4% for the nine months ended September 30, 2000. The decrease is primarily
due to increased production of our new HBLED and VCSEL products.

Interest expense.Interest expense decreased $1.1 million, or 38.9%, to
$1.6 million for the nine months ended September 30, 2001 compared with $2.7
million for the nine months ended September 30, 2000 due to the repayment of
debt.

Other income and expense.Other income increased $1.1 million to $1.6
million for the nine months ended September 30, 2001 compared with income of
$468,000 for the nine months ended September 30, 2000. The increase was
primarily due to interest earned on cash and investments.

Provision for income taxes.The effective tax rate decreased to 36.0% for
the nine months ended September 30, 2001 compared with 38.0% for the nine
months ended September 30, 2000. The decrease is primarily the result of
shifting production to China.

Liquidity and Capital Resources

Cash and cash equivalents decreased $29.8 million to $38.8 million at
September 30, 2001 compared with $68.6 million at December 31, 2000.

Net cash provided by operating activities of $14.8 million for the nine
months ended September 30, 2001 was comprised primarily of net income adjusted
for non-cash items of $6.5 million, and by a $628,000 increase in working
capital and other activities. The net increase in working capital and other
activities resulted primarily from increases in inventory and prepaid expenses,
offset by an increase in accrued liabilities.

Accounts receivable decreased $4.7 million, or 17.0%, to $23.0 at
September 30, 2001 compared to $27.7 million at December 31, 2000. Inventories
increased $6.7 million, or 12.9%, to $58.5 million at September 30, 2001
compared to $51.8 million at December 31, 2001. The change in both these
accounts is primarily due to decreased unit sales in Q3 2001.



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Net cash used in investing activities of $46.0 million primarily reflects
$21.7 million in investments and $24.3 million in purchases of property and
equipment. These purchases of property and equipment were made to increase
crystal growth and wafer processing capacity at the substrate division and to
increase HBLED and VCSEL epitaxy growth and wafer processing capacity at the
opto-electronics division.

We are currently constructing an additional 32,000 square foot building in
Beijing, China to expand substrate wafer processing capacity. We are also
constructing improvements to our existing production facilities in Fremont,
California to increase crystal growth and wafer processing capacity, and to our
production facilities in El Monte, California and Monterey Park, California to
increase production capacity of our HBLEDs. We expect to invest
approximately $6.0 million in additional facilities and equipment over the next
3 months.

Net cash provided by financing activities of $1.4 million consisted of
proceeds of $4.6 million from the sale of common stock through employee stock
compensation programs and $3.2 million from additional capital leases offset by
payments to capital leases and long-term debt of $6.4 million.

We currently have a $20.0 million line of credit with a commercial bank
bearing interest at 175 basis points above LIBOR. This line of credit is
secured by all of our assets, other than equipment, and expires on May 31,
2002. At September 30, 2001, there was no balance outstanding under the line
of credit.

We generally finance equipment purchases through secured equipment loans
and capital leases over five-year terms at interest rates ranging from 6.0% to
9.0% per annum. Some of our manufacturing facilities have been financed by
long-term borrowings, which were refinanced by taxable variable rate revenue
bonds in 1998. These bonds mature in 2023 and bear interest at 200 basis points
below the prime rate. The bonds are traded in the public market. Repayment of
principal and interest under the bonds on a quarterly basis is supported by a
letter of credit from our bank. We have the option to redeem the bonds in
whole or in part during their term. At September 30, 2001, $9.9 million was
outstanding under these bonds.

We anticipate that the combination of existing cash on hand and the
borrowings available under our current credit agreements will be sufficient to
fund working capital and capital expenditure requirements for the next 12
months. However, our future capital requirements will be dependent on many
factors including the rate of revenue growth, our profitability, the timing and
extent of spending to support research and development programs, the expansion
of our manufacturing facilities, the expansion of our selling and marketing and
administrative activities and market acceptance of our products. We may need to
obtain additional equity and debt financing in the future, which may not be
available on acceptable terms or at all. If we are unable to obtain additional
capital when needed, we may be required to reduce the scope of our planned
expansion of our manufacturing capacity or of our product development and
marketing efforts, which could adversely affect our business and operating
results.




Item 3. Quantitative and Qualitative Disclosures About Market Risk

Since our Japanese and some Taiwanese invoices are denominated in Japanese
yen, doing business in Japan and Taiwan subjects us to fluctuations in exchange
rates between the U.S. dollar and the Japanese yen. We incurred a foreign
transaction exchange gain of $84,500 for the three months ended September 30,
2001 and a gain of $54,800 for the three months ended September 30, 2000. We
purchase foreign exchange contracts to economically hedge against certain trade
accounts receivable in Japanese yen. The outstanding commitments with respect
to such foreign exchange contracts had a total contract value of approximately
$4.7 million as of September 30, 2001. Many of the contracts were entered into
six months prior to the due date and the dates coincide with the receivable
terms on customer invoices. By matching the receivable collection date and
contract due date, we attempt to economically minimize the impact of foreign
exchange fluctuations.

The fair market value of long-term fixed and variable interest rate debt
is subject to interest rate risk. The effect of an immediate 10% change in
interest rates would not have a material impact on our future operating results
or cash flows.

Investments are valued at fair market value at September 30, 2001. There
is no assurance that we will realize this value when we sell these investments
in the future.



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Risks Related to Our Business

Unpredictable fluctuations in our operating results could disappoint analysts
or our investors, which could cause our stock price to decline.

We may not be able to sustain our historical growth rate, and we may
experience significant fluctuations in our revenue and earnings in the future.
Our quarterly and annual revenue and operating results have varied
significantly in the past and may vary significantly in the future due to a
number of factors, including:



| |  |  | fluctuations in demand for our products;                                                                    
| | - |  | ------------------------------------------------------------------------------------------------------------
|
| |  |  | expansion of our manufacturing capacity;                                                                    
|
| |  |  | expansion of our operations in China;                                                                       
|
| |  |  | limited availability and increased cost of raw materials;                                                   
|
| |  |  | the volume and timing of orders from our customers;                                                         
|
| |  |  | fluctuation of our manufacturing yields;                                                                    
|
| |  |  | decreases in the prices of our competitors products;                                                       
|
| |  |  | costs incurred in connection with any future acquisitions of businesses or technologies;                    
|
| |  |  | increases in our expenses, including expenses for research and development; and                             
|
| |  |  | our ability to develop, manufacture and deliver high quality products
in a timely and cost-effective manner.

Due to these factors, we believe that period-to-period comparisons of our
operating results may not be a meaningful indicator of our future performance.
It is possible that in some future quarter, our operating results may be below
the expectations of securities analysts or investors. If this occurs, the price
of our common stock would likely decline.

If we fail to expand our manufacturing capacity, we may not be able to meet
demand for our products, lower our costs or increase revenue.

In order to increase production, we must build new facilities, expand our
existing facilities and purchase additional manufacturing equipment. If we do
not expand our manufacturing capacity, we will be unable to increase
production, adversely impacting our ability to reduce unit costs, margins and
improve our operating results.

We are currently constructing additional capacity and facilities in
California and China. Our expansion activities subject us to a number of risks,
including:



| |  |  | unforeseen environmental or engineering problems;       
| | - |  | --------------------------------------------------------
|
| |  |  | unavailability or late delivery of production equipment;
|
| |  |  | delays in completing new facilities;                    
|
| |  |  | delays in bringing production equipment on-line;        
|
| |  |  | work stoppages or delays;                               
|
| |  |  | unanticipated cost increases; and                       



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| |  |  | restrictions imposed by requirements of local, state or federal regulatory agencies.
| | - |  | ------------------------------------------------------------------------------------

If any of these risks occurs, construction may be costlier than
anticipated and completion could be delayed, which could hurt our ability to
expand capacity and increase our sales. In addition, if we experience delays in
expanding our manufacturing capacity, we might not be able to timely meet
customer requirements, and we could lose future sales. We are also making
substantial investments in equipment and facilities as part of our capacity
expansion. To offset the additional fixed operating expenses, we must increase
our revenue by increasing production and improving yields. If demand for our
products does not grow or if our yields do not improve as anticipated, we may
be unable to offset these costs against increased revenue, which would
adversely impact our operating results.

We have limited experience with some of our new products, and we may not be
able to achieve anticipated sales of these products.

To date, we have limited experience producing and selling our HBLED and
VCSEL products, and we may be unable to successfully market and sell these
products. To market and sell our HBLED and VCSEL products, we will have to
develop additional distribution channels. In addition, we must apply our
proprietary VGF technique to new substrate products and successfully introduce
and market new opto-electronic semiconductor devices, including HBLED and VCSEL
products.

If we do not successfully develop new products to respond to rapidly changing
customer requirements, our ability to generate sales and obtain new customers
may suffer.

Our success depends on our ability to offer new products that incorporate
leading technology and respond to technological advances. In addition, our new
products must meet customer needs and compete effectively on quality, price and
performance. The life cycles of our products are difficult to predict because
the markets for our products are characterized by rapid technological change,
changing customer needs and evolving industry standards. If our competitors
introduce products employing new technologies, our existing products could
become obsolete and unmarketable. If we fail to offer new products, we may not
generate sufficient revenue to offset our development costs and other expenses
or meet our customers requirements. Other companies, including IBM, are
actively developing substrate materials that could be used to manufacture
devices that could provide the same high-performance, low-power capabilities as
GaAs-based devices at competitive prices. If these substrate materials are
successfully developed and semiconductor device manufacturers adopt them,
demand for our GaAs substrates could decline and our revenue could suffer.

The development of new products can be a highly complex process, and we
may experience delays in developing and introducing new products. Any
significant delays could cause us to fail to timely introduce and gain market
acceptance of new products. Further, the costs involved in researching,
developing and engineering new products could be greater than anticipated.

Our operating results depend in large part on further customer acceptance of
our existing substrate products and on our ability to develop new products
based on our core VGF technology.

A majority of GaAs substrates are manufactured from crystals grown using
the traditional Liquid Encapsulated Czochralski, or LEC, or
Horizontal-Bridgeman, or HB, techniques. In order to expand sales of our
products, we must continue to promote our VGF technique as a preferred process
for producing substrates, and we must offer products with superior prices and
performance on a timely basis and in sufficient volumes. If we fail to gain
increased market acceptance of our VGF technique, we may not achieve
anticipated revenue growth.



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Intense competition in the markets for our products could prevent us from
increasing revenue and sustaining profitability.

The markets for our products are intensely competitive. We face
competition for our substrate products from other manufacturers of substrates,
such as Freiberger, Hitachi Cable, Japan Energy, Litton Airtron and Sumitomo
Electric and from semiconductor device manufacturers that produce substrates
for their own use, and from companies, such as IBM, that are actively
developing alternative materials to GaAs. We believe that at least one of our
competitors has recently begun shipping GaAs substrates manufactured using a
technique similar to our VGF technique. Other competitors may develop and begin
using similar technology. If we are unable to compete effectively, our revenue
may not increase and we may not continue to be profitable. We face many
competitors that have a number of significant advantages over us, particularly
in our compound semiconductor device products, including:



| |  |  | greater experience in the business;                                
| | - |  | -------------------------------------------------------------------
|
| |  |  | more manufacturing experience;                                     
|
| |  |  | broader name recognition; and                                      
|
| |  |  | significantly greater financial, technical and marketing resources.

Our competitors could develop new or enhanced products that are more
effective than the products that we have developed or may develop. For example,
some competitors in the HBLED market offer devices that are brighter than our
HBLEDs. Some of our competitors may also develop technologies that enable the
production of commercial products with characteristics similar to or better
than ours, but at a lower cost.

We expect the intensity of competition to increase in the future.
Competitive pressures could reduce our market share, require us to reduce the
prices of our products, affect our ability to recover costs or result in
reduced gross margins.

If we have low product yields, the shipment of our products may be delayed and
our operating results may be adversely impacted.

Our products are manufactured using complex technologies, and the number
of usable substrates and devices we can produce can fluctuate as a result of
many factors, including:



| |  |  | impurities in the materials used;                                               
| | - |  | --------------------------------------------------------------------------------
|
| |  |  | contamination of the manufacturing environment;                                 
|
| |  |  | substrate breakage;                                                             
|
| |  |  | equipment failure, power outages or variations in the manufacturing process; and
|
| |  |  | performance of personnel involved in the manufacturing process.                 

Because many of our manufacturing costs are fixed, our revenue could
decline if our yields decrease. We have experienced product shipment delays and
difficulties in achieving acceptable yields on both new and older products, and
delays and poor yields have adversely affected our operating results. We may
experience similar problems in the future and we cannot predict when they may
occur or their severity. In addition, many of our manufacturing processes are
new and are still being refined, which can result in lower yields, particularly
as we focus on producing higher diameter substrates and new opto-electronic
semiconductor devices. For example, we recently began manufacturing six-inch
GaAs wafers and have also made substantial investments in equipment and
facilities to manufacture blue, green and cyan HBLEDs. If we are unable to
produce adequate quantities of our high-brightness LEDs and VCSELs, we may not
be able to meet customer demand and our revenue may decrease.



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Demand for our products may decrease if our customers experience difficulty
manufacturing, marketing or selling their products.

Our products are used as components in our customers products.
Accordingly, demand for our products is subject to factors affecting the
ability of our customers to successfully introduce and market their products,
including:



| |  |  | the competition our customers face in their particular industries;                                              
| | - |  | ----------------------------------------------------------------------------------------------------------------
|
| |  |  | the technical, manufacturing, sales and marketing and management capabilities of our customers;                 
|
| |  |  | the financial and other resources of our customers; and                                                         
|
| |  |  | the inability of our customers to sell their products if they infringe third party intellectual property rights.

If demand for the products offered by our customers decreases, our
customers may reduce purchases of our products.

We purchase critical raw materials from single or limited sources, and could
lose sales if these sources fail to fill our needs.

We depend on a limited number of suppliers for certain raw materials,
components and equipment used in manufacturing our products, including key
materials such as gallium, arsenic and quartz. We generally purchase these
materials through standard purchase orders and not pursuant to long-term supply
contracts and none of our suppliers guarantees supply of raw materials to us.
If we lose any of our key suppliers, our manufacturing efforts could be
significantly hampered and we could be prevented from timely producing and
delivering products to our customers. We have experienced delays obtaining
critical raw materials, including gallium, due to shortages of these materials.
We may experience delays due to shortages of materials and may be unable to
obtain an adequate supply of materials. These shortages and delays could result
in higher materials costs and cause us to delay or reduce production of our
products. If we have to delay or reduce production, we could fail to meet
customer delivery schedules, and our revenue and operating results could
suffer.

If we fail to comply with environmental regulations, we may be subject to
significant fines or cessation of our operations.

We are subject to federal, state and local environmental laws and
regulations. These laws, rules and regulations govern the use, storage,
discharge and disposal of hazardous chemicals during manufacturing, research
and development and sales demonstrations. If we fail to comply with applicable
regulations, we could be subject to substantial liability for clean-up efforts,
personal injury and fines or suspension or cessation of our operations. We are
cooperating with the California Occupational Safety and Health Administration,
or Cal-OSHA, in an investigation primarily regarding impermissible levels of
potentially hazardous materials in certain areas of our manufacturing facility
in Fremont, California. In May 2000, Cal-OSHA levied a fine against us in the
amount of $313,655 for alleged health and safety violations. In March 2001, we
settled on an amount of $200,415, and have put in place engineering,
administrative and personnel protective equipment programs to address these
issues. Our ability to expand or continue to operate our present locations
could be restricted or we could be required to acquire costly remediation
equipment or incur other significant expenses. In addition, existing or future
changes in laws or regulations may require us to incur significant expenditures
or liabilities, or may restrict our operations.



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The loss of one or more of our key substrate customers would significantly hurt
our operating results.

A small number of substrate customers have historically accounted for a
substantial portion of our total revenue. Five customers accounted for 30.3%
of our total revenue for the three months ended September 30, 2001 and 31.6%
for the three months ended September 30, 2000. No one customer accounted for
grater than 10% of total revenue for the three months ended September 30, 2001.
Our substrate revenue accounted for 89.8% of our total revenue for the three
months ended September 30, 2001 and 95.6% for the three months ended September
30, 2000. We expect that a significant portion of our future revenue will
continue to be derived from a limited number of substrate customers. Our
customers are not obligated to purchase a specified quantity of our products or
to provide us with binding forecasts of product purchases. In addition, our
customers may reduce, delay or cancel orders at any time without any
significant penalty. If we lose a major customer or if a customer cancels,
reduces or delays orders, our revenue would decline. In addition, customers
that have accounted for significant revenue in the past may not continue to
generate revenue for us in any future period.

Defects in our products could diminish demand for our products.

Our products are complex and may contain defects. In the past we have
experienced quality control problems with some of our LED and consumer
products, which caused customers to return products to us. If we continue to
experience quality control problems, or experience these problems in our other
products, customers may cancel or reduce orders or purchase products from our
competitors. Defects in our products could cause us to incur higher
manufacturing costs and suffer product returns and additional service expenses,
all of which could adversely impact our operating results.

We are also developing new products and product enhancements, including
substrates and compound semiconductor device products. If our new products
contain defects when released, our customers may be dissatisfied and we may
suffer negative publicity or customer claims against us, lose sales or
experience delays in market acceptance of our new products.

Cyclicality in the semiconductor industry could cause our operating results to
fluctuate significantly.

Our business depends in significant part upon manufacturers of
semiconductor devices, as well as the current and anticipated market demand for
such devices and the products using such devices. The semiconductor industry is
highly cyclical. The industry has in the past, and will likely in the future,
experience periods of oversupply that result in significantly reduced demand
for semiconductor devices and components, including our products. When these
periods occur, our operating results and financial condition are adversely
affected.

Our substrate and opto-electronic semiconductor device products have a long
sales cycle that makes it difficult to plan our expenses and forecast our
results.

Customers typically place orders with us for our substrate and
opto-electronic semiconductor device products three months to a year or more
after our initial contact with them. The sale of our products may be subject to
delays due to our customers lengthy internal budgeting, approval and
evaluation processes. During this time, we may incur substantial expenses and
expend sales, marketing and management efforts while the customers evaluate our
products. These expenditures may not result in sales of our products. If we do
not achieve anticipated sales in a period as expected, we may experience an
unplanned shortfall in our revenue. As a result, we may not be able to cover
expenses, causing our operating results to vary. In addition, if a customer
decides not to incorporate our products into its initial design, we may not
have another opportunity to sell products to this customer for many months or
even years. We anticipate that sales of any future substrate and
opto-electronic semiconductor device products under development will also have
lengthy sales cycles and will, therefore, be subject to risks substantially
similar to those inherent in the lengthy sales cycle of our current substrate
and opto-electronic semiconductor device products.



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If we fail to manage our potential growth, our operations may be disrupted.

We have experienced a period of rapid growth and expansion that has
strained our management and other resources, and we expect this rapid growth to
continue. Our acquisition of Lyte Optronics, together with expansion of our
manufacturing capacity, has placed and continues to place a significant strain
on our operations and management resources. If we fail to manage our growth
effectively, our operations may be disrupted. To manage our growth effectively,
we must implement additional and improved management information systems,
further develop our operating, administrative, financial and accounting systems
and controls, add experienced senior level managers, and maintain close
coordination among our executive, engineering, accounting, marketing, sales and
operations organizations.

We will spend substantial sums to support our growth and may incur
additional unexpected costs. Our systems, procedures or controls may not be
adequate to support our operations, and we may be unable to expand quickly
enough to exploit potential market opportunities. Our future operating results
will also depend on expanding sales and marketing, research and development and
administrative support. If we cannot attract qualified people or manage growth
effectively, our business and operating results could be adversely affected.

Any future acquisitions may disrupt our business, dilute stockholder value or
distract management attention.

As part of our strategy, we may consider acquisitions of, or significant
investments in, businesses that offer products, services and technologies
complementary to ours, such as our acquisition of Lyte Optronics in May 1999.
Acquisitions entail numerous risks, including:



| |  |  | we may have difficulty assimilating the operations, products and personnel of the acquired businesses;                                   
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | our ongoing business may be disrupted;                                                                                                   
|
| |  |  | we may incur unanticipated costs;                                                                                                        
|
| |  |  | our management may be unable to manage the financial and strategic
position of acquired or developed products, services and technologies;
|
| |  |  | we may be unable to maintain uniform standards, controls and procedures and policies; and                                                
|
| |  |  | our relationships with employees and customers may be impaired as a result of any integration.                                           

For example, we incurred substantial costs in connection with our
acquisition of Lyte Optronics, including the assumption of approximately $10.0
million of debt, much of which has been repaid or renegotiated, resulting in a
decline of cash available. We incurred one-time charges and merger-related
expenses of $2.8 million and an extraordinary item of $508,000 relating to the
early extinguishment of debt in the quarter ended September 30, 1999 as a
result of the acquisition.

To the extent that we issue shares of our stock or other rights to
purchase stock in connection with any future acquisitions, dilution to our
existing stockholders will result and our earnings per share may suffer. Any
future acquisitions may not generate additional revenue or provide any benefit
to our business.

If any of our facilities is damaged, we may not be able to manufacture our
products.

The ongoing operation of our manufacturing and production facilities in
California and China is critical to our ability to meet demand for our
products. If we are not able to use all or a significant portion of our
facilities for prolonged periods for any reason, we will not be able to
manufacture products for our customers. For example, a natural disaster, fire
or explosion caused by our use of combustible chemicals and high temperatures
during our manufacturing processes would render some or all of our facilities
inoperable for an indefinite period of time. Actions outside of our control,
such as earthquakes, could also damage our facilities, rendering them
inoperable. All of our crystal growth is currently performed at our Fremont,
California facilities, which are located very near to an



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active seismic fault line. If we are unable to operate our facilities and
manufacture our products, we will lose customers and revenue and our business
will be harmed.

If we lose key personnel or are unable to hire additional qualified personnel
as necessary, we may not be able to successfully manage our business or achieve
our objectives.

Our success depends upon the continued service of Morris S. Young, Ph.D.,
our president, chairman of the board and chief executive officer, as well as
other key management and technical personnel. We do not have long-term
employment contracts with, or key person life insurance on, any of our key
personnel.

We believe our future success will also depend in large part upon our
ability to attract and retain highly skilled managerial, engineering, sales and
marketing, finance and manufacturing personnel. The competition for these
employees is intense, especially in Silicon Valley, and we cannot assure you
that we will be successful in attracting and retaining new personnel. The loss
of the services of any of our key personnel, the inability to attract or retain
qualified personnel in the future or delays in hiring required personnel,
particularly engineers, could make it difficult for us to manage our business
and meet key objectives, including the timely introduction of new products.

If we are unable to protect our intellectual property, we may lose valuable
assets or incur costly litigation.

We rely on a combination of patents, copyrights, trademark and trade
secret laws, non-disclosure agreements and other intellectual property
protection methods to protect our proprietary technology. However, we believe
that, due to the rapid pace of technological innovation in the markets for our
products, our ability to establish and maintain a position of technology
leadership also depends on the skills of our development personnel.

Despite our efforts to protect our intellectual property, a third party
could develop products or processes similar to ours. Our means of protecting
our proprietary rights may not be adequate and our competitors may
independently develop similar technology, duplicate our products or design
around our patents. We believe that at least one of our competitors has begun
to ship GaAs substrates produced using a process similar to our VGF technique.
Our competitors may also develop and patent improvements to the VGF, LED and
VCSEL technologies upon which we rely, and thus may limit any exclusivity we
enjoy by virtue of our patents.

It is possible that pending or future United States or foreign patent
applications made by us will not be approved, that our issued patents will not
protect our intellectual property, or that third parties will challenge the
ownership rights or the validity of our patents. In addition, the laws of some
foreign countries may not protect our proprietary rights to as great an extent
as do the laws of the United States and it may be more difficult to monitor the
use of our intellectual property. Our competitors may be able to legitimately
ascertain non-patented proprietary technology embedded in our systems. If this
occurs, we may not be able to prevent the development of technology
substantially similar to ours.

We may have to resort to costly litigation to enforce our intellectual
property rights, to protect our trade secrets or know-how or to determine their
scope, validity or enforceability. Enforcing or defending our proprietary
technology is expensive, could cause us to divert resources and may not prove
successful. Our protective measures may prove inadequate to protect our
proprietary rights, and if we fail to enforce or protect our rights, we could
lose valuable assets.

We might face intellectual property infringement claims that may be costly to
resolve and could divert management attention.

Other companies may hold or obtain patents on inventions or may otherwise
claim proprietary rights to technology necessary to our business. The markets
in which we compete are comprised of competitors who in some cases hold
substantial patent portfolios covering aspects of products that could be
similar to ours. We could become subject to claims that we are infringing
patent, trademark, copyright or other proprietary rights of others. Litigation
to determine the validity of alleged claims could be time-consuming and result
in significant expense to us and divert the efforts of our technical and
management personnel, whether or not the litigation is ultimately determined



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in our favor. If a lawsuit is decided against us, we could be subject to
significant liabilities, requiring us to seek costly licenses or preventing us
from manufacturing and selling our products. We may not be able to obtain
required licensing agreements on terms acceptable to us or at all.

We derive a significant portion of our revenue from international sales, and
our ability to sustain and increase our international sales involves
significant risks.

Our revenue growth depends in part on the expansion of our international
sales and operations. International sales represented 46.1% of our total
revenue for the three months ended September 30, 2001 and 49.1% for the three
months ended September 30, 2000. We expect that sales to customers outside the
U.S. will continue to represent a significant portion of our revenue.

Our dependence on international sales involves a number of risks,
including:



| |  |  | changes in tariffs, import restrictions and other trade barriers;
| | - |  | -----------------------------------------------------------------
|
| |  |  | unexpected changes in regulatory requirements;                   
|
| |  |  | longer periods to collect accounts receivable;                   
|
| |  |  | changes in export license requirements;                          
|
| |  |  | political and economic instability;                              
|
| |  |  | unexpected changes in diplomatic and trade relationships; and    
|
| |  |  | foreign exchange rate fluctuations.                              

Our sales are denominated in U.S. dollars, except for sales to our
Japanese and some Taiwanese customers, which are denominated in Japanese yen.
Thus, increases in the value of the U.S. dollar could increase the price of our
products in non-U.S. markets and make our products more expensive than
competitors products in these markets. Also, denominating some sales in
Japanese yen subjects us to fluctuations in the exchange rates between the U.S.
dollar and the Japanese yen. The functional currencies of our Japanese and
Chinese subsidiaries are the local currencies. We incur transaction gains or
losses resulting from consolidation of expenses incurred in local currencies
for these subsidiaries, as well as in translation of the assets and liabilities
of these assets at each balance sheet date. If we do not effectively manage the
risks associated with international sales, our revenue and financial condition
could be adversely affected.

If our expansion in China is more costly than we expect, our operating results
will suffer.

As part of our planned expansion of our manufacturing capacity, we are
building new facilities and expanding existing facilities in China. If we are
unable to build and expand our Chinese facilities in a timely manner, we may
not be able to increase production of our products and increase revenue as
planned. If our expansion in China proves more costly than we anticipate or we
incur greater ongoing costs than we expect, our operating results would be
adversely affected. If we do not realize expected cost savings once our
expansion is complete in China, our margins may be negatively impacted and our
operating results may suffer.

Changes in Chinas political, social and economic environment may affect our
financial performance.

Our financial performance may be affected by changes in Chinas political,
social and economic environment. The role of the Chinese central and local
governments in the Chinese economy is significant. Chinese policies toward
economic liberalization, and laws and policies affecting technology companies,
foreign investment, currency exchange rates and other matters could change,
resulting in greater restrictions on our ability to do business and operate our
manufacturing facilities in China. Any imposition of surcharges or any increase
in Chinese tax rates could hurt our operating results. The Chinese government
could revoke, terminate or suspend our license



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for national security and similar reasons without compensation to us. If
the government of China were to take any of these actions, we would be
prevented from conducting all or part of our business. Any failure on our part
to comply with governmental regulations could result in the loss of our ability
to manufacture our products in China.

China has from time to time experienced instances of civil unrest and
hostilities. Confrontations have occurred between the military and civilians.
Events of this nature could influence the Chinese economy, result in
nationalization of foreign-owned operations such as ours, and could negatively
affect our ability to operate our facilities in China.

Our stock price has been and may continue to be volatile.

Our stock price has fluctuated significantly since we began trading on the
Nasdaq National Market. For the three months ended September 30, 2001, the high
and low closing sales prices of our common stock were $26.70 and $10.20. A
number of factors could cause the price of our common stock to continue to
fluctuate substantially, including:



| |  |  | actual or anticipated fluctuations in our quarterly or annual
operating results;                                        
| | - |  | ------------------------------------------------------------------------------------------------------------------------
|
| |  |  | changes in expectations about our future financial performance or
changes in financial estimates of securities analysts;
|
| |  |  | announcements of technological innovations by us or our competitors;                                                    
|
| |  |  | new product introduction by us or our competitors;                                                                      
|
| |  |  | large customer orders or order cancellations; and                                                                       
|
| |  |  | the operating and stock price performance of comparable companies.                                                      

In addition, the stock market in general has experienced extreme
volatility that often has been unrelated to the operating performance of
particular companies. These broad market and industry fluctuations may
adversely affect the trading price of our common stock, regardless of our
actual operating performance.

We may need additional capital to fund expansion of our manufacturing capacity
and our future operations, which may not be available.

We may need additional capital to fund expansion of our manufacturing and
production capacity and our future operations or acquisitions. If we raise
additional capital through the sale of equity or debt securities, the issuance
of such securities could result in dilution to existing stockholders. These
securities could have rights, preferences and privileges that are senior to
those of holders of our common stock. For example, in December 1998 we issued
debt securities for the purchase and improvement of our facilities in Fremont,
California.

If we require additional capital in the future, it might not be available
on acceptable terms, or at all. If we are unable to obtain additional capital
when needed, we may be required to reduce the scope of our planned expansion of
our manufacturing capacity or of our product development and marketing efforts,
which could adversely affect our business and operating results.



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Provisions in our charter, bylaws or Delaware law may delay or prevent a change
in control of our company.

Provisions in our amended and restated certificate of incorporation and
bylaws may have the effect of delaying or preventing a merger, acquisition or
change of control of us, or changes in our management. These provisions
include:



| |  |  | the division of our board of directors into three separate classes,
each with three year terms;                                             
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | the right of our board to elect a director to fill a space created by
a board vacancy or the expansion of the board;                        
|
| |  |  | the ability of our board to alter our bylaws;                                                                                               
|
| |  |  | the ability of our board to authorize the issuance of up to 2,000,000
shares of blank check preferred stock; and                            
|
| |  |  | the requirement that only our board or the holders of at least 10% of
our outstanding shares may call a special meeting of our stockholders.

Furthermore, because we are incorporated in Delaware, we are subject to
the provisions of Section 203 of the Delaware General Corporation Law. These
provisions prohibit large stockholders, in particular those owning 15% or more
of the outstanding voting stock, from consummating a merger or combination with
a corporation unless:



| |  |  | 66 2/3% of the shares of voting stock not owned by these large
stockholders approve the merger or combination, or                                                       
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | the board of directors approves the merger or combination or the
transaction which resulted in the large stockholder owning 15% or more
of our outstanding voting stock.

We and our suppliers rely on a continuous power supply to conduct operations,
and Californias current energy crisis could disrupt our business and increase
our expenses

California is in the midst of an energy crisis that could disrupt our
operations and increase our expenses. In the event of an acute power shortage,
that is, when power reserves for California fall below 1.5%, California has on
some occasions implemented, and may in the future continue to implement,
rolling blackouts throughout California.

Some of our suppliers are located in California. As a result of this
crisis, these suppliers may be unable to manufacture sufficient quantities of
product to meet our needs, or they may increase the fees they charge us for
their services. We do not have long-term contracts with these suppliers. The
inability of our suppliers to provide us with adequate supplies of products
would cause a delay in our ability to fulfill our customers orders, which
would hurt our business, and any increase in their fees could adversely affect
our financial condition.

In addition, certain critical operations are located in California. We
currently do not have sufficient backup power generation capacity to maintain
full manufacturing capacity in the event of a blackout. If blackouts interrupt
our power supply, we would be temporarily unable to continue operations at our
facilities. Any such interruption in our ability to continue operations at our
facilities could damage our reputation, harm our ability to retain existing
customers and to obtain new customers, and could result in lost revenue, any of
which may substantially harm our business and results of operation.

We have adopted certain anti-takeover measures that may make it more difficult
for a third party to acquire us.

Our board of directors has the authority to issue up to 2,000,000 shares
of preferred stock and to determine the price, rights, preferences and
privileges of those shares without any further vote or action by the
stockholders. The rights of the holders of common stock will be subject to, and
may be adversely affected by, the rights of the



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holders of any preferred stock that may be issued in the future. The
issuance of shares of preferred stock, while potentially providing desirable
flexibility in connection with possible acquisitions and for other corporate
purposes, could have the effect of making it more difficult for a third party
to acquire a majority of our outstanding voting stock. We have no present
intention to issue shares of preferred stock. Further, on April 24, 2001, our
board of directors adopted a preferred stock purchase rights plan intended to
guard against certain takeover tactics. The adoption of this plan was not in
response to any proposal to acquire us, and the board is not aware of any such
effort. The existence of this plan could also have the effect of making it more
difficult for a third party to acquire a majority of our outstanding voting
stock. In addition, certain provisions of our certificate of incorporation may
have the effect of delaying or preventing a change of control, which could
adversely affect the market price of our common stock.

The impact of changes in global economic conditions on our customers may cause
us to fail to meet expectations, which would negatively impact the price of our
stock.

Our operating results can vary significantly based upon the impact of
changes in global economic conditions on our customers. More specifically, the
macro-economic environment that we are facing in 2001 is more uncertain than in
recent periods and has the potential to materially and adversely affect us and
our operating results. The revenue growth and profitability of our business
depends on the overall demand for our substrates, light-emitting diodes and
vertical cavity surface emitting lasers, and we are particularly dependant on
the market conditions for the fiber optics and telecommunications industries.
Because our sales are primarily to major corporate customers whose businesses
fluctuate with general economic and business conditions, a softening of demand
for products that use our substrates, LEDS and VCSELS caused by a weakening
economy may result in decreased revenues and lower growth rates. Customers may
find themselves facing excess inventory from earlier purchases, and may defer
or reconsider purchasing products due to the downturn in their business and in
the general economy.



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PART II OTHER INFORMATION




Item 1. Legal Proceedings

On May 1, 2001, the Santa Clara Center for Occupational Safety and Health
filed a complaint for injunctive relief and civil penalties against AXT in the
Superior Court of California, County of Alameda, Hayward Division, Case No.
H218237-5. The Complaint alleges violations of California Business and
Professions Code section 17200 et seq., and Health and Safety Code section
25249 et seq. as a result of AXTs use of arsenic and inorganic arsenic
compounds in its workplace. We believe that we have meritorious defenses
against the alleged claims, and intend to defend ourselves vigorously.
However, due to the nature of litigation and fact that the case is still in its
early stages, we cannot determine the possible loss, if any, that may
ultimately be incurred either in the context of a trial or as a result of a
negotiated settlement. We may also incur substantial legal fees in this
matter. However, we do not believe that this action is likely to have a
material adverse effect on our business, financial condition or results of
operation.

From time to time we are involved in judicial or administrative
proceedings concerning matters arising in the ordinary course of our business.
We do not expect that any of these matters, individually or in the aggregate,
will have a material impact on our results of operations or financial
condition.




Item 6. Exhibits and reports on Form 8-K

a.          Exhibits

None

b.          Reports on Form 8-K

| |                                                                                                           
| | ----------------------------------------------------------------------------------------------------------
| | On May 30, 2001, we filed a report on form 8-K reporting the adoption
of a Shareholder Rights Agreement.



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SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) 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.

|                        |                 |                        
|----------------------- | --------------- | -----------------------
|                        | AXT, INC.      
|                       
|                        |                 | Chief
Executive Officer
|Dated: November 7, 2001 | By:             | /s/    Morris S. Young 
|                        |                
|                        | Morris S. Young

|                        |                  |                        
|----------------------- | ---------------- | -----------------------
|                        |                  | Chief
Financial Officer
|Dated: November 7, 2001 | By:              | /s/    Donald L. Tatzin
|                        |                 
|                        | Donald L. Tatzin

|                        |            |                     
|----------------------- | ---------- | --------------------
|                        |            | Corporate Controller
|Dated: November 7, 2001 | By:        | /s/    John Drury   
|                        |           
|                        | John Drury



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