**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

 

**Washington, D.C. 20549**

 

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**FORM 10-Q**

 

**QUARTERLY REPORT PURSUANT TOSECTION 13 OR 15(d)**

**OF THE SECURITIES EXCHANGE ACT OF1934**

 

**For the quarterly period ended March 31, 2003**

 

**Commission file number 0-20839**

 

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**DUPONT PHOTOMASKS, INC.**

(Exact name ofregistrant as specified in our charter)

 

| **Delaware**                                                                  |   | **74-2238819**                        |
|-------------------------------------------------------------------------------|--------|---------------------------------------|
| (State or Other  Jurisdiction  of Incorporation or Organization)              |   | (I.R.S. Employer  Identification No.) |
|                                                                          |
| **131 Old Settlers Boulevard  Round Rock, Texas 78664**                       |
| (Address of  Principal Executive Offices)                                     |
|                                                                          |
| Registrant’s  telephone number, including area code: **(512)  310-6500** |

 

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Indicate by checkmark whether the registrant (1) has filed all reports required to be filedby Section 13 or 15(d) of the Securities Exchange Act of 1934 during thepreceding 12 months (or for such shorter period that the registrant wasrequired to file such reports), and (2) has been subject to such filingrequirements for the past 90 days. Yes  ý  No  o

 

Indicate by checkmark whether the registrant is an accelerated filer (as defined in Rule 12b-2of the Exchange Act).Yes  ý  No  o

 

As of May 6, 2003,there were 18,064,123 shares of the registrant’s common stock, $.01 par value,outstanding.

 

 

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**TABLE OF CONTENTS**

 
| **Part I**                                                                                                                                                    |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                                                                                                                                                          |
| Item 1. Financial  Statements                                                                                                                                 |
|                                                                                                                                                          |
| Consolidated Income  Statement (unaudited) for the Three Months Ended March 31, 2002 and 2003 and  for the Nine Months Ended March 31, 2002 and 2003          |
| Consolidated Balance Sheet  at June 30, 2002 and March 31, 2003 (unaudited)                                                                              |
| Consolidated  Statement of Cash Flows (unaudited) for the Nine Months Ended March 31, 2002  and 2003                                                          |
| Consolidated  Statement of Stockholders’ Equity for the Twelve Months Ended June 30, 2002  and the Nine Months Ended March 31, 2003 (unaudited)          |
| Notes to  Consolidated Financial Statements (unaudited)                                                                                                       |
|                                                                                                                                                          |
| Item  2.  Management’s Discussion and  Analysis of Financial Condition and Results of Operations                                                    |
|                                                                                                                                                          |
| Item 3.  Quantitative and Qualitative Disclosures  About Market Risk                                                                                     |
|                                                                                                                                                          |
| Item 4.   Controls and Procedures                                                                                                                        |
|                                                                                                                                                          |
| **Part II**                                                                                                                                                   |
|                                                                                                                                                          |
| Item  1.  Legal Proceedings                                                                                                                              |
|                                                                                                                                                          |
| Item  2.  Changes in Securities and Use of  Proceeds                                                                                                     |
|                                                                                                                                                          |
| Item 3.  Defaults Upon Senior Securities                                                                                                                 |
|                                                                                                                                                          |
| Item  4.  Submission of Matters to a Vote of  Security Holders                                                                                           |
|                                                                                                                                                          |
| Item  5.  Other Information                                                                                                                              |
|                                                                                                                                                          |
| Item 6.  Exhibits and Reports on Form 8-K                                                                                                                |
|                                                                                                                                                          |
| Signatures                                                                                                                                                    |
|                                                                                                                                                          |
| Certification  of Chief Executive Officer pursuant to Rule 13a-14 of the Securities Exchange  Act of 1934, per Section 302 of the Sarbanes-Oxley Act of 2002. |
|                                                                                                                                                          |
| Certification  of Chief Financial Officer pursuant to Rule 13a-14 of the Securities Exchange  Act of 1934, per Section 302 of the Sarbanes-Oxley Act of 2002. |

 

2

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**PART I**

 

**Item1.  Financial Statements**

 

**DUPONT PHOTOMASKS, INC. ANDSUBSIDIARIES**

 

**CONSOLIDATED INCOME STATEMENT**

**(Dollars in thousands, except sharedata)**

**(unaudited)**

 
|                                                     |   | **Three  Months Ended  March 31,** |       | **Nine  Months Ended  March 31,** |       |
|----------------------------------------------------------|--------|-----------------------------------------|------------|----------------------------------------|------------|
|                                                     |   | **2002**                                |       | **2003**                               |       | **2002** |   | **2003** |   |
|                                                     |   |                                    | ** ** |                                   | ** ** |   | ** ** |   | ** ** |
| Revenue,  net                                            |   | $                                       | 83,357     |                                   | $          | 76,141 |   | $ | 247,443 |   | $ | 241,350 |   |
| Cost  of goods sold                                      |   | 65,457                                  |       | 74,491                                 |       | 200,143 |   | 216,225 |   |
| Selling,  general and administrative expense             |   | 10,428                                  |       | 11,163                                 |       | 29,995 |   | 31,498 |   |
| Research  and development expense                        |   | 7,746                                   |       | 6,569                                  |       | 21,074 |   | 21,735 |   |
| Special  charges                                         |   | 7,393                                   |       | 9,247                                  |       | 7,393 |   | 21,754 |   |
| Operating  loss                                          |   | (7,667                                  | )          | (25,329                                | )          | (11,162 | ) | (49,862 | ) |
| Gain  on sale of assets                                  |   | 10,350                                  |       | —                                 |       | 10,350 |   | — |   |
| Other  income (expense), net                             |   | (177                                    | )          | (1,079                                 | )          | 1,081 |   | (969 | ) |
| Income  (loss) before income taxes and minority interest |   | 2,506                                   |       | (26,408                                | )          | 269 |   | (50,831 | ) |
| Provision  for (benefit from) income taxes               |   | (3,408                                  | )          | (3                                     | )          | (7,021 | ) | 1,355 |   |
| Income  (loss) before minority interest                  |   | 5,914                                   |       | (26,405                                | )          | 7,290 |   | (52,186 | ) |
| Minority  interest in (income) loss of joint ventures    |   | (1,009                                  | )          | 551                                    |       | (5,001 | ) | (2,180 | ) |
| Net  income (loss)                                       |   | $                                       | 4,905      |                                   | $          | (25,854 | ) | $ | 2,289 |   | $ | (54,366 | ) |
|                                                     |   |                                    |       |                                   |       |   |   |   |   |
| Basic  earnings (loss) per share                         |   | $                                       | 0.27       |                                   | $          | (1.43 | ) | $ | 0.13 |   | $ | (3.02 | ) |
|                                                     |   |                                    |       |                                   |       |   |   |   |   |
| Weighted  average shares outstanding                     |   | 17,893,028                              |       | 18,037,432                             |       | 17,860,729 |   | 18,000,257 |   |
|                                                     |   |                                    |       |                                   |       |   |   |   |   |
| Diluted  earnings (loss) per share                       |   | $                                       | 0.26       |                                   | $          | (1.43 | ) | $ | 0.13 |   | $ | (3.02 | ) |
|                                                     |   |                                    |       |                                   |       |   |   |   |   |
| Weighted  average shares outstanding                     |   | 19,203,065                              |       | 18,037,432                             |       | 18,103,031 |   | 18,000,257 |   |

 

The accompanyingnotes are an integral part of this consolidated statement.

 

3

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**DUPONT PHOTOMASKS, INC. ANDSUBSIDIARIES**

 

**CONSOLIDATED BALANCE SHEET**

**(Dollars in thousands, except sharedata)**

 
|                                                                                                                          |   | **June 30,  2002** |       | **March 31,  2003** |       |
|-------------------------------------------------------------------------------------------------------------------------------|--------|-------------------------|------------|---------------------|------------|
|                                                                                                                          |   |                    |       | **(unaudited)**     |       |
|                                                                                                                          |   |                    |       |                |       |
| **ASSETS**                                                                                                                    |   |                    |       |                |       |
| Current  assets:                                                                                                              |   |                    |       |                |       |
| Cash  and cash equivalents                                                                                                    |   | $                       | 138,918    |                | $          | 136,074 |   |
| Accounts  receivable, trade, net                                                                                              |   | 62,498                  |       | 57,175              |       |
| Accounts  receivable, related parties                                                                                         |   | 4,013                   |       | 637                 |       |
| Inventories,  net                                                                                                             |   | 11,633                  |       | 12,971              |       |
| Deferred  income taxes                                                                                                        |   | 5,416                   |       | 4,377               |       |
| Prepaid  expenses and other current assets                                                                                    |   | 34,157                  |       | 10,030              |       |
| Total  current assets                                                                                                         |   | 256,635                 |       | 221,264             |       |
| Assets  held for sale                                                                                                         |   | 4,870                   |       | 5,087               |       |
| Property  and equipment, net                                                                                                  |   | 457,277                 |       | 431,423             |       |
| Accounts  receivable, related parties                                                                                         |   | 1,164                   |       | 1,044               |       |
| Deferred  income taxes                                                                                                        |   | 19,605                  |       | 29,293              |       |
| Other  assets, net                                                                                                            |   | 33,244                  |       | 42,780              |       |
| Total  assets                                                                                                                 |   | $                       | 772,795    |                | $          | 730,891 |   |
|                                                                                                                          |   |                    |       |                |       |
| **LIABILITIES  AND STOCKHOLDERS’ EQUITY**                                                                                |   |                    | ** ** |                | ** ** |
| Current  liabilities:                                                                                                         |   |                    |       |                |       |
| Accounts  payable, trade                                                                                                      |   | $                       | 51,376     |                | $          | 46,084 |   |
| Accounts  payable, related parties                                                                                            |   | 5,163                   |       | 4,545               |       |
| Short-term  borrowings                                                                                                        |   | 11,795                  |       | 11,816              |       |
| Income  taxes payable                                                                                                         |   | 4,056                   |       | 1,619               |       |
| Deferred  income taxes                                                                                                        |   | —                  |       | 635                 |       |
| Other  accrued liabilities                                                                                                    |   | 55,283                  |       | 62,064              |       |
| Total  current liabilities                                                                                                    |   | 127,673                 |       | 126,763             |       |
| Long-term  borrowings                                                                                                         |   | 2,864                   |       | 2,048               |       |
| Long-term  convertible notes                                                                                                  |   | 100,000                 |       | 100,000             |       |
| Deferred  income taxes                                                                                                        |   | 25,830                  |       | 34,909              |       |
| Other  liabilities                                                                                                            |   | 3,121                   |       | 3,218               |       |
| Minority  interest in net assets of joint ventures                                                                            |   | 43,644                  |       | 45,929              |       |
| Total  liabilities                                                                                                            |   | 303,132                 |       | 312,867             |       |
| Commitments  and contingencies (see notes)                                                                                    |   |                    |       |                |       |
| Stockholders’  equity:                                                                                                   |   |                    |       |                |       |
| Preferred  stock, $.01 par value; 5,000,000 shares authorized; none issued and  outstanding                                   |   | —                  |       | —              |       |
| Common  stock, $.01 par value; 100,000,000 shares authorized; 17,927,294 and  18,061,155 issued and outstanding, respectively |   | 179                     |       | 181                 |       |
| Additional  paid-in capital                                                                                                   |   | 314,430                 |       | 317,155             |       |
| Retained  earnings                                                                                                            |   | 155,054                 |       | 100,688             |       |
| Total  stockholders’ equity                                                                                              |   | 469,663                 |       | 418,024             |       |
| Total  liabilities and stockholders’ equity                                                                              |   | $                       | 772,795    |                | $          | 730,891 |   |

 

The accompanyingnotes are an integral part of this consolidated statement.

 

4

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**DUPONT PHOTOMASKS, INC. ANDSUBSIDIARIES**

 

**CONSOLIDATED STATEMENT OF CASH FLOWS**

**(Dollars in thousands)**

**(unaudited)**

 
|                                                                                      |   | **Nine  Months Ended  March 31,** |    |
|-------------------------------------------------------------------------------------------|--------|----------------------------------------|---------|
|                                                                                      |   | **2002**                               |    | **2003** |   |
| Cash  flows from operating activities:                                                    |   |                                   |    |   |   |
| Net  income (loss)                                                                        |   | $                                      | 2,289   |   | $ | (54,366 | ) |
| Adjustments  to reconcile net income (loss) to net cash provided by operating activities: |   |                                   |    |   |   |
| Depreciation  and amortization                                                            |   | 67,890                                 |    | 74,450 |   |
| Special  charges                                                                          |   | 7,393                                  |    | 21,754 |   |
| Gain  on sale of assets                                                                   |   | (10,350                                | )       | — |   |
| Tax  benefit from employee stock options                                                  |   | 189                                    |    | — |   |
| Loss  on warrants, net                                                                    |   | 238                                    |    | — |   |
| Minority  interest in income of joint ventures                                            |   | 5,001                                  |    | 2,180 |   |
| Deferred  income tax provision (benefit)                                                  |   | (6,783                                 | )       | 1,065 |   |
| Other                                                                                     |   | (821                                   | )       | 180 |   |
| Cash  provided by (used in) changes in assets and liabilities:                            |   |                                   |    |   |   |
| Accounts  receivable, trade, net                                                          |   | (3,697                                 | )       | (696 | ) |
| Accounts  receivable, related parties                                                     |   | (1,035                                 | )       | 3,376 |   |
| Inventories,  net                                                                         |   | 1,670                                  |    | (1,338 | ) |
| Prepaid  expenses and other current assets                                                |   | (6,916                                 | )       | 26,141 |   |
| Accounts  payable, trade                                                                  |   | (12,772                                | )       | (5,181 | ) |
| Accounts  payable, related parties                                                        |   | 492                                    |    | (4,634 | ) |
| Other  accrued liabilities                                                                |   | 2,780                                  |    | (13,135 | ) |
| Other  assets, net                                                                        |   | —                                 |    | (3,038 | ) |
| Net  cash provided by operating activities                                                |   | 45,568                                 |    | 46,758 |   |
| Cash  flows from investing activities:                                                    |   |                                   |    |   |   |
| Purchases  of property and equipment                                                      |   | (87,733                                | )       | (52,020 | ) |
| Proceeds  from sale of property and equipment                                             |   | 2,684                                  |    | 1,975 |   |
| Proceeds  from sale of warrants and investments                                           |   | 1,611                                  |    | 105 |   |
| Acquisition  of business and purchases of investments                                     |   | (4,800                                 | )       | (1,983 | ) |
| Net  cash used in investing activities                                                    |   | (88,238                                | )       | (51,923 | ) |
| Cash  flows from financing activities:                                                    |   |                                   |    |   |   |
| Proceeds  from borrowings                                                                 |   | 8,599                                  |    | 2,368 |   |
| Payments  of borrowings                                                                   |   | (4,407                                 | )       | (3,369 | ) |
| Proceeds  from issuance of common stock under employee plans                              |   | 3,526                                  |    | 2,727 |   |
| Net  cash provided by financing activities                                                |   | 7,718                                  |    | 1,726 |   |
| Effect  of exchange rate changes on cash                                                  |   | (232                                   | )       | 595 |   |
| Net  decrease in cash and cash equivalents                                                |   | (35,184                                | )       | (2,844 | ) |
| Cash  and cash equivalents at beginning of period                                         |   | 138,590                                |    | 138,918 |   |
| Cash  and cash equivalents at end of period                                               |   | $                                      | 103,406 |   | $ | 136,074 |   |
| SUPPLEMENTAL  DISCLOSURE OF CASH FLOW INFORMATION:                                        |   |                                   |    |   |   |
| Cash  paid (received) for:                                                                |   |                                   |    |   |   |
| Interest                                                                                  |   | $                                      | 421     |   | $ | 362 |   |
| Income  taxes                                                                             |   | $                                      | 463     |   | $ | (21,825 | ) |

 

The accompanyingnotes are an integral part of this consolidated statement.

 

5

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**DUPONT PHOTOMASKS, INC. ANDSUBSIDIARIES**

 

**CONSOLIDATED STATEMENT OFSTOCKHOLDERS’ EQUITY**

 

**(Dollars in thousands)**

 
|                                           |   | **Common  Stock** |   | **Additional  Paid-In  Capital** |   | **Retained  Earnings** |   | **Total  Stockholders’  Equity** |   |
|------------------------------------------------|--------|-------------------|--------|----------------------------------|--------|------------------------|--------|---------------------------------------|--------|
|                                           |   | **Shares**        |   | **Amount**                       |   |                   |   |                                  |
|                                           |   |              |   |                             |   |                   |   |                                  |   |   |   |
| Balance  at June 30, 2001                      |   | 17,806,897        |   | $                                | 178    |                   | $      | 310,763                               |   | $ | 151,024 |   | $ | 461,965 |   |
|                                           |   |              |   |                             |   |                   |   |                                  |   |   |   |
| Contribution  of capital                       |   | —            |   | —                           |   | 357                    |   | —                                |   | 357 |   |
| Issuance  of common stock under employee plans |   | 120,397           |   | 1                                |   | 3,310                  |   | —                                |   | 3,311 |   |
| Net  income                                    |   | —            |   | —                           |   | —                 |   | 4,030                                 |   | 4,030 |   |
|                                           |   |              |   |                             |   |                   |   |                                  |   |   |   |
| Balance  at June 30, 2002                      |   | 17,927,294        |   | 179                              |   | 314,430                |   | 155,054                               |   | 469,663 |   |
|                                           |   |              |   |                             |   |                   |   |                                  |   |   |   |
| Issuance  of common stock under employee plans |   | 133,861           |   | 2                                |   | 2,725                  |   | —                                |   | 2,727 |   |
| Net  loss                                      |   | —            |   | —                           |   | —                 |   | (54,366                               | )      | (54,366 | ) |
|                                           |   |              |   |                             |   |                   |   |                                  |   |   |   |
| Balance  at March 31, 2003 (unaudited)         |   | 18,061,155        |   | $                                | 181    |                   | $      | 317,155                               |   | $ | 100,688 |   | $ | 418,024 |   |

 

The accompanying notes are an integral part of thisconsolidated statement.

 

6

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**DUPONT PHOTOMASKS, INC. ANDSUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS**

**(Dollars in thousands, except sharedata)**

**(unaudited)**

 

**1.****                   Basisof Presentation**

 

The interimconsolidated financial statements presented in this report include the accountsof DuPont Photomasks, Inc. and our controlled and wholly-owned subsidiaries.All significant intercompany transactions and accounts have been eliminated inconsolidation. These interim consolidated financial statements have beenprepared by us, without audit, pursuant to the rules and regulations of theSecurities and Exchange Commission, or SEC. All adjustments have been made tothe accompanying interim consolidated financial statements which are, in theopinion of our management, necessary for a fair presentation of our operatingresults and include all adjustments of a normal recurring nature. Certaininformation and footnote disclosures normally included in financial statementsprepared in accordance with accounting principles generally accepted in theUnited States of America have been condensed or omitted pursuant to the rulesand regulations of the SEC. It is recommended that these interim consolidatedfinancial statements be read in conjunction with the consolidated financialstatements and the notes thereto included in our Annual Report on Form 10-K forthe year ended June 30, 2002.  Thepreparation of financial statements in conformity with accounting principlesgenerally accepted in the United States of America requires the use of estimatesand assumptions by management in determining the reported amounts of assets andliabilities, disclosures of contingent liabilities at the date of theconsolidated financial statements and the reported amounts of revenues andexpenses during the period.  Actualresults could differ from those estimates. The results of operations for any interim period are not necessarilyindicative of the results of operations for the entire year. Certainreclassifications have been made in the prior period financial statements toconform with the current period presentation.

 

**2.****                   Propertyand Equipment**

 

Property andequipment are stated at cost and are depreciated using the straight-line methodover the estimated useful lives of the assets. Leasehold improvements are depreciated using the straight-line methodover the shorter of the estimated useful lives of the assets or the remainingterm of the lease.  Accumulateddepreciation was $364,005 at June 30, 2002 and $427,128 at March 31, 2003.Assets held for sale relate to the Gresham, Oregon facility and certain otherequipment. We are actively marketing these assets and will sell the assetsafter appropriate evaluation of all proposals.

 

**3.****                   RecentlyIssued Accounting Standards**

 

In June 2002, theFinancial Accounting Standards Board, or FASB, issued Statement of FinancialAccounting Standard, or SFAS, No. 146, “Accounting for Costs Associated withExit or Disposal Activities.” Under SFAS No. 146, a liability for a cost thatis associated with an exit or disposal activity must be recognized at fairvalue in the period the liability is incurred. SFAS No. 146 nullifies theguidance of the Emerging Issues Task Force, or EITF, Issue No. 94-3, “LiabilityRecognition for Certain Employee Termination Benefits and Other Costs to Exitan Activity (including Certain Costs Incurred in a Restructuring).”  The adoption of SFAS No. 146 had no impacton our consolidated results of operations or financial position. We haveadopted SFAS No. 146 for events initiated subsequent to December 31, 2002. (Seenote 9.)

 

In December 2002,the FASB issued SFAS No. 148, “Accounting for Stock-BasedCompensation-Transition and Disclosure, an Amendment of FASB Statement No.123.” SFAS No. 148 amends certain provisions of SFAS No. 123, “Accounting forStock-Based Compensation.” Certain of the disclosure modifications are requiredfor fiscal years ending after December 15, 2002 and are included in the notesto these consolidated financial statements. (See note 6.) The adoption of SFASNo. 148 had no impact on our consolidated results of operations or financialposition.

 

In November 2002,the FASB issued Financial Interpretation Number, or FIN, 45, “Guarantor’sAccounting and Disclosure Requirements for Guarantees, Including IndirectGuarantees of Indebtedness of Others.” FIN 45 elaborates on the disclosures tobe made by a guarantor in its interim and annual financial statements about itsobligations under certain guarantees that it has issued. It also clarifies thata guarantor is required to recognize, at the inception of a guarantee, aliability for the fair value of the obligation undertaken in issuing theguarantee. Certain provisions of FIN 45 are effective December 15, 2002; othersare effective after December 31, 2002. (See note 10.) The adoption of FIN 45had no impact on our consolidated results of operations or financial position.

 

In January 2003,the FASB issued FIN 46, “Consolidation of Variable Interest Entities.” FIN 46requires that if a company holds a controlling financial interest in a variableinterest entity, or VIE, the assets, liabilities and results of the VIE’sactivities should be consolidated in the entity’s financial statements. We donot expect that the adoption of FIN 46 will have a material impact on ourconsolidated results of operations or financial position.

 

7

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# **4.**                   Derivative Instruments and Hedging Activities

 

Forward foreignexchange contracts are utilized to mitigate the risks associated with currencyfluctuations on certain balance sheet exposures, and are, therefore, heldprimarily for purposes other than trading. These foreign exchange contracts donot qualify for hedge accounting under SFAS No. 133. Unrealized gains andlosses resulting from the impact of currency exchange rate movements on forwardforeign exchange contracts used to offset certain non-U.S. dollar denominatedassets and liabilities are recognized as other income or expense in the periodin which the exchange rates change. These gains and losses are intended tooffset the foreign currency gains and losses on the underlying exposures beinghedged. The aggregate fair value of our forward foreign exchange contractsoutstanding was $27,961 as of March 31, 2003 with an unrealized loss recordedin other income (expense), net in the accompanying consolidated incomestatement of $64 for the quarter and nine months ended March 31, 2003. Theseinstruments may involve elements of credit and market risk in excess of theamounts recognized in the consolidated financial statements. We monitor ourpositions and the credit quality of counterparties, consisting of majorfinancial institutions, and do not anticipate nonperformance by anycounterparty.

 

## **5.**                   Earnings (Loss) Per Share

 

Basic earnings pershare, or EPS, is computed by dividing net income (loss) by the weighted numberof common shares outstanding during each period. Diluted EPS is computed bydividing net income (loss) after adjustments for the dilutive effect of theconvertible notes by the weighted average number of common shares and commonshare equivalents outstanding (if dilutive) during each period. Common shareequivalents include stock options and assume conversion of the convertiblenotes. The number of common share equivalents outstanding relating to stockoptions is computed using the treasury stock method while the number of commonshare equivalents relating to the convertible notes is computed using theif-converted method.

 

The reconciliationof the amounts used to calculate the basic EPS and diluted EPS is as follows:

 
|                                                 |   | **Three  Months Ended  March 31,** |   | **Nine  Months Ended  March 31,** |   |
|------------------------------------------------------|--------|------------------------------------|--------|-----------------------------------|--------|
|                                                 |   | **2002**                           |   | **2003**                          |   | **2002** |   | **2003** |   |
|                                                 |   |                               |   |                              |   |   |   |   |   |
| Net  income (loss) for the period – basic       |   | $                                  | 4,905  |                              | $      | (25,854 | ) | $ | 2,289 |   | $ | (54,366 | ) |
| Dilutive  effect of convertible notes                |   | 92                                 |   | —                            |   | — |   | — |   |
|                                                 |   |                               |   |                              |   |   |   |   |   |
| Net  income (loss) for the period – diluted     |   | $                                  | 4,997  |                              | $      | (25,854 | ) | $ | 2,289 |   | $ | (54,366 | ) |
|                                                 |   |                               |   |                              |   |   |   |   |   |
| Weighted  average shares outstanding – basic    |   | 17,893,028                         |   | 18,037,432                        |   | 17,860,729 |   | 18,000,257 |   |
| Plus:  Common share equivalents                      |   | 1,310,037                          |   | —                            |   | 242,302 |   | — |   |
|                                                 |   |                               |   |                              |   |   |   |   |   |
| Weighted  average shares outstanding – dilutive |   | 19,203,065                         |   | 18,037,432                        |   | 18,103,031 |   | 18,000,257 |   |

 

Stock options toacquire 1,189,221 and 4,341,430 shares for the three months ended March 31,2002 and 2003, respectively, were not included in common share equivalentsbecause the effect of including these stock options would have beenanti-dilutive. Stock options to acquire 2,049,062 and 4,341,430  shares for the nine months ended March 31,2002 and 2003, respectively, were not included in common share equivalentsbecause the effect of including these stock options would have beenanti-dilutive.  For the three and ninemonths ended March 31, 2003 and the nine months ended March 31, 2002, 941,088shares for the effect of the convertible notes were not included in thecomputations of diluted EPS because the effect of including the convertiblenotes would have been anti-dilutive. These options and the convertible notes may become dilutive in thefuture.

 

# **6.**                   Employee Plans

 

We apply theintrinsic-value-based method of accounting prescribed by Accounting PrinciplesBoard, or APB, Opinion No. 25, “Accounting for Stock Issued to Employees,” andrelated interpretations including FASB Interpretation No. 44, “Accounting forCertain Transactions involving Stock Compensation, an interpretation of APBOpinion No. 25,” to account for our stock performance plans. Under this method,compensation expense is recorded on the date of grant only if the currentmarket price of the underlying stock exceeded the exercise price. We also havean employee Stock Purchase Plan. SFAS No. 123 established accounting anddisclosure requirement alternatives which involve using a different accountingmethod for expensing the calculated value of option awards. As allowed by SFASNo. 123, we have elected to continue to apply the intrinsic-value-based methodof accounting described above, and have adopted only the disclosurerequirements of SFAS No. 123. We use the Black-Scholes model to calculate proforma expense for disclosure purposes. The Black-Scholes option valuation modelwas developed for use in estimating the fair value of traded options that haveno vesting restrictions and are fully transferable. Option valuation modelsrequire the input of highly subjective assumptions including the expected stockprice volatility. We use projected volatility rates which are based uponhistorical volatility rates. Because our employee stock options and employeestock plan shares have characteristics significantly different from those oftraded options, and because changes in the subjective input assumptions canmaterially affect the fair value estimate, in our management’s opinion, theexisting models do not necessarily provide a reliable single measure of thefair value of our employee stock options and employee Stock Purchase Planshares.

 

8

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In accordance with SFAS No., 148, the following tableillustrates the effect on net income (loss) if the fair-value-based method hadbeen applied to our stock-based employee compensation plans in each period.

 
|                                                                                                                                    |   | **Three  Months Ended  March 31,** |   | **Nine  Months Ended  March 31,** |   |
|-----------------------------------------------------------------------------------------------------------------------------------------|--------|------------------------------------|--------|-----------------------------------|--------|
|                                                                                                                                    |   | **2002**                           |   | **2003**                          |   | **2002** |   | **2003** |   |
| Net  income (loss):                                                                                                                     |   |                               |   |                              |   |   |   |   |   |
| As  reported                                                                                                                            |   | $                                  | 4,905  |                              | $      | (25,854 | ) | $ | 2,289 |   | $ | (54,366 | ) |
| Deduct  total stock-based employee compensation expense determined under the  Black-Scholes valuation method for all awards, net of tax |   | (3,976                             | )      | (4,176                            | )      | (11,928 | ) | (12,130 | ) |
| Pro  forma net income (loss)                                                                                                            |   | $                                  | 929    |                              | $      | (30,030 | ) | $ | (9,639 | ) | $ | (66,496 | ) |
|                                                                                                                                    |   |                               |   |                              |   |   |   |   |   |
| Basic  earnings (loss) per share:                                                                                                       |   |                               |   |                              |   |   |   |   |   |
| As  reported                                                                                                                            |   | $                                  | 0.27   |                              | $      | (1.43 | ) | $ | 0.13 |   | $ | (3.02 | ) |
| Pro  forma                                                                                                                              |   | $                                  | 0.05   |                              | $      | (1.66 | ) | $ | (0.54 | ) | $ | (3.69 | ) |
|                                                                                                                                    |   |                               |   |                              |   |   |   |   |   |
| Diluted  earnings (loss) per share:                                                                                                     |   |                               |   |                              |   |   |   |   |   |
| As  reported                                                                                                                            |   | $                                  | 0.26   |                              | $      | (1.43 | ) | $ | 0.13 |   | $ | (3.02 | ) |
| Pro  forma                                                                                                                              |   | $                                  | 0.05   |                              | $      | (1.66 | ) | $ | (0.54 | ) | $ | (3.69 | ) |

 

**7.****                   SegmentInformation**

 

In accordance withSFAS No. 131, “Disclosures about Segments of an Enterprise and RelatedInformation,” segment information is as follows: 

 
|                                   |   | **North  America** |    | **Europe** |   | **Asia** |   | **Eliminations** |    | **Total** |   |
|----------------------------------------|--------|--------------------|---------|------------|--------|----------|--------|------------------|---------|-----------|--------|
|                                   |   |               |    |       |   |     |   |             |    |      |   |
| **Three  Months Ended March 31, 2002** |   |               |    |       |   |     |   |             |    |      |   |
| Revenue, net                           |   | $                  | 42,385  |       | $      | 15,223   |   | $                | 25,749  |      | $      | — |   | $ | 83,357 |   |
| Transfers  between geographic segments |   | 6,018              |    | 788        |   | 5,764    |   | (12,570          | )       | —    |   |
|                                   |   | $                  | 48,403  |       | $      | 16,011   |   | $                | 31,513  |      | $      | (12,570 | ) | $ | 83,357 |   |
| Net income  (loss)                     |   | $                  | 589     |       | $      | (1,189   | )      | $                | 5,505   |      | $      | — |   | $ | 4,905 |   |
|                                   |   |               |    |       |   |     |   |             |    |      |   |
| **Nine  Months Ended March 31, 2002**  |   |               |    |       |   |     |   |             |    |      |   |
| Revenue, net                           |   | $                  | 125,348 |       | $      | 43,812   |   | $                | 78,283  |      | $      | — |   | $ | 247,443 |   |
| Transfers  between geographic segments |   | 18,062             |    | 1,780      |   | 20,690   |   | (40,532          | )       | —    |   |
|                                   |   | $                  | 143,410 |       | $      | 45,592   |   | $                | 98,973  |      | $      | (40,532 | ) | $ | 247,443 |   |
| Net income  (loss)                     |   | $                  | (11,969 | )          | $      | (6,033   | )      | $                | 20,291  |      | $      | — |   | $ | 2,289 |   |
|                                   |   |               |    |       |   |     |   |             |    |      |   |
| **June 30, 2002**                      |   |               |    |       |   |     |   |             |    |      |   |
| Identifiable  assets                   |   | $                  | 338,314 |       | $      | 102,883  |   | $                | 331,598 |      | $      | — |   | $ | 772,795 |   |
|                                   |   |               |    |       |   |     |   |             |    |      |   |
| **Three  Months Ended March 31, 2003** |   |               |    |       |   |     |   |             |    |      |   |
| Revenue, net                           |   | $                  | 38,304  |       | $      | 13,913   |   | $                | 23,924  |      | $      | — |   | $ | 76,141 |   |
| Transfers  between geographic segments |   | 2,312              |    | —     |   | 3,979    |   | (6,291           | )       | —    |   |
|                                   |   | $                  | 40,616  |       | $      | 13,913   |   | $                | 27,903  |      | $      | (6,291 | ) | $ | 76,141 |   |
| Net loss                               |   | $                  | (8,286  | )          | $      | (17,498  | )      | $                | (70     | )         | $      | — |   | $ | (25,854 | )  |
|                                   |   |               |    |       |   |     |   |             |    |      |   |
| **Nine  Months Ended March 31, 2003**  |   |               |    |       |   |     |   |             |    |      |   |
| Revenue, net                           |   | $                  | 116,252 |       | $      | 43,786   |   | $                | 81,312  |      | $      | — |   | $ | 241,350 |   |
| Transfers  between geographic segments |   | 5,643              |    | 270        |   | 14,281   |   | (20,194          | )       | —    |   |
|                                   |   | $                  | 121,895 |       | $      | 44,056   |   | $                | 95,593  |      | $      | (20,194 | ) | $ | 241,350 |   |
| Net income  (loss)                     |   | $                  | (36,727 | )          | $      | (32,542  | )      | $                | 14,903  |      | $      | — |   | $ | (54,366 | )  |
|                                   |   |               |    |       |   |     |   |             |    |      |   |
| **March  31, 2003**                    |   |               |    |       |   |     |   |             |    |      |   |
| Identifiable assets                    |   | $                  | 249,891 |       | $      | 114,069  |   | $                | 366,931 |      | $      | — |   | $ | 730,891 |   |

 

Products aretransferred between geographic areas on a basis intended to approximate themarket value of such products.

 

9

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# **8.**                   Income Taxes

 

The provision for (benefit from)income taxes differs from the amounts computed by applying the federalstatutory rate of 35 percent to consolidated income (loss) before income taxesand minority interest as a result of our reduced tax rates in certain Asianjurisdictions, our inability to record deferred tax benefits for net operatinglosses generated in certain tax jurisdictions and our need to place a valuationallowance on certain other deferred tax assets as discussed below.

 

During the nine months endedMarch 31, 2003, we recorded valuation allowances against our net deferred taxassets in the U.S. and in Europe (primarily related to net operating losscarryforwards). The restructuring in Germany (see note 9), also resulted in acharge for a valuation allowance of $1,812 during the three months endedDecember 31, 2002. The valuation allowances were recorded under the provisionsof SFAS No. 109, “Accounting forIncome Taxes,” which requires an assessment of positive and negative evidencewhen determining the need for a valuation allowance. Historical evidence, suchas the operating results in the U.S. and Europe during the most recentthree-year period, is weighted more heavily in this assessment as compared tofuture expected results because of the uncertainty of actually achievingforecasted results. Our cumulative U.S. losses and European losses in the mostrecent three-year period represent sufficient negative evidence to require avaluation allowance against our U.S. and European net deferred tax assets. Weintend to maintain valuation allowances until sufficient positive evidenceexists to support their reversal.

 

Additionally, during the ninemonths ended March 31, 2003, we received income tax refunds of approximately$23,300 by carrying U.S. net operating losses back to prior years.

 

# **9.**                   Special Charges

 

*Fiscal2002*

 

In the three months ended March31, 2002, we recorded pre-tax special charges totaling $7,393 related to costreduction programs in the United States and Europe and acquired in-process researchand development.  These initiatives werecompleted during the three months ended March 31, 2002 and the relatedliabilities were completely settled by September 30, 2002.

 

*Fiscal2003*

 

During the three months endedDecember 31, 2002, we recorded special charges totaling $12,507 related toemployee severance, facility closure costs and equipment lease terminationcosts resulting from our decision to consolidate certain operations in theUnited States and Europe.  The specialcharges related to the United States and Europe were $6,200 and $6,307,respectively.  These special chargeswere the result of programs that were implemented to reduce costs, improveproductivity and enhance customer service. The integration and consolidation initiatives in the United States werecompleted as of December 31, 2002 and the related liabilities weresubstantially settled as of March 31, 2003. Our consolidation plans for our photomask production facilities inRousset, France and Hamburg, Germany were subject to compliance with local lawsand regulations, including consultations and negotiations with the relevantworks councils that were completed during the three months ended March 31,2003.  We plan to vacate the leasedmanufacturing facility in Hamburg, Germany, complete the consolidationinitiatives in Europe and settle the related liabilities by December 31, 2003.

 

During the three months endedMarch 31, 2003, we recorded additional special charges totaling $9,247 relatedto employee severance, facility closure costs and the abandonment of long-livedassets.  Of the $9,247 recorded, $6,294related to initiatives adopted during the three months ended December 31, 2002and $2,953 related to initiatives adopted during the three months ended March31, 2003.  In relation to initiativesadopted during the three months ended December 31, 2002, employee severancecosts totaling $6,142 were recorded as a result of the completed works councilsconsultations and negotiations. Employee severance costs recorded during the three months ended March31, 2003 exclude amounts related to positions in our Rousset, France facilityassociated with employees that had been offered transfers to ourCorbeil-Essones, France facility in lieu of severance because these employeeshad through April 2003 to accept our offers to transfer. We only recordedemployee severance costs associated with the employees that declined our offersto transfer as of March 31, 2003 and consequently, expect to incur additionalemployee severance charges during the three months ending June 30, 2003. Inaddition, we recorded $152 of additional asset impairment costs during thethree months ended March 31, 2003 related to our Hamburg, Germanyfacility.  During the three months endedMarch 31, 2003, we adopted additional programs to reduce costs, improveproductivity and enhance customer service. The adoption of these additional programs resulted in the reduction ofour United States and Asia workforce and our abandonment of long-lived assetsin our Rousset, France facility. Employee severance charges of $935 were recorded in the United Statesalong with $299 in Asia, and the asset abandonment charges in France totaled$1,719.  The related employee severanceinitiatives are expected to be completed and the associated liabilities areexpected to be substantially settled during the three months ending June 30,2003.

 

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A summary of the related accruedliabilities is shown below:

 
|                                                |   | **Asset  Impairment** |   | **Employee  Severance** |   | **Lease  Termination  and Other  Costs** |   | **Total** |   |
|-----------------------------------------------------|--------|-----------------------|--------|-------------------------|--------|------------------------------------------|--------|-----------|--------|
|                                                |   |                  |   |                    |   |                                     |   |      |   |
| Charges during  the quarter ended December 31, 2002 |   | $                     | 8,754  |                    | $      | 1,527                                    |   | $         | 2,226  |   | $ | 12,507 |   |
| Utilized as of  December 31, 2002                   |   | (3,816                | )      | (322                    | )      | —                                   |   | (4,138    | )      |
|                                                |   |                  |   |                    |   |                                     |   |      |   |
| Remaining  liability at December 31, 2002           |   | 4,938                 |   | 1,205                   |   | 2,226                                    |   | 8,369     |   |
|                                                |   |                  |   |                    |   |                                     |   |      |   |
| Charges during  the quarter ended March 31, 2003    |   | 1,871                 |   | 7,376                   |   | —                                   |   | 9,247     |   |
| Utilized as of  March 31, 2003                      |   | (5,502                | )      | (228                    | )      | (236                                     | )      | (5,966    | )      |
|                                                |   |                  |   |                    |   |                                     |   |      |   |
| Remaining  liability at March 31, 2003.             |   | $                     | 1,307  |                    | $      | 8,353                                    |   | $         | 1,990  |   | $ | 11,650 |   |

 

# **10.**            Warranties

 

Provision is made for an estimate of product warrantyclaims based on historical experience and is recorded as an increase to cost ofgoods sold in the accompanying consolidated income statement.  Warranty liabilities are accounted for inother accrued liabilities in the accompanying consolidated balance sheet.

 

Changes in our warranty liability were as follows:

 
|                              |   | **Balance at  June 30,  2002** |   | **Accruals  for  Warranties  Issued** |   | **Settlements  Made in Kind** |   | **Balance at  March 31,  2003** |   |
|-----------------------------------|--------|--------------------------------|--------|---------------------------------------|--------|-------------------------------|--------|---------------------------------|--------|
|                              |   |                           |   |                                  |   |                          |   |                            |   |
| Nine Months  ended March 31, 2003 |   | $                              | 250    |                                  | $      | 839                           |   | $                               | (839   | ) | $ | 250 |   |
|                                   |        |                                |        |                                       |        |                               |        |                                 |        |  |  |  |  |

 

# **11.**            Commitments and Contingencies

 

We have various purchase commitments incidental to thenormal course of business, including non-refundable deposits to purchaseequipment. In the aggregate, such commitments are not at prices in excess ofcurrent market.

 

We guarantee a portion of certain equipment leases ofthe DPI Reticle Technology Center, L.L.C., or RTC. Our portion of the futureminimum lease payments of the RTC aggregated approximately $3,670 as of March31, 2003. We are also committed to fund approximately 25 percent of the costsrelated to the maintenance and overhead of the leased equipment through June2004.

 

We, along with Infineon and AMD, have establishedjoint ventures in Dresden, Germany to conduct leading edge photomask researchand pilot manufacturing. The ventures consist of the Advanced Mask TechnologyCenter GmbH & Co. KG, or AMTC, and the Maskhouse Building Administration GmbH& Co. KG, or BAC. The AMTC will conduct photomask research and pilotmanufacturing. The BAC is the owner of a state-of-the-art photomask researchand manufacturing facility that is currently under construction. We will leaseapproximately 50 percent of the facility from the BAC for advanced photomaskmanufacturing and the remainder will be leased by the AMTC. Both leases will befor 10-year terms. In addition, we are committed to funding a portion of theoperating cash requirements of the AMTC under the research and developmentreimbursement and capacity utilization obligations. We expect our portion to beapproximately 33 percent through September 2003 and to vary betweenapproximately 22 percent to 26 percent thereafter.

 

We have also guaranteed one-third of the BAC’s 75.0million Euro ($81,765 at March 31, 2003) construction bridge loan, which had59.1 million Euro ($64,456 at March 31, 2003) outstanding at March 31, 2003.The construction bridge loan provides for interest at Euribor plus 1.5 percentover the term of the loan. The maturity date is the earlier of the initial drawdown under the term loan discussed below or June 2003. Each of the partners ofthe joint venture executed guarantees for one-third of the total outstandingdebt, up to 25.0 million Euro ($27,255 at March 31, 2003)  and certain additional costs as defined inthe loan agreement for as long as any obligation remains outstanding on theloan. We will be required to honor our guarantee if the BAC fails to maketimely payments under the bridge loan; breaches certain financial covenants;fails to construct the facility as planned; becomes insolvent; or in any otherway defaults under the loan agreement. We will also be required to honor ourguarantee if any of the owners of the BAC breach certain terms of the jointventure agreement, become insolvent or cease doing business, experience amaterial adverse change affecting their obligations under the guarantee, failto pay their respective indebtedness in excess of 50.0 million Euro ($54,510 atMarch 31, 2003), or otherwise experience an event constituting a default underthe loan agreement.

 

In December 2002, the BAC executed a 75.0 million Euro($81,765 at March 31, 2003) term loan agreement for the repayment of theconstruction bridge loan. There was no outstanding balance on this loan atMarch 31, 2003. The term loan provides for interest at

 

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Euribor plus 1.5 percentover the term of the loan. Repayment of the loan is scheduled for approximatelyequal quarterly payments beginning in the quarter following the firstutilization date and continuing through June 2012. Each of the partners of thejoint venture executed guarantees for one-third of the total outstanding debt,or 25.0 million Euro ($27,255 at March 31, 2003) and certain additional costsas defined in the loan agreement until the occupancy of the building and rentalpayments begin. Thereafter, we have no guarantee related to the term loanunless the lenders become liable to return monies received in payment of theindebtedness as a result of any bankruptcy, composition or similar proceedingsaffecting the BAC. We will be required to honor our guarantee if the BAC failsto make timely payments under the term loan; breaches certain financialcovenants; becomes insolvent; or in any other way defaults under the loanagreement. We will also be required to honor our guarantee if any of the ownersof the BAC breach certain terms of the joint venture agreement, becomeinsolvent or cease doing business, experience a material adverse changeaffecting their obligations under the guarantee, fail to pay their respectiveindebtedness in excess of 50.0 million Euro ($54,510 at March 31, 2003), orotherwise experience an event constituting a default under the loan agreement.

 

Also in December 2002, the AMTC executed a 120.0million Euro ($130,824 at March 31, 2003) revolving credit loan for thepurchase of equipment. There was no outstanding balance on this loan at March31, 2003. The loan provides for interest at Euribor plus 1.2 percent over theterm of the loan. Repayment of each revolving credit loan must be made on itsmaturity date. The maturity date of the revolving credit loan is the earlier ofDecember 2007 or the termination of the joint venture agreement resulting froma change in ownership for the AMTC. Each of the partners of the joint ventureexecuted guarantees for 32.0 million Euro ($34,886 at March 31, 2003) andcertain additional costs as defined in the loan agreement for as long as anyobligation remains outstanding on the loan. We will be required to honor ourguarantee if the AMTC fails to make timely payments under the revolving creditloan; breaches certain financial covenants; becomes insolvent; or in any otherway defaults under the loan agreement. We will also be required to honor ourguarantee if any of the owners of the AMTC breach certain terms of the jointventure agreement, become insolvent or cease doing business, experience amaterial adverse change affecting their obligations under the guarantee, failto pay their respective indebtedness in excess of 50.0 million Euro ($54,510 atMarch 31, 2003), or otherwise experience an event constituting a default underthe loan agreement.

 

We have established a profit sharing plan with the BindKeyemployees, which will be paid out over the next four years, based on BindKey’safter-tax net income. Subject to future milestones, the employees may earn asmuch as $165,000, which will be expensed in the period earned.

 

In May 2002, we entered into an agreement to acquirephotomask production equipment from Infineon’s internal photomask manufacturingoperations in Munich, Germany and become Infineon’s strategic photomasksupplier.  In consideration for the acquisitionof certain photomask production assets and the agreement to supply Infineonwith photomasks over the 10-year term of the agreement, we will pay Infineon$53,500 over a seven-year period ending in March 2009. In April 2003, we madethe first payment of $10,000.

 

In March 2002, we sold all of our photoblankmanufacturing assets located in Poughkeepsie, New York, to Schott Lithotec AG,or Schott. We also entered into a supply agreement with Schott for our futurepurchases of photoblanks and agreed to purchase a significant portion of our photoblankrequirements from Schott over the term of the supply agreement.

 

We are subject to litigation in the normal course ofbusiness. We believe the effect, if any, of an unfavorable resolution of suchlitigation would not have a material adverse impact on our financial position,results of operations, cash flows or liquidity.

 

Our operations and our ownership of real property aresubject to various environmental laws and regulations that govern, among otherthings, the discharge of pollutants into the air and water and the handling,use, storage, disposal and clean-up of solid and hazardous wastes. Compliancewith such laws and regulations requires that we incur capital expenditures andoperating costs in connection with our ongoing operations. In addition, suchlaws and regulations may impose liabilities on owners and operators ofbusinesses and real property without regard to fault and such liabilities maybe joint and several with other parties. More stringent environmental laws andregulations may be enacted in the future, which may require us to expendadditional amounts on environmental compliance or may require modifications toour operations. Although we are unable to predict the extent of our futureliability with respect to any environmental matters, we believe, based uponcurrent information, that environmental liabilities will not be material to ourfinancial position or results of operations. E.I. duPont de Nemours &Company, or DuPont, has agreed to indemnify us for any environmental contaminationpresent on our manufacturing sites at June 13, 1996, the date of our initialpublic offering, or present at any such site due to the generation, use,treatment, storage, release, emission, discharge or disposal of hazardous wasteor hazardous materials before such date. The Environmental Protection Agency isreviewing a groundwater contamination issue at our Danbury, Connecticut siteunder voluntary corrective action. Any such contamination is believed to beoffsite or historical, and, if that is the case, any environmental liabilitieswould be covered by the indemnification agreement with DuPont.

 

# **12.**            Subsequent Event

 

On May 5, 2003 we issued$125,000 aggregate principal amount of 1.25 percent convertible subordinatednotes due May 15, 2008. The notes are convertible at any time prior to maturityinto shares of our common stock at a conversion price of $25.595 per share andare not callable.  We have reserved4,883,725 shares of our common stock for conversion of the notes.  The net proceeds from the

 

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noteswill be used for general corporate purposes, including working capital, and mayalso be used to acquire additional businesses, products, and technologies andto invest in joint ventures. We may also use a portion of the proceeds torepurchase or repay our outstanding convertible subordinated notes due 2004.

 

**Item 2.**

 

**MANAGEMENT’S****DISCUSSIONAND ANALYSIS OF**

**FINANCIAL CONDITION AND RESULTS OFOPERATIONS**

 

The followingdiscussion and analysis of the financial condition and results of operationsshould be read in conjunction with our consolidated financial statements andrelated notes thereto. References to years are to fiscal years ended June 30.Results for interim periods are not necessarily indicative of results for thefull year.

 

**Overview**

 

Based on worldwiderevenue, we are one of the largest photomask manufacturers in the world. Wesell our products to over 400 customers and customer sites in 19 differentcountries. Essentially all of our sales are to customers in the semiconductormanufacturing industry. We manufacture a broad range of photomasks based oncustomer-supplied design data. We also manufacture pellicles, primarily forinternal consumption.  Pellicles are oneof the principal components of photomasks, and protect the photomask fromparticle contamination. We operate globally with established manufacturingfacilities in North America, Europe and Asia.

 

We believe that,over the long-term, the market for photomasks in the semiconductor manufacturingprocess will increase due to the following trends:

 

•  Proliferationof semiconductor applications;

•  Customizationof semiconductor designs;

•  Increasingsemiconductor device complexity; and

•  Decreasing sizeof semiconductor designs.

 

These trends haveincreased the importance of photomask technology in the semiconductormanufacturing process. As a result of these trends, coupled with ouracquisitions of captive photomask operations, our annual revenue increased atan average annual compounded rate of 9 percent from 1999 to 2002.

 

Photomaskmanufacturing operations are capital intensive. Accordingly, at a giventhreshold of manufacturing capacity, a high proportion of our operating costsare fixed and remain relatively constant as sales volume increases ordecreases. To the extent that we have under-utilized production capacity,operating profit increases or decreases disproportionately as sales volumeincreases or decreases.

 

**Resultsof Operations**

 

*Revenue, net.*  Revenue, net is comprised primarily ofphotomask sales to semiconductor manufacturers. Revenue, net decreased 8.7percent from $83.4 million in the three months ended March 31, 2002 to $76.1million in the three months ended March 31, 2003. Revenue, net decreased 2.5percent from $247.4 million in the nine months ended March 31, 2002 to $241.4million in the nine months ended March 31, 2003. For the nine months endedMarch 31, 2002 and 2003, respectively, revenue, net produced in North Americadecreased from $125.3 million to $116.3, revenue, net produced in Europeremained level at $43.8 million and revenue, net produced in Asia increasedfrom $78.3 million to $81.3 million. We experienced an increase in unit demandfrom the three months and nine months ended March 31, 2003 as compared to thethree months and nine months ended March 31, 2002, respectively. However,overall average selling prices decreased during the three months and ninemonths ended March 31, 2003 as compared to the three months and nine monthsended March 31, 2002, respectively. Revenue,net was also negatively impacted by work stoppages in Europe and by a customerthat required us to re-certify one of our facilities in Asia. Partiallyoffsetting these negative impacts was a $1.5 million benefit related to arevision of a sales rebate estimate recorded previously. We expect revenues tobe between $80.0 million and $84.0 million for the three months ending June 30,2003.

 

*Cost of Goods Sold.*  Cost of goods sold consists of materials,labor, depreciation and overhead.  Costof goods sold increased 13.8 percent from $65.5 million to $74.5 million forthe three months ended March 31, 2002 and 2003, respectively. Cost of goodssold increased 8.0 percent from $200.1 million to $216.2 million for the ninemonths ended March 31, 2002 and 2003, respectively. Gross profit margindecreased from 21.5 percent for the three months ended March 31, 2002 to 2.2percent for the three months ended March 31, 2003. Gross profit margindecreased from 19.1 percent for the nine months ended March 31, 2002 to 10.4percent for the nine months ended March 31, 2003. Changes in cost of goods soldand gross profit margin resulted primarily from a decline in revenues,increased

 

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costs associated with acustomer re-certification, costs related to the consolidation of trailing edgeproduction in Europe, costs related to the ramp up of our advanced productionfacility in Dresden, Germany and increased depreciation expense. We expect thatgross profit margins will experience near term pressure primarily as a resultof the start-up costs for our Dresden, Germany manufacturing facility andconsolidation costs in Europe.

 

*Selling, General and AdministrativeExpense.*  Selling,general and administrative expense includes salaries of sales andadministrative personnel, marketing expense, general and administrative expenseand product distribution expense. Selling, general and administrative expenseincreased 7.0 percent from $10.4 million for the three months ended March31, 2002 to $11.2 million for the three months ended March 31, 2003.Selling, general and administrative expense as a percentage of revenueincreased from 12.5 percent for the three months ended March 31, 2002 to 14.7percent for the three months ended March 31, 2003. Selling, general andadministrative expense increased 5.0 percent from $30.0 million for thenine months ended March 31, 2002 to $31.5 million for the nine monthsended March 31, 2003. Selling, general and administrative expense as a percentageof revenue increased from 12.1 percent for the nine months ended March 31, 2002to 13.1 percent for the nine months ended March 31, 2003. The increases inselling, general and administrative expense were primarily a result of Europeanconsolidation costs, merit salary increases and ongoing staffing of BindKey andthe Dresden facility. We expect selling, general and administrative expensewill be at or near the current levels in the three months ending June 30, 2003.

 

*Research and Development Expense.*  Research and development expense consistsprimarily of employee costs, cost of consumed materials, depreciation,engineering related costs and our share of costs of the RTC and AMTC. Researchand development expense decreased 15.2 percent from $7.7 million for thethree months ended March 31, 2002 to $6.6 million for the three months endedMarch 31, 2003.  As a percentage ofrevenue it decreased from 9.3 percent for the three months ended March 31, 2002to 8.6 percent for the three months ended March 31, 2003. The decrease wasprimarily a result of reduced costs arising from the modification and extensionof our agreement with the RTC partners. Research and development expenseincreased 3.1 percent from $21.1 million for the nine months ended March31, 2002 to $21.7 million for the nine months ended March 31, 2003.  As a percentage of revenue it increased from8.5 percent for the nine months ended March 31, 2002 to 9.0 percent for thenine months ended March 31, 2003. BindKey’s electronic design automation, orEDA, software development expenses and startup expenses of the AMTC contributedto the increase. We expect that research and development expense will be 10-11percent of revenue as we incur our share of the costs from the ramp up of theAMTC in the three months ending June 30, 2003.

 

*Special Charges*.

 

*Fiscal 2002*

 

In the three months ended March 31, 2002, we recorded pre-tax specialcharges totaling $7.4 million related to cost reduction programs in the United States and Europe and acquiredin-process research and development. These initiatives were completed during the three months ended March 31,2002 and the related liabilities were completely settled by September 30, 2002.

 

*Fiscal 2003*

 

During the three months ended December 31, 2002, we recorded specialcharges totaling $12.5 million related to employee severance, facility closurecosts and equipment lease termination costs resulting from our decision toconsolidate certain operations in the United States and Europe.  The special charges related to the UnitedStates and Europe were $6.2 million and $6.3 million, respectively.  These special charges were the result ofprograms that were implemented to reduce costs, improve productivity andenhance customer service.  Theintegration and consolidation initiatives in the United States were completedas of December 31, 2002 and the related liabilities were substantially settledas of March 31, 2003.  Our consolidationplans for our photomask production facilities in Rousset, France and Hamburg,Germany were subject to compliance with local laws and regulations, includingconsultations and negotiations with the relevant works councils that werecompleted during the three months ended March 31, 2003.  We plan to vacate the leased manufacturingfacility in Hamburg, Germany, complete the consolidation initiatives in Europeand settle the related liabilities by December 31, 2003.

 

During the three months ended March 31, 2003, we recorded additionalspecial charges totaling $9.2 million related to employee severance, facilityclosure costs and the abandonment of long-lived assets.  Of the $9.2 million recorded, $6.3 millionrelated to initiatives adopted during the three months ended December 31, 2002and $2.9 million related to initiatives adopted during the three months endedMarch 31, 2003.  In relation toinitiatives adopted during the three months ended December 31, 2002, employeeseverance costs totaling $6.1 million were recorded as a result of thecompleted works councils consultations and negotiations.  Employee severance costs recorded during thethree months ended March 31, 2003 exclude amounts related to positions in ourRousset, France facility associated with employees that had been offeredtransfers to our Corbeil-Essones, France facility in lieu of severance becausethese employees had through April 2003 to accept our offers to transfer. Weonly recorded employee severance costs associated with the employees thatdeclined our offers to transfer as of March 31, 2003 and consequently, expectto incur additional employee severance charges during the three months endingJune 30, 2003 of approximately $3.7 million. In addition, we recorded $0.2 million of additional asset impairmentcosts during the

 

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threemonths ended March 31, 2003 related to our Hamburg, Germany facility.  During the three months ended March 31,2003, we adopted additional programs to reduce costs, improve productivity andenhance customer service.  The adoptionof these additional programs resulted in the reduction of our United States andAsia workforce and our abandonment of long-lived assets in our Rousset, Francefacility.  Employee severance charges of$0.9 million were recorded in the United States along with $0.3 million in Asia,and the asset abandonment charges in France totaled $1.7 million.  The related employee severance initiativesare expected to be completed and the associated liabilities are expected to besubstantially settled during the three months ending June 30, 2003.

 

A summary of the related accrued liabilities is shown below:

 
|                                                |   | **Asset  Impairment** |   | **Employee  Severance** |   | **Lease  Termination  and Other  Costs** |   | **Total** |   |
|-----------------------------------------------------|--------|-----------------------|--------|-------------------------|--------|------------------------------------------|--------|-----------|--------|
|                                                |   |                  |   |                    |   |                                     |   |      |   |
| Charges during  the quarter ended December 31, 2002 |   | $                     | 8.8    |                    | $      | 1.5                                      |   | $         | 2.2    |   | $ | 12.5 |   |
| Utilized as of  December 31, 2002                   |   | (3.8                  | )      | (0.3                    | )      | —                                   |   | (4.1      | )      |
|                                                |   |                  |   |                    |   |                                     |   |      |   |
| Remaining  liability at December 31, 2002           |   | 5.0                   |   | 1.2                     |   | 2.2                                      |   | 8.4       |   |
|                                                |   |                  |   |                    |   |                                     |   |      |   |
| Charges during  the quarter ended March 31, 2003    |   | 1.9                   |   | 7.3                     |   | —                                   |   | 9.2       |   |
| Utilized as of  March 31, 2003                      |   | (5.5                  | )      | (0.2                    | )      | (0.2                                     | )      | (5.9      | )      |
|                                                |   |                  |   |                    |   |                                     |   |      |   |
| Remaining  liability at March 31, 2003              |   | $                     | 1.4    |                    | $      | 8.3                                      |   | $         | 2.0    |   | $ | 11.7 |   |

 

*Gain on Sale of Assets.*  Gain on sale of assets represents the gainrecognized upon the sale of all the assets related to our photoblanks manufacturingoperations located in Poughkeepsie, New York to Schott for approximately $31.6million.

 

*Other Income (Expense), net.*  Other income (expense), net includes loss onwarrants, interest expense, interest income and exchange gains and losses.  Other income (expense), net was$(0.2) million and $(1.1) million for the three months ended March 31,2002 and 2003, respectively. Other income (expense), net was $1.1 millionand $(1.0) million for the nine months ended March 31, 2002 and 2003, respectively.The decrease was primarily due to lower interest income reflecting lowerinterest rates and exchange losses from foreign currency movements.

 

*Provision For (Benefit From) Income Taxes.*The provision for (benefit from) incometaxes differs from the amounts computed by applying the federal statutory rateof 35 percent to consolidated income (loss) before income taxes and minorityinterest as a result of our reduced tax rates in certain Asian jurisdictions,our inability to record deferred tax benefits for net operating lossesgenerated in certain tax jurisdictions and our need to place a valuationallowance on certain other deferred tax assets as discussed below.

 

Duringthe nine months ended March 31, 2003, we recorded valuation allowances againstour net deferred tax assets in the U.S. and Europe (primarily related to netoperating loss carryforwards). The restructuring in Germany, also resulted in acharge for a valuation allowance of $1.8 million during the three months endedDecember 31, 2002. The valuation allowances were recorded under the provisionsof SFAS No. 109, “Accounting forIncome Taxes,” which requires an assessment of positive and negative evidencewhen determining the need for a valuation allowance. Historical evidence, suchas the operating results in the U.S. and Europe during the most recentthree-year period, is weighted more heavily in this assessment as compared tofuture expected results because of the uncertainty of actually achievingforecasted results. Our cumulative U.S. losses and European losses in the mostrecent three-year period represent sufficient negative evidence to require avaluation allowance against our U.S. and European net deferred tax assets. Weintend to maintain valuation allowances until sufficient positive evidenceexists to support their reversal.

 

Additionally,during the nine months ended March 31, 2003, we received income tax refunds of$23.3 million by carrying U.S. net operating losses back to prior years.

 

*Minority Interest in (Income) Lossof Joint Ventures.* Minority interest in (income) loss ofjoint ventures reflects our partners’ share of the (earnings) loss of ourconsolidated joint venture operations. The minority interest impact of ourjoint ventures was $(1.0) million for the three months ended March 31, 2002 and$0.6 million for the three months ended March 31, 2003. The minority interestimpact of our joint ventures was $(5.0) million for the nine months ended March31, 2002 and $(2.2) million for the nine months ended March 31, 2003. Thedecreases were a result of lower revenues and increased production costs.

 

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**Liquidityand Capital Resources**

 

Our workingcapital was $129.0 million at June 30, 2002 and $94.5 million at March 31,2003. The decrease in working capital was primarily a result of decreased tradereceivables, capital expenditures and funding of the Infineon commitments. Cashand cash equivalents were $138.9 million at June 30, 2002 and $136.1million at March 31, 2003. Cash provided by operating activities of$46.8 million for the nine months ended March 31, 2003 was primarily aresult of our net loss adjusted for non-cash charges and the receipt of incometax refunds of approximately $23.3 million.

 

Cash used ininvesting activities was $88.2 million and $51.9 million for the nine monthsended March 31, 2002 and 2003, respectively. Cash used for capital expenditures was $87.7 million and$52.0 million for the nine months ended March 31, 2002 and 2003,respectively. Management expects capital expenditures for fiscal 2003 to beapproximately $65.0 million. Capital expenditures have been and will be usedprimarily to expand and to advance our manufacturing and technicalcapabilities. In addition, we may in the future pursue additional acquisitionsof businesses, products and technologies, or enter into other joint venturearrangements that could complement or expand our business. Any materialacquisition or joint venture could result in a decrease to our working capitaldepending on the amount, timing and nature of the consideration to be paid.

 

Cash provided byfinancing activities was $7.7 million and $1.7 million for the nine monthsended March 31, 2002 and 2003, respectively. For the nine months ended March 31, 2002, our employees purchased $2.7million of common stock under our employee plans.

 

Our ongoing cashrequirements will be primarily for capital expenditures, acquisitions, researchand development and working capital. Management believes that cash on hand and any cash provided by operationswill be sufficient to meet our cash requirements for at least the next 12months. Thereafter, based on our current operating plans, we may requireexternal financing from time to time to fund our capital expenditurerequirements.  There can be no assurancethat alternative sources of financing will be available if our capitalrequirements exceed cash flow from operations. There can be no assurance thatwe will be able to obtain any additional financing required to fund our capitalneeds on reasonable terms, or at all.

 

The followingsummarizes our contractual cash obligations as of March 31, 2003 (in millions):

 
|                                |   |      |   | **Payments  Due for the Periods ending March 31,** |   |
|-------------------------------------|--------|-----------|--------|----------------------------------------------------|--------|
|                                |   | **Total** |   | **Year  2004**                                     |   | **Two Years  2005-2006** |   | **Two Years  2007-2008** |   | **Beyond** |   |
| Long-term debt                      |   | $         | 111.1  |                                               | $      | 10.7 |   | $ | 100.0 |   | $ | 0.4 |   | $ | — |   |
| Capital lease  obligations          |   | 2.8       |   | 1.1                                                |   | 0.4 |   | 0.3 |   | 1.0 |   |
| Operating leases                    |   | 12.6      |   | 3.0                                                |   | 3.2 |   | 2.4 |   | 4.0 |   |
| Other long-term  obligations        |   | 3.2       |   | —                                             |   | — |   | — |   | 3.2 |   |
| Total  contractual cash obligations |   | $         | 129.7  |                                               | $      | 14.8 |   | $ | 103.6 |   | $ | 3.1 |   | $ | 8.2 |   |

 

The followingsummarizes our other commercial commitments as of March 31, 2003 (in millions):

 
|                          |   |      |   | **Amount of  Commitment Expiration by Periods Ending March 31,** |   |
|-------------------------------|--------|-----------|--------|------------------------------------------------------------------|--------|
|                          |   | **Total** |   | **Year  2004**                                                   |   | **Two Years  2005-2006** |   | **Two Years  2007-2008** |   | **Beyond** |
| Guarantees                    |   | $         | 25.2   |                                                             | $      | 25.2 |   | $ | — |   | $ | — |   | $ | — |
| Other commercial  commitments |   | 71.6      |   | 18.1                                                             |   | 23.9 |   | 26.1 |   | 3.5 |
| Total commercial  commitments |   | $         | 96.8   |                                                             | $      | 43.3 |   | $ | 23.9 |   | $ | 26.1 |   | $ | 3.5 |
|                               |        |           |        |                                                                  |        |  |  |  |  |  |  |  |  |  |  |  |

 

Guarantees includeour portion of certain equipment leases of the RTC with future minimum leasepayments aggregating approximately $3.7 million as of March 31, 2003. We havealso guaranteed one-third of the BAC’s 75.0 million Euro ($81.8 million atMarch 31, 2003) construction bridge loan, which had 59.1 million Euro ($64.5million at March 31, 2003) outstanding at March 31, 2003. During December 2002,the BAC and AMTC executed a loan agreement that included a term loan of 75.0million Euro ($81.8 million at March 31, 2003) and a revolving credit loan of120.0 million Euro ($130.8 million). As of March 31, 2003, there were nooutstanding balances under either loan. The term loan will be used to repay theconstruction bridge loan and the revolving credit loan will be used forequipment acquisitions. We expect the term loan to be funded in the fourthquarter of fiscal 2003. We have guaranteed one-third of the term loan until theBAC building is occupied and lease payments begin. We have guaranteed 32.0million Euro ($34.9 million at March 31, 2003) of the revolving credit loan.Each of these guarantees include certain other costs as defined in the loanagreement. We will be required to honor our guarantees upon the occurrence ofan event of default as defined in the loan agreement.

 

The BAC and AMTCare in discussions with their lenders regarding an extension of BAC’s existingconstruction bridge loan and an interim equipment financing for the AMTC. Ifthe existing bridge loan for BAC is not successfully extended or refinanced byJune 2003, we could be required to pay our one-third share of the outstandingbalance of the bridge loan as of June 2003.

 

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Other commercialcommitments include our equipment purchase commitments to Infineon ofapproximately $28.1 million payable through December 2006 and our approximately$53.5 million long-term supply contract and equipment purchase commitment withInfineon that requires payments through March 2009. We made the first $10.0million payment in April 2003. We may, at our discretion, pay approximately$30.2 million of the commitments to Infineon in shares of our common stock. Thenumber of shares required to satisfy this commitment will be based on the fairvalue of our common stock at the time of payment.

 

In addition to thecommitments in the tables above, we are also committed to fund approximately 25percent of the costs related to the maintenance and overhead of the leasedequipment of the RTC through June 2004. Additionally, we are committed to funda portion of the operating cash requirements of the AMTC. We expect our portionto be approximately 33 percent through September 2003 and to vary betweenapproximately 22 percent to 26 percent thereafter. We will lease approximately50 percent of the BAC’s photomask research and manufacturing facility for aterm of 10 years.

 

We have alsoestablished a profit sharing plan with the BindKey employees, which will bepaid out over the next four years, based on BindKey’s after-tax net income.Subject to future milestones, the employees may earn as much as $165.0 million,which will be expensed in the period earned.

 

In March 2002, wesold all of our photoblank manufacturing assets located in Poughkeepsie, NewYork, to Schott Lithotec AG, or Schott. We also entered into a supply agreementwith Schott for our future purchases of photoblanks and agreed to purchase asignificant portion of our photoblank requirements from Schott over the term ofthe supply agreement.

 

# **Critical Accounting Policies**

 

Our criticalaccounting policies are as follows:

 

•          Revenue recognition

 

Product revenue isrecognized when both title and risk of loss transfers to the customer, providedthat no significant obligations remain. Discounts and rebates are recorded as a reduction of revenue during theperiod they are earned by the customer. Provision is made for an estimate of product returns based on historicalexperience and is recorded as a reduction in revenue.  Customarily, our shipping terms are FOB shipping point; however,our final terms depend upon the negotiations with our customers.

 

•          Estimates, specificallysales return allowances, the allowance for doubtful accounts, allowance forexcess and obsolete inventory and depreciation expense

 

The preparation offinancial statements requires us to make estimates and assumptions that affectthe reported amount of assets and disclosure of contingent assets andliabilities at the date of the consolidated financial statements and thereported amounts of revenues and expenses during the reported period.

 

•  We must make estimates ofpotential future product returns related to current period product revenue. Weanalyze historical returns, current economic trends, and changes in customerdemand and acceptance of our products when evaluating the adequacy of the salesreturns and other allowances. Significant management judgments and estimatesmust be made and used in connection with establishing the sales returns andother allowances in any accounting period. Material differences may result inthe amount and timing of our revenue for any period if management madedifferent judgments or utilized different estimates.

•  Similarly, we must makeestimates of the uncollectability of our accounts receivable.  We consider trends of historical bad debts,customer concentrations, customer credit-worthiness, current economic trendsand changes in our customer payment terms when evaluating the adequacy of theallowance for doubtful accounts.  Ifcircumstances change or if our original estimates are otherwise incorrect, wemay have to reduce our estimates of the recoverability of amounts due us by amaterial amount.

•  We write down our inventoryfor estimated obsolescence or unmarketable inventory equal to the differencebetween the cost of inventory and estimated market value based on assumptionson future demands and market conditions. If actual market conditions arematerially less favorable than those projected by management, or if ourestimates of market value are later determined to have been materiallyincorrect, additional inventory writedowns may be required.

 

•          Valuation of intangibleand other long-lived assets

 

We assess the impairmentof identifiable intangibles, other long-lived assets and related goodwillwhenever events or changes in circumstances indicate that the carrying valuemay not be recoverable.  Factorsconsidered important which could

 

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trigger an impairmentreview include the following:

 

•                          Significantunderperformance relative to expected historical or projected future operatingresults;

•                          Significantchanges in the manner of our use of the acquired assets or the strategy for ouroverall business;

•                          Significantnegative industry or economic trends; and

•                          Ourmarket capitalization relative to net book value.

 

When it is determinedthat the carrying value of intangibles, long-lived assets and related goodwillmay not be recoverable based upon the existence of one or more of the aboveindicators of impairment, the measurement of any impairment is determined andthe carrying value is reduced as appropriate.

 

•          Accounting for incometaxes

 

We are required toconsider our income taxes in each of the tax jurisdictions in which we operatein computing our effective income tax rate. This process involves estimating our current tax exposure together withassessing temporary differences resulting from differing treatment of items fortax and financial reporting purposes. These differences result in deferred tax assets and liabilities, which areincluded in our consolidated balance sheet. Further, the actual annual amount of taxable income in each taxjurisdiction may differ from the estimates we use to compute the effective taxrate during our first, second and third quarters.  Additionally, we evaluate the recoverability of the deferred taxassets from future taxable income and establish valuation allowances ifrecovery is not more likely than not. Our income tax provision in the consolidated income statement isimpacted by changes in the valuation allowance.  This process is complex and involves significant managementjudgment in determining our provision for income taxes, deferred tax assets andliabilities and any valuation allowance recorded against our net deferred taxassets.

 

•          Consolidation

 

The consolidatedfinancial statements presented herein include the accounts of DuPontPhotomasks, Inc. and our controlled and wholly-owned subsidiaries. Allsignificant intercompany transactions and accounts are eliminated inconsolidation.  Entities that are notcontrolled but on which we can exercise significant influence are recordedunder the equity method of accounting.

 

# **ForwardLooking Statements**

 

This reportcontains forward-looking statements within the meaning of Section 27A of theSecurities Act of 1933 and Section 21E of the Securities Exchange Act of 1934,that involve a number of risks and uncertainties. Such forward-lookingstatements are generally accompanied by words such as “intend,” “may,” “plan,”“expect,” “believe,” “should,” “would,” “could,” “anticipate,” or other wordsthat convey uncertainty of future events or outcomes.  Although we believe that the expectations reflected in suchforward-looking statements are reasonable, such forward-looking statements aresubject to risks and uncertainties that could cause actual results to differmaterially from those indicated by the forward-looking statements.  Such risks and uncertainties include,without limitation, the following:

 

•                                      Thecurrent downturn in the semiconductor industry could lead to a decrease in thedemand for our photomask products;

•                                      Thesemiconductor industry is highly cyclical and has been subject to significanteconomic downturns at various times;

•                                      Ourfinancial results may vary significantly from quarter to quarter or we may failto meet investor expectations, which would negatively impact the price of ourstock;

•                                      Wemay be unable to fund significant capital expenditures to expand our operationsand to enhance our manufacturing capability in order to keep pace with rapidlychanging technologies;

•                                      Ouroperating results could be adversely affected by under-utilized productioncapacity;

•                                      Asignificant portion of our revenue is derived from Asia, and therefore, ourbusiness, financial condition and results of operations are to a significantdegree subject to economic, political and social events in this region;

•                                      Therecent outbreak of severe acute respiratory syndrome, or SARS, may adverselyaffect our business, financial condition and results of operations;

•                                      Macroeconomicconditions may have effects on the semiconductor industry;

•                                      Wemay be unable to enhance our existing products and to develop and manufacturenew products and upgrades with improved capabilities to satisfy anticipateddemand for more technologically advanced photomasks;

•                                      Rapidtechnological change could render our products obsolete or our manufacturingprocesses ineffective;

•                                      Wemay not remain competitive and increased competition could seriously harm ourbusiness;

•                                      Ifa fundamental change in our business were to occur the holders of ourconvertible subordinated notes due July 2004 would have the right to require usto redeem those notes, and we cannot assure you that we will have sufficientfunds

 

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to pay the redemptionprice for all the notes tendered by the holders of the subordinated convertiblenotes, although DuPont would be required to pay the redemption price under itsguarantee.  In that case, our failure toredeem tendered notes would constitute an event of default under the indenturefor the notes, and may constitute a default under the terms of otherindebtedness that we may enter into from time to time;

•                                      Wemay be unable to successfully develop or market our EDA software;

•                                      DuPonthas influence on all stockholder votes;

•                                      Oursuccess depends, in part, upon key managerial, engineering and technicalpersonnel as well as our ability to continue to attract and retain additionalpersonnel and integrate new personnel into key positions; and

•                                      Otherrisks indicated in our other filings with the Securities and ExchangeCommission, including but not limited to those factors which are discussedunder the caption “Risk Factors” in our Annual Report on Form 10-K filed withthe SEC on September 10, 2002.

 

These risks anduncertainties are beyond our control and, in many cases, we cannot predict therisks and uncertainties that could cause our actual results to differmaterially from those indicated by the forward-looking statements.

 

The forward-looking statements are made as of therelease date hereof, and we disclaim any intention or obligation to update orrevise any forward-looking statements or to update the reasons why the actualresults could differ materially from those projected in the forward-lookingstatements, whether as a result of new information, future events or otherwise**.**

 

**Item 3.**

 

# **QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**

 

**Market Risk**

 

Market risks relating toour operations result primarily from changes in interest rates and changes inforeign currency exchange rates.  As ofMarch 31, 2003, we had $100.0 million in non-interest bearing convertible notesand approximately $13.9 million in interest bearing debt of which approximately$11.8 million was short-term debt. As a result, changes in the interest ratemarket would change the estimated fair value of our long-term debt. We believethat a 10 percent change in interest rates would not have a material effect onour business, financial condition, results of operations or cash flows.

 

Foreign currencyexposures are primarily due to non-U.S. operations which are subject to certainrisks inherent in conducting business abroad, including price and currencyexchange controls, fluctuation in the relative value of currencies andrestrictive governmental actions. Changes in the relative value of currenciesoccur from time to time and may, in certain instances, have a material effecton our results of operations.  Anyexchange rate fluctuations can affect our margins since we may have imbalancesbetween some foreign currency denominated revenues and expenses.  Our financial statements reflectremeasurement of items denominated in non-U.S. currencies to U.S. dollars, ourfunctional currency. Exchange gains or losses are included in income in theperiod in which they occur. We monitor our exchange rate exposure and attemptto reduce such exposure by hedging. We have entered into forward contracts incurrencies of the countries in which we conduct business in order to reducesuch exposure. Therefore, these contracts are held primarily for purposes otherthan trading. At March 31, 2003, the fair value of our forward foreign exchangecontracts outstanding was $28.0 million with an unrealized loss recorded in theconsolidated income statement of $0.1 million for the three and six monthsended March 31, 2003. These instruments may involve elements of credit andmarket risk in excess of the amounts recognized in the financialstatements.  We believe that a tenpercent change in exchange rates would not have a material effect on ourbusiness, financial condition, results of operations or cash flows.  We monitor our positions and the creditquality of counter-parties, consisting primarily of major financialinstitutions, and do not anticipate nonperformance by any counterparty,although nonperformance could occur. There can be no assurance that such forward contracts or any otherhedging activity will be available or adequate to eliminate, or even mitigate,the impact of our exchange rate exposure. There can be no assurance that such risks will not have a materialadverse impact on our liquidity and results of operations in the future.

 

**Financial Risk Management**

 

Our internationalrevenues are subject to inherent risks, including fluctuations in localeconomies; difficulties in staffing and managing foreign operations; greaterdifficulty in accounts receivable collection; costs and risks of localizingproducts for foreign countries; unexpected changes in regulatory requirements,tariffs and other trade barriers; difficulties in the repatriation of earnings;and burdens of complying with a wide variety of foreign laws.  Some of our sales outside of North Americaare denominated in local currencies, and accordingly, we are subject to therisks associated with fluctuations in currency rates.  In general, increases in the value of the dollar against foreigncurrencies decrease the U.S. dollar value of foreign sales requiring us eitherto increase our price in the local currency, which could render our productprices noncompetitive, or to suffer reduced revenues and gross margins asmeasured in U.S.

 

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dollars. Our foreigncurrency hedging program is not designed to hedge the margin risks associatedwith foreign exchange rate changes. Our hedging is comprised of foreigncurrency forward exchange contracts utilized to mitigate the risks associatedwith foreign currency fluctuations on certain balance sheet exposures.  However, the hedging program will noteliminate all of our foreign exchange risks.

 

The marketplace for ourproducts dictates that we maintain inventories.  Therefore, inventory obsolescence is a risk for us due tofrequent engineering changes, shifting customer demand, the emergence of newindustry standards and rapid technological advances including the introductionby our competitors or us of products embodying new technology.  While we maintain valuation allowances forexcess and obsolete inventory and management continues to monitor the adequacyof such valuation allowances, there can be no assurance that such valuationallowances will be sufficient.

 

As of March 31, 2003, wehad outstanding foreign short-term debt totaling approximately $11.3million.  At March 31, 2003, we did nothave any relationships with any unconsolidated entities or financialpartnerships, such as entities often referred to as structured finance orspecial purpose entities, which would have been established for the purpose offacilitating off-balance sheet arrangements or other contractually narrow orlimited purposes.  Accordingly, we arenot exposed to any financing, liquidity, market or credit risk that could ariseif we were engaged in such relationships.

 

At March 31, 2003 we had$100.0 million of subordinated convertible debt outstanding.  The notes are due in July 2004, with nostated interest, are convertible at any time into shares of our common stock ata conversion price of $106.26 per share, are unconditionally guaranteed byDuPont and are not callable by us.  Inthe event of a fundamental change in our company, each holder of notes willhave the right to require us to redeem, in cash, any or all of such holder’snotes at a price equal to 100 percent of the principal amount to beredeemed.  A fundamental changegenerally is any transaction in which all or substantially all of our commonstock is exchanged for, converted into, acquired for or constitutes the rightto receive, consideration which is not all or substantially all common stocklisted on a national securities exchange or approved for quotation on theNASDAQ National Market.  If afundamental change were to occur, we cannot assure you that we will havesufficient funds to pay the redemption price for all the notes tendered by theholders, although DuPont would be required to pay the redemption price underits guarantee and would then be subrogated to the noteholders’ rights againstus.  In that case, our failure to redeemtendered notes would constitute an event of default under the indenture for thenotes, and may constitute a default under the terms of other indebtedness thatwe may enter into from time to time.

 

On May 5, 2003, we issuedand sold $125 million of convertible subordinated notes in a privateplacement.  The notes are due May 15,2008, will accrue interest at an annual rate of 1.25 percent and areconvertible at any time into shares of our common stock at a conversion priceof $25.595 per share.  Interest on thenotes is payable semi-annually on May 15 and November 15 of each year beginningNovember 15, 2003. If a change of control occurs, each holder of notes willhave the right to require us to redeem, in cash, any or all of such holder’snotes at a price equal to 100 percent of the principal amount to beredeemed.  A change of control is anytransaction in which a person or group becomes the beneficial owner of 50% ormore of our common stock or has the power to elect a majority of our board ofdirectors, any consolidation, merger or similar transaction in which ourshareholders immediately prior to the transaction hold less than a majority ofthe outstanding voting stock of the surviving corporation and the considerationin the merger or consolidation is not common stock listed on a nationalsecurities exchange or approved for quotation on the NASDAQ National Market, orthe holders of our capital stock approve any plan or proposal for theliquidation or dissolution of DuPont Photomasks, Inc.  A change of control will not be deemed to have occurred if thelast sale price of our common stock for any five trading days during the tentrading days immediately preceding the change of control is at least equal to105% of the conversion price of the notes. If a change of control were to occur, we cannot assure you that we willhave sufficient funds to pay the redemption price for all the notes tendered bythe holders.  In that case, our failureto redeem tendered notes would constitute an event of default under theindenture for the notes, and may constitute a default under the terms of otherindebtedness that we may enter into from time to time.  In connection with the issuance of thenotes, we entered into a Registration Rights Agreement and agreed to file ashelf registration statement covering resales of the notes and the common stockissuable upon conversion of the notes. If we fail to comply with certain of our obligations under theRegistration Rights Agreement, additional interest will accrue on the affectednotes at an annual rate of 0.5 percent. Also in connection with the issuance of the notes, we amended our RightsAgreement dated January 30, 2001, which is filed as Exhibit 4.1 to Form 8-A12Bdated January 30, 2001, to provide that the issuance of the notes to theinitial purchasers would not cause the initial purchasers to be AcquiringPersons under the Rights Agreement and therefore no Distribution Date under theRights Agreement would occur as a result of the issuance of the notes to theinitial purchasers.

 

**Item 4.**

 

# **CONTROLS AND PROCEDURES**

 

**Evaluation of Disclosure Controls and Procedures**

 

Our chief executiveofficer and our chief financial officer, based on their evaluation of theeffectiveness of our disclosure controls and procedures (as defined in Rules13a-14(c) and 15d-14(c) under the Securities Exchange Act of 1934) as of a datewithin 90 days of

 

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our filing of thisquarterly report on Form 10-Q, or the Evaluation Date, believe that, as of theEvaluation Date, our disclosure controls and procedures were effective.

 

**Changes in Internal Controls**

 

There were no significantchanges in internal controls or in other factors that could significantlyaffect internal controls subsequent to the date of their most recentevaluation.

 

**PART II**

 

**Item1. Legal Proceedings**

 

We are notcurrently involved in any material legal proceedings.

 

**Item2. Changes in Securities and Use of Proceeds**

 

None

 

**Item3. Defaults Upon Senior Securities**

 

None

 

**Item4. Submission of Matters to a Vote of Security Holders**

 

None

 

**Item5. Other Information**

 

None

 

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**Item6. Exhibits and Reports on Form 8-K**

 

(A) Exhibits

 
| (4.1)  |   | Form of Indenture  between DuPont Photomasks, Inc. and JP Morgan Chase Bank, a New York banking  corporation, as trustee, including the form of 1.25% Convertible Subordinated  Notes due 2008 attached as Exhibit A thereto |
|--------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| (4.2)  |   | Amendment No. 1 to  Rights Agreement between DuPont Photomasks, Inc. and EquiServe Trust Company,  N.A., as Rights Agent, dated as of April 29, 2003                                                                         |
| (10.1) |   | Registration Rights  Agreement among DuPont Photomasks, Inc., Credit Suisse First Boston LLC and  Lehman Brothers Inc. dated as of May 5, 2003                                                                               |
| (11)   |   | Statement re Earnings  (Loss) Per Share Computation                                                                                                                                                                          |
| (99.1) |   | Certification of Chief  Executive Officer and Certification of Chief Financial Officer pursuant to 18  U.S.C. Section1350, adopted per Section 906 of the Sarbanes-Oxley Act of 2002                                         |

 

(B) Reportson Form 8-K

 

None

** **

**SIGNATURES**

 

Pursuant to therequirements of the Securities and Exchange Act of 1934, the registrant hasduly caused this report to be signed on its behalf by the undersigned thereuntoduly authorized.

 
|              | Dupont  Photomasks, Inc. |
|-------------------|-------------------------------|
|              | (Registrant)                  |
|              |                          |
|              |                          |
| Date: May 8, 2003 | By:                           | /s/ SATISH RISHI |   |
|              |                          | Satish Rishi |
|              |                          | *Executive  Vice President – Finance* |
|              |                          | *and Chief Financial Officer* |
|              |                          | *(Principal Financial Officer)* |

 

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**CERTIFICATION OF**

**CHIEFEXECUTIVE OFFICER**

**DUPONTPHOTOMASKS, INC.**

 

**CERTIFICATION**

 

# **I, Peter S. Kirlin, certify that:**

 

1.       I have reviewed thisquarterly report on Form 10-Q of DuPont Photomasks, Inc;

 

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

 

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

 

4.       The registrant’s othercertifying officer and I are responsible for establishing and maintainingdisclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and15d-14) for the registrant and we have:

 

a)  designed such disclosure controls andprocedures to ensure that material information relating to the registrant,including its consolidated subsidiaries, is made known to us by others withinthose entities, particularly during the period in which this quarterly reportis being prepared;

 

b)  evaluated the effectiveness of theregistrant’s disclosure controls and procedures as of a date within 90 daysprior to the filing date of this quarterly report (the “Evaluation Date”); and

 

c)  presented in this quarterly report ourconclusions about the effectiveness of the disclosure controls and proceduresbased on our evaluation as of the Evaluation Date;

 

5.       The registrant’s othercertifying officer and I have disclosed, based on our most recent evaluation,to the registrant’s auditors and the audit committee of the registrant’s boardof directors (or persons performing the equivalent function):

 

a)  all significant deficiencies in the designor operation of internal controls which could adversely affect the registrant’sability to record, process, summarize and report financial data and haveidentified for the registrant’s auditors any material weaknesses in internal controls;and

 

b)  any fraud, whether or not material, thatinvolves management or other employees who have a significant role in theregistrant’s internal controls; and

 

6.       The registrant’s othercertifying officer and I have indicated in this quarterly report whether or notthere were significant changes in internal controls or in other factors thatcould significantly affect internal controls subsequent to the date of our mostrecent evaluation, including any corrective actions with regard to significantdeficiencies and material weaknesses.

## ** **

| Date: May 8, 2003           |
|-----------------------------|
|                        |
|   /s/ PETER  S. KIRLIN |   |
| Peter S. Kirlin             |
| Chief Executive Officer     |

 

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**CERTIFICATIONOF**

**CHIEFFINANCIAL OFFICER**

**DUPONTPHOTOMASKS, INC.**

 

**CERTIFICATION**

 

# **I, Satish Rishi, certify that:**

 

1.       I have reviewed thisquarterly report on Form 10-Q of DuPont Photomasks, Inc;

 

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

 

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

 

4.       The registrant’s othercertifying officer and I are responsible for establishing and maintainingdisclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and15d-14) for the registrant and we have:

 

a)  designed such disclosure controls andprocedures to ensure that material information relating to the registrant,including its consolidated subsidiaries, is made known to us by others withinthose entities, particularly during the period in which this quarterly reportis being prepared;

 

b)  evaluated the effectiveness of theregistrant’s disclosure controls and procedures as of a date within 90 daysprior to the filing date of this quarterly report (the “Evaluation Date”); and

 

c)  presented in this quarterly report ourconclusions about the effectiveness of the disclosure controls and proceduresbased on our evaluation as of the Evaluation Date;

 

5.       The registrant’s othercertifying officer and I have disclosed, based on our most recent evaluation,to the registrant’s auditors and the audit committee of the registrant’s boardof directors (or persons performing the equivalent function):

 

a)  all significant deficiencies in the designor operation of internal controls which could adversely affect the registrant’sability to record, process, summarize and report financial data and haveidentified for the registrant’s auditors any material weaknesses in internalcontrols; and

 

b)  any fraud, whether or not material, thatinvolves management or other employees who have a significant role in theregistrant’s internal controls; and

 

6.       The registrant’s othercertifying officer and I have indicated in this quarterly report whether or notthere were significant changes in internal controls or in other factors thatcould significantly affect internal controls subsequent to the date of our mostrecent evaluation, including any corrective actions with regard to significantdeficiencies and material weaknesses.

 
| Date: May 8, 2003        |
|--------------------------|
|                     |
|   /s/ SATISH  RISHI |   |
| Satish Rishi             |
| Chief Financial Officer  |

 

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