<PAGE>   1

                                  UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549

                                    FORM 10-K

(Mark One)

[X]    ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
       ACT OF 1934

       For the fiscal year ended December 31, 2000

                                       OR

[ ]    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
       EXCHANGE ACT OF 1934

       For the transition period from __________ to __________.

                        Commission File Number 000-17157

                             NOVELLUS SYSTEMS, INC.
             (Exact name of Registrant as specified in its charter)

<TABLE>
<S>                                                      <C>
           CALIFORNIA                                        77-0024666
(State or other jurisdiction of                           (I.R.S. Employer
 incorporation of organization)                          Identification No.)
</TABLE>


               4000 NORTH FIRST STREET SAN JOSE, CALIFORNIA 95134
               (Address of principal executive offices) (Zip Code)

                                 (408) 943-9700
              (Registrant's telephone number, including area code)

           Securities registered pursuant to Section 12(b) of the Act:

<TABLE>
<S>                                            <C>
                                               Name of Each Exchange on
      Title of Each Class                          Which Registered
      -------------------                      ------------------------
             None                                       N/A
</TABLE>

           Securities registered pursuant to Section 12(g) of the Act:

                           Common Stock, no par value
                                (Title of Class)

Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the Registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.

          YES [X]     NO [ ]

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]

As of February 28, 2001 the aggregate market value of voting and non-voting
stock held by non-affiliates of the Registrant was approximately $3,967,173,000
based on the average of the high and low prices of the Common Stock as reported
on the NASDAQ National Market on such date. Shares of Common Stock held by
officers, directors and holders of more than 5% of the outstanding Common Stock
have been excluded from this calculation because such persons may be deemed to
be affiliates. This determination of affiliate status is not necessarily a
conclusive determination for other purposes.

The number of shares of the Registrant's Common Stock outstanding on February
28, 2001 was 141,214,414.

Documents Incorporated by Reference: Part III of this Report on Form 10-K
incorporates information by reference from the Registrant's Proxy Statement for
its 2001 Annual Meeting of Shareholders.


                                       1
<PAGE>   2

                              NOVELLUS SYSTEMS, INC

                 FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 2000

                                      INDEX


<TABLE>
<CAPTION>
PART I                                                                                              Page
                                                                                                    ----
<S>                                                                                                 <C>
     Item 1:        Business                                                                           8
     Item 2:        Properties                                                                        23
     Item 3:        Legal Proceedings                                                                 23
     Item 4:        Submission of Matters to a Vote of Security Holders                               27

PART II

     Item 5:        Market for Registrant's Common Equity and Related Shareholder Matters             28
     Item 6:        Selected Financial Data                                                           29
     Item 7:        Management's Discussion and Analysis of Financial Condition and Results
                            of Operations                                                             30
    Item 7A:        Quantitative and Qualitative Disclosures about Market Risk                        40
     Item 8:        Financial Statements and Supplementary Data                                       42
     Item 9:        Changes in and Disagreements with Accountants on Accounting and
                            Financial Disclosure                                                      64

PART III

     Item 10:       Directors and Executive Officers of the Registrant                                64
     Item 11:       Executive Compensation                                                            64
     Item 12:       Security Ownership of Certain Beneficial Owners and Management                    64
     Item 13:       Certain Relationships and Related Transactions                                    64

PART IV

     Item 14:       Exhibits, Financial Statement Schedules and Reports on Form 8-K                   65

     Signatures                                                                                       69
</TABLE>


                                       2
<PAGE>   3

                           FORWARD-LOOKING STATEMENTS

This Annual Report on Form 10-K and certain information incorporated herein by
reference contain forward-looking statements within the "safe harbor" provisions
of the Private Securities Litigation Reform Act of 1995. All statements included
or incorporated by reference in this Annual Report, other than statements that
are purely historical are forward-looking statements. Words such as
"anticipates," "expects," "intends," "plans," "believes," "seeks," "estimates"
and similar expressions also identify forward-looking statements. These
forward-looking statements, which include statements about the growth of the
semiconductor industry; increasing costs in the semiconductor industry; market
size, share and demand; product performance; Novellus' expectations, objectives,
anticipations, intentions and strategies regarding the future, expected
operating results, revenues and earnings and current and potential litigation
are not guarantees of future performance and are subject to risks and
uncertainties that could cause actual results to differ materially from the
results contemplated by the forward-looking statements. Forward-looking
statements in this Annual Report on Form 10-K include, without limitation:

-      the discussion of the Company's strategy to focus on major semiconductor
       manufacturers, under the heading "Item 1. Business" which is subject to
       the risk, among other risks, that the semiconductor industry will
       experience a periodic downturn, which could have a material adverse
       effect on the semiconductor industry's demand for semiconductor
       processing equipment, including equipment manufactured and marketed by
       the Company;

-      the statements regarding (1) the Company's belief that PVD, tantalum
       barrier and copper seed layers may play an important role in replacing
       aluminum with copper as the primary wiring material, (2) the Company's
       belief that electroplating process technology will be extendible to at
       least the 0.10 micron design rule; or, in other words, approximately
       another 5 or 6 years given the current industry evolution; (3) Novellus'
       belief that there will be a widespread transition from aluminum to copper
       conductive lines for faster processing speeds, (4) the Company's belief
       regarding the greater complexity and number of interconnect layers in
       advanced integrated circuits, (5) the effect of the evolution of
       semiconductor devices to smaller line width geometries and more complex
       multi-level circuitry on the cost and performance requirements of capital
       equipment used to manufacture these devices and the increasing focus of
       the semiconductor industry on obtaining increased productivity, higher
       returns and reduced costs, under the heading "Item 1, Business - Industry
       Background," which are subject to various uncertainties, including,
       without limitation, shifts in demand from expensive, high-performance
       products to lower price products resulting in reduced profit for
       semiconductor manufacturers, periodic downturns in the semiconductor
       industry and slowdowns in the rate of capital investment by semiconductor
       manufacturers;

-      Novellus' belief in the growing importance of the surface preparation
       step in the manufacturing of advanced semiconductor devices and its
       belief that the acquisition of GaSonics' surface preparation technology
       will lead to improved integration of the cleaning and deposition
       processes when building advanced devices, particularly those manufactured
       with a copper dual damascene process, under the heading "Item 1. Business
       - Industry Background" which is subject to the risk, among other risks,
       that the integration of Novellus and GaSonics may disrupt Novellus'
       business if not completed in a timely and efficient manner, in that,
       among other things, management may not be able to maintain its ability to
       focus on anticipating, responding to or utilizing changing technologies
       in the semiconductor industry and may fail to combine GaSonics' product
       offerings and technologies with Novellus' product offerings and
       technologies effectively and quickly;

-      the Company's beliefs regarding Throughput, Cost per Wafer and Film
       Quality, the Company's belief that within-wafer and wafer-to-wafer
       uniformity levels of +/- 1% of film thickness as measured at one standard
       deviation are state-of-the-art for the industry, under the heading "Item
       1, Business - The Novellus Solution," which are subject to various
       uncertainties, including, without limitation, shifts in demand from
       expensive, high-performance products to lower price products resulting in
       reduced profit for semiconductor manufacturers, periodic downturns in the
       semiconductor industry, slowdowns in the rate of capital investment by
       semiconductor manufacturers and future product developments and
       introductions by competitors;

-      the discussion of the Company's strategies under the heading "Item 1,
       Business - Strategy," including statements regarding (1) the Company's
       objective to increase its market share in the worldwide interconnect
       market and to strengthen its position as a leading supplier of
       semiconductor processing equipment; (2) the Company's intent to retain
       its focus on productivity by leveraging its multi-chamber and continuous
       processing architecture in


                                       3
<PAGE>   4
       product enhancements and new product offerings; (3) the Company's
       strategy to provide a family of systems which utilize advanced CVD, PVD,
       electrofilling, and dry strip/clean technologies to address leading-edge
       wafer processing needs, (4) the Company's sales objective to work closely
       with customers to secure purchase orders for multiple systems and to seek
       to build customer loyalty and achieve a high level of repeat business by
       offering high reliability products, comprehensive field support and a
       responsive parts replacement and service program, (5) Novellus' intent to
       continue to aggressively build its presence in Asia as an important part
       of its current business strategy, and (6) Novellus' belief that its
       outsourcing strategy enables it to minimize its fixed costs and capital
       expenditures while also providing the flexibility to increase capacity as
       needed and allows the Company to focus on product differentiation through
       system design and quality control, which is subject to various
       uncertainties, including, without limitation, shifts in demand from
       expensive, high-performance products to lower price products resulting in
       reduced profit for semiconductor manufacturers, periodic downturns in the
       semiconductor industry, slowdowns in the rate of capital investment by
       semiconductor manufacturers and future product developments,
       introductions by competitors and increased competition in the
       semiconductor equipment industry and risks associated with international
       operations, including economic downturns and trade balance issues;

-      Novellus' belief that substantial additional growth potential exists in
       the Asian region over the long term under the heading "Item 1, Business -
       Strategy," which is subject to numerous risks, including, without
       limitation,  periodic economic downturns, trade balance issues, political
       instability and fluctuations in interest, foreign currency exchange
       rates, banking issues and other difficulties contributing to slower
       economic developments in these countries;

-      the Company's statements and beliefs regarding its products, including
       (1) the statement that the SABRE electrofill tool has emerged as the
       industry's leading choice for the fill of copper vias and trenches using
       a dual damascene process under the heading "Item 1, Business - Strategy;"
       (2) the Company's belief that the 10-second heating period in advance of
       deposition in the Concept One -- Dielectric is one of the shortest
       preheat times of any CVD system, under the heading "Item 1, Business --
       Products -- Concept One -- Dielectric"; (3) the Company's belief that the
       Dual ALTUS offers a solution in the industry for very high volume 200 mm
       wafer fabs producing 0.35 micron semiconductor devices, under the heading
       "Item 1, Business -- Products -- Concept Two;" (4) the Company's belief
       that ARL offers competitive throughput and low cost of ownership for the
       industry, under the heading "Item 1, Business -- Products -- Anti
       Reflection Layer," (5) the Company's belief that the Concept Three family
       of systems should offer minimal risks to its customers in making the
       transition from 200 mm to 300 mm volume chipmaking, under the heading
       "Item 1, Business -- Products -- Concept Three;" (6) the Company's belief
       that HCM technology offers better target utilization, extended
       maintenance intervals, and lower cost of ownership in comparison with
       collimated and other ionized sputtering techniques, under the heading
       "Item 1, Business -- Products -- Inova System;" (7) the Company's belief
       that the SABRE system is the most reliable and technologically advanced
       electrofilling system available on the market, under the heading "Item 1,
       Business -- Products -- SABRE;" (8) the statement that VECTOR is designed
       for high reliability, with 40% fewer critical subassemblies than the
       nearest competitor and the statements that VECTOR has approximately
       2/3rds the footprint of the nearest competitor and a throughput of 120
       wafers per hour and that VECTOR delivers twice the capital productivity
       of any other PECVD system currently on the market, under the heading
       "Item 1, Business -- Products -- VECTOR;" (9) the statements that the PEP
       3510 is one of the most dependable bulk strip systems on the market and
       that the PEP 3510 routinely delivers 300 hours MTBF with 95% uptime under
       the heading "Item 1, Business -- Products -- PEP 3510;" and (10) the
       statement that the PEP Iridia, for low-k dielectric clean applications,
       offers the highest capital and footprint productivity of any clean system
       currently on the market under the heading "Item 1, Business -- Products
       -- PEP Iridia;" which are subject to various uncertainties and risks,
       among others, including the greater financial, marketing, technical or
       other resources, broader product lines, greater customer service
       capabilities and larger and more established sales organizations and
       customer bases that some of Novellus' competitors possess, future
       competition from new market entrants from overseas and domestic sources,
       Novellus' competitors' improvement of the design and performance of their
       products that may offer superior price or performance features over
       Novellus' products, Novellus' success in selecting, developing,
       manufacturing and marketing its new products, or enhancing its existing
       products;

-      the Company's (1) belief that its marketing efforts are enhanced by the
       technical expertise of its research and development personnel, (2) belief
       that its service to its customers is enhanced by the design simplicity of
       its


                                       4
<PAGE>   5

       systems, (3) expectation that sales of its products to relatively few
       customers will continue to account for a high percentage of its net sales
       in the foreseeable future, and (4) belief that sales to certain customers
       will decrease in the future; under the heading "Item 1, Business -
       Marketing, Sales and Service;" are subject to risks, among others, that
       during periods of reduced and declining demand, the Company may not be
       able to quickly and effectively align its cost structure with prevailing
       market conditions and motivate and retain key employees or that during
       periods of rapid growth, the Company may not be able to acquire and/or
       develop sufficient manufacturing capacity to meet customer demand and
       hire and assimilate a sufficient number of qualified people;

-      the Company's statement that the Company's ability to remain competitive
       in this market will depend in part upon its ability to develop new and
       enhanced systems and to introduce these systems at competitive prices and
       on a timely and cost-effective basis and the Company's expectation that
       research and development expenditures will continue to represent a
       substantial percentage of sales, under the heading "Item 1, Business -
       Research and Development;" are subject to certain risks, among others,
       that Novellus may experience delays from time to time in the introduction
       of, and certain technical and manufacturing difficulties with, certain of
       its systems and enhancements and may experience delays and technical and
       manufacturing difficulties in future introductions or volume production
       of new systems or enhancements or that Novellus may incur substantial
       unanticipated costs to ensure the functionality and reliability of its
       future product introductions early in the product's life cycle;

-      Novellus' belief that its outsourcing strategy enables it to minimize its
       fixed costs and capital expenditures while also providing the flexibility
       to increase capacity as needed and allows the Company to focus on product
       differentiation through system design and quality control, its belief
       that the use of manufacturing specialists for its subsystems incorporate
       advanced technologies in robotics, gas panels and microcomputers and the
       statement that the Company seeks to reduce it dependence on limited
       suppliers for certain key parts, under the heading "Item 1, Business -
       Manufacturing;" are subject to various uncertainties, including, without
       limitation, the possible occurrence of a disruption or termination of
       certain of these sources which could have at least a temporary adverse
       effect on the Company's operations and a prolonged inability to obtain
       certain components could have a material adverse effect on the Company's
       business, financial condition and results of operations and could result
       in damage to customer relationships;

-      the Company's belief as to its favorable competitiveness in the
       deposition equipment marketplace and the Company's belief that the
       acquisition of TFS and its 1998 announcement of a copper primary
       conductor product will allow the Company to develop and compete
       successfully in the PVD and copper electrofill areas of the market and
       that manufacturers will be generally reliant upon specific equipment,
       under the heading "Item 1, Business - Competition" is subject to various
       risks, among others, including the greater financial, marketing,
       technical or other resources, broader product lines, greater customer
       service capabilities and larger and more established sales organizations
       and customer bases that some of Novellus' competitors possess, future
       competition from new market entrants from overseas and domestic sources,
       Novellus' competitors' improvement of the design and performance of their
       products that may offer superior price or performance features over
       Novellus' products, Novellus' success in selecting, developing,
       manufacturing and marketing its new products, or enhancing its existing
       products;

-      the statement that the Company intends to continue to pursue the legal
       protection of its technology primarily through patent and trade secret
       protection and the statement that in the future, litigation may be
       necessary to enforce patents issued to the Company, to protect trade
       secrets or know-how owned by the Company or to defend the Company against
       claimed infringement of the rights of others and to determine the scope
       and validity of the proprietary rights of others under the heading "Item
       1, Business - Patents and Proprietary Rights" is subject to uncertainty,
       including that there is no assurance that patents will be issued from any
       of Novellus pending applications or that any claims allowed from existing
       or pending patents will be sufficiently broad to protect the Company's
       technology and that any such litigation could result in substantial cost
       and diversion of effort by the Company and any adverse determinations in
       such litigation could result in the Company's loss of proprietary rights,
       subject the Company to significant liabilities to third parties, require
       the Company to seek licenses from third parties or prevent the Company
       from manufacturing or selling its products;

-      the statements that the success of the Company's future operations
       depends in large part on the Company's ability to recruit and retain
       engineers and technicians, marketing, sales, service and other key
       personnel and that the Company's success depends to a significant extent
       upon a limited number of key employees and other members of senior
       management of the Company under the heading "Item 1, Business -
       Employees" are subject


                                       5
<PAGE>   6

       to risks and uncertainties, among others, that there can be no assurance
       that the Company will be successful in retaining or recruiting key
       personnel and the Company's possible inability to effectively manage
       growth, or to attract and retain the personnel it requires;

-      the Company's anticipations regarding the construction on 27 acres on the
       Tualatin, Oregon site and its completion in the second quarter of 2002 as
       well as the completion of a Software Development office in Bangalore,
       India in the second quarter of 2002 and the Company's belief that its
       current properties will be sufficient to meet the Company's requirements
       for the foreseeable future, under the heading "Item 2, Properties" are
       subject to risk and uncertainty, including unanticipated delays in
       construction schedules and a greater growth in the Company's net sales
       placing unexpected strains on Company resources and properties;

-      the Company's belief that there are meritorious defenses in the Applied,
       Semitool and Plasma Physics litigation matters, and the Company's beliefs
       with respect to the outcomes of the Applied Materials, Semitool and
       Plasma Physics litigation matters and current patent infringement
       inquiries, under the headings "Item 3, Legal Proceedings" and "Item 8.
       Financial Statements and Supplementary Data -- Notes to Consolidated
       Financial Statements -- Note 5, Litigation" are subject to risk and
       uncertainty regarding the outcome of such litigation matters as the
       resolution of intellectual property litigation is very fact intensive and
       the Company cannot assure that it will be successful in the resolution of
       these claims;

-      the Company's strategies, beliefs, plans, expectations, anticipations and
       hopes with respect to Net Sales, Gross Profit, Selling, General and
       Administrative, Research and Development, Net Interest Income, Provision
       for Income Taxes, Net Income, Foreign Currency Accounting and Foreign
       Exchange Contracts set forth under "Item 7, Management's Discussion and
       Analysis of Financial Condition and Results of Operations - Results of
       Operations," including, without limitation, (1) the statement that the
       decrease in Selling, General and Administrative expenses as a percentage
       of net sales across periods reflects the Company's ongoing efforts to
       control and reduce selling, general and administrative expenses despite
       the rapid growth in revenues; (2) the statement that the increases in
       Research and Development expenses reflect the Company's continued
       commitment to the development of new products, including additional
       Concept Two modules, advanced PVD systems, advanced "gap fill"
       technology, primary conductor metals, low-k dielectric materials and
       additional advanced technologies for the next generation of smaller
       geometry fabrication lines, as well as equipment to process 300mm wafers;
       (3) the statement that the Company plans to continue to invest in new
       products and increase research and development spending in absolute
       dollars; (4) the statement that the Company continues to believe that
       significant investment in R&D is required to remain competitive, and
       anticipates, on a forward-looking basis, that such expenses in 2001 will
       increase in absolute dollars, although such expenses as a percentage of
       net revenues may fluctuate between periods; (5) the belief that it is
       more likely than not that a deferred tax asset of $151.7 million will be
       realized by an offset against the recognized deferred tax liability of
       $29.1 million and future taxable income; (6) the belief that, as the
       impact of movements in currency exchange rates on forward foreign
       exchange contracts offset the related impact on the underlying items
       being hedged, these financial instruments do not subject the Company to
       speculative risk that would otherwise result from changes in currency
       exchange rates; and (7) the belief that the impact of the adoption of
       SFAS No. 133 will not be material, and the Company's strategies, beliefs,
       plans, expectations, anticipations and hopes with respect to Liquidity
       and Capital Resources set forth under "Item 7, Management's Discussion
       and Analysis of Financial Condition and Results of Operations - Liquidity
       and Capital Resources," including, without limitation, (1) the statement
       that the Company expects investments in property and equipment for the
       fiscal year 2001 to approximate $85.0 million and that the Company
       intends to finance these investments from existing cash balances and cash
       flows from operations; (2) the belief that the Company's current cash
       position, cash generated through operations and equity offerings, and
       available borrowings will be sufficient to meet the Company's needs
       through at least the next twelve months and the Company's expectations
       with respect to the return from investments in property and equipment and
       the sufficiency of funds from operations, existing cash balances and
       borrowing capacity, are subject to numerous risks and uncertainties,
       including, without limitation, that the semiconductor industry will
       experience a periodic downturn, which could have a material adverse
       effect on the semiconductor industry's demand for semiconductor
       processing equipment, including equipment manufactured and marketed by
       the Company, the greater financial, marketing, technical or other
       resources, broader product lines, greater customer service capabilities
       and larger and more established sales organizations and customer bases
       that some of Novellus' competitors possess, future competition from new
       market entrants from overseas and domestic sources, Novellus'
       competitors' improvement of the design and performance of their products
       that may offer


                                       6
<PAGE>   7

       superior price or performance features over Novellus' products, Novellus'
       success in selecting, developing, manufacturing and marketing its new
       products, or enhancing its existing products;

-      the Company's anticipation that export sales will account for a
       significant portion of net sales for the foreseeable future set forth
       under "Item 7, Management's Discussion and Analysis of Financial
       Condition and Results of Operations -- Trends Risks And Uncertainties --
       International Operations" is subject to the risks and uncertainties set
       forth in such Item;

-      the Company's expectation that it will continue to experience significant
       fluctuations in its quarterly operating results set forth under "Item 7,
       Management's Discussion and Analysis of Financial Condition and Results
       of Operations -- Trends Risks And Uncertainties -- Variability of Quarter
       Operating Results" is subject to the risks and uncertainties set forth in
       such Item; and

-      the Company's expectation that it may incur charges to operations, which
       are not currently reasonably estimable, in connection with the
       acquisition of GaSonics in the first quarter of 2001 (the quarter in
       which the merger was completed) or following quarters, to reflect costs
       associated with integrating the two companies set forth under "Item 7,
       Management's Discussion and Analysis of Financial Condition and Results
       of Operations -- Trends Risks And Uncertainties -- Benefits of Novellus'
       Acquisition of GaSonics May Not Be Realized" is subject to the risks and
       uncertainties set forth in such Item.

The above forward-looking statements and any expectations based on such
forward-looking statements are subject to risks and uncertainties and other
important factors. Any of the Company's actual results could differ materially
from those included in such forward-looking statements. In addition to the risks
and uncertainties mentioned above, the above forward-looking statements are also
subject to additional risks and uncertainties further discussed under "Item 7,
Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Trends Risks And Uncertainties" beginning on page 34.

Because such statements are subject to risks and uncertainties, actual results
may differ materially from those expressed or implied by such statements. All
forward-looking statements included in this document are based on information
available to the Company on the date hereof, and the Company assumes no
obligation to update any such forward-looking statements. Shareholders are
cautioned not to place undue reliance on such statements, which speak only as of
the date of this Annual Report. The reader should also consult the cautionary
statements and risk factors listed from time to time in the Company's Reports on
Forms 10-Q, 8-K, 10-K and its Annual Reports to Shareholders.


                                       7
<PAGE>   8

                                     PART I

ITEM 1. BUSINESS

Novellus Systems, Inc. ("Novellus" or the "Company") manufactures, markets and
services advanced systems used to deposit thin conductive and insulating films
on semiconductor devices, as well as equipment for preparing the device surface
for these deposition processes. The Company is a leading supplier of high
productivity deposition and surface preparation systems used in the fabrication
of integrated circuits. Chemical Vapor Deposition (CVD) systems employ a
chemical plasma to deposit all of the dielectric (insulating) layers and certain
of the conductive metal layers on the surface of a semiconductor wafer. Physical
Vapor Deposition (PVD) systems are used to deposit conductive metal layers by
sputtering metallic atoms from the surface of a target source via high DC power.
Electrofill systems are used for depositing copper conductive layers in a dual
damascene design architecture using an aqueous solution. On January 10, 2001,
Novellus acquired GaSonics International Corporation ("GaSonics"), a leading
developer and global supplier of photoresist and residue removal solutions used
in advanced semiconductor device manufacturing. GaSonics is now the Surface
Integrity Group of Novellus. The photoresist and residue removal systems
manufactured by the Surface Integrity Group are used to clean and prepare the
device surface after the manufacturing steps that precede the deposition
process. In addition, the Novellus Surface Integrity Group also provides low
pressure chemical vapor deposition, or LPCVD, systems for the flat panel display
(FPD) industry. The Company's growth strategy focuses on major semiconductor
manufacturers and the Company has sold one or more of its systems to each of the
20 largest semiconductor manufacturers in the world.

The Company was incorporated in California in April 1984 and is headquartered in
San Jose, California. The mailing address for the Company's headquarters is 4000
North First Street, San Jose, California, 95134 and the Company's telephone
number is (408) 943-9700. Additional information about the Company is available
on the Company's website at www.novellus.com.

INDUSTRY BACKGROUND

The semiconductor industry has experienced significant growth over the past
decade due to increased demand for personal computers and the growth of the
Internet, the expansion of the telecommunications industry (especially wireless
communications), and the emergence of new applications in consumer electronics
and the increased semiconductor content in these consumer electronics systems.
In addition, significant performance advantages and lower prices for integrated
circuits have contributed to the growth and expansion of the semiconductor
industry.

The late 1990s also saw the emergence of a new growth trend driven by the
increasingly rapid pace in which the size of the circuitry on chips is
decreasing. When chips decrease in size circuits can operate more quickly. In
addition, with size reduction, more chips can be produced on a given wafer size
and the yield per manufacturing machine increases. Because more chips can be
produced per machine with decreasing chip size, there is less need to build new
manufacturing plants, in particular, for pure capacity expansion. However, new
equipment featuring the latest technological advances must often still be
purchased to manufacture these smaller-sized chips and, in many cases, is
retrofit into existing manufacturing facilities.

Although the semiconductor industry has experienced significant growth, the
semiconductor market is cyclical by nature, characterized by short-term periods
of either under or over supply for both memory and logic devices. When demand
decreases, semiconductor manufacturers typically slow their purchasing of
capital equipment; conversely, when demand increases, so does the manufacturers'
capital spending.

The fabrication of integrated circuits requires a number of complex and
repetitive processing steps, including deposition, photolithography and etch.
Deposition is a process in which a film of either electrically insulating or
electrically conductive material is deposited on the surface of a wafer. The
three principal methods of this film deposition are CVD (chemical vapor
deposition), which can be used to deposit both insulating and conductive films;
PVD (physical vapor deposition), which is used primarily for sputtering
conductive metals onto the wafer surface; and electroplating, a process for
depositing metal films via an electrically charged aqueous solution.


                                       8
<PAGE>   9

In the CVD process, wafers are typically placed in a reaction chamber and a
variety of pure and precisely metered gases are introduced while some form of
energy is added to activate a chemical reaction on the wafer surface. The result
of this reaction is the deposition of a film on the wafer. The CVD process is
the traditional method used to deposit dielectric films in an integrated
circuit. The dielectric layers in an integrated circuit include the initial
interlayer, portions of the interconnect layers and the final passivation layer.
CVD is also used for deposition of conductive metal layers, particularly those
metals that are more difficult to deposit in smaller line width geometry devices
through conventional PVD or other deposition technologies. CVD technology is
particularly effective for depositing blanket tungsten as a "plug" layer that
connects one conductive metal layer to another in a multi-level integrated
circuit. For such applications, tungsten replaces aluminum, which has certain
physical properties that reduce its efficacy for the smaller interconnect holes
of devices with smaller line width geometries.

PVD, also known as "sputtering," is a process whereby ions of an inert gas,
typically argon, are electrically accelerated in a high vacuum toward a target
of pure metal, such as aluminum, tantalum, or copper. Upon impact, the argon
ions "sputter" off bits of the target material, which then deposits on the
silicon wafer to form thin conductive films which "wire" the thousands of
transistors in the computer chip together.

PVD processes are used to provide conducting liner and barrier metal layers to
prevent diffusion or reactions between metals such as tungsten and silicon
regions, and to provide underlying foundations for the nucleation of other metal
deposition layers. Aluminum PVD is also widely used at the present time as the
primary wiring material in up to six layers of device interconnect. The Company
believes, however, that PVD tantalum barrier and copper seed layers will play an
important role in enabling the transition from aluminum to copper as the primary
wiring material.

As the industry transitions to smaller and smaller line widths, a fundamental
change is occurring with the movement from aluminum to copper wires as the
primary conductors. Copper has lower resistance and capacitance values than
aluminum, the present conductive metal used in integrated circuits. Because of
this fact, copper has the potential to double the speed of an advanced
microprocessor while reducing the number of metal layers required by as much as
50%.

The historic electroplating process has been modified by the semiconductor
manufacturing industry to deposit copper conductive lines in extremely small
features on integrated circuits. Due to the difficulties in etching copper, the
metal is filled in a structure created within the circuit's insulating layers in
a process called dual damascene: this is the reverse of the process used with
aluminum, where the metal is deposited first, etched to create lines and vias,
and then filled with insulating layers between the metal lines. The most
difficult task is filling copper into interconnect structures which can be less
than 0.25 micron in width, with aspect ratios of up to 5:1. Electroplating
employs a liquid chemistry and electrolytic principles to deposit the copper
wiring into the dielectric structure, a simple and cost-effective process that
is also highly reliable.

Electroplating processes are used to produce the primary copper conductive
layers in advanced integrated circuits (typically circuits smaller than 0.25
micron). The technology is believed by the Company to be extendible until at
least the 0.10 micron design rule; or in other words, approximately another 5 or
6 years given the current industry evolution.


                                       9
<PAGE>   10

Advanced integrated circuit technology has created increased demand for more
sophisticated semiconductor processing equipment. Today's advanced semiconductor
devices are being designed with line width geometries as small as 0.13 microns,
with up to six layers of interconnect circuitry. The next generation of
semiconductor devices will see line widths as small as 0.10 micron, and Novellus
believes there will be widespread transition from aluminum to copper conductive
lines for faster processing speeds. Each additional interconnect layer requires
three separate layers of deposition, which include the initial metal layer, a
non-conductive dielectric layer and then a "plug" metal film to fill patterned
holes in the dielectric layer that connects the metal layers on either side of
the dielectric. The Company believes that the greater complexity and number of
interconnect layers in advanced integrated circuits will enable the markets for
CVD aluminum and PVD aluminum to continue to grow over the short term.

The Company's acquisition of GaSonics illustrates the growing importance of the
surface preparation step in the manufacturing of advanced semiconductor devices.
Properly preparing the device surface is essential prior to the deposition
process to ensure the proper adhesion of the film layer, and to prevent
device-killing defects. The industry movement to new materials such as copper
and low-k, as well as shrinking line widths and smaller wafer sizes, is driving
the need for more advanced cleaning technologies that do not damage the device.
The Company believes that its acquisition of the GaSonics surface preparation
technology will lead to improved integration of the cleaning and deposition
processes when building advanced devices, and particularly those manufactured
with a copper dual damascene process.

Semiconductor manufacturers generally measure the cost performance of their
production equipment in terms of "cost per wafer," which is determined by
factoring in the fixed costs for acquisition and installation of the system, its
variable operating costs and its net throughput rate. A system with higher
throughput allows the semiconductor manufacturer to recover the purchase price
of the system over a greater number of wafers and thereby reduce the cost of
ownership of the system on a per wafer basis. Throughput is most accurately
measured on a net or overall basis, which takes into account the processing
speed of the system and any non-operational downtime for cleaning, maintenance
or other repairs. Yield and film quality are also significant factors to the
semiconductor manufacturer in selecting processing equipment. The increased
costs of larger and more complex semiconductor wafers have made high yields
extremely important to semiconductor manufacturers. To achieve higher yields and
better film quality, deposition systems must be capable of repeating the
original process on a consistent basis without a disqualifying level of defects.
This characteristic, known in the industry as "repeatability," is extremely
important in achieving commercially acceptable yields. Repeatability is more
easily achieved in those systems that can operate at desired throughput rates
without requiring the system to approach its critical tolerance limits.

The continuing evolution of semiconductor devices to smaller line width
geometries and more complex multi-level circuitry has significantly increased
the cost and performance requirements of the capital equipment used to
manufacture these devices. An advanced 300 mm wafer fabrication line can cost
close to $2 billion, representing a substantial increase over the costs of prior
generation facilities. Increased capital depreciation costs will continue to
become a much larger percentage of the aggregate production costs for
semiconductor manufacturers relative to labor, materials and other variable
manufacturing costs. As a result, there has been an increasing focus by the
semiconductor industry on obtaining increased productivity and higher returns
from its semiconductor manufacturing equipment, thereby reducing the effective
cost of ownership of such systems.

THE NOVELLUS SOLUTION

Novellus focuses on advanced thin film deposition systems and surface
preparation equipment -- CVD, PVD, "electrofill" (electroplating), photoresist
strip, and residue removal systems--that provide high film quality while
attaining the high levels of productivity required to meet the semiconductor
industry's need for high volume, low cost wafer production. The Company's
multi-station sequential processing architecture of its plasma enhanced CVD
(PECVD) and CVD tungsten products enables these systems to address each of the
following critical parameters of system performance:


                                       10
<PAGE>   11

CVD Solutions

Throughput, Cost per Wafer. In contrast to CVD systems which process only one
wafer at a time in a chamber, the Company's multi-station sequential deposition
systems can process five, six, or even seven wafers at the same time in a
chamber, leading to higher throughput levels. The design simplicity and
automatic cleaning capabilities of the Company's systems further increase net
throughput by reducing production downtime.

Film Quality. With Novellus' unique sequential system design, each wafer
receives a fraction of the desired film thickness at each of the five, six, or
seven deposition stations in the process chamber. The "averaging" effect created
by this design tends to reduce anomalies in film thickness and thereby improves
film uniformity and quality. The Company's systems, for most films, can obtain
within-wafer and wafer-to-wafer uniformity levels of +/- 1% of film thickness as
measured at one standard deviation, which the Company believes is
state-of-the-art for the industry.

Process Repeatability. Because of the inherently higher throughput potential of
continuous processing, the Company's systems are able to deposit materials at
lower, more controlled rates than single wafer processing systems, which
generally deposit at faster rates closer to the process performance limits to
achieve production-level throughputs. Lower deposition rates avoid straining the
system's process tolerance limits and thereby permit increased process control
and repeatability.

PVD Solutions

Through the acquisition of Varian's Thin Film Systems division in 1997, Novellus
has extended its capabilities in PVD, introducing the INOVA(TM) system in April
of 1998. PVD, a critical technology in the production of advanced semiconductor
logic and memory devices, enables Novellus to provide metal deposition solutions
for both aluminum primary conductor as well as copper barrier/seed layers.

Copper Electroplating Solutions

Introduced in June 1998 after an extensive joint development program with IBM's
Microelectronics Division, the SABRE(TM) copper electrofill(TM) tool is the
industry's leading production system for depositing copper conductive layers on
sub-0.25 micron circuits. SABRE employs a patented wafer fixture to avoid
backside contamination of the wafer from the plating bath; a unique bath cell
design that ensures reproducibility of the copper fill; and a simple system
architecture that ensures both high wafer throughput and system availability.
Coupled with the INOVA PVD system, Novellus is able to offer a complete copper
solution for depositing advanced copper interconnects.

Photoresist Strip and Clean Solutions

Through the acquisition of GaSonics, completed in January 2001, Novellus now
offers a suite of advanced photoresist strip and clean products, including the
PEP 3510(Plus) and the Gamma 2100 for photoresist strip applications, and the
PEP Iridia for residue clean processes. All surface preparation products, now
part of Novellus' Surface Integrity Group, employ advanced dry process
technology that allows more efficient removal of complex residues without
attacking or contaminating the underlying device material.

STRATEGY

The Company's objective is to increase its market share in the worldwide
interconnect market and strengthen its position as a leading supplier of
semiconductor processing equipment. The key elements of the Company's strategy
are as follows:

Emphasis on High Productivity Systems. Novellus has historically focused on
providing high productivity systems to leading semiconductor companies. The
Company addresses the needs of semiconductor manufacturers through either its
multi-chamber or unique continuous processing architecture, which enables its
systems to attain high levels of wafer throughput, yield and film quality. The
architecture's simple design also provides the Company's systems with long
up-time and smaller footprints. The Company intends to retain its focus on
productivity by leveraging its multi-chamber and continuous processing
architecture in product enhancements and new product offerings.


                                       11
<PAGE>   12

Leadership in dielectric deposition, metals deposition and surface preparation
technologies. The Company's strategy is to provide a family of systems which
utilize advanced CVD, PVD, electrofilling and dry strip/clean technologies to
address leading-edge wafer processing needs. The Company's Concept One(TM)
Dielectric system offers dual frequency deposition technology to achieve results
for a wide variety of films on wafers as large as eight inches and geometries as
small as 0.35 micron. The Company's Concept One-W is used by manufacturers to
connect multiple metal layers in advanced devices and the Company believes that
it is currently the only system that provides full coverage tungsten deposition
on a wafer's surface. The Company's Concept Two(TM) system is a modular CVD
system designed to address the needs of wafer fabs that demand greater levels of
wafer processing integration, higher volume production and increased factory
automation. The Concept Three(TM) system is also a modular CVD system, but
designed to process 300 mm wafers. The Concept Three's architecture is similar
to that of the Concept Two, but uses a single wafer loadlock. The Company is
focusing its research and development efforts on advanced PVD and electrofilling
technology; "gap fill" high-density plasma (HDP) technology; low-k dielectric
materials; and additional advanced technologies for the next generation of
smaller geometry fabrication lines. The Company's first offering in the advanced
HDP technology market, SPEED(TM) was introduced in February 1996. The INOVA(TM)
system provides an advanced PVD system that can deliver tantalum barriers and
copper seed layers for copper metallization, as well as Ti/Ti-nitride film
quality with excellent particle performance. The SABRE electrofill tool has
emerged as the industry's leading choice for the fill of copper vias and
trenches using a dual damascene process. The PEP Iridia(TM), a dual purpose
strip/clean system, is a plasma-based system for advanced, sub-0.25 micron
device production, including copper dual damascene and low-k dielectric films.
And finally, the Gamma 2100 system is a high throughput, low cost of ownership
photoresist strip system employing a multi-station sequential processing
architecture for simplicity, reliability and high productivity

Focus On Major Semiconductor Manufacturers. The Company has sold one or more of
its systems to each of the 20 largest semiconductor manufacturers in the world.
The Company's sales objective is to work closely with customers to secure
purchase orders for multiple systems as these customers expand existing
facilities; retrofit old facilities with new equipment; or build new fabs. The
Company seeks to build customer loyalty and achieve a high level of repeat
business by offering high reliability products, comprehensive field support and
a responsive parts replacement and service program.

Expansion Of Asian Market Presence. While Novellus derives a significant
percentage of its net sales from the Asian marketplace, the Company believes
that substantial additional growth potential exists in the region over the long
term. Countries such as Japan, Taiwan, and Korea continue to represent a
disproportionate share of the world's capacity for semiconductor manufacturing,
and in the year 2000 showed a significant rebound from the industry downturn of
1997-1999. The Asian countries are particularly dominant in the manufacturing of
memory products, which are enabling technologies for end use consumer
applications such as the Internet. Currently, the Company's local presence in
Asia includes sales and support offices throughout Japan (via the Company's
wholly owned subsidiary, Nippon Novellus); two offices in Taiwan and China, and
one office in each of Korea, Singapore and Malaysia. With the acquisition of
GaSonics in January 2001, the Company furthered its presence in Asia with
offices in Japan and Singapore. It is an important part of Novellus' current
business strategy to continue to aggressively build its presence in Asia to
serve this strategically significant region.

Low Manufacturing Cost Structure. Novellus utilizes an outsourcing strategy for
the manufacture of major subassemblies and performs system design, assembly and
testing in-house. Novellus believes that outsourcing enables it to minimize its
fixed costs and capital expenditures while also providing the flexibility to
increase capacity as needed. This strategy also allows the Company to focus on
product differentiation through system design and quality control. Through the
use of third party manufacturing specialists, the Company ensures that its
subsystems incorporate advanced technologies in robotics, gas panels and
microcomputers. The Company works closely with its suppliers to achieve mutual
cost reduction through joint design efforts.


                                       12
<PAGE>   13

DEPOSITION PRODUCTS

Since the introduction of its original Concept One Dielectric system in 1987,
the Company has developed and now offers a family of processing systems for the
dielectric and metal deposition markets. The Concept One Dielectric deposits a
variety of insulating or "dielectric" films on wafers including Oxide, Nitride
and TEOS. In 1990, the Company introduced a modified version of the Concept
One-Dielectric, the Concept One-W, which also uses a CVD process to deposit
blanket tungsten metal films on wafers primarily as the metal interconnect
between conductor layers in the integrated circuit layers. In November 1991, the
Company introduced the Concept Two, which is a modular, integrated production
system capable of depositing both dielectric and conductive metal layers by
combining one or more processing chambers around a common, automated robotic
wafer handler. In February 1996, the Company introduced SPEED on the Concept Two
platform, targeted at advanced inter-metal dielectric ("IMD") deposition.
Following the acquisition of Varian's Thin Film Systems Division, the Company
announced the introduction of its INOVA system, an advanced PVD system that
delivers Maxfill aluminum and Ti/Ti-nitride film quality for aluminum barrier
layer applications, as well as highly conformal tantalum barrier copper seed
layers (barrier/seed) for copper conductive layers. In June 1998, the Company
announced the SABRE copper Electrofill system for producing copper conductive
layers. And most recently, in July 2000, the Company introduced VECTOR(TM), a
new 200mm/300mm PECVD platform with twice the capital productivity of
competitive market offerings.

Concept One-Dielectric

The Concept One-Dielectric is shipped in two versions: the Concept One-150,
which processes 100, 125, and 150 mm wafers (approximately 4, 5, and 6 inches in
diameter), and the Concept One-200, which processes 125, 150 and 200 mm wafers
(approximately 5, 6 and 8 inches in diameter, designed for advanced eight inch
fabrication lines).

The Concept One consists principally of two attached chambers and associated
hardware and electronics. The first chamber of the system, called the
"loadlock," isolates the process chamber from the outside environment. Depending
on the model of the Concept One-Dielectric, the loadlock accepts up to 75 wafers
sized from 100 to 200 mm, stored in cassette carriers. The operator inserts the
cassettes of wafers in batches into the loadlock, and the pressure inside the
loadlock is decreased to create a vacuum, which matches the constant pressure
level of the process chamber. A robotic arm in the center of the loadlock, the
wafer transport mechanism, transfers wafers one at a time from the cassettes to
the process chamber and, upon completion of the deposition process, returns the
finished wafers to the cassettes. The loadlock isolates the process chamber from
the fabrication environment, permitting the process chamber to remain at
constant temperature and pressure while wafers are transferred from the
clean-room to the loadlock and from the loadlock to the process chamber. These
stable process chamber conditions enhance film quality, process repeatability,
and throughput. The loadlock design also reduces particulate contamination
because the robotic arm is the only moving mechanism in the loadlock and because
the wafer cassettes are isolated from the clean-room.

The process chamber for the Concept One-Dielectric has six or eight stations,
depending on the model. One station is used as a load/unload site and the
remaining five, six, or seven stations are used for wafer deposition. Each
deposition station employs a dedicated shower head which delivers gases and
plasma energy to the wafer surface. In a six station process chamber, for
example, each wafer moves through the system and stops at each of the five
deposition stations to receive one-fifth of its preprogrammed film thickness.
Some CVD products, called "single wafer" systems, process only one wafer at a
time in a process chamber, while multistation continuous process systems, like
the Concept One, can process numerous wafers at the same time. The continuous
processing capabilities of a multistation system generally enable such systems
to attain higher throughput while using a less critical, more repeatable process
than would be required for a single wafer system at equivalent throughput
levels. This multiple deposition design also results in greater film uniformity
and improved film quality because small variations in deposition at any single
station tend to be offset by deposition of the same film at other stations.

After the entire batch of up to 75 wafers has been processed and returned to the
cassettes, an automatic cleaning cycle in the process chamber removes residual
deposition materials, which could otherwise cause particulate contamination in a
subsequent deposition process. During this cleaning cycle, the loadlock
automatically returns to


                                       13
<PAGE>   14

atmospheric pressure, enabling the operator to remove the cassettes of finished
wafers without impacting system throughput.

The Concept One-Dielectric uses electrical radio frequency (RF) plasma energy to
enhance thermal energy, enabling the system to process wafers at a relatively
low temperature, and thus reducing the risk of heat damage to existing metal
layers during processing. The system also suppresses hillock formation by
limiting the time that the wafer is exposed to elevated temperatures prior to
deposition. The wafer is heated for 10 seconds or less in advance of deposition
in the Concept One-Dielectric, which the Company believes is one of the shortest
preheat times of any CVD system. Stress related defects are addressed through
the system by addition of a proprietary dual frequency, "stress control" option
which the Company offers. The system's vacuum loadlock reduces the level of
particles, thereby improving film quality by isolating the process chamber of
the Concept One-Dielectric from temperature and pressure fluctuations. In
addition, the automatic cleaning capability and relatively simple mechanical
design of the system reduce particulate contaminants and thereby increase yields
and film quality.

In 1995, the Company introduced an extension to its Concept One-Dielectric
system, the Concept One Maxus(TM). The Maxus extends the Company's performance
in nitride passivation by enhancing the nitride deposition rate while retaining
nitride film performance. It also enhances the gap fill capability of TEOS films
by enabling fluorinated-TEOS (F-TEOS) processing for .35 micron gap fill. F-TEOS
enables the customer to lower the dielectric constant to 3.7, an important
capability in enhancing device performance. The Maxus is also available on the
Concept Two platform.

Concept One-W

The Concept One-W was introduced in 1990 to address the tungsten CVD market. The
Concept One-W deposits blanket tungsten metal films, increasingly used in
advanced semiconductor devices to connect multiple metal layers in the
integrated circuit. Like the Concept One-Dielectric, the Concept One-W uses a
multistation sequential deposition design that achieves high throughput with
desirable film properties for the entire range of film thickness. The Concept
One-W also uses an approach patented by the Company to provide full-coverage
front-side tungsten deposition while preventing deposition of tungsten on the
backside of the wafer. This capability helps prevent the generation of damaging
particles on the wafer and eliminates the need for time-consuming etching on the
backside of the wafer to remove the film.

During 1993, the Concept One-W successfully completed a 21 day, 24 hour-per-day
wafer manufacturing trial at SEMATECH, a U.S. semiconductor industry consortium.
The results of this extended manufacturing trial demonstrated that the Concept
One-W achieved or surpassed all program goals, which included system
availability, film uniformity, particulates and other film properties. In 1993,
SEMATECH also announced that the Concept One-W was one of a group of U.S.
manufactured semiconductor production tools capable of producing devices with
0.35 micron geometries. The success of the Concept One-W in these SEMATECH
trials was a major milestone for the Company in attaining market acceptance for
the Concept One-W with major U.S. semiconductor manufacturers, and in enabling
the Company to penetrate certain of these important accounts.

Concept Two

The Concept Two, introduced in November 1991, is a modular, integrated
production system capable of depositing both dielectric and conductive metal
layers by combining one or more processing chambers around a common, robotic
wafer handler. The Concept Two enables the semiconductor manufacturer to
increase production throughput and system capability as needed without equipment
replacement by adding additional process modules through the Concept Two's
modular configuration. The Concept Two was initially available with a tungsten
process chamber and a PVD process module for deposition of certain metal layers.
In late 1994, a dielectric process module became available for Concept Two
systems. The Concept Two has been designed to be compatible with the modular
equipment interface standard established by the Modular Equipment Standards
Committee ("MESC"), sponsored by SEMATECH.


                                       14
<PAGE>   15

The Concept Two in a typical configuration incorporates a central cassette
module and wafer handler that interfaces with the clean-room, and includes
multiple interfaces for process or transport modules. The cassette module,
through its robotics, manages wafer movement between the various processing
stations that can be included in a particular Concept Two configuration.
Different cassette modules are available, depending on customer requirements. An
optional isolation chamber is also available that is connected to the cassette
module to connect high vacuum process chambers and other portions of the system.

In 1993, the Company introduced the Concept Two-ALTUS(TM), which combines the
modular architecture of the Concept Two system with an advanced tungsten CVD
process chamber. The system features a dual loadlock cassette module with full
factory automation capability to meet the high throughput requirements of high
volume, automated eight inch wafer fabs. This dual loadlock cassette handler
permits continuous operation of the process chamber with one loadlock, while a
second loadlock is simultaneously being loaded or unloaded by the operator in
the clean-room. Through its modular configuration, the Concept Two enables the
semiconductor manufacturer to combine multistation modules for slower processes
with single wafer modules for faster processes to balance the throughput of the
overall system. A dielectric version of the Concept Two ALTUS(TM), the Concept
Two SEQUEL(TM), was shipped in late 1994. This system brought the same level of
factory automation and throughput to the dielectric market as the ALTUS did to
the metals market. The Concept Two SEQUEL(TM) was initially shipped in a single
chamber version targeted at thin dielectric films used in volume 200mm
inter-metal dielectric production applications.

In 1994, the Company introduced the Concept Two-Dual ALTUS tungsten deposition
system. The Dual ALTUS features the production proven performance of Novellus'
tungsten CVD chamber in a dual chamber configuration that delivers the
throughput power to dramatically lower the cost of tungsten deposition. The
Company believes that the Dual ALTUS is a solution in the industry for very high
volume 200mm wafer fabs producing semiconductor devices at 0.18 micron and
below.

Subsequent to 1994, the Company has continued to expand its Concept Two product
offerings as follows:

Concept Two Dual Sequel

This dual chamber version of the SEQUEL dielectric family is designed for high
throughput deposition of thick films, such as layers before CMP (chemical
mechanical polishing), and dual layer passivation films. The Dual SEQUEL employs
two process chambers to provide the throughput power of twelve stations,
resulting in dramatic improvements in productivity for these types of films.

Concept Two Sequel-S And Altus-S

These enhanced versions of the SEQUEL and ALTUS systems offer improved
throughput performance for both thick and thin dielectric films, while occupying
45% less space than previous versions. They also provide a range of improved
maintainability features and design enhancements that reduce customer facilities
costs. The two products are available in both single and dual chamber versions.

Concept Two Sequel Express(TM)

Introduced in June of 1999, SEQUEL EXPRESS is an advanced version of the SEQUEL
system, designed to deposit Novellus' CORAL(TM) family of low-k dielectric
films, as well as all other advanced films required for 0.18 micron and smaller
devices. With a throughput in excess of 110 wafers per hour, SEQUEL EXPRESS
delivers up to 40 percent higher capital productivity and up to 40 percent lower
cost of ownership than competing CVD systems.


                                       15
<PAGE>   16

Concept Two Prism(TM)

The Prism(TM) MOCVD Ti-nitride system offers thin barrier solutions for high
aspect ratio structures with barrier properties, conformality and film
stability. This system is used to form a high quality, low cost barrier/adhesion
layer prior to depositing tungsten. The Company began shipments of this system
in 1996.

Concept Two Speed

Introduced in February 1996, SPEED is the Company's advanced dielectric gap fill
system, the semiconductor capital equipment industry's first high density plasma
deposition solution capable of high-volume manufacturing. SPEED is targeted for
advanced IMD deposition for 0.18 micron devices and below. SPEED is offered
either as a stand alone gap fill system or integrated with the Concept Two
SEQUEL to provide a complete high-throughput, low-cost gap fill and chemical
mechanical polishing gap layer solution for logic manufacturing. SPEED is a
single wafer processing system, and uses a patented hemispherical source design
and a proprietary electrostatic chuck to provide excellent fill,
reproducibility, low damage and high throughput. In 1996, the Company received
and shipped orders for multiple production SPEED systems and announced an
enhanced version (SPEED-S) that occupies 40% less space, thus improving
throughput densities for customers.

Anti Reflection Layer

In December 1996, the Company announced a new plasma enhanced anti-reflection
layer film ("ARL"). The ARL product, PEARL(TM), achieves tighter levels of
critical dimension control with in-line and Deep UV lithography in advanced
semiconductor devices while reducing cost per wafer. Running on a Concept Two
SEQUEL, the Company believes that PEARL offers competitive throughput and low
cost of ownership for the industry. The PEARL product is currently being used in
production in customer manufacturing facilities.

Coral(TM) Low-K Dielectric Films

Commensurate with the launch of SEQUEL EXPRESS in June of 1999, Novellus
introduced the CORAL family of low dielectric constant (low-k) films, designed
for the manufacture of advanced devices down to sub-0.1 micron geometries, and
in particular, copper dual damascene structures. CORAL films are carbon-doped
oxide CVD films with dielectric constants in the range of 3.0 k to less than 2.4
k. Matched with Novellus' thin films for copper barriers and etch stops, CORAL
yields an effective capacitance reduction of up to 40 percent in semiconductor
devices.

Concept Three(TM)

In December 1997, the Company introduced its Concept Three family of chemical
vapor deposition systems for dielectric and tungsten applications on 300mm
wafers. The Concept Three(TM) products include the C3-SPEED(TM), the
C3-SEQUEL(TM), and the C-3 ALTUS(TM). Because the Concept Three systems are
based on the production proven Novellus Concept Two products, the Company
believes that they offer minimal risk to its customers in making the transition
from 200mm to 300mm volume chipmaking.


                                       16
<PAGE>   17

Inova(TM) System

Introduced in April 1998, the INOVA system is an advanced PVD system that
delivers tantalum barrier and copper seed layers required prior to copper
electrofilling, as well as Maxfill aluminum and Ti/Ti-nitride films for aluminum
liner/barrier applications. The INOVA, a multi-chamber single wafer processing
system, incorporates Novellus' uniquely-designed Hollow Cathode Magnetron
("HCM(TM)") technology, which the Company believes offers better target
utilization, extended maintenance intervals, and lower cost of ownership in
comparison with collimated and other ionized sputtering techniques. In July
2000, the company introduced the INOVA xT, a 300mm version of INOVA with proven
HCM extendability to the 0.10 um technology node, as well as an industry-leading
100 wph throughput.

SABRE

The SABRE system was introduced in July 1998 after an extensive development
program with IBM and is believed by the Company to be the most reliable and
technologically advanced copper electrofilling system available on the market.
SABRE has been proven to provide void-free copper fill of 0.10 micron trench
features (at 9 or 10:1 aspect ratios) and 0.18 micron vias (at 5:1 aspect
ratios). SABRE employs a proprietary electrofilling cell that eliminates the
backside wafer contamination of copper, and features a unique plating cell
design that ensures reproducibility of the copper fill, with a film uniformity
of <5%, 3 sigma within a wafer. SABRE requires only two types of process modules
to complete the electrofill process, one for electrofilling (3 stations total)
and the other for bevel etch/spin/rinse/dry (another 3 stations) within a
compact footprint. The resulting simplicity of this design is key to the
system's high reliability and manufacturing availability.

SABRExT

The second generation Sabre xT (introduced in 1999) is a 200mm/300mm bridge
tool, and has become a market-leading platform at both wafer sizes. Continuous
improvement has led to the availability of new features on the xT that were not
found on the original SABRE, including programmable electrical waveforms,
advanced plating chemistries, integrated anneal, and closed-loop chemical
monitoring with the Smartdose(TM) predictive dosing system.

VECTOR

Introduced in July of 2000, VECTOR is a new PECVD system for dielectric films
that radically transforms the playing field in terms of capital productivity. A
200mm/300mm bridge tool, VECTOR is designed to deliver a fully integrated low-k
dielectric structure at 0.10 micron and smaller design rules. VECTOR is designed
for high reliability, with 40% fewer critical subassemblies than the nearest
competitor. With approximately 2/3rds the footprint of the nearest competitor,
and a throughput of 120 wafers per hour, VECTOR delivers twice the capital
productivity of any other PECVD system currently on the market.

SURFACE PREPARATION PRODUCTS

Through the acquisition of GaSonics, completed in January 2001, Novellus'
Surface Integrity Group provides a suite of high productivity/low cost of
ownership systems for the photoresist strip and clean markets, an area of
semiconductor manufacturing that is becoming increasingly important with the
move to copper dual damascene manufacturing.

PEP 3510(Plus)

The PEP 3510 is a versatile downstream microwave photoresist removal system
designed for the clean, damage-free removal of photoresist materials. One of the
most dependable bulk strip systems on the market, the PEP 3510 routinely
delivers 300 hours MTBF with 95% uptime. More than 300 PEP-based systems have
been installed in fabs around the world.


                                       17
<PAGE>   18

Gamma(TM) 2100

The Gamma 2100 photoresist removal system uses an interlaced, inductively
coupled plasma source (I(2)CP) to strip photoresist, resulting in a more uniform
distribution of results with reduced use of consumables. The Gamma architecture
also features a multi-station chamber design with six strip stations, resulting
in a wafer throughput of up to 175 wph with a minimal number of critical
subsystems (one change, one remote dry pump, and one gasbox support all six
stations).

PEP Iridia(TM)

The PEP Iridia is an advanced cleaning system designed for sub-0.25 micron
applications and enabling technologies such as copper dual damascene. The
Iridia's modular architecture allows the system to be configurable for both
front-end-of-line (FEOL) and back-end-of-line clean applications down to 0.10
micron device geometries. For low-k dielectric clean applications, the Iridia
offers the highest capital and footprint productivity of any clean system
currently on the market.

MARKETING, SALES AND SERVICE

Novellus markets its products worldwide to manufacturers of semiconductors,
including both captive fabrication lines (which produce semiconductors primarily
for internal consumption) and merchant semiconductor manufacturers (which
produce semiconductors primarily for sales to third party customers). In North
America, the Company sells products primarily through a direct sales force. The
Company's U.S. sales and support offices are located in Salem, New Hampshire;
Orlando, Florida; Austin and Dallas, Texas; Phoenix, Arizona; Hopewell Junction,
New York; Williston, Vermont; Bath, Pennsylvania; Manassas, Virginia; Vancouver,
Washington; Colorado Springs, Colorado; Boise, Idaho; Portland, Hillsboro, and
Eugene, Oregon and Newport Beach, California. In Europe, the Company's products
are predominantly sold through a wholly owned subsidiary, Novellus Systems,
Ltd., which has sales and support facilities outside London, England, and in
Scotland. The Company also has sales and service support offices in The
Netherlands, France, Germany, Ireland and Israel. In Asia, the Company sells its
products through wholly owned subsidiaries in Japan, Korea, Taiwan, Singapore,
and China. The Company's Japanese subsidiary maintains its headquarters near
Tokyo and has eight sales offices throughout Japan.

Through the acquisition of GaSonics in January 2001, Novellus added sales and
service support offices located in the U.K., Ireland, France, Germany, Israel,
Japan, Italy and Singapore as well as sales and service centers in the United
States located in Austin, Texas; Orlando, Florida; Mesa, Arizona and East
Fishkill, New York. GaSonics' headquarters in San Jose, California now functions
as Novellus' Surface Integrity Group's primary operations.

The ability to provide prompt and effective field support is critical to the
Company's sales efforts, due to the substantial operational and financial
commitments made by customers that purchase a deposition system. The Company's
strategy of supporting its installed base through both its customer support and
research and development groups has served to encourage use of the Company's
systems in production applications and has accelerated penetration of certain
key accounts. The Company believes that its marketing efforts are enhanced by
the technical expertise of its research and development personnel who provide
customer process support and participate in a number of industry forums, such as
conferences and publications.

The Company believes that its ability to service its customers is enhanced by
the design simplicity of its systems. The Company generally warrants its
products against defects in design, materials and workmanship. In 1992, the
Company became the first semiconductor equipment manufacturer to extend its
warranty to 24 months from shipment and in 1993 also included the cost of all
consumable parts in the system and preventative maintenance parts under
warranty. The Company offers maintenance contracts as an additional service to
its customers.

For the year ended December 31, 2000, one customer accounted for approximately
11% of the Company's net sales. For the year ended December 31, 1999, one
customer accounted for approximately 17% of the Company's net sales


                                       18
<PAGE>   19

and in 1998, there were no individual customers who accounted for more than 10%
of the Company's net sales. The above discussion does not include GaSonics since
the acquisition of GaSonics was consummated after December 31, 2000.

Export sales (including sales made by the Company's Japanese subsidiary) for the
year ended December 31, 2000 were approximately $770.5 million, or 66% of net
sales. Export sales for the year ended December 31, 1999 were approximately
$378.1 million, or 64% of net sales. For the year ended December 31, 1998,
export sales were approximately $284.4 million, or 55% of net sales. The above
discussion does not include GaSonics since the acquisition of GaSonics was
consummated after December 31, 2000. Historically, the Company has sold a
significant proportion of its systems in any particular period to a limited
number of customers. Sales to the Company's ten largest customers in 2000, 1999
and 1998 accounted for 56%, 65% and 57% of net sales, respectively. The Company
expects that sales of its products to relatively few customers will continue to
account for a high percentage of its net sales in the foreseeable future. None
of the Company's customers has entered into a long-term agreement requiring it
to purchase the Company's products. The Company believes that sales to certain
of its customers will decrease in the near future as those customers complete
current purchasing requirements for new or expanded fabrication facilities.
Although the composition of the group comprising the Company's largest customers
has varied from year to year, the loss of a significant customer or any
reduction in orders from any significant customer, including reductions due to
customer departures from recent buying patterns, market, economic or competitive
conditions in the semiconductor industry or in the industries that manufacture
products utilizing integrated circuits, could adversely affect the Company's
business, financial condition and results of operations. In addition, sales of
the Company's systems depend in significant part upon the decision of a
prospective customer to increase manufacturing capacity or to expand current
manufacturing capacity, both of which typically involve a significant capital
commitment. The Company has from time to time experienced delays in finalizing
system sales following initial system qualification. Due to these and other
factors, the Company's systems typically have a lengthy sales cycle during which
the Company may expend substantial funds and management effort.

BACKLOG

As of December 31, 2000, the Company's backlog was $575.7 million, as compared
to a backlog of $329.5 million at December 31, 1999. The Company includes in its
backlog only those customer orders for which it has accepted purchase orders and
assigned shipment dates within twelve months. All orders are subject to
cancellation or rescheduling by customers with limited or no penalties. Because
of orders received in the same quarter in which a system is shipped, possible
changes in system delivery schedules, cancellations of orders and delays in
systems shipments, the Company's backlog at any particular date is not
necessarily a reliable indicator of actual sales for any succeeding period. The
above discussion does not include GaSonics since the acquisition of GaSonics was
consummated after December 31, 2000.

RESEARCH AND DEVELOPMENT

The semiconductor manufacturing industry is subject to rapid technological
change and new product introductions and enhancements. The Company's ability to
remain competitive in this market will depend in part upon its ability to
develop new and enhanced systems and to introduce these systems at competitive
prices and on a timely and cost-effective basis. Accordingly, the Company
devotes a significant portion of its personnel and financial resources to
research and development programs and seeks to maintain close relationships with
its customers to remain responsive to their product needs.

The Company's current research and development efforts are directed at
development of new systems and processes and improving existing system
capabilities. The Company is focusing its research and development efforts on
additional Concept Two modules, advanced PVD systems, advanced gap fill
technology, primary conductor metals, low-K dielectric materials and additional
advanced technologies for the next generation of smaller geometry fabrication
lines, and advanced clean and strip systems. All new systems being developed are
capable of processing 300mm wafers.


                                       19
<PAGE>   20

Expenditures for research and development during 2000, 1999 and 1998 were $178.3
million, $119.7 million and $106.5 million, respectively, or approximately 15%,
20% and 21% of net sales, respectively. The Company expects in future years
that research and development expenditures will continue to represent a
substantial percentage of net sales. The above discussion does not include
GaSonics since the acquisition of GaSonics was consummated after December 31,
2000.

The success of the Company in developing, introducing and selling new and
enhanced systems depends upon a variety of factors, including product selection,
timely and efficient completion of product design and development, timely and
efficient implementation of manufacturing and assembly processes, product
performance in the field and effective sales and marketing. There can be no
assurance that the Company will be successful in selecting, developing,
manufacturing and marketing new products or in enhancing its existing products.
As is typical in the semiconductor capital equipment market, the Company has
experienced delays from time to time in the introduction of, and certain
technical and manufacturing difficulties with, certain of its systems and
enhancements and may experience delays and technical and manufacturing
difficulties in future introductions or volume production of new systems or
enhancements. The Company's inability to complete the development or meet the
technical specifications of any of its new systems or enhancements or to
manufacture and ship these systems or enhancements in volume in a timely manner
would materially adversely affect the Company's business, financial condition
and results of operations. In addition, the Company may incur substantial
unanticipated costs to ensure the functionality and reliability of its future
product introductions early in the product's life cycle. If new products have
reliability or quality problems, reduced orders or higher manufacturing costs,
delays in collecting accounts receivable and additional service and warranty
expense may result. Any of these events could materially adversely affect the
Company's business, financial condition and results of operations.

MANUFACTURING

The Company's manufacturing activities consist primarily of assembling and
testing components and subassemblies which are acquired from third party vendors
and then integrated into a finished system by the Company. The Company utilizes
an outsourcing strategy for the manufacture of major subassemblies and performs
system design, assembly and testing in-house. Novellus believes that outsourcing
enables it to minimize its fixed costs and capital expenditures while also
providing the flexibility to increase production capacity. This strategy also
allows the Company to focus on product differentiation through system design and
quality control. Through the use of manufacturing specialists, the Company
believes that its subsystems incorporate advanced technologies in robotics, gas
panels and microcomputers. The Company works closely with its suppliers on
achieving mutual cost reduction through joint design efforts.

The Company manufactures its system units in clean-room environments, which are
similar to the clean rooms used by semiconductor manufacturers for wafer
fabrication. This procedure is intended to reduce the amount of particulates and
other contaminants in the final assembled system, which in turn improves yield
and reduces the level of contaminants at the customer level. Following assembly,
the completed system is packaged in a plastic shrink wrap to maintain clean-room
standards during shipment.

The Company uses numerous suppliers to supply parts, components and
subassemblies (collectively, "parts") for the manufacture and support of its
products. Although the Company makes reasonable efforts to ensure that parts are
available from multiple suppliers, this is not always possible; accordingly,
certain key parts are obtained from a single supplier or a limited group of
suppliers. These suppliers are, in some cases, thinly capitalized, independent
companies that generate significant portions of their business from the Company
and/or a small group of other companies in the semiconductor industry. Although
the Company seeks to reduce its dependence on these limited source suppliers,
disruption or termination of certain of these sources could occur and such
disruptions could have at least a temporary adverse effect on the Company's
operations. Moreover, a prolonged inability to obtain certain components could
have a material adverse effect on the Company's business, financial condition
and results of operations and could result in damage to customer relationships.


                                       20
<PAGE>   21

COMPETITION

Significant competitive factors in the semiconductor equipment market include
system performance and flexibility, cost, the size of each manufacturer's
installed customer base, capability for customer support and breadth of product
line. The Company believes that it competes favorably in the deposition
equipment marketplace primarily on the basis of system performance and
flexibility, cost and customer support capability. In addition, the Company
believes that the acquisition of TFS and its 1998 announcements of a copper
primary conductor product will allow the Company to develop and compete
successfully in the PVD and copper electrofill areas of the market,
respectively.

However, the semiconductor equipment industry is highly competitive and
characterized by increasingly rapid technological changes. The Company faces
substantial competition in the market in which it competes from both established
competitors and potential new entrants. In the CVD and PVD areas of the market,
the Company's principal competitor is Applied Materials, Inc., which is a major
supplier of CVD and PVD systems and has established a substantial base of CVD,
PVD and other equipment in large semiconductor manufacturers. In the copper
electrofill area of the market, the Company's principal competitors are Semitool
(which has a large installed base of R&D tools), and Applied Materials, which
entered the market with an electroplating tool in April of 1999. In the surface
preparation marketplace, the Company's principal competitors are Mattson
Technologies and Axcelis Technologies. Certain of the Company's competitors have
greater financial, marketing, technical or other resources, broader product
lines, greater customer service capabilities and larger and more established
sales organizations and customer bases than the Company. The Company may also
face future competition from new market entrants from other overseas and
domestic sources. The Company expects its competitors to continue to improve the
design and performance of their products. There can be no assurance that the
Company's competitors will not develop enhancements to or future generations of
competitive products that will offer price or performance features. In addition,
a substantial investment is required by customers to install and integrate
capital equipment into a semiconductor production line. As a result, once a
semiconductor manufacturer has selected a particular vendor's capital equipment,
the Company believes that the manufacturer will be generally reliant upon that
equipment for the specific production line application. Accordingly, the Company
may experience difficulty in selling a product line to a particular customer for
a significant period of time if that customer selects a competitor's product.
Increased competitive pressure could lead to lower prices for the Company's
products, thereby materially adversely affecting the Company's business,
financial condition and results of operations. There can be no assurance that
the Company will be able to compete successfully in the future.

PATENTS AND PROPRIETARY RIGHTS

The Company intends to continue to pursue the legal protection of its technology
primarily through patent and trade secret protection. The Company currently
holds over 100 patents and intends to file additional patent applications as
appropriate. There can be no assurance that patents will be issued from any of
these pending applications or that any claims allowed from existing or pending
patents will be sufficiently broad to protect the Company's technology. While
the Company intends to protect its intellectual property rights vigorously,
there can be no assurance that any patents held by the Company will not be
challenged, invalidated or circumvented, or that the rights granted thereunder
will provide competitive advantages to the Company (see Item 3 "Legal
Proceedings"). The Company also relies on trade secrets and proprietary
technology that it seeks to protect, in part, through confidentiality agreements
with employees, consultants and other parties. There can be no assurance that
these agreements will not be breached, that the Company will have adequate
remedies for any breach, or that the Company's trade secrets will not otherwise
become known to or independently developed by others.

There has also been substantial litigation regarding patent and other
intellectual property rights in semiconductor related industries. The Company is
currently involved in such litigation (see Item 3 "Legal Proceedings"), and,
although, except as set forth in Item 3 , "Legal Proceedings," it is not aware
of any claim of infringement by its products of any patent or proprietary rights
of others, it could become involved in additional litigation in the future.
Although the Company does not believe the outcome of the current litigation will
have a material impact on the Company's business, financial condition or results
of operations, no assurances can be given that this litigation or future
litigation will not have such an impact. In addition to the current litigation,
the Company's operations,


                                       21
<PAGE>   22

including the further commercialization of the Company's products, could provoke
additional claims of infringement from third parties. In the future, litigation
may be necessary to enforce patents issued to the Company, to protect trade
secrets or know-how owned by the Company or to defend the Company against
claimed infringement of the rights of others and to determine the scope and
validity of the proprietary rights of others. Any such litigation could result
in substantial cost and diversion of effort by the Company, which by itself
could have a material adverse effect on the Company's financial condition and
operating results. Further, adverse determinations in such litigation could
result in the Company's loss of proprietary rights, subject the Company to
significant liabilities to third parties, require the Company to seek licenses
from third parties or prevent the Company from manufacturing or selling its
products, any of which could have a material adverse effect on the Company's
business, financial condition and results of operations.

EMPLOYEES

At December 31, 2000, the Company had 3,054 full time and temporary employees.
With the acquisition of GaSonics which was consummated on January 10, 2001,
Novellus added approximately 475 full time and temporary employees.

The success of the Company's future operations depends in large part on the
Company's ability to recruit and retain engineers and technicians, as well as
marketing, sales, service and other key personnel, who in each case are in great
demand. There can be no assurance that the Company will be successful in
retaining or recruiting key personnel.

None of the Company's employees is represented by a labor union and the Company
has never experienced a work stoppage, slowdown or strike. The Company
currently considers its employee relations to be good.

The Company's success depends to a significant extent upon a limited number of
key employees and other members of senior management of the Company. The loss of
the service of one or more of these key employees could have a material adverse
effect on the Company. Although the Company has recently experienced significant
growth in net sales, there can be no assurance that the Company will be able to
continue to maintain or increase the level of net sales in future periods. This
growth has placed, and is expected to continue to place, a significant strain on
the Company's management and operations. The Company's inability to effectively
manage growth, or to attract and retain the personnel it requires, could have a
material adverse effect on the Company's business, financial condition and
results of operations.

BUSINESS COMBINATIONS

On January 10, 2001 Novellus acquired GaSonics International Corporation in a
stock-for-stock merger, accounted for as a pooling-of-interests. All outstanding
shares of GaSonics capital stock was converted into approximately 9,240,000
shares of Novellus common stock in the merger. In addition, all outstanding
options to purchase shares of GaSonics capital stock were automatically
converted into options to purchase approximately 1,400,000 shares of Novellus
common stock.

For further details regarding Novellus' business combinations, please see Note
12 of Notes to Consolidated Financial Statements.

ENVIRONMENTAL MATTERS

Neither compliance with federal, state and local provisions regulating discharge
of materials into the environment, nor remedial agreements or other actions
relating to the environment, has had, or is expected to have, a material effect
on Novellus' capital expenditures, financial condition, results of operations or
competitive position.


                                       22
<PAGE>   23

ITEM 2. PROPERTIES

The Company's operations are conducted primarily in eleven buildings (including
three buildings acquired from GaSonics in January 2001) in the North San Jose,
California area and two buildings in the Portland, Oregon area. The San Jose
buildings are leased by the Company and consist of 694,383 square feet. Eight of
the leases expire in 2002 and provide for an extension to 2005, and three of the
leases expire in 2006. The buildings house three manufacturing operations, a
research and development facility, various administrative and customer support
offices, an applications demonstration lab and the Company's headquarters.

The Portland, Oregon buildings consist of a 26,900 square foot building in
Wilsonville, Oregon, and a 64,576 square foot building in Tualatin, Oregon.
These locations provide manufacturing, research and development and customer
support for the company's Electrofill product (Sabre). The Wilsonville lease
expires in August 2002 and the Tualatin facility is owned by the Company.

It is currently anticipated that construction on 27 acres on the Tualatin,
Oregon site will commence by the end of March 2001. The site will be developed
in several phases. The Company anticipates that the first phase will be
completed in the second quarter of 2002 and will provide the Company with
370,000 square feet of new manufacturing, research and development, engineering
and training facilities.


Additionally, the Company subleases four buildings consisting of 270,000 square
feet on and adjacent to the Novellus campus pursuant to leases that expire in
2001 and 2002.

The Company also operates a facility near Tokyo, Japan which serves as
headquarters, sales office, service, technology and customer demonstration
center for Nippon Novellus. The facility near Tokyo is operated under a five
year lease that expires in 2001. In addition, the Company maintains eight sales
offices throughout Japan.

The Company leases various smaller facilities worldwide which are used as sales
and customer service centers. Customer service and sales centers were added and
expanded in Korea, Taiwan, Malaysia, China and Singapore in order to support new
customer requirements. Additionally, a software development office should be
completed in Bangalore, India in the second quarter of 2002.

The Company currently believes that its current properties and its currently
planned properties will be sufficient to meet the Company's requirements for
the foreseeable future.


ITEM 3. LEGAL PROCEEDINGS

Applied Materials, Inc. vs. Varian Associates Inc. (Case No.C-9720523 RMW) and
Novellus Systems, Inc. v. Applied Materials, Inc. (Case No. C-97-20551 RMW).

On July 7, 1997, prior to the consummation of the purchase of the Thin Film
Systems Business ("TFS") of Varian Associates ("Varian"), Applied Materials,
Inc. ("Applied") filed a complaint (the "Applied Complaint") against Varian in
the United States District Court for the Northern District of California, San
Jose Division, Civil Action No. C-97-20523 RMW, alleging, among other things,
infringement by Varian (including the making, using, selling and/or offering for
sale of certain products and systems made by TFS) of United States Patent Nos.
5,171,412; 5,186,718; 5,496,455 and 5,540,821 (the "Applied Patents"), which
patents are owned by Applied.

Immediately after consummation of the TFS purchase, the Company filed a
complaint (the "Company Complaint") against Applied in the same Court, Civil
Action No. C-97-20551 RMW, alleging infringement by Applied (including the
making, using, selling and/or offering for sale of certain products and systems)
of United States Patent Nos. 5,314,597; 5,330,628, and 5,635,036 (the "Company
Patents"), which patents the Company acquired from Varian in the TFS purchase.
In the Company Complaint, the Company also alleged that it is entitled to
declarations from Applied that the Company does not infringe the Applied Patents
and/or that the Applied Patents are invalid and/or


                                       23
<PAGE>   24

unenforceable. Applied has filed counterclaims alleging that the Company
infringes the Applied Patents.

Also after consummation of the TFS purchase, but some time after the Company
filed the Company Complaint, Applied amended the Applied Complaint to add the
Company as a defendant. The Company has requested that the Court dismiss the
Company as a defendant in Applied's lawsuit against Varian. The Court has not
yet required the Company to file an answer to the Applied Complaint.

In addition to a request for a permanent injunction against further
infringement, the Applied Complaint and Applied's counterclaims to the Company
Complaint include requests for damages for alleged prior infringement and treble
damages for alleged "willful" infringement. In connection with the consummation
of the TFS purchase, Varian agreed, under certain circumstances, to reimburse
the Company for certain of its legal and other expenses in connection with the
defense and prosecution of this litigation, and to indemnify the Company for a
portion of any losses incurred by the Company arising from this litigation
(including losses resulting from a permanent injunction). The Company and Varian
believe that there are meritorious defenses to Applied's allegations, including
among other things, that the Company's operations (including TFS products and
systems) do not infringe the Applied Patents and/or that the Applied Patents are
invalid and/or unenforceable. However, the resolution of intellectual property
disputes is often fact intensive and, therefore, inherently uncertain. Although
the Company believes that the ultimate outcome of the dispute with Applied will
not have a material adverse effect on the Company's business or results of
operations (taking into account both the defenses available to the Company and
Varian's reimbursement and indemnity obligations), there can be no assurances
that Applied will not ultimately prevail in this dispute and that, in such an
event, Varian's reimbursement and indemnity obligations will not be sufficient
to fully reimburse the Company for its losses. If Applied were to prevail in
this dispute, it could have a material adverse effect on the Company's business,
financial condition or results of operations.

The Company Complaint against Applied also includes requests for damages for
prior infringement and treble damages for "willful" infringement, in addition to
a request for a permanent injunction for further infringement. Although the
Company believes that it will prevail against Applied, there can be no
assurances that the Company will prevail in its litigation against Applied. If
Applied were to prevail against the Company Complaint, it could have a material
adverse effect on the Company's business, financial condition or results of
operations.

On July 13, 1999, in the Company lawsuit against Applied where the Company has
alleged that Applied infringes Company patents, the Court ruled on the
interpretation of the claims of the Company patents. On September 20, 1999, in
the Applied lawsuit against Varian and the Company, where Applied has alleged
that Varian and the Company infringe Applied patents, the Court ruled on the
interpretation of the claims of the Applied patents.

On September 10, 1999, the Company filed a motion for summary judgment that
claims 1, 2 and 8 of its U.S. Patent No. 5,314,597 are not invalid over the
prior art asserted against it by Applied. On September 29, 1999, Applied filed a
counter-motion for summary judgment that these claims are invalid based on the
on-sale bar. On December 7, 1999, the Court entered an order granting the
Company's motion and denying Applied's motion.

On November 4, 1999, Applied moved for leave of Court to amend its prior art
chart with respect to the Company's U.S. Patent No. 5,314,597. On February 15,
2000, the Court granted Applied's motion. On October 4, 2000, the Court entered
an order denying the Company's motion for reconsideration of this order.

On December 17, 1999, the Company and Varian moved for summary judgment that
certain claims of Applied's U.S. Patent No. 5,171,412 were invalid as
anticipated or obvious over the prior art. On March 16, 2000, the Court granted
this motion in part, and deferred ruling in part.

On December 23, 1999, the Company moved for summary judgment that its U.S.
Patent No. 5,635,036 is not invalid as obvious over the prior art. On March 20,
2000, the Court denied the Company's motion without prejudice.

On January 14, 2000, Applied withdrew its U.S. Patent No. 5,496,455 from the
lawsuits against the Company and Varian.


                                       24
<PAGE>   25

On February 4, 2000, Applied filed a motion for summary judgment that claims 10,
11 and 13 of the Company's U.S. Patent No. 5,314,597 are invalid over the prior
art. On March 10, 2000, the Company filed an opposition and cross-moved for
leave to amend its claim chart to withdraw these claims. On April 5, 2000, the
Court issued an order denying Applied's motion as moot and granting the
Company's motion.

On March 31, 2000, the Company filed a renewed motion for partial summary
judgment that its U.S. Patent No. 5,635,036 is not invalid as obvious over the
prior art. On January 3, 2001, the Court entered an order in response to this
motion tentatively amending certain claim constructions and requesting
additional briefing.

On July 28, 2000, Applied filed a motion for summary judgment of
non-infringement of the Company's U.S. Patent No. 5,330,628. On October 20,
2000, the Company filed a non-opposition to that motion, pending appeal of the
Court's claim construction. The Company also cross-moved for the Court to
dismiss Applied's allegations that the '628 patent was invalid or unenforceable.
On November 20, 2000, the Court entered an order granting both motions.

On May 12, 2000, the Company and Varian moved for summary judgment that the
Inova and MB2 do not infringe Applied's U.S. Patent No. 5,186,718. On August 8,
2000, the Court granted this motion with respect to the Inova. The Company's
motion that the MB2 does not infringe the '718 patent is currently off calendar
pending completion of discovery.

On August 18, 2000, Applied filed a motion for partial summary judgment that
certain of its products did not infringe the Company's U.S. Patent No.
5,635,036. On October 24, the Court entered an order denying Applied's motion.
The Court, in the same order, also allowed the Company to withdraw its assertion
that certain Applied products infringed certain claims of its U.S. Patent No.
5,314,597.

On or about September 25, 2000, Varian and Applied executed a "License and
Settlement Agreement." On September 29, 2000, Varian and Applied filed a
Stipulated Dismissal with Prejudice with the Court that reciprocally dismisses
all causes of action that Varian and Applied had asserted or could have asserted
against one another in the litigation. In addition, Applied has stated, in its
agreement with Varian, that it will release the Company from all claims that
arose out of or relate to the litigation that relate to any infringement alleged
with respect to the Inova, in the form as it existed as of the effective date of
the Company's purchase of Varian's TFS division. The Stipulated Dismissal,
however, expressly excludes the Company from the scope of any release.

On October 6, 2000, Applied filed a motion for summary judgment of
noninfringement of the Company's U.S. Patent No. 5,314,597. On November 13,
2000, the Company filed an opposition to that motion, and cross-moved for
summary judgment of infringement as to claims 1 and 8 of the '597 patent. These
motions were orally argued on January 5, 2001 and are presently under
submission.

On November 22, 2000, Applied filed a second motion for summary judgment that
its accused products do not infringe the Company's U.S. Patent No. 5,635,036.
This motion was orally argued on January 19, 2001 and is presently under
submission.

Semitool, Inc. v. Novellus Systems, Inc. (Case No. C-98-3089 DLJ)

On August 10, 1998, Semitool sued the Company for patent infringement in the
United States District Court for the Northern District of California. Semitool
alleges that the Company's SABRE(TM) and SABRE xT(TM) copper deposition systems
infringe two Semitool patents, U.S. Patent No. 5,222,310, issued June 29, 1993,
entitled "Single Wafer Processor with a Frame," and U.S. Patent No. 5,377,708,
issued January 3, 1995, entitled "Multi-Station Semiconductor Processor with
Volatilization." Semitool seeks an injunction against the Company's manufacture
and sale of the SABRE(TM) and SABRE xT(TM) systems, and seeks damages for past
infringement. Semitool also seeks trebled damages for alleged willful
infringement. Semitool further seeks its attorneys' fees and costs, and interest
on any judgement.


                                       25
<PAGE>   26

On September 24, 1999, the Court ruled on the interpretation of the claims of
the Semitool patents. On December 18, 1999, the Company filed a motion for
summary judgement of non-infringement.

On March 17, 2000, the Court granted the Company's motion for summary judgement
of non-infringement. The Court ruled that the Company's SABRE(TM) and SABRE
xT(TM) systems do not infringe the two patents asserted by Semitool.

On May 15, 2000, Semitool filed a notice of appeal, appealing the Court's
judgement to the United States Court of Appeals for the Federal Circuit.
Semitool filed its opening brief on July 24, 2000. The Company filed its opening
brief on October 3, 2000. Semitool filed its reply brief on November 3, 2000.
Although the Company believes that the Court's order granting summary judgment
of non-infringement was correct, and that the Company will prevail on appeal,
there can be no assurances that the Company will prevail in its litigation
against Semitool. If the Court's order is reversed on appeal, and if Semitool
were to prevail against the Company following the appeal Complaint, it could
have a material adverse effect on the Company's business, financial condition or
results of operations.

Plasma Physics Litigation

On December 28, 1999, Plasma Physics Corporation and Solar Physics Corporation
(collectively, "Plasma Physics") filed a patent infringement lawsuit against
many of the Company's Japanese and Korean customers. The suit was entitled
Plasma Physics and Solar Physics v. Fujitsu et al., Civil Action No. 99-8593,
and was pending in the United States District Court for the Eastern District of
New York. On July 24, 2000, the Court ordered Plasma Physics to re-file separate
complaints against the Japanese and Korean defendants, whereupon, Civil Action
No. 99-8593 would be dismissed without prejudice. In accordance with the Court's
order, Plasma Physics has since re-filed separate complaints against the
Japanese and Korean defendants in the United States District Court for the
Eastern District of New York. Many of the defendants have notified the Company
that they believe that the Company has indemnification obligations and liability
for the lawsuits.

Plasma Physics has asserted U.S. Patent Nos. 4,226,897; 5,470,784, and 5,543,634
(the "'897, '784, and '634 patents," respectively). Plasma Physics seeks an
injunction against the defendants' alleged infringement of the '784 and '634
patents (the '897 patent has expired). Plasma Physics also seeks trebled damages
for alleged willful infringement. Plasma Physics further seeks its attorney's
fees and costs, and interest on any judgement.

On April 17, 2000, Applied Materials filed a declaratory relief action against
Plasma Physics and Solar Physics requesting a judgement of non-infringement,
invalidity, and unenforceability with respect to the '897 and '784 patents. The
suit is entitled Applied Materials v. Plasma Physics and Solar Physics, Civil
Action No. 00-2199, and is pending in the United States District Court for the
Eastern District of New York. On May 23, 2000, Plasma Physics filed a motion to
dismiss Applied Material's complaint for a lack of subject matter jurisdiction.
Plasma Physics' motion to dismiss Applied Materials' complaint was denied
without prejudice on July 24, 2000. Plasma Physics subsequently filed an Answer
and Conditional Counterclaim.

On June 1, 2000, the Company filed a declaratory relief action against Plasma
Physics and Solar Physics requesting a judgement of non-infringement,
invalidity, and unenforceability with respect to the '897 and '784 patents. The
suit is entitled Novellus v. Plasma Physics and Solar Physics, Civil Action No.
00-3146, and is pending in the United States District Court for the Eastern
District of New York. On June 30, 2000, Plasma Physics filed a motion to dismiss
the Company's complaint for a lack of subject matter jurisdiction. Plasma
Physics' motion to dismiss the Company's complaint was denied without prejudice
on July 24, 2000. On July 31, 2000, Plasma Physics filed an Answer and
Conditional Counterclaim. Plasma Physics denies that the '897 and '784 patents
are invalid and unenforceable. Plasma Physics further denies that the '784
patent is not infringed by the Company. Plasma Physics also asserted a
conditional counterclaim against the Company, alleging that the Company's PECVD
processing systems infringe the '784 patent.

The Company believes that there are meritorious defenses to Plasma Physics'
allegations, including among other things, that the defendants' use of the
Company's equipment does not infringe the Plasma Physics patents and/or that


                                       26
<PAGE>   27

the Plasma Physics patents are invalid and/or unenforceable. But the resolution
of intellectual property disputes is often fact intensive and, like most other
litigation matters, inherently uncertain. Although the Company believes that the
ultimate outcome of the dispute with Plasma Physics will not have a material
adverse effect on the Company's business, financial condition, or result of
operations (taking into account the defenses available to the Company), there
can be no assurances that Plasma Physics will not ultimately prevail in this
dispute and that the Company will not have any indemnity obligations or
liability. If Plasma Physics were to prevail in the dispute, it could have a
material adverse effect on the Company's business, financial condition or
results of operations.

Other Litigation

In addition, in the normal course of business, the Company from time to time
receives inquiries with regard to possible other patent infringements. The
Company believes it is unlikely that the outcome of the patent infringement
inquiries will have a material adverse effect on the Company's financial
position or results of operations.

There has been substantial litigation regarding patent and other intellectual
property rights in semiconductor-related industries. Although the Company is not
aware of any infringement by its products of any patents or proprietary rights
of others except as claimed by Applied, Semitool, and Plasma Physics, further
commercialization of the Company's products could provoke claims of infringement
from third parties. In the future, litigation may be necessary to enforce
patents issued to the Company, to protect trade secrets or know-how owned by the
Company or to defend the Company against claimed infringement of the rights of
others and to determine the scope and validity of the proprietary rights of
others. Any such litigation could result in substantial cost and diversion of
effort by the Company, which by itself could have a material adverse effect on
the Company's financial condition and operating results. Further, adverse
determinations in such litigation could result in the Company's loss of
proprietary rights, subject the Company to significant liabilities to third
parties, require the Company to seek licenses from third parties or prevent the
Company from manufacturing or selling its products, any of which could have a
material adverse effect on the Company's business, financial condition and
results of operations.


ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

Not applicable.


                                       27
<PAGE>   28

                                     PART II

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS

STOCK INFORMATION(1)

Novellus' common stock is traded on the NASDAQ Stock Market and is quoted on the
NASDAQ National Market under the symbol "NVLS." The following table sets forth
the high and low closing prices as reported by the NASDAQ National Market for
the periods indicated:

<TABLE>
<CAPTION>
           2000                               HIGH                LOW
           --------------------------------------------------------------
<S>                                          <C>                <C>
           First Quarter                     $ 69.94            $ 39.27
           Second Quarter                      66.69              40.06
           Third Quarter                       68.44              43.88
           Fourth Quarter                      47.75              25.94
</TABLE>


<TABLE>
<CAPTION>
           1999                               HIGH                LOW
           --------------------------------------------------------------
<S>                                          <C>                <C>
           First Quarter                     $ 25.17            $ 16.48
           Second Quarter                      23.58              14.96
           Third Quarter                       25.29              17.29
           Fourth Quarter                      42.79              22.29
</TABLE>

(1) Stock prices have been restated to reflect the Company's three-for-one stock
split, effective January 15, 2000.

The Company has not paid cash dividends on its common stock since inception, and
its Board of Directors presently plans to reinvest the Company's earnings in its
business. Accordingly, it is anticipated that no cash dividends will be paid to
holders of common stock in the foreseeable future. Additionally, certain
covenants set forth in the Company's lines of credit with certain banks and its
senior credit facility prohibit the Company's from paying dividends. As of
December 31, 2000, there were 734 holders of record of the Company's common
stock.


                                       28
<PAGE>   29

ITEM 6. SELECTED FINANCIAL DATA

                      SELECTED CONSOLIDATED FINANCIAL DATA
                      (IN THOUSANDS, EXCEPT PER SHARE DATA)

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,                                   2000            1999          1998           1997               1996
----------------------------------------------------------------------------------------------------------------------------------
<S>                                                   <C>             <C>           <C>            <C>                <C>
CONSOLIDATED STATEMENTS OF OPERATIONS DATA:
Net sales                                             $ 1,173,731     $   592,741   $   518,778    $   534,004        $   461,736
Gross profit                                              657,215         321,031       280,865        290,438            264,574
Net income (loss) before cumulative effect of
change in accounting principle                            235,697          76,574        52,828        (95,658)(1)         94,029
Cumulative effect of change in accounting principle       (84,632)             --            --             --                 --
Net income (loss)                                         151,065          76,574        52,828        (95,658)            94,029
Per common share:
Income (loss) before cumulative effect of change
in accounting principle(2)
        Basic                                         $      1.85     $      0.67   $      0.52    $     (0.96)       $      0.97
        Diluted                                       $      1.75     $      0.64   $      0.50    $     (0.96)       $      0.95
Cumulative effect of change in accounting
principle, net of tax(2)
        Basic                                         $     (0.67)             --            --             --                 --
        Diluted                                       $     (0.63)             --            --             --                 --
Net income (loss)(2)
        Basic                                         $      1.18     $      0.67   $      0.52    $     (0.96)       $      0.97
        Diluted                                       $      1.12     $      0.64   $      0.50    $     (0.96)       $      0.95
Shares used in basic per share calculations(2)            127,731         114,817       102,106         99,770             96,468
Shares used in diluted per share calculations(2)          135,109         120,097       104,961         99,770(3)          99,054
Pro forma amounts with the change in accounting
principle related to revenue recognition applied
retroactively:  (unaudited)(4)
        Net revenues                                  $ 1,173,731     $   520,093             *              *                  *
        Net income                                        235,697          47,691             *              *                  *
        Net income per share:
                Basic                                 $      1.85     $      0.42             *              *                  *
                Diluted                               $      1.75     $      0.40             *              *                  *
</TABLE>



<TABLE>
<CAPTION>
DECEMBER 31,                            2000          1999          1998          1997           1996
---------------------------------------------------------------------------------------------------------
<S>                                   <C>           <C>           <C>           <C>           <C>
CONSOLIDATED BALANCE SHEET DATA:
Cash, cash equivalents,
   and short-term investments         $1,152,114    $385,257      $130,818      $ 98,089      $176,668
Working capital                        1,322,525     592,436       287,621       223,710       287,818
Total assets                           2,015,472     909,929       551,939       493,300       459,787
Long-term obligations                         --          --        65,000        65,000            --
Shareholders' equity                   1,510,712     769,699       375,465       301,001       373,636
Cash dividends per share                      --          --            --            --            --
</TABLE>


The above data does not reflect the financial position or results of operations
after the merger with GaSonics International Corporation, which was consummated
after December 31, 2001. See Note 12 in Item 8. Financial Statements and
Supplementary Data -- Notes to Consolidated Financial Statements.

*      Data is not available to provide pro forma information for these years.

(1)    The Company's reported loss of $95.7 million or $0.96 per share for the
       year ended December 31, 1997 includes pre-tax one-time charges totaling
       $235.2 million, consisting of $133.5 million in connection with the
       acquisition of TFS, a write-off of $17.7 million in connection with
       outstanding accounts receivable from Submicron Technology, Inc. and
       charges totaling $84.0 million in connection with the May 4, 1997
       settlement of the TEOS patent litigation.


                                       29
<PAGE>   30

(2)    The earnings (loss) per share amounts and shares used have been adjusted
       to reflect the Company's two-for-one stock split, effective October 1997
       and the Company's three-for-one stock split, effective January 15, 2000.

(3)    Excludes common stock equivalents as they are antidilutive to the loss
       per share for the year.

(4)    The Company recorded a non-cash charge of $84.6 million, after reduction
       for income taxes of $45.8 million, or $0.63 per diluted share, to reflect
       the cumulative effect of the accounting change as of January 1, 2000
       related to the adoption of Staff Accounting Bulletin No. 101, "Revenue
       Recognition in Financial Statements."


ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

RESULTS OF OPERATIONS

Novellus manufactures, markets and services advanced systems used to deposit
thin conductive and insulating films on semiconductor devices, as well as
equipment for preparing the device surface for these deposition processes to
semiconductor manufacturers worldwide. Demand for the Company's systems can vary
significantly from period to period as a result of various factors, including
but not limited to, downturns in the semiconductor industry, supply and demand
for semiconductor devices and substantial competition in the semiconductor
industry among suppliers of similar products. For these and other reasons,
Novellus' results of operations for fiscal 1998, 1999 and 2000 may not
necessarily be indicative of future operating results.

Net Sales

Net sales were $1,173.7 million, $592.7 million, and $518.8 million in 2000,
1999, and 1998, respectively. Net sales of $1,173.7 million in 2000 reflect the
Company's adoption of SAB 101, discussed below in "Recent Accounting
Pronouncements". The increase of approximately 98% from 1999 is attributable to
the increase in net sales across all product lines as the semiconductor industry
increased purchases related to both capacity and technology buys. The increase
of approximately 14% from 1998 to 1999 reflected the strengthening of the
semiconductor industry, as the industry was in the early stages of a broad-based
recovery. The increase in sales is attributable to semiconductor manufacturers'
need for additional capacity and new technology. The Company's CVD equipment
showed strong sales primarily as a result of increasing demand for its Concept
Two products offset by the decline in demand for the Company's Concept One
products. International sales were approximately 66% of net sales in 2000, an
increase from 64% in 1999. The increase is attributable to higher demand in the
Pacific Rim, Japan, and Europe partially offset by lower demand in Korea.
International sales were approximately 64% of net sales in 1999, an increase
from 55% in 1998. The increase is the result of higher demand in Japan, Korea,
and Pacific Rim countries offset by lower demand in Europe.

Gross Profit

Gross profit was $657.2 million, $321.0 million, and $280.9 million in 2000,
1999, and 1998, respectively. The absolute dollar increases are due to higher
net sales. As a percentage of net sales, gross profit was 56% in 2000 and 54% in
1999 and 1998, respectively. The increase in gross profit from the prior fiscal
periods reflect successful cost reduction efforts and improved absorption of
fixed overhead costs due to the increased levels of shipments. During 1999 and
1998 gross profit remained flat, with improvements in unabsorbed fixed costs
offset by higher warranty costs in 1999 as compared to 1998.

Selling, General, and Administrative

Selling, general, and administrative expenses were $191.0 million, $101.0
million, and $95.4 million in 2000, 1999, and 1998, respectively. As a
percentage of net sales, selling, general, and administrative expenses were
approximately 16%, 17%, and 18% in 2000, 1999, and 1998, respectively. The
increase in absolute dollars across periods is attributable to increased costs
associated with the growth in revenues. However, the decrease as a


                                       30
<PAGE>   31

percentage of net sales across periods reflects the Company's ongoing efforts to
control and reduce selling, general, and administrative expenses despite the
rapid growth in revenues.

Research and Development

Research and development (R&D) expenses were $178.3 million, $119.7 million, and
$106.5 million in 2000, 1999, and 1998, respectively. The increases reflect the
Company's continued commitment to the development of new products, including
additional Concept Two modules, advanced PVD systems, advanced "gap fill"
technology, primary conductor metals, low K dielectric materials and additional
advanced technologies for the next generation of smaller geometry fabrication
lines, as well as equipment to process 300mm wafers. The increase from the prior
year also reflects a full period of costs associated with the Company's
investment in its facilities infrastructure to support its ongoing R&D
commitment. As a percentage of net sales, research and development expenses were
approximately 15%, 20%, and 21% in 2000, 1999, and 1998, respectively. The
Company plans to continue to invest in new products and increase research and
development spending in absolute dollars. The Company continues to believe that
significant investment in R&D is required to remain competitive, and
anticipates, on a forward-looking basis, that such expenses in 2001 will
increase in absolute dollars, although such expenses as a percentage of net
revenues may fluctuate between periods.

Net Interest Income

Net interest income was $53.7 million, $14.0 million, and $1.1 million, in 2000,
1999, and 1998, respectively. The increase from 1999 to 2000 is attributable to
higher cash and short-term investment balances, as a result of a secondary
public offering in April 2000 of approximately 9.0 million shares of common
stock that resulted in net proceeds to the Company of approximately $526.3
million and cash provided by operating activities. The increase from 1998 to
1999 was due to higher average cash and short-term investment balances. In
February 1999, the Company completed a secondary public offering of 11.6 million
shares of common stock, resulting in net proceeds to the Company of $255.1
million. In addition, long-term borrowings of $65.0 million were repaid
subsequent to the stock offering, which resulted in a reduction of interest
expense.

Provision for Income Taxes

The provision for income taxes reflects an effective tax rate of 31% in 2000,
33% in 1999, and 34% in 1998. The decrease in the effective tax rate is
primarily due to the increased benefits from the foreign sales corporation.

At December 31, 2000, the Company has recognized a deferred tax asset of $151.8
million, net of a valuation allowance of $10.7 million. The Company believes
that it is more likely than not that this asset will be realized by an offset
against the recognized deferred tax liability of $29.1 million and future
taxable income.

Net Income

Net income, before a $84.6 million charge related to a cumulative effect of an
accounting change (described further in "Recent Accounting Pronouncements"
below), for the year ended December 31, 2000 was $235.7 million. On a basic and
diluted shares basis, earnings per share were $1.85 and $1.75, respectively,
before the $84.6 million charge.

Net income for the year ended December 31, 2000 was $151.1 million or $1.18 and
$1.12 per basic and diluted shares, respectively, compared with net income for
the year ended December 31, 1999 of $76.6 million or $0.67 and $0.64 per basic
and diluted shares, respectively.

Net income for the year ended December 31, 1999 of $76.6 million or $0.67 and
$0.64 per basic and diluted shares, respectively, compared with net income for
the year ended December 31, 1998 of $52.8 million or $0.52 and $0.50 per basic
and diluted shares, respectively.

The number of shares used in the per share calculations for the year ended
December 31, 2000 was 127.7 million and 135.1 million shares, respectively, for
basic and diluted income per share calculations, compared with 114.8 million and
120.1 million shares, respectively for the year ended December 31, 1999. The
increase in shares compared to the year-ago period is primarily due to an
increased number of common shares outstanding resulting from the common stock
offering of 9.0 million shares in April 2000 and the exercise of stock options
in 2000.


                                       31
<PAGE>   32

The number of shares used in the per share calculations for the year ended
December 31, 1999 was 114.8 million and 120.1 million shares, respectively, for
basic and diluted income per share calculations compared with 102.1 million and
105.0 million for the basic and diluted income per share calculations,
respectively, for the year ended December 31, 1998. The increase in shares used
compared to the prior year is attributable to an increased number of common
shares outstanding resulting from the common stock offering of 11.6 million
shares in February 1999 and the exercise of stock options in 1999.

Foreign Currency Accounting

The local currency is the functional currency for all foreign operations.
Accordingly, translation gains or losses related to the foreign subsidiaries are
included as a component of accumulated other comprehensive income.

Foreign Exchange Contracts

The Company conducts its business in various foreign currencies. The Company
enters into forward foreign exchange contracts primarily to hedge against the
short-term impact of foreign currency fluctuations of intercompany accounts
payable denominated in U.S. dollars recorded by the Company's Japanese
subsidiary. The Company also enters into forward foreign exchange contracts to
buy and sell foreign currencies as economic hedges of the parent's intercompany
balances denominated in a currency other than the U.S. dollar. In 2000, 1999,
and 1998, these hedging contracts were denominated primarily in the Japanese
Yen. The maturities of all the forward foreign exchange contracts are generally
short-term in nature. As the impact of movements in currency exchange rates on
forward foreign exchange contracts offset the related impact on the underlying
items being hedged, the Company believes these financial instruments do not
subject the Company to speculative risk that would otherwise result from changes
in currency exchange rates. Net foreign currency gains and losses have not been
significant.

In June 1998, the Financial Accounting Standards Board ("FASB") issued SFAS No.
133, Accounting for Derivative Instruments and Hedging Activities, which
establishes accounting and reporting standards for derivative instruments,
including forward exchange contracts, and hedging activities. In June 1999, the
FASB issued SFAS No. 137, Accounting for Derivative Instruments and Hedging
Activities --- Deferral of the Effective Date of FASB Statement No. 133. SFAS
No. 133 is now effective for fiscal years beginning after June 15, 2000 and,
therefore, the Company adopted this accounting standard effective January 1,
2001. The impact of the adoption of SFAS No. 133 is not significant.

Acquisition of GaSonics International Corporation

On January 10, 2001 the Company completed its acquisition of GaSonics
International Corporation. In the transaction, the Company acquired all
outstanding shares of GaSonics in a stock-for-stock merger, with all outstanding
shares of GaSonics capital stock converted into approximately 9,240,000 shares
of Novellus common stock. In addition, all outstanding options to purchase
shares of GaSonics capital stock were automatically converted into options to
purchase approximately 1,400,000 shares of Novellus common stock. The
transaction will be accounted for as a pooling-of-interests.

RECENT ACCOUNTING PRONOUNCEMENTS

On December 3, 1999, the staff of the Securities and Exchange Commission (SEC)
issued Staff Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in
Financial Statements." The SEC Staff addressed several issues in SAB No. 101,
including the timing of revenue recognition for sales that involve contractual
customer acceptance provisions and installation of the product if these events
occur after shipment and transfer of title. The Company's previous revenue
recognition policy was to recognize revenue at the time the customer takes title
to the product, generally at the time of shipment. In October 2000, the SEC
issued Staff Accounting Bulleting No. 101: Revenue Recognition in Financial
Statements -- Frequently Asked Questions and Answers ("SAB 101 FAQ"). The SAB
101 FAQ was issued to clarify many of the implementation questions surrounding
SAB No. 101.

The Company derives revenues from three sources -- equipment sales, spare part
sales and service contracts. SAB 101 has no effect on the Company's revenue
recognition policy for spare parts or services. For equipment sales,


                                       32
<PAGE>   33

there are different revenue recognition points under SAB 101, which are
described as follows:

Acceptance: For equipment sales to a new customer, existing products with new
specifications and/or a new product, revenue is recognized upon customer
acceptance.

Shipment and acceptance: Equipment sales to existing customers, who have
purchased the same equipment with the same customer-specified acceptance
provisions in the past, are accounted for as multiple-element arrangement sales.
Upon shipment, the lesser of the fair value of the equipment or the contractual
amount billable upon shipment is recorded as revenue and title is transferred.
The remainder is recorded as revenue upon customer acceptance.

Revenue related to spare part sales is recognized on shipment. Revenue related
to maintenance and service contracts is recognized ratably over the duration of
the contracts.

As a result of SAB 101, the Company changed its method of accounting for revenue
recognition. The Company has reported this change in accounting principle in
accordance with APB Opinion No. 20, "Accounting Changes", by a cumulative effect
adjustment. Because Novellus is a calendar year company adopting SAB 101 in the
fourth quarter, no cumulative effect of the change is included in net income in
the fourth quarter. Instead, APB 20 requires that the change be made as of the
beginning of the year (January 1, 2000) and that financial information for
interim periods reported prior to the change, in this case the first three
quarters of 2000, be restated by applying SAB 101 to those periods. No
restatement of 1999 information is necessary.

In accordance with guidance provided in SAB 101, the Company recorded a non-cash
charge of $84.6 million (after reduction for income taxes of $45.8 million), or
($0.63) per share, to reflect the cumulative effect of the accounting change as
of the beginning of the fiscal year. The decrease to net income before the
cumulative effect of the accounting change as a result of the adoption of SAB
101 was a decrease of $87.1 million or ($0.68) per diluted share for fiscal year
2000.

LIQUIDITY AND CAPITAL RESOURCES

The Company has historically financed its operating and capital resource
requirements through cash flows from operations, sales of equity securities, and
borrowings. The Company's primary source of funds at December 31, 2000 consisted
of $1,152.1 million of cash, cash equivalents and short-term investments. This
amount represents an increase of $766.9 million from the December 31, 1999
balance of $385.3 million. During the second quarter of 2000, the Company
completed a secondary public offering of approximately 9.0 million shares of
common stock that resulted in net proceeds to the Company of approximately
$526.3 million. During the first quarter of 1999, the Company completed a
secondary public offering of 11.6 million shares of common stock that resulted
in net proceeds to the Company of $255.1 million.

In 1997, the Company entered into a five year $125.0 million Senior Credit
Facility structured as an unsecured revolving credit line. The borrowings, at
the option of the Company, bear interest at either a base rate plus a margin or
LIBOR plus a margin for interest periods of one to six months. During March
1999, total borrowings of $65.0 million were repaid. No amounts were outstanding
under this facility at December 31, 2000. The Senior Credit Facility requires
the Company to be in compliance with certain financial covenants. At December
31, 2000, the Company was in compliance with these financial covenants. In
addition, at December 31, 2000, there was $33.9 million available under bank
lines of credit that expire at various dates through May 2001. At December 31,
2000 approximately $16.1 million was outstanding under these bank lines of
credit which bear interest at the banks' offshore reference rates. The weighted
average interest rate at December 31, 2000 for borrowings under the bank lines
of credit was 0.86%.

Net cash provided by operating activities during the year ended December 31,
2000 was $277.4 million. This amount consisted primarily of net income of $151.1
million, net of $84.6 million cumulative effect of a change in accounting
principle, non-cash depreciation and amortization charges of $40.1 million, an
increase of $66.1 million in accounts payable, partially offset by an increase
of $152.5 million in accounts receivable, and an increase in


                                       33
<PAGE>   34

inventories of $75.5 million. The increases in accounts payable, inventories and
accounts receivable were the result of increased net sales volume.

Net cash used in investing activities was $452.6 million during the year ended
December 31, 2000. During this period, the Company's cash outflows consisted of
purchases of approximately $387.9 million, net, of available-for-sale
securities. In addition, the Company had capital expenditures of $68.5 million
and a decrease in other assets of $3.8 million

The Company expects investments in property and equipment for the fiscal year
2001 to approximate $85.0 million. The Company intends to finance these
investments from existing cash balances and cash flows from operations.

During the year ended December 31, 2000, net cash provided by financing
activities was $564.4 million due primarily to net proceeds of $526.3 million
from a secondary public offering of common stock in the second quarter of 2000,
$36.7 million from common stock option exercises and purchases of common stock
under the Company's employee stock purchase plan, and an increase in the
Company's lines of credit of $2.5 million. In October 2000, the Company
announced that its Board of Directors had rescinded its authorization for the
purchase of common stock under the common stock purchase program.

The Company believes that its current cash position, cash generated through
operations and equity offerings, and available borrowings will be sufficient to
meet the Company's needs through at least the next twelve months.

TRENDS, RISKS AND UNCERTAINTIES

Set forth below and elsewhere in this Annual Report and in other documents the
Company files with the Securities and Exchange Commission are risks and
uncertainties that could cause actual results to differ materially from the
results contemplated by the forward-looking statements contained in this Annual
Report.

MARKET RISK AND CYCLICAL DOWNTURNS IN THE SEMICONDUCTOR INDUSTRY

Novellus' business depends predominantly on capital expenditures of
semiconductor manufacturers, which in turn depends on the current and
anticipated market demand for integrated circuits and products utilizing
integrated circuits. The semiconductor industry has historically been very
cyclical and has experienced periodic downturns, which have had a material
adverse effect on the semiconductor industry's demand for semiconductor
processing equipment, including equipment manufactured and marketed by Novellus.
During periods of reduced and declining demand, Novellus must be able to quickly
and effectively align its cost structure with prevailing market conditions, and
motivate and retain key employees. During periods of rapid growth, Novellus must
be able to acquire and/or develop sufficient manufacturing capacity to meet
customer demand, and hire and assimilate a sufficient number of qualified
people. No assurance can be given that Novellus' net sales and operating results
will not be adversely affected if downturns or slowdowns in the rate of capital
investment in the semiconductor industry occur in the future..

DEMAND SHIFTS IN THE PC INDUSTRY

In the PC market, a shift in demand from more expensive, high-performance
products to lower-priced products (sub-$1,000 PCs) has resulted in reduced
profitability for semiconductor manufacturers. Strengthening demand for
sub-$1,000 PCs could cause further delays or decreased demand for the Company's
products.

INTENSE COMPETITION IN THE SEMICONDUCTOR EQUIPMENT INDUSTRY

The semiconductor equipment industry is highly competitive. Novellus faces
substantial competition in the markets in which it competes from both
established competitors and potential new entrants. Certain of Novellus'
competitors have greater financial, marketing, technical or other resources,
broader product lines, greater customer service capabilities and larger and more
established sales organizations and customer bases than Novellus. Novellus may
also face future competition from new market entrants from overseas and domestic
sources. Novellus expects its competitors to continue to improve the design and
performance of their products. There can be no assurance that Novellus'
competitors will not develop enhancements to or future generations of
competitive products that will offer superior price or performance features over
Novellus' products, and there can be no assurance that Novellus will be
successful, or as successful as its competitors, in selecting, developing,
manufacturing, and marketing its new products, or enhancing its existing
products. Failure to successfully develop new products could materially
adversely affect Novellus' revenues, financial condition, and results of
operations. In addition, a substantial investment is required by Novellus'
customers to install and integrate capital equipment into a semiconductor
production line. As a result, once a semiconductor manufacturer has selected


                                       34
<PAGE>   35

another vendor's capital equipment, Novellus believes that the manufacturer will
be generally reliant upon that equipment vendor for the specific production line
application. Accordingly, Novellus may experience difficulty in selling a
product to a particular customer for a significant period of time if that
customer first selects a competitor's product. Increased competitive pressure
could lead to lower prices for Novellus' products, thereby adversely affecting
Novellus' revenue and operating results. There can be no assurance that Novellus
will be able to compete successfully against established competitors and new
entrants in the future.

INTERNATIONAL OPERATIONS

Export sales accounted for approximately 66%, 64%, and 55%, of net sales in
2000, 1999, and 1998, respectively. Novellus anticipates that export sales will
account for a significant portion of net sales in the foreseeable future. As a
result, a significant portion of Novellus' sales will be subject to certain
risks, including tariffs and other barriers, difficulties in staffing and
managing foreign subsidiary operations, difficulties in managing distributors,
potentially adverse tax consequences and the possibility of difficulty in
accounts receivable collection. Novellus is also subject to the risks associated
with the imposition of legislation and regulations relating to the import or
export of semiconductor products. Novellus cannot predict whether quotas,
duties, taxes, or other charges or restrictions will be implemented by the
United States or any other country upon the importation or exportation of
Novellus' products in the future. There can be no assurance that any of these
factors or the adoption of restrictive policies will not have a material adverse
effect on Novellus' business, financial condition or results of operations.
Moreover, each region in the global semiconductor equipment market exhibits
unique characteristics that can cause capital equipment investment patterns to
vary significantly from period to period. Although international markets provide
Novellus with significant growth opportunities, periodic economic downturns,
trade balance issues, political instability and fluctuations in interest and
foreign currency exchange rates are all risks that could materially and
adversely affect global products and service demand, and, therefore, Novellus'
business operations and financial condition. Asian countries, particularly Japan
and Korea, are affected by banking, currency and other difficulties that
contribute to the economic developments in those countries. Novellus derives a
substantial portion of its revenues from customers in Asian countries,
particularly Japan and Korea. Economic developments in late 1997 and early 1998
resulted in decreased capital investments by Asian customers. Recent economic
developments indicate that the economies of Japan, Korea and other Asian
countries have recovered somewhat from 1997 and 1998 levels. Any negative
economic developments or delays in the economic recovery of Asian countries
could result in the cancellation or delay of orders for Novellus' products from
Asian customers, thus materially adversely affecting Novellus' business,
financial condition or results of operations. In addition to the concerns
described above, sales of systems shipped by Novellus' Japanese subsidiary are
denominated in Japanese Yen. Novellus sells the systems to its Japanese
subsidiary in U.S. Dollars. Novellus then enters into forward foreign exchange
contracts to hedge against the short-term impact of foreign currency
fluctuations of intercompany accounts payable denominated in U.S. Dollars
recorded by the Japanese subsidiary in order to manage this exposure. However,
there can be no assurance that future changes in the Japanese Yen will not have
a material effect on Novellus' business, financial condition or results of
operations.

POSSIBLE VOLATILITY OF STOCK PRICE

The price of the Company's common stock may be subject to wide fluctuations and
possible rapid increases or declines in a short time period. These fluctuations
may be due to factors specific to the Company such as variations in quarterly
operating results or changes in analysts' earnings estimates, or to factors
relating to the semiconductor industry or to the securities markets in general,
which, in recent years, have experienced significant price fluctuations. These
fluctuations often have been unrelated to the operating performance of the
specific companies whose stocks are traded. Shareholders should be willing to
incur the risk of such fluctuations. Sales of substantial amounts of common
stock in the public market after any offering of the Company's securities could
adversely affect the market price of the outstanding common stock.

VARIABILITY OF QUARTERLY OPERATING RESULTS

If Novellus' operating results are below the expectations of public market
analysts or investors, then the market price of its common stock could decline.
Novellus has experienced and expects to continue to experience significant
fluctuations in its quarterly operating results. During each quarter, Novellus
customarily sells a relatively small number of systems that typically sell for
prices in excess of $1 million. Novellus' backlog at the beginning of each
quarter does not necessarily include all system sales needed to achieve expected
net sales for that quarter. Consequently, Novellus is often dependent on
obtaining orders for shipment in the same quarter that the order is received.
Because Novellus builds its systems according to forecast, the absence of


                                       35
<PAGE>   36

significant backlog for an extended period of time could hinder Novellus'
ability to plan production and inventory levels, which could adversely affect
operating results. Novellus' net sales and operating results could also be
adversely affected for a particular quarter if an anticipated order for even a
few systems is not received in time to permit shipment during that quarter.
Moreover, customers may reschedule or cancel shipments, with, in the case of
cancellations, little or no penalties, and production difficulties could delay
shipments. A delay in a shipment in any quarter, due, for example, to an
unanticipated shipment rescheduling, to cancellations by customers or to
unexpected manufacturing difficulties experienced by Novellus may cause net
sales in such quarter to fall significantly below expectations and may
materially adversely affect Novellus' operating results for such quarter. The
timing of new product announcements and releases by Novellus may also contribute
to fluctuations in quarterly operating results, particularly in cases where new
product offerings cause customers to defer ordering products from Novellus'
existing product lines. Novellus' results of operations also could be affected
by new product announcements and releases by Novellus' competitors, the volume,
mix and timing of orders received during a period, availability and pricing of
key components, fluctuations in foreign exchange rates, and conditions in the
semiconductor equipment industry. Novellus' operating results also fluctuate
based on gross profit realized on system sales. Gross profit as a percentage of
net sales may vary based on a variety of factors, including the mix and average
selling prices of products sold and costs to manufacture upgrades and customize
systems. Because Novellus' operating expenses are based on anticipated net sales
levels, and a high percentage of those expenses are relatively fixed, a
variation in the timing of recognition of net sales and the level of gross
profit from a single transaction can cause material variations in operating
results from quarter to quarter.

BENEFITS OF NOVELLUS' ACQUISITION OF GASONICS MAY NOT BE REALIZED

The integration of Novellus and GaSonics will be a complex, time consuming and
expensive process and may disrupt Novellus' and GaSonics' businesses if not
completed in a timely and efficient manner. The challenges involved in this
integration include the following: satisfying the needs of the combined
company's customers in a timely and efficient manner and maintaining GaSonics'
and Novellus' key customer relationships; persuading employees that Novellus'
and GaSonics' business cultures are compatible and retaining the combined
company's key management, marketing, customer support and technical personnel;
maintaining management's ability to focus on anticipating, responding to or
utilizing changing technologies in the semiconductor industry; combining
GaSonics' product offerings and technologies with Novellus' product offerings
and technologies effectively and quickly and coordinating research and
development activities to enhance introduction of new products and technologies;
maintaining GaSonics' key supplier relationships; and introduction of new
technologies by competitors to the marketplace which reduce GaSonics' market
share prior to the successful integration of the two companies. It is not
certain that Novellus and GaSonics can be successfully integrated in a timely
manner or at all or that any of the anticipated benefits will be realized.
Failure to do so could materially harm the business and operating results of the
combined company. Also, neither Novellus nor GaSonics can assure you that the
growth rate of the combined company will equal the historical growth rates
experienced by Novellus and GaSonics. Novellus and GaSonics employees may
experience uncertainty about their future role with the combined company until
or after strategies with regard to the combined company are announced or
executed. This may adversely affect the combined company's ability to attract
and retain key management, marketing, sales, customer support and technical
personnel, which could harm the combined company. The combined entity may incur
charges to operations, which are not currently reasonably estimable, in the
first quarter of 2001 (the quarter in which the merger is completed) or the
following quarters, to reflect costs associated with integrating the two
companies. There is no assurance that the combined company will not incur
additional material charges in subsequent quarters to reflect additional costs
associated with the merger.


                                       36
<PAGE>   37
A LARGE PORTION OF NOVELLUS' NET SALES IS DERIVED FROM SALES TO A FEW CUSTOMERS

Historically, Novellus has sold a significant proportion of its systems in any
particular period to a limited number of customers. Sales to Novellus' ten
largest customers in 2000, 1999 and 1998 accounted for 56%, 65% and 57% of net
sales, respectively. Novellus expects that sales of its products to relatively
few customers will continue to account for a high percentage of its net sales in
the foreseeable future. None of Novellus' customers have entered into a
long-term agreement requiring them to purchase Novellus' products. Novellus
believes that sales to certain of its customers will decrease in the near future
as those customers complete current purchasing requirements for new or expanded
fabrication facilities. Although the composition of the group comprising
Novellus' largest customers has varied from year to year, the loss of a
significant customer or any reduction in orders from any significant customer,
including reductions due to customer departures from recent buying patterns,
market, economic or competitive conditions in the semiconductor industry or in
the industries that manufacture products utilizing integrated circuits, could
adversely affect Novellus' business, financial condition and results of
operations. In addition, sales of Novellus' systems depend in significant part
upon the decision of a prospective customer to increase manufacturing capacity
or to expand current manufacturing capacity, both of which typically involve a
significant capital commitment. Novellus has from time to time experienced
delays in finalizing system sales following initial system qualification. Due to
these and other factors, Novellus' systems typically have a lengthy sales cycle
during which Novellus may expend substantial funds and management effort with no
guarantee that Novellus will sell a particular system.

NOVELLUS' INDUSTRY IS CHARACTERIZED BY RAPIDLY CHANGING TECHNOLOGY

The semiconductor manufacturing industry is subject to rapid technological
change and new product introductions and enhancements. Novellus' ability to
remain competitive in this market depends in part upon Novellus' ability to
develop new and enhanced systems and to introduce these systems at competitive
prices and on a timely and cost-effective basis. Accordingly, Novellus devotes a
significant portion of its personnel and financial resources to research and
development programs and seek to maintain close relationships with its customers
to remain responsive to their product needs. Novellus' current research and
development efforts are directed at development of new systems and processes and
improving existing system capabilities. Novellus is focusing its research and
development efforts on additional Concept Two modules, advanced PVD systems,
advanced gap fill technology, primary conductor metals, low-K dielectric
materials and additional advanced technologies for the next generation of
smaller geometry fabrication lines, as well as equipment to process 300mm
wafers. There is no assurance that Novellus' research and programs will allow
Novellus to remain responsive to its customers' product needs or that Novellus'
current or new customers will buy its new products.

RESEARCH AND DEVELOPMENT EXPENDITURES REPRESENT A SUBSTANTIAL PORTION OF
NOVELLUS' NET SALES

Novellus' expenditures for research and development during 2000, 1999 and 1998
were $178.3 million, $119.7 million and $106.5 million, respectively, or
approximately 15%, 20%, and 21% of net sales, respectively. Novellus expects in
future years that research and development expenditures will continue to
represent a substantial percentage of its net sales. Novellus' success in
developing, introducing and selling new and enhanced systems depends upon a
variety of factors, including product selection, timely and efficient completion
of product design and development, timely and efficient implementation of
manufacturing and assembly processes, product performance in the field and
effective sales and marketing. There can be no assurance that Novellus will be
successful in selecting, developing, manufacturing and marketing new products or
in enhancing its existing products. As is typical in the semiconductor capital
equipment market, Novellus has experienced delays from time to time in the
introduction of, and certain technical and manufacturing difficulties with,
certain of its systems and enhancements and may experience delays and technical
and manufacturing difficulties in future introductions or volume production of
new systems or enhancements. Novellus' inability to complete the development or
meet the technical specifications of any of its new systems or enhancements or
to manufacture and ship these systems or enhancements in volume in a timely
manner would materially adversely affect Novellus' business, financial condition
and results of operations. In addition, Novellus may incur substantial
unanticipated costs to ensure the functionality and reliability of its future
product introductions early in the product's life cycle. If new products have
reliability or quality problems, reduced orders or higher manufacturing costs,
delays in collecting accounts receivable and additional service and warranty
expense may result. Any of these events could materially adversely affect
Novellus' business, financial condition and results of operations.


                                       37
<PAGE>   38
NOVELLUS' INTELLECTUAL PROPERTY IS CRITICAL TO THE SUCCESS OF ITS BUSINESS

Novellus intends to continue to pursue the legal protection of its technology
primarily through patent and trade secret protection. Novellus currently holds
over 100 patents and intends to file additional patent applications as
appropriate. There can be no assurance that patents will be issued from any of
these pending applications or that any claims allowed from existing or pending
patents will be sufficiently broad to protect Novellus' technology. While
Novellus intends to protect its intellectual property rights vigorously, there
can be no assurance that any patents held by Novellus will not be challenged,
invalidated or circumvented, or that the rights granted thereunder will provide
competitive advantages to Novellus. Novellus also relies on trade secrets and
proprietary technology that it seeks to protect, in part, through Novellus'
confidentiality agreements with employees, consultants and other parties. There
can be no assurance that these agreements will not be breached, that Novellus
will have adequate remedies for any breach, or that Novellus' trade secrets will
not otherwise become known to or independently developed by others. There has
also been substantial litigation regarding patent and other intellectual
property rights in semiconductor related industries. Novellus is currently
involved in such litigation (see Item 3. Legal Proceedings). Except as set forth
in "Item 3. Legal Proceedings," Novellus is not aware of any claim of
infringement by Novellus' products of any patent or proprietary rights of
others, however, Novellus could become involved in additional litigation in the
future. Although Novellus does not believe the outcome of the current litigation
will have a material impact on its business, financial condition or results of
operations, no assurances can be given that this litigation or future litigation
will not have such an impact. In addition to the current litigation, Novellus'
operations, including the further commercialization of Novellus' products, could
provoke additional claims of infringement from third parties. In the future,
litigation may be necessary to enforce patents issued to Novellus, to protect
trade secrets or know-how owned by Novellus or to defend Novellus against
claimed infringement of the rights of others and to determine the scope and
validity of the proprietary rights of others. Any such litigation could result
in substantial cost and diversion of effort by Novellus, which by itself could
have a material adverse effect on Novellus' financial condition and operating
results. Further, adverse determinations in such litigation could result in
Novellus' loss of proprietary rights, subject Novellus to significant
liabilities to third parties, require Novellus to seek licenses from third
parties or prevent Novellus from manufacturing or selling its products, any of
which could have a material adverse effect on Novellus' business, financial
condition and results of operations.

NOVELLUS IS SUSCEPTIBLE TO SUPPLY SHORTAGES

Novellus uses numerous suppliers to supply parts, components and sub-assemblies
for the manufacture and support of its products. Although Novellus makes
reasonable efforts to ensure that such parts are available from multiple
suppliers, this is not always possible. Accordingly, Novellus obtains certain
key parts from a single supplier or a limited group of suppliers. These
suppliers are, in some cases, thinly capitalized, independent companies that
generate significant portions of their business from Novellus and/or a small
group of other companies in the semiconductor industry. Although Novellus seeks
to reduce its dependence on these limited source suppliers, disruption or
termination of certain of these sources could occur and such disruptions could
have at least a temporary adverse effect on Novellus' operations. Moreover, a
prolonged inability to obtain certain components could have a material adverse
effect on Novellus' business, financial condition and results of operations and
could result in damage to its customer relationships.

CONCENTRATION OF CREDIT RISK

The Company uses financial instruments that potentially subject it to
concentrations of credit risk. Such instruments include cash equivalents,
short-term investments, accounts receivable, and financial instruments used in
hedging activities. The Company invests its cash in cash deposits, money market
funds, commercial paper, certificates of deposit, readily marketable debt
securities, or medium term notes. The Company places its investments with
high-credit-quality financial institutions and limits the credit exposure from
any one financial institution or instrument. To date, the Company has not
experienced material losses on these investments. The Company performs ongoing
credit evaluations of its customers' financial condition and generally requires
no collateral. The Company has an exposure to nonperformance by counterparties
on the foreign exchange contracts used in hedging activities. These
counterparties are large international financial institutions and to date, no
such counterparty has failed to meet its financial obligations to the Company.
The Company does not believe there is a significant risk of nonperformance by
these counterparties because the Company continuously monitors its positions and
the credit ratings of such counterparties and the amount of contracts it enters
into with any one party. However, there can be no assurance that there will be
no significant nonperformance by these counterparties and that this would not
materially adversely affect the Company's business, financial condition, and
results of operations.


                                       38
<PAGE>   39

Euro Conversion. On January 1, 1999, several member countries of the European
Union established fixed conversion rates between their existing sovereign
currencies and adopted the Euro as their new common legal currency. As of that
date, the Euro traded on currency exchanges and the legacy currencies remain
legal tender in the participating countries for a transition period between
January 1, 1999 and January 1, 2002. During the transition period, non-cash
payments can be made in the Euro, and parties can elect to pay for goods and
services and transact business using either the Euro or legacy currency. Between
January 1, 1999 and January 1, 2002 the participating countries will introduce
Euro notes and coins and withdraw all legacy currencies so that they will no
longer be available. The Euro conversion may affect cross-border competition by
creating cross-border transparency. Novellus is assessing its pricing/marketing
strategy in an effort to insure that it remains competitive in a broader
European market. Novellus is also assessing its information technology systems
in an effort to allow for transactions to take place in both legacy currencies
and the Euro with the eventual elimination of the legacy currencies, and is
reviewing whether certain existing contracts will need to be modified. Novellus'
currency risk and risk management for operations in participating countries may
be reduced as the legacy currencies are converted to the Euro.


                                       39
<PAGE>   40

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Interest Rate Risk. The Company's exposure to market risk for changes in
interest rates relates primarily to the Company's investment portfolio and
long-term debt obligations. The Company does not use derivative financial
instruments in its investment portfolio. The Company places its investments with
high credit quality issuers and, by policy, limits the amount of credit exposure
to any one issuer.

The Company mitigates default risk by investing in only the safest and highest
credit quality securities and by monitoring the credit rating of investment
issuers. The portfolio includes only marketable securities with active secondary
or resale markets to ensure portfolio liquidity.

The Company has no cash flow exposure due to rate changes for cash equivalents
and short-term investments, as all of these investments are at fixed interest
rates. The Company's short-term borrowing is at a fixed interest rate.
Short-term borrowing is used by the Company's Japanese subsidiary for general
corporate purposes, including capital expenditures and working capital needs.

The table below presents principal amounts and related weighted average interest
rates by year of maturity for the Company's investment portfolio and debt
obligations and the fair value of each as of December 31, 2000 and 2001.


<TABLE>
<CAPTION>
                                                                                                                  FAIR VALUE
                                                                                                                  DECEMBER 31,
IN THOUSANDS                        2001        2002       2003      2004     2005    THEREAFTER      TOTAL          2000
                                 ---------------------------------------------------------------------------------------------
<S>                              <C>            <C>        <C>       <C>      <C>     <C>          <C>            <C>
Assets
Cash equivalents                  $570,678       --         --        --       --         --        $570,678        $570,678
     Average interest rate          6.52%        --         --        --       --         --          6.52%
Short-term investments            $581,436       --         --        --       --         --        $581,436        $581,436
     Average interest rate          6.28%        --         --        --       --         --          6.28%
Total investment securities      $1,152,114      --         --        --       --         --       $1,152,114     $1,152,114
     Average interest rate          6.40%        --         --        --       --         --          6.40%
Short-term borrowing               $16,056       --         --        --       --         --         $16,056         $16,056
     Average interest rate          0.86%        --         --        --       --         --          0.86%
</TABLE>


<TABLE>
<CAPTION>
                                                                                                           FAIR VALUE
                                                                                                          DECEMBER 31,
IN THOUSANDS                        2000       2001     2002    2003     2004    THEREAFTER    TOTAL         1999
                                 -------------------------------------------------------------------------------------
<S>                              <C>           <C>      <C>     <C>      <C>     <C>        <C>           <C>
Assets
Cash equivalents                  $181,568      --       --      --       --         --      $181,568       $181,568
     Average interest rate          6.17%       --       --      --       --         --        6.17%
Short-term investments            $203,689      --       --      --       --         --      $203,689       $203,689
     Average interest rate          5.70%       --       --      --       --         --        5.70%
Total investment securities      $385,257       --       --      --       --         --     $385,257        $385,257
     Average interest rate          5.92%       --       --      --       --         --        5.92%
Short-term borrowing               $13,521      --       --      --       --         --       $13,521        $13,521
     Average interest rate          1.14%       --       --      --       --         --        1.14%
</TABLE>


The Company has lease agreements on several properties. The agreements are for
five years with interest rates that approximate the London Interbank Offering
Rate (LIBOR). At current interest rates, the annual lease payments total
approximately $21.0 million as of December 31, 2000 and $16.9 million as of
December 31, 1999.


                                       40
<PAGE>   41

Foreign Currency Risk. The Company transacts business in various foreign
countries. Its primary foreign currency cash flows are in countries in Asia and
Europe. During 2000 and 1999, the Company employed a foreign currency hedging
program utilizing foreign currency forward exchange contracts and certain
foreign currency denominated balance sheet positions. Under this program,
increases or decreases in currency commitments and balance sheet positions, as
translated into U.S. dollars, are primarily offset by realized gains and losses
on the hedging instruments. The goal of the hedging program is to economically
guarantee or lock in exchange rates on the Company's foreign currency cash
outflows and to minimize the impact to the Company of foreign currency
fluctuations. The Company does not use foreign currency forward exchange
contracts for speculative or trading purposes.

Under the hedging program, all foreign currency contracts are marked-to-market
and realized and unrealized gains and losses are included as a component of
other income and expense. The following table provides information as of
December 31, 2000 about the Company's derivative financial instruments, which
are comprised of foreign currency forward exchange contracts. The information is
provided in U.S. dollar equivalent amounts, as presented in the Company's
financial statements. The table presents the notional amounts (at the contract
exchange rates), the weighted average contractual foreign currency exchange
rates, and the estimated fair value of those contracts.


<TABLE>
<CAPTION>
DECEMBER 31, 2000                                               NOTIONAL             AVERAGE             ESTIMATED
IN THOUSANDS, EXCEPT FOR AVERAGE CONTRACT RATE                   AMOUNT           CONTRACT RATE          FAIR VALUE
----------------------------------------------                ------------------------------------------------------
<S>                                                           <C>                 <C>                    <C>
Foreign currency forward exchange contracts:
       Japanese yen                                             $149,916              103.94              $10,827
       British pound                                                 (27)               0.68                   --
       French franc                                                 (275)               7.21                   (6)
       Irish punt                                                   (152)               0.87                   (3)
       German mark                                                   (28)               2.15                   (1)
       Dutch guilder                                                (190)               2.42                   (4)
       Singapore dollar                                             (231)               1.72                   (2)
       Taiwan dollar                                              (5,556)              33.13                   13
       Korean won                                                 (4,899)           1,221.00                   75
                                                              ------------------------------------------------------
                                                                $138,558                                  $10,899
</TABLE>


<TABLE>
<CAPTION>
DECEMBER 31, 1999                                        NOTIONAL             AVERAGE             ESTIMATED
IN THOUSANDS, EXCEPT FOR AVERAGE CONTRACT RATE            AMOUNT           CONTRACT RATE          FAIR VALUE
----------------------------------------------         ------------------------------------------------------
<S>                                                    <C>                 <C>                   <C>
Foreign currency forward exchange contracts:
       Japanese yen                                      $ 38,888              103.19            $  (1,424)
       British pound                                       (1,085)               0.62                   (2)
       French franc                                           (13)               6.41                   --
       Irish punt                                            (104)               0.77                   (2)
       German mark                                             80                1.91                    1
       Dutch guilder                                          (95)               2.15                   (1)
       Singapore dollar                                      (474)               1.66                   (1)
       Taiwan dollar                                       (4,407)              31.18                   (3)
                                                       ------------------------------------------------------
                                                         $ 32,790                                $  (1,432)
</TABLE>


                                       41
<PAGE>   42

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA


                             NOVELLUS SYSTEMS, INC.
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                      (IN THOUSANDS, EXCEPT PER SHARE DATA)


<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,                                            2000            1999            1998
----------------------------------------------------------------------------------------------------------
<S>                                                            <C>               <C>             <C>
Net sales                                                      $ 1,173,731       $ 592,741       $ 518,778
Cost of sales                                                      516,516         271,710         237,913
                                                               -----------       ---------       ---------
Gross profit                                                       657,215         321,031         280,865
Operating expenses:
       Selling, general and administrative                         191,045         101,027          95,407
       Research and development                                    178,260         119,667         106,510
                                                               -----------       ---------       ---------
Total operating expenses                                           369,305         220,694         201,917
                                                               -----------       ---------       ---------
Operating income                                                   287,910         100,337          78,948
Interest:
       Income                                                       56,015          15,656           5,968
       Expense                                                      (2,335)         (1,703)         (4,869)
                                                               -----------       ---------       ---------
Net interest income                                                 53,680          13,953           1,099
                                                               -----------       ---------       ---------
Income before provision for income taxes and                       341,590         114,290          80,047
cumulative effect of a change in accounting principle
Provision for income taxes                                         105,893          37,716          27,219
                                                               -----------       ---------       ---------
Income before cumulative effect of a change in
accounting principle                                               235,697          76,574          52,828
Cumulative effect of change in accounting principle,
net of tax                                                         (84,632)             --              --
                                                               ===========       =========       =========
Net income                                                     $   151,065       $  76,574       $  52,828
                                                               ===========       =========       =========
Net income per share:
   Basic
      Income before cumulative effect of change in
      accounting principle                                     $      1.85       $    0.67       $    0.52
      Cumulative effect of change in accounting principle      $     (0.67)             --              --
                                                               ===========       =========       =========
      Basic net income per share                               $      1.18       $    0.67       $    0.52
                                                               ===========       =========       =========
   Diluted
      Income before cumulative effect of change in
      accounting principle                                     $      1.75       $    0.64       $    0.50
      Cumulative effect of change in accounting principle      $     (0.63)             --              --
                                                               ===========       =========       =========
      Diluted net income per share                             $      1.12       $    0.64       $    0.50

                                                               ===========       =========       =========
Shares used in basic per share calculations                        127,731         114,817         102,106
                                                               ===========       =========       =========
Shares used in diluted per share calculations                      135,109         120,097         104,961
                                                               ===========       =========       =========
Pro forma amounts with the change in accounting principle
related to revenue applied retroactively (unaudited):
       Net revenues                                            $ 1,173,731       $ 520,093               *
       Net income                                              $   235,697          47,691               *
       Net income per share:
                  Basic                                        $      1.85       $    0.42               *
                  Diluted                                      $      1.75       $    0.40               *
</TABLE>

* Data is not available in sufficient detail to provide pro forma information
for this year.

See accompanying notes.



                                       42
<PAGE>   43

                             NOVELLUS SYSTEMS, INC.
                           CONSOLIDATED BALANCE SHEETS
                                 (IN THOUSANDS)


<TABLE>
<CAPTION>
DECEMBER 31,                                                          2000           1999
-------------------------------------------------------------------------------------------
<S>                                                              <C>               <C>
ASSETS
Current assets:
       Cash and cash equivalents                                 $   570,678       $181,568
       Short-term investments                                        581,436        203,689
       Accounts receivable, net of allowance for doubtful
           accounts of $4,801 in 2000 and $3,721 in 1999             366,224        213,678
       Inventories                                                   177,561        103,883
       Deferred tax assets, net                                      122,704         24,521
       Prepaid and other current assets                                8,682          5,327
                                                                 -----------       --------
Total current assets                                               1,827,285        732,666

Property and equipment:
       Machinery and equipment                                       184,422        138,518
       Furniture and fixtures                                         10,252          9,335
       Leasehold improvements                                         56,485         54,349
           Land                                                        8,782             --
                                                                 -----------       --------
                                                                     259,941        202,202
Less accumulated depreciation and amortization                       123,781         95,423
                                                                 -----------       --------
                                                                     136,160        106,779
Long-term deferred tax assets                                             --         11,770
Other assets                                                          52,027         58,714
                                                                 -----------       --------
Total assets                                                     $ 2,015,472       $909,929
                                                                 ===========       ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
       Accounts payable                                          $   109,504       $ 43,438
       Accrued payroll and related expenses                           62,429         19,367
       Accrued warranty                                               46,224         20,083
       Other accrued liabilities                                      34,939         31,150
       Income taxes payable                                           49,715         12,671
       Deferred profit                                               185,893             --
       Current obligations under lines of credit                      16,056         13,521
                                                                 -----------       --------
Total current liabilities                                            504,760        140,230

Commitments and contingencies

Shareholders' equity:
       Preferred stock, no par value;
           Authorized shares -- 60,000
           Issued and outstanding shares -- none                          --             --
       Common stock, no par value;
           Authorized shares -- 240,000
           Issued and outstanding shares -- 131,507 in 2000
             and 119,064 in 1999                                   1,095,470        490,587
       Retained earnings                                             427,707        277,671
       Accumulated other comprehensive income (loss)                 (12,465)         1,441
                                                                 -----------       --------
Total shareholders' equity                                         1,510,712        769,699
                                                                 ===========       ========
Total liabilities and shareholders' equity                       $ 2,015,472       $909,929
                                                                 ===========       ========
</TABLE>

See accompanying notes.



                                       43
<PAGE>   44

                             NOVELLUS SYSTEMS, INC.
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                 (IN THOUSANDS)


<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,                                                        2000            1999            1998
--------------------------------------------------------------------------------------------------------------------
<S>                                                                       <C>               <C>             <C>
OPERATING ACTIVITIES
Net income                                                                $   151,065       $  76,574       $ 52,828
Adjustments to reconcile net income to net cash
       provided by operating activities:
           Cumulative effect of accounting change, net of tax benefit          84,632              --             --
           Depreciation and amortization                                       40,142          29,832         23,839
           Deferred compensation                                                1,780              --             --
           Deferred income taxes                                              (40,842)          2,228         13,220
           Changes in operating assets and liabilities:
               Accounts receivable                                           (152,546)        (40,314)       (39,439)
               Inventories                                                    (75,536)        (32,812)        12,895
               Prepaid and other current assets                                (3,355)           (640)         9,934
               Accounts payable                                                66,066          12,472          8,101
               Accrued payroll and related expenses                            43,062           6,229         (7,494)
               Accrued warranty                                                26,141          (5,789)       (11,964)
               Deferred profit                                                 55,690              --             --
               Other accrued liabilities                                        3,789           7,430        (10,594)
               Income taxes payable                                            37,044           7,879          4,792
               Income tax benefits from employee stock plans                   40,247          20,544          4,728
                                                                          -----------       ---------       --------
Total adjustments                                                             126,314           7,059          8,018
                                                                          -----------       ---------       --------
Net cash provided by operating activities                                     277,379          83,633         60,846
                                                                          -----------       ---------       --------
INVESTING ACTIVITIES
Purchases of available-for-sale securities                                 (1,165,769)       (407,472)       (67,457)
Proceeds from the sale and maturity of available-for-sale securities          777,832         253,377         56,687
Capital expenditures                                                          (68,464)        (28,794)       (36,092)
(Increase) decrease in other assets                                             3,771         (29,354)       (10,296)
                                                                          -----------       ---------       --------
Net cash used in investing activities                                        (452,630)       (212,243)       (57,158)
                                                                          -----------       ---------       --------
FINANCING ACTIVITIES
Proceeds  from lines of credit, net                                             2,535             535          1,334
Repayment under long-term debt                                                     --         (65,000)            --
Proceeds from common stock offering, net                                      526,265         255,133             --
Common stock issued                                                            36,720          38,839         17,288
Common stock repurchased                                                       (1,159)           (553)          (351)
                                                                          -----------       ---------       --------
Net cash provided by financing activities                                     564,361         228,954         18,271
                                                                          -----------       ---------       --------
Net increase  in cash and cash equivalents                                    389,110         100,344         21,959
Cash and cash equivalents at the beginning of the year                        181,568          81,224         59,265
                                                                          -----------       ---------       --------
Cash and cash equivalents at the end of the year                          $   570,678       $ 181,568       $ 81,224
                                                                          ===========       =========       ========
Supplemental disclosures:
Cash paid during the year for:
       Interest                                                           $     2,335       $   1,703       $  4,876
       Income taxes                                                       $    68,373       $   1,399       $  4,693
</TABLE>

See accompanying notes.



                                       44
<PAGE>   45

                             NOVELLUS SYSTEMS, INC.
                 CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
                                 (IN THOUSANDS)


<TABLE>
<CAPTION>
                                                                                                      ACCUMULATED
                                                                                                          OTHER          TOTAL
                                                                COMMON STOCK              RETAINED    COMPREHENSIVE   SHAREHOLDERS'
                                                           SHARES           AMOUNT        EARNINGS    INCOME (LOSS)      EQUITY
                                                          -------------------------------------------------------------------------
<S>                                                        <C>          <C>              <C>          <C>             <C>
Balance at January 1, 1998                                 101,157      $   154,167      $ 149,061      $ (2,227)     $   301,001
      Shares issued under employee compensation plans        2,367           17,288             --            --           17,288
      Income tax benefits realized from activity
         in employee stock plans                                --            4,728             --            --            4,728

      Net loss                                                  --               --         52,828            --           52,828
      Cumulative translation adjustment                         --               --             --           (29)             (29)
                                                                                                                      -----------
      Comprehensive loss                                        --               --             --            --           52,799
                                                                                                                      -----------

      Common stock repurchased                                 (27)             (43)          (308)           --             (351)
                                                          --------      -----------      ---------      --------      -----------
Balance at December 31, 1998                               103,497          176,140        201,581        (2,256)         375,465
      Proceeds from common stock offering, net              11,580          255,133             --            --          255,133
      Shares issued under employee compensation plans        4,005           38,839             --            --           38,839
      Income tax benefits realized from activity
         in employee stock plans                                --           20,544             --            --           20,544

      Net income                                                --               --         76,574            --           76,574
      Cumulative translation adjustment                         --               --             --         3,697            3,697
                                                                                                                      -----------
      Comprehensive income                                      --               --             --            --           80,271
                                                                                                                      -----------

      Common stock repurchased                                 (18)             (69)          (484)           --             (553)
                                                          --------      -----------      ---------      --------      -----------
Balance at December 31, 1999                               119,064          490,587        277,671         1,441          769,699
      Proceeds from common stock offering, net               9,047          526,265             --            --          526,265
      Shares issued under employee compensation plans        3,209           36,721             --            --           36,721
      Issuance of restricted stock                             219               --             --            --               --
      Amortization of deferred compensation net
           of cancellations of restricted stock                (12)           1,780             --            --            1,780
       Income tax benefits realized from activity
           in employee stock plans                              --           40,247             --            --           40,247

      Net income                                                --               --        151,065            --          151,065
      Net change in unrealized loss on available
          for sale securities                                                                            (10,190)         (10,190)
       Cumulative translation adjustment                        --               --             --        (3,716)          (3,716)
                                                                                                                      -----------
       Comprehensive income                                     --               --             --            --          137,159
                                                                                                                      -----------
       Common stock repurchased                                (20)            (130)        (1,029)           --           (1,159)
                                                          --------      -----------      ---------      --------      -----------
Balance at December 31, 2000                               131,507      $ 1,095,470      $ 427,707      $(12,465)     $ 1,510,712
                                                          ========      ===========      =========      ========      ===========
</TABLE>

See accompanying notes.



                                       45
<PAGE>   46

                             NOVELLUS SYSTEMS, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


NOTE 1 BUSINESS AND NATURE OF OPERATIONS

NATURE OF OPERATIONS

Novellus Systems, Inc. (the Company) manufactures, markets and services high
productivity deposition systems (CVD, PVD, and electrofill) used in the
fabrication of integrated circuits. CVD systems employ a chemical plasma to
deposit all of the dielectric (insulating) layers and certain of the conductive
metal layers on the surface of a semiconductor wafer. PVD systems are used to
deposit conductive metal layers by sputtering metallic atoms from the surface of
a target source via high DC power. Electrofill systems are used for depositing
copper conductive layers in a dual damascene design architecture using a plating
bath solution. The overall growth in the semiconductor industry and the
increasing number of layers used in complex integrated circuits have led to
demand for advanced deposition equipment. The Company's products are able to
provide simultaneous solutions to productivity and wafer quality problems facing
the worldwide semiconductor manufacturing industry.

BASIS OF PRESENTATION

The accompanying consolidated financial statements include the accounts of the
Company and its wholly owned subsidiaries after elimination of all significant
intercompany accounts and transactions.

Certain prior year amounts in the consolidated financial statements and the
notes thereto have been reclassified to conform to the 2000 presentation.

USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS

The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results inevitably will differ from those estimates and such differences
may be material to the financial statements.

REVENUE RECOGNITION

The Company changed its revenue recognition policy effective January 1, 2000,
based on guidance provided in SEC Staff Accounting Bulletin No. 101 (SAB 101),
"Revenue Recognition in Financial Statements." The Company recognizes revenue
when persuasive evidence of an arrangement exists, delivery has occurred or
services have been rendered, the seller's price is fixed or determinable and
collectibility is reasonably assured. Certain of the Company's product sales are
accounted for as multiple-element arrangements. If the Company has met defined
customer acceptance experience levels with both the customer and the specific
type of equipment, the Company recognizes equipment revenue upon shipment and
transfer of title, with the remainder when it becomes due (generally upon
acceptance). All other product sales with customer acceptance provisions are
recognized upon customer acceptance. Revenue related to spare part sales is
recognized on shipment. Revenue related to maintenance and service contracts is
recognized ratably over the duration of the contracts. Unearned maintenance and
service contract revenue is not significant and included in accrued liabilities.

In accordance with guidance provided in SAB 101, the Company recorded a non-cash
charge of $84.6 million (after reduction for income taxes of $45.8 million), or
($0.63) per share, to reflect the cumulative effect of the accounting change as
of the beginning of the fiscal year. The decrease to net income before the
cumulative effect of the accounting change as a result of the adoption of SAB
101 was a decrease of $87.1 million or ($0.68) per diluted share for fiscal year
2000.

The deferred profit balance as of January 1, 2000 was $221.7 million. This
amount is comprised of equipment that was shipped and previously recorded as
revenue but had not been accepted or did not qualify for multiple-element
accounting as of December 31, 1999. In addition to deferred revenue, deferred
profit includes deferred amounts



                                       46
<PAGE>   47

related to cost of sales. Of the $221.7 million in deferred profit, $212.6
million was recognized as revenue in fiscal 2000. The pro forma amounts
presented in the income statement were calculated assuming the accounting change
was retroactive to prior periods. For periods prior to 1999, data was not
available to provide pro-forma information.

Prior to 2000, the Company's revenue recognition policy was to recognize revenue
at the time the customer takes title to the product, generally at the time of
shipment. Revenue related to maintenance and service contracts was recognized
ratably over the duration of the contracts.

WARRANTY AND INSTALLATION

The Company generally warrants its systems for a period of 24 months from
shipment for material and labor to repair and service the system. A provision
for the estimated cost of installation and warranty is recorded when the revenue
is recognized.

CASH AND CASH EQUIVALENTS

The Company considers all highly liquid debt instruments with insignificant
interest rate risk and maturities of ninety days or less to be cash equivalents.

SHORT-TERM INVESTMENTS

The Company classifies its marketable securities as available-for-sale in
accordance with the provisions of the Statement of Financial Accounting Standard
("SFAS") No. 115, "Accounting for Certain Investments in Debt and Equity
Securities." Securities classified as available-for-sale are reported at fair
market value with the related unrealized gains and losses included, net of tax,
in accumulated other comprehensive income (loss). Realized gains and losses and
declines in value of securities judged to be other than temporary are included
in interest income or expense. Interest on all securities is included in
interest income.

INVENTORIES

Inventories are stated at the lower of cost (first-in, first-out) or market.
Inventories consisted of the following at December 31 (in thousands):

<TABLE>
<CAPTION>
                                   2000          1999
                               ----------------------
<S>                            <C>           <C>
Purchased and spare parts      $122,898      $ 71,688
Work-in-process                  46,462        29,621
Finished goods                    8,201         2,574
                               --------      --------
                               $177,561      $103,883
                               ========      ========
</TABLE>


PROPERTY AND EQUIPMENT

Property and equipment are stated at cost. Depreciation and amortization are
provided mainly on the straight-line method over the following useful lives:

<TABLE>
<S>                               <C>
Machinery and equipment           3-5 years
Furniture and fixtures            3-5 years
Leasehold improvements            Shorter of useful life or remaining lease term
</TABLE>



                                       47
<PAGE>   48

FOREIGN CURRENCY ACCOUNTING

The local currency is the functional currency for all foreign operations.
Accordingly, translation gains or losses related to the foreign subsidiaries'
financial statements are included as a component of accumulated other
comprehensive income (loss).

FORWARD FOREIGN EXCHANGE CONTRACTS

The Company enters into forward foreign exchange contracts primarily to hedge
against the short-term impact of foreign currency fluctuations of intercompany
accounts payable denominated in U.S. Dollars recorded by its Japanese
subsidiary. The Company also enters into forward foreign exchange contracts to
buy and sell foreign currencies as economic hedges of the parent's intercompany
balances denominated in a currency other than the U.S. Dollar. In 2000 and 1999,
these hedging contracts were denominated primarily in the Japanese Yen. The
maturities of all the forward foreign exchange contracts are generally
short-term in nature. Because the impact of movements in currency exchange rates
on forward foreign exchange contracts offsets the related impact on the
underlying items being hedged, these financial instruments do not subject the
Company to speculative risk that would otherwise result from changes in currency
exchange rates. All foreign currency contracts are marked-to-market and realized
and unrealized gains and losses are included as a component of other income and
expense. Net foreign currency gains and losses have not been significant.

EARNINGS PER SHARE

Earnings per share is calculated in accordance with SFAS No. 128. Basic earnings
per share exclude any dilutive effect of employee stock options. Diluted
earnings per share includes the dilutive effect of employee stock options.

The following table sets forth the computation of basic and diluted earnings per
share (in thousands, except per share amounts):

<TABLE>
<CAPTION>
                                                            2000           1999         1998
                                                          ------------------------------------
<S>                                                       <C>           <C>           <C>
Numerator:
    Net income                                            $151,065      $ 76,574      $ 52,828

Denominator:
    Denominator for basic earnings per
        share -- weighted-average shares outstanding       127,731       114,817       102,106

    Employee stock options                                   7,378         5,280         2,855
                                                          --------      --------      --------
Denominator for diluted earnings per
    share -- adjusted weighted-average shares
    Outstanding                                            135,109       120,097       104,961
                                                          ========      ========      ========
Basic earnings per share                                  $   1.18      $   0.67      $   0.52
                                                          ========      ========      ========
Diluted earnings per share                                $   1.12      $   0.64      $   0.50
                                                          ========      ========      ========
</TABLE>

Options to purchase 485,000, 261,000 and 2,472,000 shares of common stock at
weighted-average prices of $22.19, $25.52 and $14.74 per share were outstanding
during 2000, 1999 and 1998, respectively, but were not included in the
computation of diluted net income per common share because the options' exercise
price was greater than the average market price of the common shares and,
therefore, the effect would be antidilutive.

ADVERTISING EXPENSES

The Company expenses advertising costs as incurred. Advertising expenses for
2000, 1999, and 1998 were $9.3 million, $4.9 million and $6.1 million,
respectively.



                                       48
<PAGE>   49

CONCENTRATION OF CREDIT RISK

The Company uses financial instruments that potentially subject it to
concentrations of credit risk. Such instruments include cash equivalents,
short-term investments, accounts receivable, and financial instruments used in
hedging activities. The Company invests its cash in cash deposits, money market
funds, commercial paper, certificates of deposit, readily marketable debt
securities, or medium term notes. The Company places its investments with
high-credit-quality financial institutions and limits the credit exposure from
any one financial institution or instrument. To date, the Company has not
experienced significant losses on these investments. The Company performs
ongoing credit evaluations of its customers' financial condition and generally
requires no collateral. As a result of the economic difficulties within certain
Asian countries, the Company has increased sales subject to extended payment
terms within this region. The Company has an exposure to nonperformance by
counterparties on the foreign exchange contracts used in hedging activities.
These counterparties are large international financial institutions and to date,
no such counterparty has failed to meet its financial obligations to the
Company. The Company does not believe there is a significant risk of
nonperformance by these counterparties because the Company continuously monitors
its positions and the credit ratings of such counterparties and the amount of
contracts it enters into with any one party. However, there can be no assurance
that there will be no significant nonperformance by these counterparties and
that this would not materially adversely affect the Company's business,
financial condition, and results of operations.

OTHER COMPREHENSIVE INCOME (LOSS)

The components of accumulated other comprehensive income (loss), net of related
tax is as follows (in thousands):

<TABLE>
<CAPTION>
                                                                  DECEMBER 31,
                                                      -------------------------------------
                                                        2000           1999          1998
                                                      -------------------------------------
<S>                                                   <C>            <C>           <C>
Foreign currency translation adjustment               $ (2,275)      $ 1,441       $(2,256)
Unrealized loss on available-for-sale securities       (10,190)           --            --
                                                      ========       =======       =======
                                                      $(12,465)      $ 1,441       $(2,256)
                                                      ========       =======       =======
</TABLE>

EMPLOYEE STOCK PLANS

Effective January 1, 1996, the Company adopted SFAS No. 123, "Accounting for
Stock-Based Compensation." In accordance with the provisions of SFAS No. 123,
the Company accounts for stock-based employee compensation arrangements under
the intrinsic value method prescribed by the Accounting Principles Board Opinion
No. 25, "Accounting for Stock Issued to Employees," and provides pro forma
disclosures of net income and earning per share as if the fair value method
prescribed by SFAS No. 123 had been applied in measuring employee compensation
expense. See Notes to the Consolidated Financial Statements -- Note 7 "Employee
Benefit Plans".

RECENT ACCOUNTING PRONOUNCEMENTS

In June 1998, the Financial Accounting Standards Board ("FASB") issued SFAS No.
133, Accounting for Derivative Instruments and Hedging Activities, which
establishes accounting and reporting standards for derivative instruments,
including forward exchange contracts, and hedging activities. SFAS No. 133, as
amended by SFAS 137 and SFAS 138, is now effective for fiscal years beginning
after June 15, 2000 and, therefore, the Company adopted this accounting standard
effective January 1, 2001. The impact of the adoption of SFAS No. 133 was not
significant.



                                       49
<PAGE>   50

NOTE 2 FINANCIAL INSTRUMENTS

FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK

As part of the Company's asset and liability management, the Company enters into
various types of transactions that involve financial instruments with
off-balance sheet risk. The Company enters into foreign forward exchange
contracts in order to manage foreign exchange risk. The notional amounts,
carrying amounts, and estimated fair values of the Company's foreign currency
forward exchange contracts are as follows at December 31 (in thousands):

<TABLE>
<CAPTION>
                                                          2000                                          1999
                                        ----------------------------------------------------------------------------------------
                                          NOTIONAL      CARRYING     ESTIMATED       NOTIONAL         CARRYING      ESTIMATED
                                           AMOUNT        AMOUNT      FAIR VALUE       AMOUNT           AMOUNT       FAIR VALUE
                                        ----------------------------------------------------------------------------------------
<S>                                       <C>           <C>          <C>             <C>              <C>           <C>
Sell foreign currency, primarily yen      $138,558         --         $10,899         $32,790            --          ($1,432)
</TABLE>

The fair value of the Company's foreign forward exchange contracts are
calculated based on quoted market prices or pricing models using current market
rates at the end of December 31, 2000 and 1999, respectively.

AVAILABLE-FOR-SALE SECURITIES

The following table presents the estimated fair value of the Company's
investments by balance sheet classification at December 31 (in thousands):

<TABLE>
<CAPTION>
                                                              2000           1999
                                                           ------------------------
<S>                                                        <C>             <C>
Institutional money market funds                           $  281,544      $ 64,988
Commercial paper                                              266,152       116,580
Eurodollar Time Deposits                                        8,000            --
U.S. Government Agencies                                       14,982            --
                                                           ----------      --------
        Amounts included in cash and cash equivalents         570,678       181,568
                                                           ----------      --------
Certificates of deposits                                           --        17,992
Tax-Exempt Auction Rate Notes                                  85,700            --
Corporate securities                                           48,585        38,415
Commercial paper                                              447,151       132,290
U.S. Government Agencies                                           --        14,992
                                                           ----------      --------
        Amounts included in short-term investments            581,436       203,689
                                                           ----------      --------
        Total available-for-sale securities                $1,152,114      $385,257
                                                           ==========      ========
</TABLE>

As of December 31, 2000, the Company held equity securities with a cost basis of
$16.2 million which had an associated unrealized loss of $10.2 million. These
securities are classified in the corporate securities line in the fair market
value table above. Unrealized gains (losses) on all other securities as of
December 31, 2000 and in total as of December 31, 1999 were not significant.

Realized gains and losses on sales of available for sale securities for the
years ended December 31, 2000, 1999, and 1998 were not significant. All debt
securities held at December 31, 2000 are due in less than one year.

FAIR VALUE OF OTHER FINANCIAL INSTRUMENTS

The carrying and estimated fair values of the Company's other financial
instruments were as follows at December 31 (in thousands):

<TABLE>
<CAPTION>
                                                       2000                        1999
                                              -----------------------------------------------------
                                               Carrying     Estimated      Carrying      Estimated
                                                 Value      Fair Value       Value       Fair Value
                                              -----------------------------------------------------
<S>                                            <C>           <C>           <C>           <C>
Cash and cash equivalents                      $570,678      $570,678      $181,568      $181,568
Current obligations under lines of credit      $ 16,056      $ 16,056      $ 13,521      $ 13,521
</TABLE>



                                       50
<PAGE>   51

The fair values of the Company's short-term investments are based on quoted
market prices as of December 31, 2000 and 1999. The fair value of the Company's
obligations under lines of credit are based on current rates offered to the
Company for similar debt instruments of the same remaining maturities.


NOTE 3 LINES OF CREDIT

The Company has lines of credit with three banks, which expire at various dates
through May 2001 under which the Company can borrow up to $33.9 million at the
banks' prime rates (0.67%, 0.89% and 1.16% at December 31, 2000). This facility
is available to the Company's Japanese subsidiary, Nippon Novellus Systems K.K.
Borrowings by the subsidiary are at the banks' offshore reference rate. At
December 31, 2000 and 1999, amounts outstanding were $16.1 million and $13.5
million respectively, at annual weighted average interest rates of 0.86% and
1.14%, respectively. All borrowings under the line of credit were by Nippon
Novellus.


NOTE 4 LONG TERM DEBT

In June 1997, the Company entered into a five year, $125.0 million, Senior
Credit Facility structured as an unsecured revolving credit line. The credit
line expires in June 2002. Borrowings, at the option of the Company, bear
interest at either a base rate plus a margin or the London Interbank Offered
Rate ("LIBOR") plus a margin for interest periods of one to six months. As of
December 31, 2000 and 1999 there were no outstanding borrowings.

The credit facility contains certain financial restrictive covenants including a
restriction from paying dividends. At December 31, 2000, the Company was in
compliance with these covenants.


NOTE 5 LITIGATION

APPLIED LITIGATION

On July 7, 1997, prior to the consummation of the purchase of the Thin Film
Systems Business ("TFS") of Varian Associates ("Varian"), Applied Materials,
Inc. ("Applied") filed a complaint (the "Applied Complaint") against Varian in
the United States District Court for the Northern District of California, San
Jose Division, Civil Action No. C-97-20523 RMW, alleging, among other things,
infringement by Varian (including the making, using, selling and/or offering for
sale of certain products and systems made by TFS) of United States Patent Nos.
5,171,412; 5,186,718; 5,496,455 and 5,540,821 (the "Applied Patents"), which
patents are owned by Applied.

Immediately after consummation of the TFS purchase, the Company filed a
complaint (the "Company Complaint") against Applied in the same Court, Civil
Action No. C-97-20551 RMW, alleging infringement by Applied (including the
making, using, selling and/or offering for sale of certain products and systems)
of United States Patent Nos. 5,314,597, 5,330,628, and 5,635,036 (the "Company
Patents"), which patents the Company acquired from Varian in the TFS purchase.
In the Company Complaint, the Company also alleged that it is entitled to
declarations from Applied that the Company does not infringe the Applied Patents
and/or that the Applied Patents are invalid and/or unenforceable. Applied has
filed counterclaims alleging that the Company infringes the Applied Patents.

Also after consummation of the TFS purchase, but some time after the Company
filed the Company Complaint, Applied amended the Applied Complaint to add the
Company as a defendant. The Company has requested that the Court dismiss the
Company as a defendant in Applied's lawsuit against Varian. The Court has not
yet required the Company to file an answer to the Applied Complaint.

In addition to a request for a permanent injunction against further
infringement, the Applied Complaint and Applied's counterclaims to the Company
Complaint include requests for damages for alleged prior infringement and treble
damages for alleged "willful" infringement. In connection with the consummation
of the TFS purchase,



                                       51
<PAGE>   52

Varian agreed, under certain circumstances, to reimburse the Company for certain
of its legal and other expenses in connection with the defense and prosecution
of this litigation, and to indemnify the Company for a portion of any losses
incurred by the Company arising from this litigation (including losses resulting
from a permanent injunction). The Company and Varian believe that there are
meritorious defenses to Applied's allegations, including among other things,
that the Company's operations (including TFS products and systems) do not
infringe the Applied Patents and/or that the Applied Patents are invalid and/or
unenforceable. However, the resolution of intellectual property disputes is
often fact intensive and, therefore, inherently uncertain. Although the Company
believes that the ultimate outcome of the dispute with Applied will not have a
material adverse effect on the Company's business, financial condition, or
results of operations (taking into account both the defenses available to the
Company and Varian's reimbursement and indemnity obligations), there can be no
assurances that Applied will not ultimately prevail in this dispute and that, in
such an event, Varian's reimbursement and indemnity obligations will not be
sufficient to fully reimburse the Company for its losses. If Applied were to
prevail in this dispute, it could have a material adverse effect on the
Company's business, financial condition or results of operations.

The Company Complaint against Applied also includes requests for damages for
prior infringement and treble damages for "willful" infringement, in addition to
a request for a permanent injunction for further infringement. Although the
Company believes that it will prevail against Applied, there can be no
assurances that the Company will prevail in its litigation against Applied. If
Applied were to prevail against the Company Complaint, it could have a material
adverse effect on the Company's business, financial condition or results of
operations.

On July 13, 1999, in the Company lawsuit against Applied where the Company has
alleged that Applied infringes Company patents, the Court ruled on the
interpretation of the claims of the Company patents. On September 20, 1999, in
the Applied lawsuit against Varian and the Company, where Applied has alleged
that Varian and the Company infringe Applied patents, the Court ruled on the
interpretation of the claims of the Applied patents.

On September 10, 1999, the Company filed a motion for summary judgment that
claims 1, 2 and 8 of its U.S. Patent No. 5,314,597 are not invalid over the
prior art asserted against it by Applied. On September 29, 1999, Applied filed a
counter-motion for summary judgment that these claims are invalid based on the
on-sale bar. On December 7, 1999, the Court entered an order granting the
Company's motion and denying Applied's motion.

On November 4, 1999, Applied moved for leave of Court to amend its prior art
chart with respect to the Company's U.S. Patent No. 5,314,597. On February 15,
2000, the Court granted Applied's motion. On October 4, 2000, the Court entered
an order denying the Company's motion for reconsideration of this order.

On December 17, 1999, the Company and Varian moved for summary judgment that
certain claims of Applied's U.S. Patent No. 5,171,412 were invalid as
anticipated or obvious over the prior art. On March 16, 2000, the Court granted
this motion in part, and deferred ruling in part.

On December 23, 1999, the Company moved for summary judgment that its U.S.
Patent No. 5,635,036 is not invalid as obvious over the prior art. On March 20,
2000, the Court denied the Company's motion without prejudice.

On January 14, 2000, Applied withdrew its U.S. Patent No. 5,496,455 from the
lawsuits against the Company and Varian.

On February 4, 2000, Applied filed a motion for summary judgment that claims 10,
11 and 13 of the Company's U.S. Patent No. 5,314,597 are invalid over the prior
art. On March 10, 2000, the Company filed an opposition and cross-moved for
leave to amend its claim chart to withdraw these claims. On April 5, 2000, the
Court issued an order denying Applied's motion as moot and granting the
Company's motion.

On March 31, 2000, the Company filed a renewed motion for partial summary
judgment that its U.S. Patent No. 5,635,036 is not invalid as obvious over the
prior art. On January 3, 2001, the Court entered an order in response to this
motion tentatively amending certain claim constructions and requesting
additional briefing.



                                       52
<PAGE>   53

On July 28, 2000, Applied filed a motion for summary judgment of
non-infringement of the Company's U.S. Patent No. 5,330,628. On October 20,
2000, the Company filed a non-opposition to that motion, pending appeal of the
Court's claim construction. The Company also cross-moved for the Court to
dismiss Applied's allegations that the '628 patent was invalid or unenforceable.
On November 20, 2000, the Court entered an order granting both motions.

On May 12, 2000, the Company and Varian moved for summary judgment that the
Inova and MB2 do not infringe Applied's U.S. Patent No. 5,186,718. On August 8,
2000, the Court granted this motion with respect to the Inova. The Company's
motion that the MB2 does not infringe the '718 patent is currently off calendar
pending completion of discovery.

On August 18, 2000, Applied filed a motion for partial summary judgment that
certain of its products did not infringe the Company's U.S. Patent No.
5,635,036. On October 24, the Court entered an order denying Applied's motion.
The Court, in the same order, also allowed the Company to withdraw its assertion
that certain Applied products infringed certain claims of its U.S. Patent No.
5,314,597.

On or about September 25, 2000, Varian and Applied executed a "License and
Settlement Agreement." On September 29, 2000, Varian and Applied filed a
Stipulated Dismissal with Prejudice with the Court that reciprocally dismisses
all causes of action that Varian and Applied had asserted or could have asserted
against one another in the litigation. In addition, Applied has stated, in its
agreement with Varian, that it will release the Company from all claims that
arose out of or relate to the litigation that relate to any infringement alleged
with respect to the Inova, in the form as it existed as of the effective date of
the Company's purchase of Varian's TFS division. The Stipulated Dismissal,
however, expressly excludes the Company from the scope of any release.

On October 6, 2000, Applied filed a motion for summary judgment of
noninfringement of the Company's U.S. Patent No. 5,314,597. On November 13,
2000, the Company filed an opposition to that motion, and cross-moved for
summary judgment of infringement as to claims 1 and 8 of the '597 patent. These
motions were orally argued on January 5, 2001 and are presently under
submission.

On November 22, 2000, Applied filed a second motion for summary judgment that
its accused products do not infringe the Company's U.S. Patent No. 5,635,036.
This motion was orally argued on January 19, 2001 and is presently under
submission.

SEMITOOL LITIGATION

On August 10, 1998, Semitool sued the Company for patent infringement in the
United States District Court for the Northern District of California. Semitool
alleges that the Company's SABRE(TM) and SABRE xT(TM) copper deposition systems
infringe two Semitool patents, U.S. Patent No. 5,222,310, issued June 29, 1993,
entitled "Single Wafer Processor with a Frame," and U.S. Patent No. 5,377,708,
issued January 3, 1995, entitled "Multi-Station Semiconductor Processor with
Volatilization." Semitool seeks an injunction against the Company's manufacture
and sale of the SABRE(TM) and SABRE xT(TM) systems, and seeks damages for past
infringement. Semitool also seeks trebled damages for alleged willful
infringement. Semitool further seeks its attorneys' fees and costs, and interest
on any judgement.

On September 24, 1999, the Court ruled on the interpretation of the claims of
the Semitool patents. On December 18, 1999, the Company filed a motion for
summary judgement of non-infringement.

On March 17, 2000, the Court granted the Company's motion for summary judgement
of non-infringement. The Court ruled that the Company's SABRE(TM) and SABRE
xT(TM) systems do not infringe the two patents asserted by Semitool.

On May 15, 2000, Semitool filed a notice of appeal, appealing the Court's
judgement to the United States Court of Appeals for the Federal Circuit.
Semitool filed its opening brief on July 24, 2000. The Company filed its opening
brief on October 3, 2000. Semitool filed its reply brief on November 3, 2000.
Although the Company believes that



                                       53
<PAGE>   54

the Court's order granting summary judgment of non-infringement was correct, and
that the Company will prevail on appeal, there can be no assurances that the
Company will prevail in its litigation against Semitool. If the Court's order is
reversed on appeal, and if Semitool were to prevail against the Company
following the appeal Complaint, it could have a material adverse effect on the
Company's business, financial condition or results of operations.

PLASMA PHYSICS LITIGATION

On December 28, 1999, Plasma Physics Corporation and Solar Physics Corporation
(collectively, "Plasma Physics") filed a patent infringement lawsuit against
many of the Company's Japanese and Korean customers. The suit was entitled
Plasma Physics and Solar Physics v. Fujitsu et al., Civil Action No. 99-8593,
and was pending in the United States District Court for the Eastern District of
New York. On July 24, 2000, the Court ordered Plasma Physics to re-file separate
complaints against the Japanese and Korean defendants, whereupon, Civil Action
No. 99-8593 would be dismissed without prejudice. In accordance with the Court's
order, Plasma Physics has since re-filed separate complaints against the
Japanese and Korean defendants in the United States District Court for the
Eastern District of New York. Many of the defendants have notified the Company
that they believe that the Company has indemnification obligations and liability
for the lawsuits.

Plasma Physics has asserted U.S. Patent Nos. 4,226,897; 5,470,784, and 5,543,634
(the "'897, '784, and '634 patents," respectively). Plasma Physics seeks an
injunction against the defendants' alleged infringement of the '784 and '634
patents (the '897 patent has expired). Plasma Physics also seeks trebled damages
for alleged willful infringement. Plasma Physics further seeks its attorney's
fees and costs, and interest on any judgement.

On April 17, 2000, Applied Materials filed a declaratory relief action against
Plasma Physics and Solar Physics requesting a judgement of non-infringement,
invalidity, and unenforceability with respect to the '897 and '784 patents. The
suit is entitled Applied Materials v. Plasma Physics and Solar Physics, Civil
Action No. 00-2199, and is pending in the United States District Court for the
Eastern District of New York. On May 23, 2000, Plasma Physics filed a motion to
dismiss Applied Material's complaint for a lack of subject matter jurisdiction.
Plasma Physics' motion to dismiss Applied Materials' complaint was denied
without prejudice on July 24, 2000. Plasma Physics subsequently filed an Answer
and Conditional Counterclaim.

On June 1, 2000, the Company filed a declaratory relief action against Plasma
Physics and Solar Physics requesting a judgement of non-infringement,
invalidity, and unenforceability with respect to the '897 and '784 patents. The
suit is entitled Novellus v. Plasma Physics and Solar Physics, Civil Action No.
00-3146, and is pending in the United States District Court for the Eastern
District of New York. On June 30, 2000, Plasma Physics filed a motion to dismiss
the Company's complaint for a lack of subject matter jurisdiction. Plasma
Physics' motion to dismiss the Company's complaint was denied without prejudice
on July 24, 2000. On July 31, 2000, Plasma Physics filed an Answer and
Conditional Counterclaim. Plasma Physics denies that the '897 and '784 patents
are invalid and unenforceable. Plasma Physics further denies that the '784
patent is not infringed by the Company. Plasma Physics also asserted a
conditional counterclaim against the Company, alleging that the Company's PECVD
processing systems infringe the '784 patent.

The Company believes that there are meritorious defenses to Plasma Physics'
allegations, including among other things, that the defendants' use of the
Company's equipment does not infringe the Plasma Physics patents and/or that the
Plasma Physics patents are invalid and/or unenforceable. But the resolution of
intellectual property disputes is often fact intensive and, like most other
litigation matters, inherently uncertain. Although the Company believes that the
ultimate outcome of the dispute with Plasma Physics will not have a material
adverse effect on the Company's business, financial condition, or result of
operations (taking into account the defenses available to the Company), there
can be no assurances that Plasma Physics will not ultimately prevail in this
dispute and that the Company will not have any indemnity obligations or
liability. If Plasma Physics were to prevail in the dispute, it could have a
material adverse effect on the Company's business, financial condition or
results of operations.



                                       54
<PAGE>   55

OTHER MATTERS

In addition, in the normal course of business the Company from time to time
receives inquiries with regard to possible other patent infringements. The
Company believes it is unlikely that the outcome of the patent infringement
inquiries will have a material adverse effect on the Company's financial
position or results of operations.

There has been substantial litigation regarding patent and other intellectual
property rights in semiconductor-related industries. Although the Company is not
aware of any infringement by its products of any patents or proprietary rights
of others except as claimed by Applied, Semitool, and Plasma Physics, further
commercialization of the Company's products could provoke claims of infringement
from third parties. In the future, litigation may be necessary to enforce
patents issued to the Company, to protect trade secrets or know-how owned by the
Company or to defend the Company against claimed infringement of the rights of
others and to determine the scope and validity of the proprietary rights of
others. Any such litigation could result in substantial cost and diversion of
effort by the Company, which by itself could have a material adverse effect on
the Company's financial condition and operating results. Further, adverse
determinations in such litigation could result in the Company's loss of
proprietary rights, subject the Company to significant liabilities to third
parties, require the Company to seek licenses from third parties or prevent the
Company from manufacturing or selling its products, any of which could have a
material adverse effect on the Company's business, financial condition and
results of operations.


NOTE 6 COMMITMENTS

The Company leases its facilities under operating leases that expire through
2006. As of December 31, 2000, the minimum annual rental commitments are as
follows (in thousands):

<TABLE>
   <S>                                 <C>
   2001                                $  24,854
   2002                                  273,056
   2003                                   21,274
   2004                                    3,181
   2005                                    2,524
   Beyond                                 10,917
                                       ---------
                                         335,806
   Less future sublease
      Income                            (104,114)
                                       =========
                                       $ 231,692
                                       =========
</TABLE>

Rent expense was approximately $16.7 million, $18.2 million, and $12.8 million
for the years ended December 31, 2000, 1999, and 1998, respectively, net of
sublease income of $8.1 million, $3.0 million and $2.1 million for the years
ended December 31, 2000, 1999, and 1998, respectively.

The Company has lease agreements on twelve properties. The agreements are for
five years each with the option to extend for an additional two years at an
interest rate that approximates LIBOR. The lease terms expire at various dates
beginning on June 2002 through August 2003. At current interest rates, the
annual lease payments total approximately $20.2 million. During the terms of the
leases, the Company may elect to purchase the properties for an amount that
approximates the lessor's cost of the property and any current rent due and
payable. The guaranteed residual amount under the lease agreements is
approximately $274.5 million as of December 31, 2000. These leases contain
certain restrictive financial covenants. The Company was in compliance with
these covenants at December 31, 2000.



                                       55
<PAGE>   56

NOTE 7 EMPLOYEE BENEFIT PLANS

EMPLOYEE STOCK OPTION PLANS

The Company grants options to employees under the 1992 Stock Option Plan ("the
Plan"). Under the Plan, options to purchase up to 33.3 million shares of the
Company's common stock may be granted at not less than fair market value.
Options generally vest ratably over a four-year period on the anniversary date
of the grant or as determined by the Board of Directors. Stock options expire
ten years after date of grant. At December 31, 2000, approximately 4.0 million
shares were reserved for future issuance under the Employee Stock Option Plan
and options to purchase 6.2 million shares were exercisable at a weighted
average exercise price of $14.88.

The Company has adopted the disclosure-only provisions of SFAS No. 123,
"Accounting for Stock-Based Compensation." Accordingly, no expense has been
recognized for options granted to employees under the Plan. Had compensation
expense for the Company's plan been determined based on the fair value at the
grant date for awards made subsequent to December 15, 1995, consistent with the
provisions of SFAS No. 123, the Company's net income and earnings per share
would have been reduced to the pro forma amounts indicated below (in thousands,
except per share data):

<TABLE>
<CAPTION>
                                                2000             1999             1998
                                            ---------------------------------------------
<S>                                         <C>              <C>              <C>
Net income as reported                      $   151,065      $    76,574      $    52,828
Pro forma net income                        $   107,628      $    57,359      $    38,196
Basic earnings per share as reported        $      1.18      $      0.67      $      0.52
Diluted earnings per share as reported      $      1.12      $      0.64      $      0.50
Pro forma basic earnings per share          $      0.84      $      0.50      $      0.37
Pro forma diluted earnings per share        $      0.79      $      0.48      $      0.36
</TABLE>

In calculating pro forma compensation, the fair value of each option grant is
estimated on the date of grant using the Black-Scholes option-pricing model with
the following weighted average assumptions for grants made in 2000, 1999 and
1998:

<TABLE>
<CAPTION>
                               2000           1999           1998
                            ---------------------------------------
<S>                         <C>            <C>            <C>
Dividend yield                   None           None           None
Expected volatility              0.83           0.72           0.63
Risk free interest rate          6.2%           5.6%           5.1%
Expected lives              3.3 years      3.4 years      3.2 years
</TABLE>

The weighted average fair value of options granted during the year were $21.18,
$12.67 and $6.44 for 2000, 1999 and 1998, respectively.

The pro forma net income and earnings per share listed above include expense
related to the Company's Employee Stock Purchase Plans. SFAS 123 is applicable
only to options granted subsequent to December 31,1995, therefore, the pro forma
effect is not fully reflected until 1999. The fair value of issuances under the
employee stock purchase plans is estimated on the issuance date using the
Black-Scholes model with the following weighted average assumptions for
issuances made in 2000, 1999 and 1998:

<TABLE>
<CAPTION>
                              2000           1999           1998
                            --------------------------------------
<S>                         <C>            <C>            <C>
Dividend yield                  None           None           None
Expected volatility             1.03           0.81           0.74
Risk free interest rate         6.4%           4.9%           5.5%
Expected lives              1/2 year       1/2 year       1/2 year
</TABLE>

The weighted average fair value of purchase rights granted during the year were
$21.66, $7.43 and $4.17 for 2000, 1999 and 1998, respectively.



                                       56
<PAGE>   57

Information with respect to stock option activity is as follows:
(in thousands, except per share data)

<TABLE>
<CAPTION>
                                                                               Weighted Average
                                   Authorized    Outstanding   Price per Share  Exercise Price
                                   ------------------------------------------------------------
<S>                                <C>           <C>           <C>             <C>
Balance at December 31, 1997          1,869        13,887        $2.33-$19.63      $ 9.75
       Additional authorization       3,300            --                 --
       Options granted               (3,777)        3,777        $7.90-$16.42      $14.07
       Options exercised                 --        (1,854)       $7.63-$19.67      $ 6.84
       Options canceled               1,215        (1,215)       $5.33-$19.63      $11.12
                                     ------       -------       -------------      ------
Balance at December 31, 1998          2,607        14,595        $2.88-$19.63      $11.12
       Additional authorization       4,200            --                 --
       Options granted               (5,909)        5,909       $15.77-$29.69      $24.21
       Options exercised                 --        (3,573)       $2.88-$19.63      $ 9.44
       Options canceled                 734          (734)       $6.06-$29.69      $13.16
                                     ------       -------       -------------      ------
Balance at December 31, 1999          1,632        16,197        $3.96-$29.69      $16.17
       Additional authorization       5,805            --                 --
       Options granted               (4,460)        4,460       $30.06-$58.94      $36.98
       Options exercised                 --        (2,972)       $3.96-$25.56      $10.06
       Options canceled               1,025        (1,025)       $3.96-$58.94      $26.56
                                     ------       -------       -------------      ------
Balance at December 31, 2000          4,002        16,660        $3.96-$58.94      $22.19
                                     ======       =======       =============      ======
</TABLE>

The following table summarizes information about stock options outstanding at
December 31, 2000 (share information in thousands):

<TABLE>
<CAPTION>
                                  Options Outstanding                                                Options Exercisable
---------------------------------------------------------------------------------------    --------------------------------------
                                                 Weighted
                              Options             Average                                       Options
                           Outstanding at        Remaining               Weighted            Exercisable at        Weighted
   Range of                  December 31,     Contractual Life            Average             December 31,          Average
Exercise Prices                 2000              (years)             Exercise Price              2000          Exercise Price
---------------------------------------------------------------------------------------    --------------------------------------
<S>                        <C>                <C>                     <C>                    <C>                <C>
$ 3.96 - $11.08                 3,665               6.14                  $  9.53                2,918              $  9.50
$11.13 - $17.33                 3,335               7.20                  $ 15.01                1,764              $ 14.75
$17.94 - $24.13                 1,346               8.06                  $ 19.48                  450              $ 19.25
$25.56 - $25.56                 3,899               8.96                  $ 25.56                  969              $ 25.56
$29.69 - $58.94                 4,415               9.70                  $ 35.98                  128              $ 43.04
---------------                ------               ----                  -------                -----              -------
$ 3.96 - $58.94                16,660               8.11                  $ 22.19                6,229              $ 14.88
===============                ======               ====                  =======                =====              =======
</TABLE>

EMPLOYEE STOCK PURCHASE PLANS

In December 1988 and May 1992, the Company adopted qualified Employee Stock
Purchase Plans under Sections 421 and 423 of the Internal Revenue Code and
reserved 1,200,000 and 900,000 shares of common stock for issuance under the
plans, respectively. In April 1998, the Board of Directors approved an amendment
to the Purchase Plan, which was subsequently ratified by shareholders increasing
the number of shares available for issuance thereunder from 2,100,000 shares to
2,850,000 shares. In April 1999, the Board of Directors approved an amendment to
the Purchase Plan, which was subsequently ratified by shareholders increasing
the number of shares available for issuance thereunder from 2,850,000 shares to
3,900,000 shares. Under the two plans, qualified employees are entitled to
purchase shares at 85% of the fair market value on specified dates. There were
approximately 237,000, 433,000, and, 504,000 shares issued under the two plans
in 2000, 1999, and 1998, respectively. At December 31, 2000, approximately
936,000 shares were reserved for future issuance under the Employee Stock
Purchase Plan.

COMMON STOCK REPURCHASE PROGRAM

In October 1992 and January 1996, the Company announced it would repurchase
4,200,000 and 6,000,000 shares, respectively, of common stock for issuance in
future Company employee benefit and compensation plans and other requirements.
During 1998, the Company repurchased 27,000 shares under the program, and had
purchased a total of 4,731,000 shares as of December 31, 1998. During 1999, the
Company repurchased 18,000 shares under the



                                       57
<PAGE>   58

program, and had purchased a total of 4,749,000 shares as of December 31, 1999.
During 2000, the Company repurchased 20,000 shares under the program, and had
purchased a total of 4,769,000 shares as of December 31, 2000. In October 2000,
the Company announced that its Board of Directors had rescinded its
authorization for the purchase of common stock under the common stock purchase
program.

EMPLOYEE SAVINGS AND RETIREMENT PLAN

The Company maintains a 401(k) retirement savings plan for its full-time
employees. Participants in the plan may contribute up to 20% of their annual
salary, limited by the maximum dollar amount allowed by the Internal Revenue
Code. In January 2000, the Company announced that it would contribute a
percentage of each participating employee's salary deferral contributions up to
a maximum of $2,000 or 50% of the first 6% of an employee's annual compensation.
Company matching contributions are invested in Novellus' common stock and become
fully vested at the end of the employee's third year of service beginning on
January 1, 2000. The Company recorded $2.8 million in matching contributions
under this plan for the year ended December 31, 2000.



                                       58
<PAGE>   59

NOTE 8 INCOME TAXES

Significant components of the provision for income taxes attributable to income
before income taxes and cumulative effect of a change in accounting principle
are as follows (in thousands):

<TABLE>
<CAPTION>
                                                                         2000           1999         1998
                                                                      ------------------------------------
<S>                                                                   <C>             <C>          <C>
State
              Current                                                 $   8,327       $ 1,365      $ 1,794
              Deferred                                                   (2,049)          421          452
                                                                      ---------       -------      -------
                                                                          6,278         1,786        2,246
Federal
              Current                                                    88,367         4,560        4,715
              Deferred                                                  (38,793)        1,400       13,175
                                                                      ---------       -------      -------
                                                                         49,574         5,960       17,890
Foreign
              Current                                                     9,794         9,426        2,355
Income tax benefits attributable to employee stock plan activity
       allocated to shareholders' equity                                 40,247        20,544        4,728
                                                                      ---------       -------      -------
Total provision for income taxes                                      $ 105,893       $37,716      $27,219
                                                                      =========       =======      =======
</TABLE>

Pre-tax income from foreign operations was $28.0 million, $19.9 million, and
$3.3 million in 2000, 1999 and 1998, respectively. Deferred income taxes reflect
the net tax effects of temporary differences between the carrying amounts of
assets and liabilities for financial reporting purposes and the amounts used for
income tax purposes.

Significant components of the Company's deferred tax assets and liabilities are
as follows at December 31 (in thousands):

<TABLE>
<CAPTION>
                                                        2000           1999
                                                     -------------------------
<S>                                                  <C>             <C>
Deferred tax assets:
              Financial valuation accounts           $   7,559       $  4,475
              Expenses not currently deductible         25,755         13,566
              Other                                      9,166         18,341
              Deferred profit                           89,867             --
              Capitalized in-process R&D                30,144         32,014
                                                     ---------       --------
Subtotal                                               162,491         68,396
              Valuation allowance                      (10,728)       (13,823)
                                                     ---------       --------
Total deferred tax assets                              151,763         54,573
                                                     ---------       --------

Deferred tax liabilities:
                Fixed assets                           (29,059)       (18,282)
                                                     ---------       --------
Total net deferred tax assets                        $ 122,704       $ 36,291
                                                     =========       ========
</TABLE>

The provision for income taxes differs from the provision calculated by applying
the federal statutory tax rate to income before income taxes, and cumulative
effect of a change in accounting principle, because of the following (in
thousands):

<TABLE>
<CAPTION>
                                            2000           1999            1998
                                         ----------------------------------------
<S>                                      <C>             <C>            <C>
Expected provision at 35%                $ 119,556       $ 40,005       $ 28,016
State taxes, net of federal benefit          7,682          2,285          1,460
Research and development credits            (5,849)        (2,231)        (1,530)
Foreign sales corporation benefit          (13,663)        (1,338)          (430)
Valuation allowance decrease                (3,100)        (3,100)        (3,100)
Other                                        1,267          2,095          2,803
                                         ---------       --------       --------
                                         $ 105,893       $ 37,716       $ 27,219
                                         =========       ========       ========
</TABLE>



                                       59
<PAGE>   60

NOTE 9 GEOGRAPHIC INFORMATION REPORTING AND MAJOR CUSTOMERS

The Company operates in one segment as it manufactures, markets and services
advanced automated wafer fabrication systems for the deposition of thin films
within the semiconductor equipment market. The Company is a supplier of high
productivity deposition systems used in the fabrication of integrated circuits.
All products and services are marketed within the geographic regions in which
the Company operates. The Company's current product offerings qualify for
aggregation under SFAS 131, "Disclosure about Segments of an Enterprise and
Related Information," as its products are manufactured and distributed in the
same manner, have similar long-term gross margins and are sold to the same
customer base.

The following is a summary of operations in geographic areas (in thousands):

<TABLE>
<CAPTION>
                                               NORTH
                                              AMERICA        EUROPE     PACIFIC RIM     ELIMINATIONS     CONSOLIDATED
                                            -------------------------------------------------------------------------
<S>                                         <C>             <C>         <C>             <C>              <C>
2000
Sales to unaffiliated customers             $  922,396      $   759       $250,576      $          --      $1,173,731
Transfers between geographic locations         149,741        8,895         29,404           (188,040)             --
                                            ----------      -------       --------      -------------      ----------
Total net sales                              1,072,137        9,654        279,980           (188,040)      1,173,731
Operating income                            $  258,535      $   106       $ 29,269      $          --      $  287,910
                                            ==========      =======       ========      =============      ==========
Long-lived assets                           $  127,357      $   174       $  8,629      $          --      $  136,160
All other identifiable assets                1,731,336        1,702        146,274                 --       1,879,312
                                            ----------      -------       --------      -------------      ----------
Total assets                                $1,858,693      $ 1,876       $154,903      $          --      $2,015,472
                                            ==========      =======       ========      =============      ==========

1999
Sales to unaffiliated customers             $  507,696      $   681       $ 84,364      $          --      $  592,741
Transfers between geographic locations          29,877        6,813         14,704            (51,394)             --
                                            ----------      -------       --------      -------------      ----------
Total net sales                                537,573        7,494         99,068            (51,394)        592,741
Operating income                            $   80,278      $   881       $ 19,178      $          --      $  100,337
                                            ==========      =======       ========      =============      ==========
Long-lived assets                           $  112,981      $   155       $  7,570      $          --      $  120,706
All other identifiable assets                  727,479        1,451         60,293                 --         789,223
                                            ----------      -------       --------      -------------      ----------
Total assets                                $  840,460      $ 1,606       $ 67,863      $          --      $  909,929
                                            ==========      =======       ========      =============      ==========

1998
Sales to unaffiliated customers             $  468,204      $ 2,063       $ 48,511      $          --      $  518,778
Transfers between geographic locations          12,301        5,962         11,137            (29,400)             --
                                            ----------      -------       --------      -------------      ----------
Total net sales                                480,505        8,025         59,648            (29,400)        518,778
Operating income (loss)                     $   73,149      $  (971)      $  6,770      $          --      $   78,948
                                            ==========      =======       ========      =============      ==========
Long-lived assets                           $  107,629      $   232       $  8,503      $          --      $  116,364
All other identifiable assets                  383,210        2,162         50,203                 --         435,575
                                            ----------      -------       --------      -------------      ----------
Total assets                                $  490,839      $ 2,394       $ 58,706      $          --      $  551,939
                                            ==========      =======       ========      =============      ==========
</TABLE>


Revenue for each geographic area is recognized in accordance with SAB 101 from
the locations within a designated geographic region. Transfers and commission
arrangements between geographic areas are at prices sufficient to recover a
reasonable profit.

One customer accounted for 11% and for 17% of net sales in 2000 and 1999
respectively. There were no individual customers who accounted for more than 10%
of the Company's net sales in 1998. Export sales were 66% of net sales in 2000,
64% of net sales in 1999, and 55% of net sales in 1998.



                                       60
<PAGE>   61

NOTE 10 QUARTERLY FINANCIAL DATA (UNAUDITED)

On December 3, 1999, the SEC staff issued Staff Accounting Bulletin ("SAB") No.
101, "Revenue Recognition in Financial Statements." The SEC Staff addresses
several issues in SAB No. 101, including the timing for recognizing revenue
derived from selling arrangements that involve contractual customer acceptance
provisions and installation of the product if these events occur after shipment
and transfer of title. The Company's previous revenue recognition policy was to
recognize revenue at the time the customer takes title to the product, generally
at the time of shipment, because the Company has always met its installation
obligations and obtained customer acceptance. On October 9, 2000, the SEC issued
Staff Accounting Bulletin No. 101: Revenue Recognition in Financial Statements
-- Frequently Asked Questions and Answers ("SAB 101 FAQ"). The SAB 101 FAQ was
issued to clarify many of the implementation questions surrounding SAB No. 101.
The Company recorded a non-cash charge of $84.6 million (after reduction for
income taxes of $45.8 million), or $0.63 per share, to reflect the cumulative
effect of the accounting change as of the beginning of the fiscal year. The
Company's revenue recognition policies are disclosed in Note 1.

The Company has included the following information below to demonstrate the
effect on Q1 through Q3, 2000 as if the provisions of SAB 101 had been applied
as of the beginning of fiscal year 2000:

<TABLE>
<CAPTION>
                                                                                    Year Ended December 31, 2000
                                                                          First         Second         Third          Fourth
                                                                         Quarter        Quarter        Quarter        Quarter
                                                                        ------------------------------------------------------
<S>                                                                     <C>             <C>           <C>             <C>
NET REVENUES
        As previously reported                                          $ 274,071       $325,987      $ 359,097       $389,878
        Effect of change in accounting principle                          (75,357)         9,012       (108,957)            --
                                                                        ---------       --------      ---------       --------
        As restated in first three quarters and reported in fourth
        quarter                                                           198,714        334,999        250,140        389,878
                                                                        ---------       --------      ---------       --------

GROSS PROFIT
        As previously reported                                            154,948        184,737        204,110        226,395
        Effect of change in accounting principle                          (48,485)         2,430        (66,920)            --
                                                                        ---------       --------      ---------       --------
        As restated in first three quarters and reported in fourth
        quarter                                                           106,463        187,167        137,190        226,395
                                                                        ---------       --------      ---------       --------

NET INCOME
        As previously reported                                             57,549         75,677         85,269         94,173
        Effect of change in accounting principle                          (32,967)         1,545        (45,549)            --
                                                                        ---------       --------      ---------       --------
        Cumulative effect of change in accounting principle               (84,632)            --             --             --
                                                                        ---------       --------      ---------       --------
        As restated in first three quarters and reported in fourth
        quarter                                                         $ (60,050)      $ 77,222      $  39,720       $ 94,173
                                                                        =========       ========      =========       ========
NET INCOME PER BASIC SHARE:
Earnings per share before cumulative effect of change in
Accounting principle
        As previously reported                                          $    0.48       $   0.59      $    0.65       $   0.72
        Effect of change in accounting principle                        $   (0.28)      $   0.01      $   (0.35)            --
                                                                        ---------       --------      ---------       --------
        As restated in first three quarters and reported in fourth
        Quarter                                                         $    0.20       $   0.60      $    0.30       $   0.72
Cumulative effect of change in accounting principle                     $   (0.70)            --             --             --
                                                                        ---------       --------      ---------       --------
Earnings after cumulative effect of change in accounting principle      $   (0.50)      $   0.60      $    0.30       $   0.72
                                                                        ---------       --------      ---------       --------
NET INCOME PER DILUTED SHARE:
Earnings per share before cumulative effect of change in
Accounting principle
        As previously reported                                          $    0.45       $   0.56      $    0.62       $   0.69
        Effect of change in accounting principle                        $   (0.26)      $   0.01      $   (0.33)            --
                                                                        ---------       --------      ---------       --------
        As restated in first three quarters and reported in fourth
        Quarter                                                         $    0.19       $   0.57      $    0.29       $   0.69
Cumulative effect of change in accounting principle                     $   (0.65)            --             --             --
                                                                        ---------       --------      ---------       --------
Earnings after cumulative effect of change in accounting principle      $   (0.46)      $   0.57      $    0.29       $   0.69
                                                                        ---------       --------      ---------       --------
Shares used in per share calculation:
        Basic                                                             120,622        128,148        130,920        131,234
        Diluted                                                           129,142        136,029        138,512        136,753
</TABLE>



                                       61
<PAGE>   62

Amounts as reported for period ending December 31, 1999 are as follows:

<TABLE>
<CAPTION>
                                                       Year Ended December 31, 1999
                                              First        Second         Third        Fourth
                                             Quarter       Quarter       Quarter       Quarter
                                            --------------------------------------------------
<S>                                         <C>           <C>           <C>           <C>
Net revenues                                $115,231      $130,878      $154,916      $191,716
Gross profit                                  61,134        69,582        83,721       106,594
Net income                                     9,425        12,399        21,773        32,977
Net income per share:
        Basic(1)                            $   0.09      $   0.11      $   0.19      $   0.28
        Diluted(1)                          $   0.08      $   0.10      $   0.18      $   0.27

Shares used in per share calculations:
        Basic(1)                             107,928       116,335       116,823       118,183
        Diluted(1)                           113,393       120,781       121,937       124,277
</TABLE>

(1) The earnings per share amounts and shares used have been adjusted to reflect
the Company's three-for-one stock split, effective January 15, 2000.


NOTE 11 RELATED PARTY TRANSACTIONS

There were no significant related party transactions in the year ended December
31, 2000. At December 31, 1999 and 1998, the Company had outstanding notes
receivable from one of its officers, totaling $1.5 million with interest at 6.0%
per year, compounded semi-annually. These notes were repaid in March 2000.


NOTE 12 SUBSEQUENT EVENT (UNAUDITED)

On January 10, 2001 the Company completed its acquisition of GaSonics
International Corporation (GaSonics), a developer and supplier of photoresist
and residue removal technologies. In the transaction, the Company acquired all
outstanding shares of GaSonics in a stock-for-stock merger, with all outstanding
shares of GaSonics capital stock converted into approximately 9,240,000 shares
of Novellus common stock. In addition, all outstanding options to purchase
shares of GaSonics capital stock were automatically converted into options to
purchase approximately 1,400,000 shares of Novellus common stock. The business
combination will be accounted for as a pooling-of-interests combination and
accordingly, the Company's historical consolidated financial statements
presented in future reports will be restated to include the accounts and results
of operations of GaSonics.

The following unaudited pro forma data summarizes the combined results of
operations of the Company and GaSonics as if the combination had been
consummated on December 31, 2000. Data for the fiscal year ended December 31,
2000 reflects the adoption of SAB 101 for both Novellus and GaSonics.

<TABLE>
<CAPTION>
                                       Years Ended December 31,
                                    2000          1999          1998
                                --------------------------------------
<S>                             <C>             <C>           <C>
Net sales                       $1,275,269      $657,020      $619,208
Net income                      $  187,294      $ 68,707      $ 47,115
Diluted earnings per share      $     1.30      $   0.54      $   0.42
</TABLE>



                                       62
<PAGE>   63
                REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS

We have audited the accompanying consolidated balance sheets of Novellus
Systems, Inc. as of December 31, 2000 and 1999, and the related consolidated
statements of operations, shareholders' equity, and cash flows for each of the
three years in the period ended December 31, 2000. Our audits also included the
financial statement schedule listed in the Index at Item 14(a). These financial
statements and schedule are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements and
schedule based on our audits.

We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.

In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Novellus Systems,
Inc. at December 31, 2000 and 1999, and the consolidated results of its
operations and its cash flows for each of the three years in the period ended
December 31, 2000, in conformity with accounting principles generally accepted
in the United States. Also, in our opinion, the related financial statement
schedule, when considered in relation to the basic financial statements taken as
a whole, present fairly in all material respects the information set forth
therein.

As discussed in Note 1 to the consolidated financial statements, effective
January 1, 2000, the Company changed its method of accounting for revenue
recognition in accordance with guidance provided in SEC Staff Accounting
Bulletin No. 101 (SAB 101), "Revenue Recognition in Financial Statements."


                                           /s/ ERNST & YOUNG LLP
San Jose, California
January 15, 2001



                                       63
<PAGE>   64

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE

Not applicable.


                                    PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

The information required by this item is included under "Proposal No. 1:
Election of Directors," "Other Information -- Executive Officers" and
"Compliance with Section 16(a) of the Exchange Act" in the Company's Proxy
Statement to be filed in connection with its 2001 Annual Meeting of Shareholders
and is incorporated herein by reference.


ITEM 11. EXECUTIVE COMPENSATION

The information required by this item is included under "Other Information --
Executive Compensation" in the Company's Proxy Statement to be filed in
connection with its 2001 Annual Meeting of Shareholders and is incorporated
herein by reference.


ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

The information required by this item is included under "Other Information --
Security Ownership of Certain Beneficial Owners and Management" in the Company's
Proxy Statement to be filed in connection with its 2001 Annual Meeting of
Shareholders and is incorporated herein by reference.


ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

The information required by this item is included under "Other Information --
Certain Transactions" in the Company's Proxy Statement to be filed in connection
with its 2001 Annual Meeting of Shareholders and is incorporated herein by
reference.



                                       64
<PAGE>   65

                                      PART IV

ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K

(a)     The following documents are filed as part of this report:

<TABLE>
        <S>       <C>                                                                   <C>
        (1)       Financial Statements and Report of Ernst & Young LLP,
                  Independent Auditors

                  Consolidated Statements of Operations - Years Ended December 31,
                  2000, 1999 and 1998                                                   42

                  Consolidated Balance Sheets at December 31, 2000 and 1999             43

                  Consolidated Statements of Cash Flows - Years Ended December 31,
                  2000, 1999 and 1998                                                   44

                  Consolidated Statement of Shareholders' Equity - Years Ended
                  December 31, 2000, 1999 and 1998                                      45

                  Notes to Consolidated Financial Statements                            46

                  Report of Ernst & Young LLP, Independent Auditors                     63

        (2)       Financial Statement Schedules.

                  The following financial statement schedule is filed as part of
                  this Report on Form 10-K and should be read in conjunction with
                  the financial statements:

                  Schedule II - Valuation and Qualifying Accounts                       71

                  All other schedules are omitted because they are not required or
                  the required information is included in the financial statements
                  or notes thereto.

        (3)       Exhibits (numbered in accordance with Item 601 of Regulation
                  S-K)

        3.1  (29) Amended and Restated Articles of Incorporation of Registrant.

        3.2       Form of Bylaws of Registrant as amended

        10.1 (7)  Asset Purchase Agreement by and between Varian Associates,
                  Inc. and the Company dated May 7, 1997.

        10.2 (8)  First Amendment to Asset Purchase Agreement by and between
                  Varian Associates, Inc. and the Company dated June 20, 1997.

</TABLE>



                                        65
<PAGE>   66

<TABLE>
        EXHIBIT
        NUMBER                   DESCRIPTION
        ---------                -----------
        <S>            <C>
        10.3 (9)       Assignment and Assumption of Lessee's Interest in Lease
                       (Units 8 and 9, Palo Alto) and Covenants, Conditions and
                       Restrictions on Leasehold Interests (Units 1-12 Palo Alto) by and
                       between Varian Associates, Inc. and the Company dated May 7,
                       1997.

        10.4 (10)      Sublease (Portion of Unit 9, Palo Alto) by and between Varian
                       Associates, Inc. and the Company dated May 7, 1997.

        10.6 (11)      Environmental Agreement by and between Varian Associates,
                       Inc. and the Company dated May 7, 1997.

        10.7 (12)      Cross License Agreement by and between Varian Associates,
                       Inc. and the Company dated May 7, 1997.

        10.8 (13)      Parts Supply Agreement by and between Varian Associates, Inc.
                       and the Company dated May 7, 1997.

        10.9 (14)      Settlement Agreement by and between Applied Materials, Inc.
                       and the Company dated May 7, 1997. Confidential treatment has
                       been granted with respect to portions of this Exhibit.

        10.10 (15)     Credit Agreement by and among ABN AMRO Bank, N.V., as agent,
                       the lenders named therein, and the Company dated May 7, 1997.

        10.11 (16)     Participation Agreement by and among Lease Plan North
                       America, Inc. the Company and ABN AMRO Bank, N.V., as agent for
                       the participations named therein, dated June 9, 1997.

        10.11.1 (17)   Letter Amendment, dated June 20, 1997, to the Participation
                       Agreement by and among Lease Plan North America, Inc., the
                       Company and ABN AMRO Bank, N.V., as agent for the participants
                       named therein, dated June 9, 1997.

        10.11.2 (18)   Amendment no. 1, dated August 28, 1997, to the Participation
                       Agreement by and among Lease Plan North America, Inc., the
                       Company and ABN AMRO Bank, N.V., as agent for the participants
                       named therein, dated June 9, 1997.

        10.11.3 (19)   Amendment no. 2, dated September 26, 1997, to the
                       Participation Agreement by and among Lease Plan North America,
                       Inc., the Company and ABN AMRO Bank, N.V., as agent for the
                       participants named therein, dated June 9, 1997.

        10.12 (20)     Amendment no. 1, dated August 28, 1997, to the Facility 2
                       Lease Agreement, Construction Deed of Trust With Assignment of
                       Rents, Security Agreement and Fixture Filing by and between Lease
                       Plan North America, Inc. and the Company dated June 9, 1997.

        10.13 (21)     Amendment no. 2, dated September 26, 1997, to the Facility 2
                       Lease Agreement, Construction Deed of Trust With Assignment of
                       Rents, Security Agreement and Fixture Filing by and between Lease
                       Plan North America, Inc. and the Company dated June 9, 1997.

        10.13 (22)     Amendment no. 1, dated September 26, 1997, to the Facility 1
                       Lease Agreement, Deed of Trust With Assignment of Rents, Security
                       Agreement and Fixture Filing by and between Lease Plan North
                       America, Inc. and the Company dated June 9, 1997.

        10.14 (23)     Participation Agreement by and among Lease Plan USA, Inc.,
                       the Company and ABN AMRO Bank, N.V., as agent for the
                       participants named therein, dated October 15, 1997.
</TABLE>



                                        66
<PAGE>   67

<TABLE>
        EXHIBIT
        NUMBER                   DESCRIPTION
        ---------                -----------
        <S>              <C>
        10.15 (24)       Facility 1 Lease Agreement, Deed of Trust With Assignment
                         of Rents, Security Agreement and Fixture Filing by and
                         between Lease Plan USA, Inc. and the Company dated October
                         15, 1997.

        10.16 (25)       Facility 2 Lease Agreement, Construction Deed of Trust
                         With Assignment of Rents, Security Agreement and Fixture
                         Filing by and between Lease Plan USA, Inc. and the Company
                         dated October 15, 1997.

        *10.20 (2)       Registrant's Amended and Restated 1984 Stock Option Plan,
                         together with forms of agreements thereunder.

        *10.21 (3)       Registrant's 1992 Stock Option Plan, together with forms
                         of agreements thereunder.

        *10.21.1 (29)    Form of Restated Stock Purchase Agreement dated December 16,
                         1999 between the Company and Jeff Benzing, Wilbert van den
                         Hoek and certain other employees of the Company.

        *10.22 (4)       The Company's 1992 Employee Stock Purchase Plan.

        *10.23 (1)       Form of Agent Indemnification Agreement and amendment
                         thereto.

        *10.25 (5)       Employment Agreement dated June 15, 1992 between the
                         Company and Peter Hanley.

        *10.26 (6)       Offer Letter Agreement dated November 1, 1993 between the
                         Company and Richard S. Hill.

        *10.27 (26)      Employment Agreement dated October 1, 1998 between the
                         Company and Richard S. Hill.

        *10.27.1 (29)    Amendment dated December 16, 1999 to Employment Agreement
                         between the Company and Richard S. Hill.

        *10.27.2 (29)    Restricted Stock Purchase Agreement dated December 16, 1999
                         between the Company and Richard S. Hill.

        10.28 (27)       First Amendment to Participation Agreement dated June 4,
                         1999.

        10.29 (28)       Asset Purchase Agreement by and between Fairchild
                         Technologies USA, Inc. and the Company dated July 29, 1999.

        *10.30           Employment Agreement dated January 12, 2001 between the
                         Company and Asuri Raghavan.

        *10.31           GaSonics International Corporation 1994 Stock Option Plan,
                         together with forms of agreements thereunder as assumed by
                         the Company.

        *10.32           Gamma Precision Technology, Inc. 1998 Stock Option Plan,
                         together with forms of agreements thereunder as assumed by
                         the Company.

        *10.33           GaSonics International Corporation supplemental Stock Option
                         Plan as assumed by the Company.

        *10.34           Form of Light Industrial Lease between Teachers Insurance and
                         Annuity Association of America and the Registrant for office
                         space at 2730 Junction Avenue, San Jose, California.
</TABLE>



                                        67
<PAGE>   68
<TABLE>
        EXHIBIT
        NUMBER                   DESCRIPTION
        ---------                -----------
        <S>           <C>
        21.1          Subsidiaries of the Company.

        23.1          Consent of Ernst & Young LLP, Independent Auditors.

        24.1          Power of Attorney (see page 70).
</TABLE>

----------------

        (1)     Incorporated by reference to Exhibit 10.2 filed with the
                Company's Registration Statement on Form S-1, File No. 33-23011,
                which was declared effective August 11, 1988.

        (2)     Incorporated by reference to Exhibit 10.1 filed with the
                Company's Report on Form 10-K filed with the Securities and
                Exchange Commission on March 30, 1992.

        (3)     Incorporated by reference to Exhibit 10.30 filed with the
                Company's Report on Form 10-K filed with the Securities and
                Exchange Commission on February 26, 1993.

        (4)     Incorporated by reference to Exhibit 10.31 filed with the
                Company's Report on Form 10-K filed with the Securities and
                Exchange Commission on February 26, 1993.

        (5)     Incorporated by reference to Exhibit 10.34 filed with the
                Company's Report on Form 10-K filed with the Securities and
                Exchange Commission on February 26, 1993.

        (6)     Incorporated by reference to Exhibit 10.41 filed with the
                Company's Report on Form 10-K filed with the Securities and
                Exchange Commission on February 18, 1994.

        (7)     Incorporated by reference to Exhibit 2.1 to the Company's
                Report on Form 8-K filed with the Securities and Exchange
                Commission on July 7, 1997.

        (8)     Incorporated by reference to Exhibit 2.2 to the Company's
                Report on Form 8-K filed with the Securities and Exchange
                Commission on July 7, 1997.

        (9)     Incorporated by reference to Exhibit 2.3 to the Company's
                Report on Form 8-K filed with the Securities and Exchange
                Commission on July 7, 1997.

        (10)    Incorporated by reference to Exhibit 2.4 to the Company's
                Report on Form 8-K filed with the Securities and Exchange
                Commission on July 7, 1997.

        (11)    Incorporated by reference to Exhibit 2.6 to the Company's
                Report on Form 8-K filed with the Securities and Exchange
                Commission on July 7, 1997.

        (12)    Incorporated by reference to Exhibit 2.7 to the Company's
                Report on Form 8-K filed with the Securities and Exchange
                Commission on July 7, 1997.

        (13)    Incorporated by reference to Exhibit 2.8 to the Company's
                Report on Form 8-K filed with the Securities and Exchange
                Commission on July 7, 1997.

        (14)    Incorporated by reference to Exhibit 10.1 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on August 11, 1997.

        (15)    Incorporated by reference to Exhibit 10.2 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on August 11, 1997.

        (16)    Incorporated by reference to Exhibit 10.4 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (17)    Incorporated by reference to Exhibit 10.1.1 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (18)    Incorporated by reference to Exhibit 10.1.2 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (19)    Incorporated by reference to Exhibit 10.1.3 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (20)    Incorporated by reference to Exhibit 10.2 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (21)    Incorporated by reference to Exhibit 10.2.1 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (22)    Incorporated by reference to Exhibit 10.3 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (23)    Incorporated by reference to Exhibit 10.4 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (24)    Incorporated by reference to Exhibit 10.5 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (25)    Incorporated by reference to Exhibit 10.6 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (26)    Incorporated by reference to the exhibit with the corresponding
                exhibit number in the Company's Report on Form 10-K filed with
                the Securities and Exchange Commission on March 10, 1999.

        (27)    Incorporated by reference to the exhibit with the corresponding
                exhibit number in the Company's Report on Form 10-Q filed with
                the Securities and Exchange Commission on August 9, 1999.

        (28)    Incorporated by reference to the exhibit with the corresponding
                exhibit number in the Company's Report on Form 10-Q filed with
                the Securities and Exchange Commission on November 8, 1999.

        (29)    Incorporated by reference to the exhibit with the corresponding
                exhibit number in the Company's Report on Form 10-K filed with
                the Securities and Exchange Commission on March 30, 2000.


        *       Management contracts or compensatory plans or arrangements.

(b)     Reports on Form 8-K:

        The Company filed one report on Form 8-K during the fourth quarter ended
        December 31, 2000. Information regarding the item reported on is as
        follows:

        November 1, 2000: The Company announced the acquisition of GaSonics
        International Corporation.



                                       68
<PAGE>   69

                                   SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities and
Exchange Act of 1934, the Registrant has duly caused this Report on Form 10-K to
be signed on its behalf by the undersigned, thereunto duly authorized, in the
City of San Jose, State of California on this 23rd day of March, 2001.

                                       NOVELLUS SYSTEMS, INC.


                                       By:  /s/ Robert H. Smith
                                           -------------------------------------
                                           Robert H. Smith
                                           EXECUTIVE VICE PRESIDENT, FINANCE AND
                                           ADMINISTRATION, CHIEF FINANCIAL
                                           OFFICER AND SECRETARY




                                       69
<PAGE>   70

                                POWER OF ATTORNEY

KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints Richard S. Hill and Robert H. Smith, and each of
them, his attorneys-in-fact, each with the power of substitution, for him in any
and all capacities, to sign any amendments to this Report on Form 10-K and to
file the same, with exhibits thereto and other documents in connection
therewith, with the Securities and Exchange Commission, hereby ratifying and
confirming all that each of said attorneys-in-fact, or his substitute or
substitutes, may do or cause to be done by virtue hereof.

Pursuant to the requirements of the Securities Exchange Act of 1934, this Report
on Form 10-K has been signed by the following persons on behalf of the
Registrant in the capacities and on the date indicated.

<TABLE>
<CAPTION>
SIGNATURE                              TITLE                                              DATE
---------                              -----                                              ----
<S>                                    <C>                                                <C>
/s/ Richard S. Hill                    Chairman of the Board of Directors,                March 23,  2001
----------------------------------     President and Chief Executive Officer
Richard S. Hill                          (Principal Executive Officer)


/s/ Robert H. Smith                    Executive Vice President, Finance and              March 23,  2001
----------------------------------     Administration, Chief Financial Officer,
Robert H. Smith                        Secretary and Director
                                         (Principal Financial Officer)


/s/ Kevin S. Royal                     Vice President and Corporate Controller            March 23,  2001
----------------------------------       (Principal Accounting Officer)
Kevin S. Royal


/s/ D. James Guzy                      Director                                           March 23,  2001
----------------------------------
D. James Guzy


/s/ Tom Long                           Director                                           March 23,  2001
----------------------------------
Tom Long


/s/ Glen Possley                       Director                                           March 23,  2001
----------------------------------
Glen Possley


/s/ J. David Litster                   Director                                           March 23,  2001
----------------------------------
J. David Litster


/s/ William R. Spivey                  Director                                           March 23,  2001
----------------------------------
William R. Spivey
</TABLE>



                                       70
<PAGE>   71
                                  SCHEDULE II
                       VALUATION AND QUALIFYING ACCOUNTS
                                 (IN THOUSANDS)


<TABLE>
<CAPTION>
                                        BALANCE AT                          BALANCE AT
                                        BEGINNING   CHARGED TO                 END
DESCRIPTION                             OF PERIOD    EXPENSE    DEDUCTIONS  OF PERIOD
                                         ---------------------------------------------
<S>                                     <C>         <C>         <C>         <C>
Year Ended December 31, 1998
     Allowance for Doubtful Accounts      $3,547      $  452      $864       $3,135

Year Ended December 31, 1999
     Allowance for Doubtful Accounts      $3,135      $  586      $ --       $3,721

Year Ended December 31, 2000
     Allowance for Doubtful Accounts      $3,721      $1,080      $ --       $4,801
</TABLE>



                                       71
<PAGE>   72

                                 EXHIBIT INDEX


<TABLE>
<CAPTION>
        EXHIBIT
        NUMBER                   DESCRIPTION
        ---------                -----------
        <S>       <C>
        3.1  (29) Amended and Restated Articles of Incorporation of Registrant.

        3.2       Form of Bylaws of Registrant as amended

        10.1 (7)  Asset Purchase Agreement by and between Varian Associates,
                  Inc. and the Company dated May 7, 1997.

        10.2 (8)  First Amendment to Asset Purchase Agreement by and between
                  Varian Associates, Inc. and the Company dated June 20, 1997.
</TABLE>



                                       72
<PAGE>   73

<TABLE>
        EXHIBIT
        NUMBER                   DESCRIPTION
        ---------                -----------
        <S>            <C>
        10.3 (9)       Assignment and Assumption of Lessee's Interest in Lease
                       (Units 8 and 9, Palo Alto) and Covenants, Conditions and
                       Restrictions on Leasehold Interests (Units 1-12 Palo Alto) by and
                       between Varian Associates, Inc. and the Company dated May 7,
                       1997.

        10.4 (10)      Sublease (Portion of Unit 9, Palo Alto) by and between Varian
                       Associates, Inc. and the Company dated May 7, 1997.

        10.6 (11)      Environmental Agreement by and between Varian Associates,
                       Inc. and the Company dated May 7, 1997.

        10.7 (12)      Cross License Agreement by and between Varian Associates,
                       Inc. and the Company dated May 7, 1997.

        10.8 (13)      Parts Supply Agreement by and between Varian Associates, Inc.
                       and the Company dated May 7, 1997.

        10.9 (14)      Settlement Agreement by and between Applied Materials, Inc.
                       and the Company dated May 7, 1997. Confidential treatment has
                       been granted with respect to portions of this Exhibit.

        10.10 (15)     Credit Agreement by and among ABN AMRO Bank, N.V., as agent,
                       the lenders named therein, and the Company dated May 7, 1997.

        10.11 (16)     Participation Agreement by and among Lease Plan North
                       America, Inc. the Company and ABN AMRO Bank, N.V., as agent for
                       the participations named therein, dated June 9, 1997.

        10.11.1 (17)   Letter Amendment, dated June 20, 1997, to the Participation
                       Agreement by and among Lease Plan North America, Inc., the
                       Company and ABN AMRO Bank, N.V., as agent for the participants
                       named therein, dated June 9, 1997.

        10.11.2 (18)   Amendment no. 1, dated August 28, 1997, to the Participation
                       Agreement by and among Lease Plan North America, Inc., the
                       Company and ABN AMRO Bank, N.V., as agent for the participants
                       named therein, dated June 9, 1997.

        10.11.3 (19)   Amendment no. 2, dated September 26, 1997, to the
                       Participation Agreement by and among Lease Plan North America,
                       Inc., the Company and ABN AMRO Bank, N.V., as agent for the
                       participants named therein, dated June 9, 1997.

        10.12 (20)     Amendment no. 1, dated August 28, 1997, to the Facility 2
                       Lease Agreement, Construction Deed of Trust With Assignment of
                       Rents, Security Agreement and Fixture Filing by and between Lease
                       Plan North America, Inc. and the Company dated June 9, 1997.

        10.13 (21)     Amendment no. 2, dated September 26, 1997, to the Facility 2
                       Lease Agreement, Construction Deed of Trust With Assignment of
                       Rents, Security Agreement and Fixture Filing by and between Lease
                       Plan North America, Inc. and the Company dated June 9, 1997.

        10.13 (22)     Amendment no. 1, dated September 26, 1997, to the Facility 1
                       Lease Agreement, Deed of Trust With Assignment of Rents, Security
                       Agreement and Fixture Filing by and between Lease Plan North
                       America, Inc. and the Company dated June 9, 1997.

        10.14 (23)     Participation Agreement by and among Lease Plan USA, Inc.,
                       the Company and ABN AMRO Bank, N.V., as agent for the
                       participants named therein, dated October 15, 1997.
</TABLE>



                                       73
<PAGE>   74

<TABLE>
        EXHIBIT
        NUMBER                   DESCRIPTION
        ---------                -----------
        <S>              <C>
        10.15 (24)       Facility 1 Lease Agreement, Deed of Trust With Assignment
                         of Rents, Security Agreement and Fixture Filing by and
                         between Lease Plan USA, Inc. and the Company dated October
                         15, 1997.

        10.16 (25)       Facility 2 Lease Agreement, Construction Deed of Trust
                         With Assignment of Rents, Security Agreement and Fixture
                         Filing by and between Lease Plan USA, Inc. and the Company
                         dated October 15, 1997.

        *10.20 (2)       Registrant's Amended and Restated 1984 Stock Option Plan,
                         together with forms of agreements thereunder.

        *10.21 (3)       Registrant's 1992 Stock Option Plan, together with forms
                         of agreements thereunder.

        *10.21.1 (29)    Form of Restated Stock Purchase Agreement dated December 16,
                         1999 between the Company and Jeff Benzing, Wilbert van den
                         Hoek and certain other employees of the Company.

        *10.22 (4)       The Company's 1992 Employee Stock Purchase Plan.

        *10.23 (1)       Form of Agent Indemnification Agreement and amendment
                         thereto.

        *10.25 (5)       Employment Agreement dated June 15, 1992 between the
                         Company and Peter Hanley.

        *10.26 (6)       Offer Letter Agreement dated November 1, 1993 between the
                         Company and Richard S. Hill.

        *10.27 (26)      Employment Agreement dated October 1, 1998 between the
                         Company and Richard S. Hill.

        *10.27.1 (29)    Amendment dated December 16, 1999 to Employment Agreement
                         between the Company and Richard S. Hill.

        *10.27.2 (29)    Restricted Stock Purchase Agreement dated December 16, 1999
                         between the Company and Richard S. Hill.

        10.28 (27)       First Amendment to Participation Agreement dated June 4,
                         1999.

        10.29 (28)       Asset Purchase Agreement by and between Fairchild
                         Technologies USA, Inc. and the Company dated July 29, 1999.

        *10.30           Employment Agreement dated January 12, 2001 between the
                         Company and Asuri Raghavan.

        *10.31           GaSonics International Corporation 1994 Stock Option Plan,
                         together with forms of agreements thereunder as assumed by
                         the Company.

        *10.32           Gamma Precision Technology, Inc. 1998 Stock Option Plan,
                         together with forms of agreements thereunder as assumed by
                         the Company.

        *10.33           GaSonics International Corporation supplemental Stock Option
                         Plan as assumed by the Company.

        *10.34           Form of Light Industrial Lease between Teachers Insurance and
                         Annuity Association of America and the Registrant for office
                         space at 2730 Junction Avenue, San Jose, California.
</TABLE>



                                       74
<PAGE>   75

<TABLE>
        EXHIBIT
        NUMBER                   DESCRIPTION
        ---------                -----------
        <S>           <C>
        21.1          Subsidiaries of the Company.

        23.1          Consent of Ernst & Young LLP, Independent Auditors.

        24.1          Power of Attorney (see page 70).
</TABLE>

----------------

        (1)     Incorporated by reference to Exhibit 10.2 filed with the
                Company's Registration Statement on Form S-1, File No. 33-23011,
                which was declared effective August 11, 1988.

        (2)     Incorporated by reference to Exhibit 10.1 filed with the
                Company's Report on Form 10-K filed with the Securities and
                Exchange Commission on March 30, 1992.

        (3)     Incorporated by reference to Exhibit 10.30 filed with the
                Company's Report on Form 10-K filed with the Securities and
                Exchange Commission on February 26, 1993.

        (4)     Incorporated by reference to Exhibit 10.31 filed with the
                Company's Report on Form 10-K filed with the Securities and
                Exchange Commission on February 26, 1993.

        (5)     Incorporated by reference to Exhibit 10.34 filed with the
                Company's Report on Form 10-K filed with the Securities and
                Exchange Commission on February 26, 1993.

        (6)     Incorporated by reference to Exhibit 10.41 filed with the
                Company's Report on Form 10-K filed with the Securities and
                Exchange Commission on February 18, 1994.

        (7)     Incorporated by reference to Exhibit 2.1 to the Company's
                Report on Form 8-K filed with the Securities and Exchange
                Commission on July 7, 1997.

        (8)     Incorporated by reference to Exhibit 2.2 to the Company's
                Report on Form 8-K filed with the Securities and Exchange
                Commission on July 7, 1997.

        (9)     Incorporated by reference to Exhibit 2.3 to the Company's
                Report on Form 8-K filed with the Securities and Exchange
                Commission on July 7, 1997.

        (10)    Incorporated by reference to Exhibit 2.4 to the Company's
                Report on Form 8-K filed with the Securities and Exchange
                Commission on July 7, 1997.

        (11)    Incorporated by reference to Exhibit 2.6 to the Company's
                Report on Form 8-K filed with the Securities and Exchange
                Commission on July 7, 1997.

        (12)    Incorporated by reference to Exhibit 2.7 to the Company's
                Report on Form 8-K filed with the Securities and Exchange
                Commission on July 7, 1997.

        (13)    Incorporated by reference to Exhibit 2.8 to the Company's
                Report on Form 8-K filed with the Securities and Exchange
                Commission on July 7, 1997.

        (14)    Incorporated by reference to Exhibit 10.1 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on August 11, 1997.

        (15)    Incorporated by reference to Exhibit 10.2 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on August 11, 1997.

        (16)    Incorporated by reference to Exhibit 10.4 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (17)    Incorporated by reference to Exhibit 10.1.1 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (18)    Incorporated by reference to Exhibit 10.1.2 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (19)    Incorporated by reference to Exhibit 10.1.3 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (20)    Incorporated by reference to Exhibit 10.2 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (21)    Incorporated by reference to Exhibit 10.2.1 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (22)    Incorporated by reference to Exhibit 10.3 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (23)    Incorporated by reference to Exhibit 10.4 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (24)    Incorporated by reference to Exhibit 10.5 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (25)    Incorporated by reference to Exhibit 10.6 to the Company's
                Report on Form 10-Q filed with the Securities and Exchange
                Commission on November 10, 1997.

        (26)    Incorporated by reference to the exhibit with the corresponding
                exhibit number in the Company's Report on Form 10-K filed with
                the Securities and Exchange Commission on March 10, 1999.

        (27)    Incorporated by reference to the exhibit with the corresponding
                exhibit number in the Company's Report on Form 10-Q filed with
                the Securities and Exchange Commission on August 9, 1999.

        (28)    Incorporated by reference to the exhibit with the corresponding
                exhibit number in the Company's Report on Form 10-Q filed with
                the Securities and Exchange Commission on November 8, 1999.

        (29)    Incorporated by reference to the exhibit with the corresponding
                exhibit number in the Company's Report on Form 10-K filed with
                the Securities and Exchange Commission on March 30, 2000.


        *       Management contracts or compensatory plans or arrangements.




                                       75