UNITED STATES
SECURITIES AND EXCHANGE COMMISSIONWASHINGTON, D. C. 20549

FORM 10-K

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|ý                                            | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934    
|-------------------------------------------- | ----------------------------------------------------------------------------------------
|For the Fiscal Year Ended: December 31, 2003
|OR                                          
|o                                            | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission
File Number:000-22780

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FEI COMPANY(Exact name of registrant as specified in its charter)

|Oregon(State or other jurisdiction of incorporation or organization)                                                                   |  | 93-0621989(I.R.S. Employer Identification No.)
|-------------------------------------------------------------------------------------------------------------------------------------- |  | ----------------------------------------------
|5350 NE Dawson Creek Drive, Hillsboro, Oregon(Address of principal executive offices)                                                  |  | 97124-5793(Zip Code)                          
|Registrant's telephone number, including area code:503-726-7500                                                                       
|Securities registered pursuant to Section 12(b) of the Act:NoneSecurities registered pursuant to Section 12(g) of the Act:Common Stock

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Indicate
by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities 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 ý    No o

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. o

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

The aggregate market value of the voting and non-voting common equity held by non-affiliates, computed by reference to the last sales
price ($18.77) as reported by the Nasdaq National Market System, as of the last business day of the Registrant's most recently completed second fiscal quarter (June 30, 2003), was $305,240,311.

The
number of shares outstanding of the Registrant's Common Stock as of March 1, 2004 was 33,221,079 shares.

Documents Incorporated by Reference

The Registrant has incorporated by reference into Part III of Form 10-K portions of its Proxy Statement for its 2004 Annual Meeting of
Shareholders.



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FEI COMPANY  2003 FORM 10-K ANNUAL REPORT  TABLE OF CONTENTS

|           |  |                                                                                                |  | Page
|---------- |  | ---------------------------------------------------------------------------------------------- |  | ----
|PART I    
|Item 1.    |  | Business                                                                                       |  | 2   
|Item 2.    |  | Properties                                                                                     |  | 21  
|Item 3.    |  | Legal Proceedings                                                                              |  | 21  
|Item 4.    |  | Submission of Matters to a Vote of Security Holders                                            |  | 21  
|PART II   
|Item 5.    |  | Market for Registrant's Common Equity and Related Stockholder Matters                          |  | 22  
|Item 6.    |  | Selected Financial Data                                                                        |  | 23  
|Item 7.    |  | Management's Discussion and Analysis of Financial Condition and Results of Operations          |  | 24  
|Item 7A.   |  | Quantitative and Qualitative Disclosures About Market Risk                                     |  | 42  
|Item 8.    |  | Financial Statements and Supplementary Data                                                    |  | 45  
|Item 9.    |  | Changes in and Disagreements With Accountants on Accounting and Financial Disclosure           |  | 86  
|Item 9A.   |  | Controls and Procedures                                                                        |  | 86  
|PART III  
|Item 10.   |  | Directors and Executive Officers of the Registrant                                             |  | 86  
|Item 11.   |  | Executive Compensation                                                                         |  | 86  
|Item 12.   |  | Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters |  | 87  
|Item 13.   |  | Certain Relationships and Related Transactions                                                 |  | 87  
|Item 14.   |  | Principal Accountant Fees and Services                                                         |  | 87  
|PART IV   
|Item 15.   |  | Exhibits, Financial Statement Schedules and Reports on Form 8-K                                |  | 87  
|Signatures |  |                                                                                                |  | 91  

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PART I

Item 1. Business

Overview

We were formed in 1971 and our shares began trading on the Nasdaq National Market in 1995. Our principal executive offices are located at 5350 NE Dawson Creek
Drive, Hillsboro Oregon, 97124. Our Internet address is www.feicompany.com. You can obtain copies of our Form 10-K, 10-Q and 8-K reports, and all amendments
to these reports, free of charge from on our website as soon as reasonably practicable following our filing of any of these reports with the Securities and Exchange Commission ("SEC"). You can also
obtain copies of these reports by contacting investor relations at (503) 726-7500.

We
design, manufacture, market and service products and systems that are used in research, development and manufacturing of very small objects, primarily by providing an understanding of
their three-dimensional shape. The majority of our customers work in fields that are classified as nanotechnology, which can be described as the science of characterizing, analyzing and fabricating
things smaller than 100 nanometers (a nanometer is one billionth of a meter). We supply tools for nanotechnology.

Our
products are based largely on focused charged particle beam technology. They include transmission electron microscopes ("TEMs"), scanning electron microscopes ("SEMs"), focused
ion-beam systems ("FIBs"),DualBeamsystems that combine a FIB column and a SEM column on a single platform, secondary ion mass
spectrometers ("SIMS"), stylus nanoprofilometers ("SNPs") and software systems for semiconductor yield improvement. We also design, manufacture and
sell some of the components of electron microscopes and FIBs to other manufacturers. Our products are sold to a geographically diverse base of semiconductor manufacturers, thin film head manufacturers
in the data storage industry and to industrial, institutional and research organizations in the life sciences and material sciences fields. The development of our comprehensive suite of products for
three dimensional structural process measurement and analysis solutions has been driven by our strong technology base that includes approximately 116 patents in the U.S. and approximately 130 outside
of the U.S. and the technical expertise and knowledge base of approximately 334 research and development personnel worldwide. To date, we have a total worldwide installed base of approximately 5,620
systems, which we believe provides a strong foundation for future business.

Core Technologies

We use six core technologies to deliver a range of value-added customer solutions. Our core technologies include:



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Particle beam technologiesfocused ion beams and electron beams.The emission of ions, which are positively or
negatively charged atoms, or electrons from a source material, is fundamental to many of our products. Particle beams are focused on a sample. The fundamental properties of ion and electron beams
permit them to perform various functions. The relatively low mass subatomic electrons interact with the sample and release secondary electrons. When collected, these secondary electrons can provide
high quality images at near atomic-level resolution. The much greater mass ions dislodge surface particles, also resulting in displacement of secondary ions and electrons. Through FIBs the surface can
be modified or milled with sub-micron precision by direct action of the ion beam or in combination with gases. Secondary electrons and ions may also be collected for imaging and
compositional analysis. Our ion and electron beam technologies provide advanced capabilities and applications when coupled with our other core technologies.

Beam gas chemistry.Beam gas chemistry plays an important role in enabling our FIBs to perform many tasks successfully. Beam
gas chemistry involves the interaction of the primary ion beam with an injected gas near the surface of the sample. This interaction results in either the deposition of material or the enhanced
removal of material from the sample. Both of these processes are critical to optimizing and expanding FIB applications. The semiconductor and data storage markets have growing needs for gas chemistry
technologies, and we have aligned our development strategy with the requirements of these industries.



System automation.Drawing on our knowledge of industry needs and using robotics and image recognition software, we have
developed automation capabilities that allow us to increase system performance, speed and precision. These capabilities have been especially important to our
development efforts for in-line products and applications in the data storage and semiconductor markets. Two important areas where we have developed significant automation technologies are
TEM sample preparation and three-dimensional process control. TEMs are widely used in the semiconductor and data storage markets to obtain valuable high-resolution images of
extremely small, even atomic-level, structures. TEM sample preparation has traditionally been a slow and difficult manual process. We have automated this process, significantly improving the sample
consistency and overall throughput. Similarly, by automating three-dimensional process control applications, we allow customers to acquire previously unobtainable subsurface process metrics directly
from within the production line, improving process management. As a result of our automation capabilities, our solutions are now moving from "lab to fab."

Stylus nanoprofilometry.This technology utilizes a finely pointed tip or stylus that determines the three-dimensional
contour of a surface under evaluation. The tip is scanned over the sample surface in a precisely controlled manner, moving up and down with surface features. These movements are translated into height
information and, when coupled with scan positional information, a surface profile is generated. Our stylus nanoprofilometry technology is used primarily to develop a three-dimensional profile of
defects present on a photomask. When used in conjunction with our FIB products for mask repair, this profile information characterizes the defect and can improve the yield of repaired masks.

Secondary ion mass spectrometry.Our SIMS technology makes use of ions ejected from a surface when it is bombarded by another
beam of ions. These so-called secondary ions are analyzed according

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to
their mass which allows us to determine the elemental or chemical nature of the surface under study. When combined with the fine and precise removal of surface layers by the primary ion beam, each
removed layer may be analyzed. Upon successive removal and analysis of multiple layers, this technology provides the ability to generate depth profiles of various elements or chemicals. This
capability allows our customers to understand, for example, the depth of implanted elements used to generate transistors in semiconductor devices, or to measure thickness of ultra-thin
layers in composite materials.

Products and Markets

We employ our core technologies in four product segments:



For
additional information on financial data on our segments, you can also read Note 21 to the consolidated financial statements contained in this report.

These
products and services are sold to three broad sets of customers:



Microelectronics Products

Our microelectronics products includeDualBeamsystems, FIBs, SNP systems and navigation and yield management
software. These products and applications serve customers in all of our markets.DualBeamproducts are used in the semiconductor industry for defect
review and process monitoring, as well as yield improvement and process development tasks for semiconductor fabrication lines and supporting failure analysis laboratories. New products introduced in
2003 expand our three-dimensional metrology capability in semiconductor fabrication lines. Laboratory and in-fab applications include inspecting and evaluating lithography and etch,
monitoring metal step coverage, reviewing defects located by a variety of inspection tools, measuring overlay in cross section and preparation of TEM samples for high resolution analysis.

By
precisely focusing a high current-density ion beam, FIBs enable users to remove material and expose defects, edit circuits by depositing new conducting paths or insulating layers,
analyze the chemical composition of a sample and view the area being modified, all to sub-micron tolerances. FIB

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and
SNP products are also used to modify and repair photolithography masks used in the manufacture of semiconductors. Other important applications include bit fail map navigation to memory cell arrays
and on-wafer TEM sample preparation.

Our
FEI-Knights software product line, acquired in July 2003, includes computer-aided-design (CAD) navigation software that provides computerized interface and
navigation software for more than 50 different types of analysis and test equipment, helping chip manufacturers reduce design time and cost. In addition, FEI-Knights markets yield
management software that allows customers to collect, correlate, analyze and share manufacturing data to achieve and maintain higher yields.

We
believe our microelectronics products significantly increase the speed and improve the functions of design edit, photolithography mask modification and repair, failure analysis and
process monitoring performed by integrated circuit manufacturers, thereby shortening time to market for new generations of integrated circuits and increasing the yield of fabrication lines.

OurDualBeamproducts are also used by thin film head manufacturers for three-dimensional metrology to better control the manufacturing
process and increase yields. Applications include measurement of write pole critical dimensions to control etch and deposition processes, and measurement of read element features both at the wafer and
rowbar ends. Our FIB products are also used to trim the write
pole of thin-film heads for prototype purposes, extending the capabilities of the current broad beam etch and other manufacturing equipment.

In
2003, we introduced a new family of smallDualBeamproducts at significantly lower price points than our earlier products. These
products are used in laboratory applications in the semiconductor and data storage markets, and they extend the application of ourDualBeamproducts
further into the Industry and Institute market. They provide three-dimensional analysis capability in materials research and life sciences applications which previously only had the
two-dimensional information provided by SEMs.

Electron Optics Products

Our SEMs, TEMs and SIMS systems, which comprise our electron optics products, provide a range of solutions for industrial and research purposes, including
structural research, structural biology, structural diagnostics and structural process control. Customers include Industry and Institute clients, consisting of research institutions, universities,
drug and biotechnology companies and materials manufacturers, as well as Semiconductor and Data Storage manufacturers. Specific applications include analysis of advanced materials, such as ceramics,
metals and composites; determination of viral, cellular and protein structures; and failure analysis, defect analysis, metrology, and determination of implant depth for the semiconductor and data
storage industries. Our electron optics products are adaptable and user-friendly because our current products run on Windows NT® operating systems. In addition, modular
hardware and software packages permit a basic instrument to be configured to specific requirements and easily reconfigured if requirements change.

By
precisely focusing a high current-density electron beam, our SEMs allow for effective and nondestructive large specimen review, and our current models incorporate advanced
electron columns that provide very high image resolution at low voltages. Environmental SEMs, or ESEMs, permit superior resolution at low vacuum pressure, reduced sample charging and use of water
vapor to hydrate samples in the vacuum chamber, making these ESEM products particularly well suited for life science and materials research.

Our
TEMs utilize a highly focused beam of electrons which pass directly through the sample of interest, avoiding interactions with bulk specimens which degrade image quality. Our
TEMs therefore allow image resolution down to the atomic level, and may include capabilities for electron diffraction, high resolution electron energy loss analysis and electron beam tomography
for three-dimensional

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determination
of complex structures. Our 200kV and 300kV TEMs provide atomic resolution imaging for materials science applications, and our 100kV TEMs provide integrated atomic element
mapping for life sciences applications.

Utilizing
an ultra-sensitive mass analyzer, our SIMS products determine the composition of a surface by gently removing atomic layers in a precisely controlled and
user-friendly tool. Our SIMS products are utilized primarily to determine the thickness of ultra-thin films and heterojunction layers in electronic materials research, and to
measure implant depth for the latest generation of semiconductor devices.

Service Business

Our systems are sold with installation and scheduled warranty included. Standard warranty on products is 12 months. Occasionally, an extended warranty
period is provided. Once the warranty period expires, we offer our customers the opportunity to purchase a service contract to cover planned maintenance and repair of the system while in their
facilities. Historically, approximately 85% of our customers purchase a service contract after the warranty period expires. These service contracts are most often for a one-year period,
but multiple year service contracts are also occasionally sold. We also provide service on our systems under time and materials billing arrangements. We provide this field service capability through
our branches, subsidiaries and representatives located in 42 countries around the world.

Component Products

Our component products, which consist of electron and ion emitters and focusing columns, are manufactured with a variety of technical features to meet our needs
and those of our customers. We sell our electron emitters primarily to manufacturers of electron beam equipment and scientific research facilities. Ion emitters are sold mainly to research and
scientific facilities. We sell electron beam columns primarily to SEM manufacturers, and we sell ion beam columns primarily to manufacturers of surface analysis systems and other ion beam systems, as
well as to research and scientific facilities. We also manufacture single crystal electron source rods and wire, which we sell to researchers and emitter manufacturers for use in electron emitter
fabrication, SEM and TEM products and other research applications.

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Research and Development

Our research and development staff at December 31, 2003 consisted of 334 employees, including scientists, engineers, designer draftsmen, technicians and
software developers. We also contract with Philips Research Laboratories for basic research applicable to our FIB and SEM technologies. In 2003, we paid Philips Research Laboratories approximately
$4.8 million under these research contracts.

For
more information on Philips research arrangements, see Note 18 of Notes to Consolidated Financial Statements included in Item 8 of this report.

During
2003, we introduced seven new products, including:



We
believe our knowledge of field emission technology and products incorporating focused ion beams remain critical to our performance in the focused charged particle beam business. In
developing new field-emission based products, we have been able to combine our experience with a number of outside resources. Drawing on these resources, we have developed a number of product
innovations, including:



From
time to time, we engage in joint research and development projects with some of our customers and other parties. In Europe, our electron microscope development is conducted in
collaboration with universities and research institutions, often supported by European Union research and development programs. We periodically have received public funds under Dutch government and
European Union-funded research and development programs, the most significant of which is the Micro-Electronics Development for European Applications, or MEDEA, program, which was established in 1997.
We also maintain other informal collaborative relationships with universities and other research institutions and we work with several of our customers to evaluate new products. We also engage in
research and development programs with various United States governmental agencies. Under these contracts, we must undertake mandated hiring practices and other obligations required of entities
contracting with the United States government and failure to satisfy these obligations could result in the loss of these contracts

The
markets into which we sell our principal products are subject to rapid technological development, product innovation and competitive pressures. Consequently, we have expended
substantial amounts of money on research and development. We generally intend to continue at or above our present level of research and development expenditures and believe that continued investment
will be important to our continued ability to address the needs of our customers and to develop additional product offerings. Research and development efforts continue to be directed toward
development of next generation product platforms, new ion and electron columns, beam chemistries,

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system
automation and new applications. We believe these areas hold promise of yielding significant new products and existing product enhancements. Research and development efforts are subject to
change due to product evolution and changing market needs. Often, these changes cannot be predicted.

Manufacturing

We have manufacturing operations located in Hillsboro, Oregon; Eindhoven, the Netherlands; Peabody, Massachusetts; Brno, Czech Republic and Munich, Germany.
During 2003, we transitioned the assembly of certain products from our operations in the Netherlands to the Czech Republic, and additional manufacturing transfers to the Czech Republic are planned for
2004 as we increase our utilization of this lower-cost facility. Our system manufacturing operations consist largely of final assembly and the testing of finished products. Product
performance is documented before these products are shipped. We execute orders using an integrated logistics automation system that controls the flow of goods. We also fabricate electron and ion
source materials and manufacture component products at our facility in Oregon.

Our
production schedule generally is based on a combination of sales forecasts and the receipt of specific customer orders. We inspect all components, subassemblies and finished products
for compliance with internal and customer specifications. Following assembly, we ship all products in custom protective packaging designed to prevent damage during shipment.

Although
many of the components and subassemblies included in our system products are standard products, a significant portion of the mechanical parts and subassemblies are custom made
by one or two suppliers, including Philips Enabling Technologies Group, B.V. and Sanmina-SCI. In addition, we obtain a significant portion of our component parts from a limited number of
suppliers. Neways Electronics N.V. is a sole source for electronic subassemblies that were, until 2000, manufactured at our facilities in Eindhoven. We believe, furthermore, that some of the
subcomponents that make up the components and sub-assemblies supplied to us are provided to our suppliers only from single sources. We monitor those parts subject to single or a limited
source supply to ensure that adequate sources are available to maintain manufacturing schedules. Although we believe we would be able to develop alternate sources for any of the components used in our
products, significant delays or interruptions in the delivery of components from suppliers or difficulties or delays in shifting manufacturing capacity to new suppliers could have a material adverse
effect on our
operations. We continue to evaluate our existing suppliers and potential different or additional suppliers to determine whether changes in suppliers may be appropriate.

Sales, Marketing and Service

Our sales and marketing staff at December 31, 2003 consisted of approximately 314 employees, including account managers, direct salespersons, sales support
management, administration, demo lab personnel, marketing support, product managers, product marketing engineers, applications specialists and technical writers. Applications specialists identify and
develop new applications for our products, which we expect to further expand our microelectronics products and electron optics products markets. Our sales force and marketing efforts are not segmented
by product market, but are organized through the following three geographic sales and services divisions: North America, Europe and the Asian-Pacific region.

We
require sales representatives to have the technical expertise and understanding of the businesses of our principal and potential customers to effectively meet the demanding
requirements for selling our products. Normally, a sales representative will have the requisite knowledge of, and experience with, our products at the time the sales representative is hired. If
additional training is needed, our applications specialists familiarize the sales representative with our products. Our marketing efforts include presentations at trade shows, advertising in trade
journals, development of

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printed
collateral materials, customer forums, public relations efforts in trade media and our website. In addition, our employees publish articles in scientific journals and make presentations at
scientific conferences.

In
a typical sale, a potential customer is provided with information about our products, including specifications and performance data, by one of our sales representatives. The customer
often participates in a product demonstration at our facilities, using samples provided by the customer. The sales cycle for our systems typically ranges from three to 12 months, but can be
longer when our customers are evaluating new applications of our technology.

Our
microelectronics products, electron optics products and component products are sold generally with a 12 month warranty, and warranty periods have typically been shorter for
used systems. Customers may purchase service contracts for our microelectronics products and electron optics products of one year or more in duration after expiration of any warranty. We employ
service engineers in each of the three regions in which we have sales and service divisions. We also contract with independent service representatives for microelectronics products service in Israel
and South Korea.

Competition

The markets for our products are highly competitive. A number of our competitors and potential competitors have greater financial, marketing and production
resources than we do. Additionally, markets for our products are subject to constant change, due in part to evolving customer needs. As we respond to this change, the elements of competition as well
as specific competitors may change. Moreover, one or more of our competitors might achieve a technological advance that would put us at a competitive disadvantage.

Microelectronics

Our principal competitors for the sale of microelectronics products include Applied Materials Inc., Seiko Instruments Inc., NP Test,
JEOL Ltd., Hitachi, Ltd., KLA-Tencor Corporation, LEO Electron Microscopy Group and Orsay Physics S.A. We believe the key competitive factors in the microelectronics products
market are performance, range of features, reliability and price. We believe that we are competitive with respect to each of these factors. We have experienced price competition in the sale of our
microelectronics products and believe price may continue to be an important factor in the sale of most models. Intense price competition in the sale of microelectronics products to strategic customers
in the past has adversely affected our profit margins.

Electron Optics

Our competitors for the sale of electron optics products include JEOL USA, Inc., Hitachi, Ltd., and LEO Electron Microscopy, Inc. The
principal elements of competition in the electron optics products market are the performance characteristics of the system and the cost of ownership of the system, based on purchase price and
maintenance costs. We believe we are competitive with respect to each of these factors, although we have faced increasing pressure on purchase price due to aggressive pricing practices of competitors.
Our ability to remain competitive depends in part upon our success in developing new and enhanced systems and introducing these systems at competitive prices on a timely basis.

Components

Competitors for our component products include DENKA Denki Kagaku Kogyo Kabushiki Kaisha, Orsay Physics S.A., Eiko Corporation, Topcon Corporation, VG
Scientific/VG Microtech, Ionoptika Ltd. and Elionix Inc. Our existing competitors for electron optics products and microelectronics products that manufacture components for their own use
also are potential

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competitors
for our component products. We believe our component products have features that allow us to compete favorably with others in this segment of our business.

Services

Our service business faces little significant third-party competition. Because of the highly specialized nature of our products and technology, and because of the
critical mass necessary to support a worldwide field service capability, few competitors have emerged to provide service to our installed base of systems. Some of our older, less sophisticated
equipment, particularly in the industry and institute market, is serviced by independent field service engineers who compete directly with us. We believe we will continue to provide the majority of
field service for our products.

Patents and Intellectual Property

We rely on a combination of trade secret protection, nondisclosure agreements and patents to establish and protect our proprietary rights. We cannot assure you,
however, that any of these intellectual property rights have commercial value or are sufficiently broad to protect the aspect of our technology to which they relate or that competitors will not design
around the patents. We own, solely or jointly, approximately 116 patents in the United States. and approximately 130 outside of the United States, including patents we acquired from Koninklijke
Philips Electronics N.V., or Philips, pursuant to the Combination Agreement of November 15, 1996 between a Philips affiliate and us and an agreement with Philips effective December 31,
2000. We also own foreign patents corresponding to many of these United States patents. Further, we have licenses for additional patents. Our patents expire over a period of time through the year
2021.

Several
of our competitors hold patents covering a variety of focused ion beam products and applications and methods of use of focused ion and electron beam products. Some of our
customers may use our microelectronics products for applications that are similar to those covered by these
patents. From time to time we and our customers have received correspondence from competitors claiming that some of our products, as used by our customers, may be infringing one or more of these
patents. Currently, none of these allegations has resulted in litigation. We cannot assure you that competitors or others will not assert infringement claims against us or our customers in the future
with respect to current or future products or uses or that any such assertion may not result in costly litigation or require us to obtain a license to intellectual property rights of others. We cannot
assure you that licenses will be available on satisfactory terms or at all. If claims of infringement are asserted against our customers, those customers may seek indemnification from us for damages
or expenses they incur. As the number and sophistication of focused ion and electron beam products in the industry increase through the continued introduction of new products by us and others, and the
functionality of these products further overlaps, manufacturers and users of ion and electron beam products may become increasingly subject to infringement claims.

We
also depend on trade secrets used in the development and manufacture of our products. We endeavor to protect these trade secrets but cannot ensure that we have taken adequate measures
to protect these trade secrets.

We
claim trademarks on a number of our products and have registered some of these marks. Use of the registered and unregistered marks, however, may be subject to challenge with the
potential consequence that we would have to cease using marks or pay fees for their use.

Our
automation software incorporates software from third-party suppliers, which is licensed to end users along with our proprietary software. We depend on these outside software
suppliers to continue to develop automation capacities. The failure of these suppliers to continue to offer and develop software consistent with our automation efforts could undermine our ability to
deliver product applications.

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Employees

At December 31, 2003, we had approximately 1,605 full-time, permanent employees and 51 temporary employees worldwide. The permanent and
temporary employees included 406 in manufacturing, 334 in research and development, 474 in customer service and 442 in sales and general administration. Some of the 984 employees who are employed
outside of the United States are covered by national, industry-wide agreements or national work regulations that govern various aspects of employment conditions and compensation. None of
our United States employees are subject to collective bargaining agreements, and we have never experienced a work stoppage, slowdown or strike in any of our worldwide operations. We believe we
maintain good employee relations.

Backlog

We only recognize backlog for firm purchase orders for which the terms of the sale have been agreed upon, including price, configuration, options and payment
terms. Product backlog consists of all open orders meeting these criteria. Service backlog consists of open orders for service, unearned revenue on service contracts and open orders for spare parts.
At December 31, 2003, our product and service backlog was $94.1 million and $27.5 million, respectively, compared to $101.4 million and $22.7 million, respectively,
at December 31, 2002. Customers may cancel or delay delivery on previously placed orders, although our standard terms and conditions include penalties for cancellations made close to the
scheduled delivery date. As a result, the timing of the receipt of orders or the shipment of products could have a significant impact on our backlog at any date. For this and other reasons, the amount
of backlog at any date is not necessarily indicative of revenue in future periods.

Geographic Revenue and Assets

The following table summarizes sales by geographic region in 2003 (in thousands):

|2003          |             | North
America |        | Europe  |   | Asian-
Pacific |         | Total
|------------- | ----------- | ------------- | ------ | ------- | - | -------------- | ------- | -----
|Product sales |             | $             | 86,595 |         | $ | 98,436         |         | $    
|Service sales |             |               | 41,992 |         |   | 26,051         |         |      
|              |             |               |        |         |   |                |         |      
|              | Total sales |               | $      | 128,587 |   | $              | 124,487 |      
|              |             |               |        |         |   |                |         |      

Sales
to countries which totaled 10% or more of our total sales in 2003 were as follows (dollars in thousands):

2003

Dollar
Amount

% of Total
SalesU.S.

$
121,145

33.6
%Japan

$
49,119

13.6
%


Our
long-lived assets were geographically located as follows at December 31, 2003 (in thousands):

U.S.

$
158,998The Netherlands


18,845Other


15,912Total

$
193,755


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Seasonality

In general, our sales have tended to grow more rapidly from the third to the fourth quarter of the year than in other sequential quarterly periods, primarily
because our Industry and Institute customers budget their spending on an annual basis. Correspondingly, the Industry and Institute market has tended to record small declines in revenue from the fourth
quarter of one year to the first quarter of the next year. These seasonal trends can be offset by numerous other factors, including our introduction of new products, the overall economic cycle and the
business cycles in the semiconductor and data storage industries.

Where You Can Find More Information

We file annual, quarterly and special reports, proxy statements and other information with the Securities and Exchange Commission ("SEC") under the Securities
Exchange Act of 1934 as amended ("Exchange Act"). You can inspect and copy our reports, proxy statements, and other information filed with the SEC at the offices of the SEC's Public Reference Room
located at 450 Fifth St., NW, Room 1024, Washington D.C. 20549. Please call the SEC at 1-800-SEC-0330 for further information on the Public Reference Rooms. The SEC
also maintains an Internet website at http://www.sec.gov/ where you can obtain most of our SEC filings. In addition, you can inspect our reports, proxy materials and other information at the offices
of the Nasdaq Stock Market at 1735 K Street NW, Washington D.C. 20006.

Cautionary Factors That May Affect Future Results

This document contains forward-looking statements that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect,
could cause our results to differ materially from those expressed or implied by such forward-looking statements. Such forward-looking statements include any projections of earnings, revenues, or other
financial items; any statements of the plans, strategies, and objectives of management for future operations; factors affecting our 2004 operating results; any statements concerning proposed new
products, services, developments, changes to our restructuring reserves, or anticipated performance of products or services; any statements regarding future economic conditions or performance;
statements of belief; and any statement of assumptions underlying any of the foregoing. You can identify these statements by the fact that they do not relate
strictly to historical or current facts and use words such as "anticipate," "estimate," "expect," "project," "intend," "plan," "believe," and other words and terms of similar meaning. From time to
time, we also may provide oral or written forward-looking statements in other materials we release to the public.

The
risks, uncertainties and assumptions referred to above include, but are not limited to, those discussed here and the risks discussed from time to time in our other public filings.
All forward-looking statements included in this document are based on information available to us as of the date of this report, and we assume no obligation to update these forward-looking statements.
You are advised, however, to consult any further disclosures we make on related subjects in our Forms 10-Q and 8-K filed with the SEC. You also should read the section titled
"Use of Estimates in Financial Reporting" included in Note 1 of Notes to Consolidated Financial Statements included pursuant to Item 8 in this report. Also note that we provide the following
cautionary discussion of risks, uncertainties and possibly inaccurate assumptions relevant to our businesses. These items are factors that we believe could cause our actual results to differ
materially from expected and historical results. Other factors also could adversely affect us.

We operate in highly competitive industries and we cannot be certain that we will be able to compete successfully in such industries.

The industries in which we operate are intensely competitive. Established companies, both domestic and foreign, compete with each of our product lines. Many of
our competitors have greater

12

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financial,
engineering, manufacturing and marketing resources than we do, and may price their products very aggressively. A substantial investment is required by customers to install and integrate
capital equipment into a production line. As a result, once a manufacturer has selected a particular vendor's capital equipment, the manufacturer generally relies on that equipment for a specific
production line or process control application and frequently will attempt to consolidate its other capital equipment requirements with the same vendor. Accordingly, if a particular customer selects a
competitor's capital equipment, we expect to experience difficulty selling to that customer for a significant period of time.

Our
ability to compete successfully depends on a number of factors both within and outside of our control, including:



We
cannot be certain that we will be able to compete successfully on these or other factors in the future.

The loss of one or more of our key customers would result in the loss of significant net revenues.

A
relatively small number of customers account for a large percentage of our net revenues. Our business will be seriously harmed if we do not generate as much revenue as we expect from
these key customers, if we experience a loss of any of our key customers or if we suffer a substantial reduction in orders from these customers. Our ability to continue to generate revenues from our
key customers will depend on our ability to introduce new products that are desirable to these customers.

Because we do not have long-term contracts with our customers, our customers may stop purchasing our products at any time, which makes it
difficult to forecast our results of operations and to plan expenditures accordingly.

We
do not have long-term contracts with our customers. Accordingly:



If
we do not succeed in obtaining new sales orders from existing customers, our results of operations will be negatively impacted.

13

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We rely on a limited number of parts, components and equipment manufacturers. Failure of any of these suppliers to provide us with quality products in a
timely manner could negatively affect our revenues and results of operations.

Failure of critical suppliers of parts, components and manufacturing equipment to deliver sufficient quantities to us in a timely and cost-effective
manner could negatively affect our business. We currently use numerous vendors to supply parts, components and subassemblies for the manufacture and support of our products. Some key parts, however,
may only be obtained from a single supplier or a limited group of suppliers. In particular, we rely on Philips Enabling Technologies Group, B.V., or Philips ETG, and Sanmina-SCI for our
supply of mechanical parts and subassemblies and Neways Electronics, N.V. for some of our electronic subassemblies. In addition, some of our suppliers rely on sole suppliers. As a result of this
concentration of key suppliers, our results of operations may be materially and adversely affected if we do not timely and cost-effectively receive a sufficient quantity of parts to meet
our production requirements or if we are required to find alternative suppliers for these supplies. We may not be able to expand our supplier group or to reduce our dependence on single suppliers.
From time to time, we have experienced supply constraints with respect to the mechanical parts and subassemblies produced by Philips ETG. If Philips ETG is not able to meet our supply requirements,
these constraints may affect our ability to deliver products to customers in a timely manner, which could have an adverse effect on our results of operations.

We
rely on a limited number of equipment manufacturers to develop and supply the equipment we use to manufacture our products. The failure of these manufacturers to develop or deliver
quality equipment on a timely basis could have a material adverse effect on our business and results of operations. In addition, because we only have a few equipment suppliers, we may be more exposed
to future cost increases for this equipment.

The loss of key management or our inability to attract and retain sufficient numbers of managerial, engineering and other technical personnel could have
a material adverse effect on our business and results of operations.

Our continued success will depend, in part, on our ability to continue to attract and retain key managerial, engineering and technical personnel. In particular,
we depend on our Chairman, President and Chief Executive Officer, Vahé A. Sarkissian. The loss of key personnel could have a material adverse effect on our business, prospects,
financial condition or results of operations. Our growth will be dependent on our ability to attract new highly skilled and qualified technical personnel, in addition to personnel that can implement
and monitor our financial and managerial controls and reporting systems. Attracting qualified personnel is difficult, and we cannot assure you that our recruiting efforts will be successful. In
particular, our product generation efforts depend on hiring and retaining qualified engineers. The market for qualified engineers is very competitive. In addition, experienced management and
technical, marketing and support personnel in the information technology industry are in high demand and competition for such talent is intense.

Philips Business Electronics International B.V. has significant influence on all company shareholder votes and may have different interests than our
other shareholders.

As of December 31, 2003, Philips Business Electronics International B.V., or PBE, a subsidiary of Koninklijke Philips Electronics NV, owned approximately
25% of our outstanding common stock. As a result, PBE has significant influence on matters submitted to our shareholders for approval, including proposals regarding:



14

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In
addition to its significant influence, PBE's interests may be significantly different from the interests of other owners of our common stock, holders of our options to purchase common
stock and holders of our debt securities.

If our customers cancel or reschedule orders or if an anticipated order for even one of our systems is not received in time to permit shipping during a
certain fiscal period, our operating results for that fiscal period may fluctuate and our business and financial results for such period could be materially and adversely affected.

Our customers are able to cancel or reschedule orders, generally with limited or no penalties, depending on the product's stage of completion. The amount of
purchase orders at any particular date, therefore, is not necessarily indicative of sales to be made in any given period. Our build cycle, or the time it takes us to build a product to customer
specifications, typically ranges from one to six months. During this period, the customer may cancel the order, although generally we will receive a cancellation
fee based on the stage of the build cycle reached. In addition, we derive a substantial portion of our net sales in any fiscal period from the sale of a relatively small number of
high-priced systems. As a result, the timing of revenue recognition for a single transaction could have a material effect on our revenue and results of operations for a particular fiscal
period. We did not have significant order cancellations during the year ended December 31, 2003.

Our
net revenues and results of operations have fluctuated in the past and are likely to fluctuate significantly in the future on a quarterly and annual basis. It is likely that in some
future quarter or quarters our results of operations will be below the expectations of public market analysts or investors. In such event, the market price of our common stock may decline
significantly.

We have long sales cycles for our systems, which may cause our results of operations to fluctuate and could negatively impact our stock price.

Our sales cycle can be 12 months or longer and is unpredictable. Variations in the length of our sales cycles could cause our net sales, and therefore our
business, financial condition, results of operations and cash flows, to fluctuate widely from period to period. These variations could be based on factors partially or completely outside of our
control. The factors that could affect the length of time it takes us to complete a sale depend on many elements, including:



As
a result of these and a number of other factors that could influence sales cycles with particular customers, the period between initial contact with a potential customer and the time
when we recognize revenue from that customer, if ever, may vary widely. Our sales cycle typically takes up to 12 months, but sometimes is much longer. Our sales cycle has significantly extended
during the recent economic downturn. Our sales cycle also extends in situations where the sale involves developing new applications for a system or technology.

15

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The industries into which we sell our products are cyclical, which may cause our results of operations to fluctuate.

Our business depends in large part on the capital expenditures of data storage, semiconductor and scientific research customers, which accounted for the following
percentages of our net sales (product and service) for the periods indicated:

|Year Ended December 31, |  | 2003  |   | 2002  |   | 2001  |  
|----------------------- |  | ----- | - | ----- | - | ----- | -
|Semiconductor           |  | 42.5  | % | 42.2  | % | 43.7  | %
|Data Storage            |  | 7.5   |   | 3.7   |   | 12.7  |  
|Industry and Institute  |  | 50.0  |   | 54.1  |   | 43.6  |  
|                        |  |       |   |       |   |       |  
|                        |  | 100.0 | % | 100.0 | % | 100.0 | %
|                        |  |       |   |       |   |       |  

The
data storage and semiconductor industries are cyclical. These industries have experienced significant economic downturns at various times in the last decade. Such downturns have been
characterized by diminished product demand, accelerated erosion of average selling prices and production overcapacity. A downturn in one or more of these industries, or the businesses of one or more
of our customers, could have a material adverse effect on our business, prospects, financial condition and results of operations. The Industry and Institute market is also affected by overall economic
condictions, but is not as cyclical as the semiconductor and data storage markets.

The
global downturn in general economic conditions and in the markets for our customers' products, which began in 2002 and continued into 2003, resulted in a reduction in demand for some
of our products. We experienced the effects of the global economic downturn in many areas of our business. During this downturn and any subsequent downturns, we cannot assure you that our sales or
margins will not decline. As a capital equipment provider, our revenues depend in large part on the spending patterns of our customers, who often delay expenditures or cancel orders in reaction to
variations in their businesses or general economic conditions. Because a high proportion of our costs are fixed, we have a limited ability to reduce expenses quickly in response to revenue shortfalls.
In a prolonged economic downturn, we may not be able to reduce our significant fixed costs, such as continued investment in research and development or capital equipment requirements. As such, we may
experience gross margin erosion and a decline in our earnings.

Our customers experience rapid technological changes, which requires us to keep pace with such developments and we may be unable to introduce new
products on a timely basis.

The data storage, semiconductor and scientific research industries experience rapid technological change and new product introductions and enhancements. Our
ability to remain competitive depends in large part on our ability to develop, in a timely and cost-effective manner, new and enhanced systems at competitive prices and to accurately
predict technology transitions. In addition, new product introductions or enhancements by competitors could cause a decline in our sales or a loss of market acceptance of our existing products.
Increased competitive pressure also could lead to intensified price competition resulting in lower margins, which could materially and adversely affect our business, prospects, financial condition and
results of operations. Our success in developing, introducing and selling new and enhanced systems depends on a variety of factors, including:



16

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Because new product development commitments must be made well in advance of sales, new product decisions must anticipate both the future demand for products under development and the
equipment required to produce such products. We cannot be certain that we will be successful in selecting, developing, manufacturing and marketing new products or in enhancing existing products.

The
process of developing new high technology capital equipment products and services is complex and uncertain, and failure to accurately anticipate customers' changing needs and
emerging technological trends and to develop or obtain appropriate intellectual property could significantly harm our results of operations. We must make long-term investments and commit
significant resources before knowing whether our predictions will eventually result in products that the market will accept. For example, we have invested significant resources in the development of
three dimensional metrology products for semiconductor wafer manufacturing. If 3D metrology is not widely accepted or if we fail to develop products that are accepted by the marketplace, our
long-term growth could be diminished. Further, after a product is developed, we must be able to manufacture sufficient volume quickly and at low cost. To accomplish this objective, we must
accurately forecast production volumes, mix of products and configurations that meet customer requirements. If we are not successful in making accurate forecasts, our business and results of
operations could be significantly harmed.

Because we have significant operations outside of the United States, we are subject to political, economic and other international conditions that could
result in increased operating expenses and regulation of our products.

In 2003, approximately 65% of our revenues came from outside of the United States. Since a significant portion of our operations do occur outside of the United
States, our revenues and expenses are impacted by foreign economic and regulatory conditions. We have manufacturing facilities in Brno, Czech Republic and Eindhoven, the Netherlands and sales offices
in several other countries. In addition, approximately 30% of our sales in 2003 and approximately 28% of our sales in 2002 were derived from sales in Asia. In recent years, Asian economies have been
highly volatile and recessionary, resulting in significant fluctuations in local currencies and other instabilities. Instabilities in Asian economies may continue and recur in the future, which could
have a material adverse effect on our business, prospects, financial condition and results of operations. Our exposure to the business risks presented by Asian economies and other foreign economies
will increase to the extent we continue to expand our global operations. International operations will continue to subject us to a number of risks, including:



Unforeseen delay or problems in plant consolidation and transfer of manufacturing to Brno may cause us to lose sales or fail to manufacture tools
effectively.

During 2003, we began transferring certain of our manufacturing activities from our Peabody, Massachusetts facility to our Hillsboro, Oregon facility and from our
Hillsboro, Oregon and Eindhoven, the Netherlands facilities to our Brno, Czech Republic facility. These transfers might take longer, incur more expense or suffer other logistical and knowledge
transfer problems than we expect. As a result, we may not be able to manufacture our tools as well or as quickly as in the past. These delays could

17

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disrupt
our sales efforts and harm our customer relationships. If we incur increased expenses, our results of operations could be materially adversely affected.

If third parties assert that we violate their intellectual property rights, our business and results of operations may be materially adversely affected.

Several of our competitors hold patents covering a variety of technologies that may be included in some of our products. In addition, some of our customers may
use our products for applications that are similar to those covered by these patents. From time to time, we and our respective customers have received correspondence from our competitors claiming that
some of our products, as used by our customers, may be infringing one or more of these patents. To date, none of these allegations has resulted in litigation. Competitors or others may, however,
assert infringement claims against us or our customers in the future with respect to current or future products or uses, and these assertions may result in costly litigation or require us to obtain a
license to use intellectual property rights of others. If claims of infringement are asserted against our customers, those customers may seek indemnification from us for damages or expenses they
incur.

We
also may face greater exposure to claims of infringement in the future because PBE no longer is our majority shareholder. As a result of PBE's reduction of ownership of our common
stock in 2001, we no longer receive the benefit of many of the Philips patent cross-licenses that we previously received.

If
we become subject to infringement claims, we will evaluate our position and consider the available alternatives, which may include seeking licenses to use the technology in question
or defending our position. These licenses, however, may not be available on satisfactory terms or at all. If we are not able to negotiate the necessary licenses on commercially reasonable terms or
successfully defend our position, we could suffer a material adverse effect on our business, prospects, financial condition and results of operations.

We may not be able to enforce our intellectual property rights, especially in foreign countries.

Our success depends in large part on the protection of our proprietary rights. We incur significant costs to obtain and maintain patents and defend our
intellectual property. We also rely on the laws of the United States and other countries where we develop, manufacture or sell products to protect our proprietary rights. We may not be successful in
protecting these proprietary rights, these rights may not provide the competitive advantages that we expect, or other parties may challenge, invalidate or circumvent these rights.

Further,
our efforts to protect our intellectual property may be less effective in some countries where intellectual property rights are not as well protected as in the United States.
Many United States companies have encountered substantial problems in protecting their proprietary rights against infringement in foreign countries. We derived approximately 65% of our sales from
foreign countries in
2003 and approximately 58% in 2002. If we fail to adequately protect our intellectual property rights in these countries, our business may be materially adversely affected.

Infringement
of our proprietary rights could result in lost material sales opportunities and increased litigation costs, both of which could have a material adverse affect on our
business, prospects, financial condition and results of operations.

18

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We are substantially leveraged, which could adversely affect our ability to adjust our business to respond to competitive pressures and to obtain
sufficient funds to satisfy our future manufacturing capacity and research and development needs.

We have significant indebtedness. At December 31, 2003, we had total convertible long-term debt of approximately $295.0 million, which
could all become due and payable between June and August 2008.

The
degree to which we are leveraged could have important consequences, including, but not limited to, the following:



Our
ability to pay interest and principal on our debt securities, to satisfy our other debt obligations and to make planned expenditures will be dependent on our future operating
performance, which could be affected by changes in economic conditions and other factors, some of which are beyond our control. A failure to comply with the covenants and other provisions of our debt
instruments could result in events of default under such instruments, which could permit acceleration of the debt under such instruments and in some cases acceleration of debt under other instruments
that contain cross-default or cross-acceleration provisions. We believe that cash flow from operations will be sufficient to cover our debt service and other requirements. If we are at any time unable
to generate sufficient cash flow from operations to service our indebtedness, however, we may be required to attempt to renegotiate the terms of the instruments relating to the indebtedness, seek to
refinance all or a portion of the indebtedness or obtain additional financing. There can be no assurance that we will be able to successfully renegotiate such terms, that any such refinancing would be
possible or that any additional financing could be obtained on terms that are favorable or acceptable to us.

Due to our extensive international operations and sales, we are exposed to foreign currency exchange rate risks that could adversely affect our
revenues, gross margins and results of operations.

A significant portion of our sales and expenses are denominated in currencies other than the United States dollar, principally the euro. As a result, changes in
the exchange rate between the United States dollar and foreign currencies can impact our revenues, gross margins, results of operations and cash flows.

We
enter into forward sale or purchase contracts for foreign currencies to hedge specific cash, receivables or payables positions. We had realized and unrealized foreign currency losses
on our 2003 transactions of $0.6 million and realized and unrealized losses on these hedges in 2003 totaling $0.6 million, which are both included as a component of other income.

In
addition, beginning in July 2003, we entered into various forward exchange contracts to partially mitigate the impact of changes in the euro against the dollar on our
manufacturing and operating expenses in Europe. We mark to market any contracts that are not realized in a given quarter. The realized and unrealized gains related to these contracts totaled
$4.7 million in 2003 and are included as

19

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a
component of other income. Other income may fluctuate significantly on a quarterly basis due to the timing of these hedges and their related accounting treatment. In addition, at times, we will
incur mark-to-market gains and losses related to contracts that expire in subsequent periods. Accordingly, the related impact to operating margin may be realized in a different
period than the mark-to-market gain or loss. The hedging transactions we undertake limit our exposure to changes in the dollar/euro exchange rate. The hedges have a bias to
protect us as the dollar weakens, but also provide us some flexibility if the dollar strengthens.

In
early May 2003, we determined that we incorrectly hedged a foreign currency exposure in Europe during a period of high volatility in the euro against the dollar, which led to a
$1.2 million loss when the forward exchange position matured in May 2003. In response, we modified our review and approval practices to reduce the risk of incorrect hedging transactions
in the future. We cannot assure you, however, that such events will not occur again in the future.

The data storage industry is a relatively new and developing market for us and may not develop as quickly or as much as we expect.

In 2003 and 2002, net sales to the data storage industry accounted for approximately 7% and 4%, respectively, of our total net sales, and we expect sales to this
industry to be an important contributing factor to future growth in our total sales. The data storage industry is a newer market for our products than the other markets that we serve and, as a result,
involves greater uncertainties. For example, although we view the data storage market as a growth market, the market may never fully develop as we expect, or alternative technologies or tools may be
introduced. In addition, the data storage market recently has experienced a significant amount of consolidation. As a result, our customers in the data storage industry are becoming greater in size
and fewer in number, so that the loss of any single customer would have a greater adverse impact on our results of operations.

Terrorist acts and acts of war may seriously harm our business and revenues, costs and expenses and financial condition.

Terrorist acts or acts of war (wherever located around the world) may cause damage or disruption to us, our employees, facilities, partners, suppliers,
distributors and customers, which could significantly
impact our revenues, expenses and financial condition. This impact could be disproportionately greater on us than on other companies as a result of our significant international presence. The
terrorist attacks that took place in the United States on September 11, 2001 were unprecedented events that have created many economic and political uncertainties, some of which may materially
harm our business and results of operations. The potential for future terrorist attacks, the national and international responses to terrorist attacks, and other acts of war or hostility have created
many economic and political uncertainties that could adversely affect our business and results of operations in ways that cannot presently be predicted. We are largely uninsured for losses and
interruptions caused by terrorist acts and acts of war.

Unforeseen environmental costs could impact our future net earnings.

Some of our operations use substances that are regulated by various federal, state and international laws governing the environment. We could be subject to
liability for remediation if we do not handle these substances in compliance with applicable laws. It is our policy to apply strict standards for environmental protection to sites inside and outside
the United States, even when not subject to local government regulations. We will record a liability for environmental remediation and related costs when we consider the costs to be probable and the
amount of the costs can be reasonably estimated.

20

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Item 2. Properties

Our corporate headquarters is located in a newly purchased facility in Hillsboro, Oregon. This facility totals approximately 180,000 square feet and houses all of
our Hillsboro-based activities, including manufacturing, research and development, corporate finance and administration, and sales and marketing.

We
also maintain an administrative, development and manufacturing facility in Eindhoven, the Netherlands, consisting of approximately 154,000 square feet of space. In 2003, we renewed
the lease of most of this space through 2017. Under the lease renewal, a portion of the facilities will be renovated and additional space for offices, customer demonstrations, new cleanroom space, and
applications and development work will be added over the next two years. This will increase the square footage in Eindhoven to a total of approximately 180,000 square feet. Present lease payments are
approximately $171,000 per month. After the renovations and addition of new space, our lease payments will increase by approximately $11,500 per month.

We
maintain a manufacturing and development facility in Brno, Czech Republic. In January 2003, we relocated our operations in Brno to a new facility. The new facility, which
consists of approximately 90,000 square feet of space, is leased for approximately $88,000 per month. The lease expires in 2012.

We
lease and occupy approximately 70,000 square feet in Peabody, Massachusetts for administrative, development and manufacturing operations, at a cost of approximately $66,000 per month.
We voluntarily relocated out of approximately 22,000 square feet of space in Peabody, Massachusetts and are subleasing that space to a third party for approximately $7,000 less per month than our
obligation.

We
lease approximately 16,000 square feet in Sunnyvale, California for development operations, at a cost of approximately $40,500 per month. We lease and occupy approximately 15,000
square feet of space in Munich, Germany for manufacturing SIMS systems. Present lease payments are approximately $17,000 per month.

We
operate sales and service offices in leased facilities in France, Germany, Italy, Japan, the Netherlands, the United Kingdom and the United States, as well as other smaller offices in
the other countries where we have direct sales and service operations. In some of these locations, we lease space
directly. In other locations, we obtain space through service agreements with affiliates of Philips. We expect that our facilities arrangements will be adequate to meet our needs for the foreseeable
future and, overall, believe we can meet increased demand for facilities that may be required to meet increased demand for our products. In addition, we believe that if product demand increases, we
can use out-sourced manufacturing of spare parts as a means of adding capacity without increasing our direct investment in additional facilities.

Item 3. Legal Proceedings

As of the date hereof, there is no material litigation pending against us. From time to time, we become party to litigation and subject to claims arising in the
ordinary course of our business. To date, these actions have not had a material adverse effect on our financial position, results of operations or cash flows, and although the results of litigation
and claims cannot be predicted with certainty, we believe that the final outcome of such matters will not have a material adverse effect on our business, financial position, results of operation or
cash flows.

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

No matters were submitted to a vote of our shareholders during the quarter ended December 31, 2003.

21

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PART II

Item 5. Market for Registrant's Common Equity and Related Stockholder Matters

Our common stock trades on The Nasdaq National Market System under the symbol FEIC. The high and low sales prices on the Nasdaq National Market System for the
past two years:

2003

High

LowQuarter 1

$
19.85

$
13.55Quarter 2


21.73


15.05Quarter 3


28.75


18.27Quarter 4


28.45


20.672002

High

LowQuarter 1

$
38.41

$
25.10Quarter 2


35.98


21.06Quarter 3


27.16


13.70Quarter 4


19.57


12.34


The
approximate number of beneficial shareholders and shareholders of record at February 27, 2004 was 7,200 and 110, respectively.

In
February 1997 we combined with the electron optics business of Koninklijke Philips Electronics N.V., or Philips, pursuant to a combination agreement between us and a subsidiary
of Philips pursuant to which we acquired the Philips Electron Optics business. We issued shares of our common stock to Philips at the time of the combination and agreed to issue additional shares of
our common stock when stock options that were outstanding on the date of the closing of the combination (February 21, 1997) are exercised. The additional shares are issued at a rate of
approximately 1.22 shares to Philips for each share issued on exercise of these options. During 2003, we issued 69,202 shares of our common stock to Philips in connection with this agreement. The
shares issued were not registered under the Securities Act of 1933, as amended (the "Act") and the issuance was made in reliance on Section 4(2) of the Securities Act of 1933 as a transaction
not involving a public offering. As of December 31, 2003, 198,600 shares of our common stock remain issuable under this agreement.

There
were no cash dividends declared or paid in 2003. We intend to retain any earnings for use in our business and, therefore, do not anticipate paying any cash dividends in the
foreseeable future.

Information
regarding securities authorized for issuance under equity compensation plans will be included in the proxy statement for our 2004 annual meeting of shareholders under
Proposal No. 2 and Proposal No. 3.

22

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Item 6. Selected Financial Data

The selected consolidated financial data below should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of
Operations" and the consolidated financial statements and notes thereto included elsewhere in this report.

|                                                                                           |  | Year Ended December 31, |        
|------------------------------------------------------------------------------------------ |  | ----------------------- | -------
|
|
|Statement of Operations Data                                                               |  |                         |        
|Net sales                                                                                  |  | $                       | 360,977
|Cost of sales                                                                              |  |                         | 215,666
|                                                                                           |  |                         |        
|Gross profit                                                                               |  |                         | 145,311
|Total operating expenses(1)                                                                |  |                         | 131,762
|                                                                                           |  |                         |        
|Operating income (loss)                                                                    |  |                         | 13,549 
|Other expense, net(2)                                                                      |  |                         | (2,812 
|                                                                                           |  |                         |        
|Income (loss) before income taxes and cumulative effect of change in accounting principle  |  |                         | 10,737 
|Income tax expense                                                                         |  |                         | 3,543  
|                                                                                           |  |                         |        
|Income (loss) before cumulative effect of change in accounting principle                   |  |                         | 7,194  
|Cumulative effect of change in accounting principle, net of tax of $4,405                  |  |                         |       
|                                                                                           |  |                         |        
|Net income (loss)                                                                          |  | $                       | 7,194  
|                                                                                           |  |                         |        
|Basic income (loss) per share before cumulative effect of change in accounting principle   |  | $                       | 0.22   
|                                                                                           |  |                         |        
|Diluted income (loss) per share before cumulative effect of change in accounting principle |  | $                       | 0.21   
|                                                                                           |  |                         |        
|Cumulative effect of change in accounting principle per basic share                        |  | $                       |       
|                                                                                           |  |                         |        
|Cumulative effect of change in accounting principle per diluted share                      |  | $                       |       
|                                                                                           |  |                         |        
|Basic net income (loss) per share                                                          |  | $                       | 0.22   
|                                                                                           |  |                         |        
|Diluted net income (loss) per share                                                        |  | $                       | 0.21   
|                                                                                           |  |                         |        
|Shares used in basic per share calculations                                                |  |                         | 32,930 
|                                                                                           |  |                         |        
|Shares used in diluted per share calculations                                              |  |                         | 33,821 
|                                                                                           |  |                         |        

23

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|                          |  | December 31,
|------------------------- |  | ------------
|
|Balance Sheet Data        |  |             
|Cash and cash equivalents |  | $           
|Working capital           |  |             
|Total assets              |  |             
|Convertible debt          |  |             
|Shareholders' equity      |  |             

---

Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

Summary of Products

We are a leading supplier of products that enable research, development and the manufacturing of nanoscale features by helping our customers understand their
three-dimensional structures. We serve the semiconductor, data storage and industry and institute markets where decreasing feature sizes and the need for sub-surface, structural
information drive the need for our equipment and services. Our products and systems include hardware and software for focused ion beam, or FIB, equipment, scanning electron microscopes, or SEMs,
transmission electron microscopes, or TEMs, andDualBeamsystems, which combine an FIB and SEM on a single platform, as well as secondary ion mass
spectrometry systems, or SIMS systems, and stylus nanoprofilometry imaging systems orSNPsystems. TEMs, SEMs and SIMS systems collectively
comprise our electron optics segment products. FIBs,SNPproducts andDualBeamproducts collectively
comprise our microelectronics segment products.

Summary of 2003 Operations

We focused on growing our revenues and improving our product mix during 2003. The fourth quarter of 2003 was the largest revenue quarter in our history. We
introduced seven new products during 2003 and completed three acquisitions to strengthen our competitive position.

2003
was also characterized by significant fluctuations in the United States dollar against foreign currencies, especially the euro. We mitigated the effects of currency fluctuations by
instituting a hedging program that not only hedged specific cash, receivables and payables balances, but also certain manufacturing and operating expenses in Europe. In addition, we continued to
transition certain manufacturing and other operations and the related supply chains to lower cost countries, including to our manufacturing site in Brno.

24

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Acquisitions in 2003

On July 15, 2003, we purchased the CAD Navigation and Yield Management Software product lines of the EGSoft division ("EGSoft") of Electroglas, Inc.
("Electroglas"). We paid Electroglas $6.1 million and assumed certain liabilities in exchange for the product lines.

Also
on July 15, 2003, we purchased substantially all of the assets and assumed certain liabilities of LMC Instrument Corp., dba Revise ("Revise"), a developer and manufacturer of
laser-based tools for the microelectronics and micro-machining industries. The purchase price was $4.0 million.

On
November 26, 2003, we purchased Emispec Systems, Inc. ("Emispec"), a developer of software for TEM automation and tomography, to further accelerate our TEM software
development capabilities. We paid $6.1 million and assumed certain liabilities in exchange for existing technology and certain other assets.

For
additional information regarding these acquisitions, see Note 3 of Notes to Consolidated Financial Statements included in Item 8 of this report.

Prospects for 2004

For 2004, we expect that our financial results will continue to be affected by the health and capital spending of the semiconductor industry, the emergence of
nanotechnology research markets, competition and associated pricing pressures in all markets, customer adoption of our newDualBeamand small DualBeamproducts, material cost and our ability to mitigate the impact of fluctuations in currency exchange rates.

Results of Operations

The following table sets forth our statement of operations data as a percentage of net sales.

|                                              |  | Year Ended December 31,(1) |  
|--------------------------------------------- |  | -------------------------- | -
|
|Net sales                                     |  | 100.0                      | %
|Cost of sales                                 |  | 59.7                       |  
|                                              |  |                            |  
|Gross profit                                  |  | 40.3                       |  
|Research and development                      |  | 12.8                       |  
|Selling, general and administrative           |  | 21.5                       |  
|Merger costs                                  |  |                           |  
|Amortization of purchased technology          |  | 1.4                        |  
|Purchased in-process research and development |  | 0.3                        |  
|Restructuring and reorganization costs        |  | 0.5                        |  
|                                              |  |                            |  
|Operating income                              |  | 3.8                        |  
|Other expense, net                            |  | 0.8                        |  
|                                              |  |                            |  
|Income before income taxes                    |  | 3.0                        |  
|Income tax expense                            |  | 1.0                        |  
|                                              |  |                            |  
|Net income                                    |  | 2.0                        | %
|                                              |  |                            |  

---

Net
sales increased 5.7% to $361.0 million in 2003 compared to $341.4 million in 2002. This increase primarily resulted from increases in sales from our Microelectronics
and Service segments. Sales in the Asian-Pacific and European regions were also stronger in 2003 compared to 2002.

25

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Net
sales decreased 9.2% to $341.4 million in 2002 compared to $376.0 million in 2001. This decrease primarily resulted from decreased sales in our Microelectronics and
Components segments. Sales in the North American and European regions were also weaker in 2002 compared to 2001.

Net Sales by Segment

Net sales include sales in our microelectronics, electron optics, components and service segments. Sales by segment (in thousands) and as a percentage of total
sales were as follows:

|                 |  | Year Ended December 31, |        
|---------------- |  | ----------------------- | -------
|
|Microelectronics |  | $                       | 146,199
|Electron Optics  |  |                         | 123,927
|Components       |  |                         | 9,756  
|Service          |  |                         | 81,095 

Microelectronics

The net increase in microelectronics sales in 2003 compared to 2002 was primarily a result of increased demand for new products, combined with some improvement in
demand for existing products directed at the semiconductor and data storage equipment business. Total unit shipments increased 14% in 2003 compared to 2002. The increased demand for new products in
2003 was due primarily to strong demand for our small stageDualBeamsystems and our metrology systems introduced in mid 2003. Our small DualBeamsystems
include theNovaproduct and theQuanta
3Dproduct and our metrology systems include theCertus 3Dproduct, aDualBeamproduct used for data storage metrology. Our new smallDualBeamproducts, which have a lower price point than our other dual beam products, have made it
possible for certain customers to buy aDualBeamproduct rather than one of our single beam SEM products. Also included in microelectronics sales is
$4.1 million of sales resulting from our acquisition of EGSoft on July 15, 2003.

The
decrease in microelectronics sales in 2002 compared to 2001 was attributable to global economic weakness in the semiconductor and data storage markets and resulting decreased demand
for our products. Our sales to the data storage market declined significantly in 2002 due to market saturation of the technology offered by our products, which is currently being replaced with new
products. In 2002, we shipped 24% fewer systems than in 2001, but the product mix remained about the same in 2002 as in 2001.

Electron Optics

The decrease in electron optics sales in 2003 compared to 2002 was primarily a result of decreased volumes of both TEM and SEM units and continued pricing
pressures from competition in the market place, partially offset by favorable currency exchange gains totaling approximately $13 million. Total electron optics unit shipments decreased by 16%
in 2003 compared to 2002. Shifts in product mix towards our lower price point and lower margin units, such as SEMs, negatively affected our sales in 2003 compared to 2002 as did the shift from
possible SEM sales to our new smallDualBeammicroelectronics products.

The
slight decrease in electron optics sales in 2002 compared to 2001 was primarily a result of price pressure in the market place and a decrease in volume, partially offset by a
positive currency impact. Total electron optics unit shipments decreased by 4% in 2002 compared to 2001. TEM sales for 2002 decreased $5.5 million, or 7%, on flat unit shipments because of
pricing pressure. Sales of our SEM products increased $1.9 million, or 3%, in 2002 compared to 2001 due to continued strong

26

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demand
for ourQuantaSEM products. Sales of our SIMS system product began in 2002 and totaled $1.6 million.

Components

Our component sales, which comprise only approximately 3% to 4% of our net sales, tend to follow the cyclical pattern of the semiconductor equipment business,
which has experienced a significant downturn since 2001. Our component sales were relatively flat in 2003 as compared to 2002, but did increase sequentially in each quarter of 2003.

Service

Service sales are driven by the size of our installed base and the percentage of our installed base that is more than one year old, as our warranty period is
typically for one year. Systems sold to customers that come to the end of their warranty periods lead to a related increase in service contracts. Service contracts in the semiconductor and data
storage markets often include increased support and more rapid response times, which carry higher prices, contributing to the overall increase in service revenue in 2003 compared to 2002 and in 2002
compared to 2001.

Sales by Geographic Region

A significant portion of our revenue has been derived from customers outside of the United States, and we expect this to continue. The following table shows our
net sales by geographic location (dollars in thousands):

|                     |  | Year Ended December 31, |        
|-------------------- |  | ----------------------- | -------
|
|North America        |  | $                       | 128,587
|Europe               |  | $                       | 124,487
|Asian-Pacific Region |  | $                       | 107,903

The
decrease in net sales from the North American region in 2003 compared to 2002 was due to market uncertainty as well as transition for new product introductions. The semiconductor and
data storage markets are shifting to more overseas production and investment, which has shifted sales out of North America and into Europe and the Asian-Pacific region. Many United States-based
companies are purchasing equipment for delivery overseas. However, the North American economic climate, and the semiconductor industry in particular, did show signs of improvement in the second half
of 2003. The North American region was also positively affected in 2003 by $4.1 million of sales resulting from the acquisition of EGSoft on July 15, 2003.

In
the European region in 2003, we experienced significant sales to adopters of our new smallDualBeamproduct Nova. An overall strengthening of European
currencies against the United States dollar had an approximately $13.0 million positive impact on net
sales in 2003. 2003 was also positively affected by two large microelectronics equipment sales of approximately $5.0 million each for (for defect analysis and mask repair).

The
increase in the Asian-Pacific region in 2003 compared to 2002 was primarily due to an increase in sales in Japan of microelectronics products, especially small DualBeamunits. We also realized improved
sales in China, which included sales of SEM and TEM electron optics products and certain microelectronic
products for the semiconductor industry.

Net
sales decreased in 2002 compared to 2001 across all regions. In North America, the decreased sales were due to depressed demand in the semiconductor and data storage markets. In
Europe, the

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decreased
sales were due to decreased demand in the semiconductor market combined with overall price pressure, and were partially offset by increased demand in the industry and institute markets.

Sales by Market

Sales by market and as a percentage of total sales were as follows (dollars in thousands):

|                       |  | Year Ended December 31, |        
|---------------------- |  | ----------------------- | -------
|
|Semiconductor          |  | $                       | 153,444
|Data Storage           |  | $                       | 26,954 
|Industry and Institute |  | $                       | 180,579

Semiconductor
sales in 2003 increased by 7% over 2002, primarily due to strength in the laboratory area of this sector in the second half of 2003, where we benefited from the general
industry upturn, as well as from sales of our new smallDualBeamproducts. During 2003, we also shipped several high-end defect analysis
systems as part of our strategy to move our defect analysis products from the laboratories into production environments. Semiconductor sales in 2002 declined by 12% as compared to 2001, which was
attributable to global economic weakness in the semiconductor industry.

Data
storage sales in 2003 increased by 112% over 2002 primarily due to increased sales of our new Certus tool in second half of 2003. The Certus tool offers new metrology capability and
improved performance over the prior generation of our data storage metrology tool. We expect that data storage customers will find these enhancements compelling as they move towards ever smaller
product geometries and new magnetic recording head architectures. Data storage sales in 2002 declined by 73% as compared to 2001, as customers utilized tools purchased for the then current technology
node.

Industry
and institute sales declined by 2% in 2003 compared to 2002, due to pricing pressure. Customers in this market include universities, research institutes and corporate research
and development labs. In addition, this market serves life sciences customers who are utilizing pathology and drug research applications of our TEMs and SEMs. Within the industry and
institute market, we see opportunity for increased sales related to applications in life sciences and nanotechnology. Also, with the introduction of our small DualBeamproducts in mid-2003, we were able
to penetrate customers who were previously using SEM tools with a broader range of solutions and
tools that provide greater gross margins than we can obtain on our SEM products. Industry and Institute sales increased by 13% in 2002 as compared to 2001 due to sales of our DualBeamproducts.

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Gross Margin

Cost of sales includes manufacturing costs such as materials, labor (both direct and indirect) and factory overhead, as well as all of the costs of our customer
service function such as labor, materials, travel and overhead. Our gross margin (gross profit as a percentage of net sales) by segment was as follows:

|                 |  | Year Ended December 31, |  
|---------------- |  | ----------------------- | -
|
|Microelectronics |  | 50.4                    | %
|Electron Optics  |  | 34.5                    | %
|Components       |  | 60.6                    | %
|Service          |  | 31.8                    | %
|Overall          |  | 40.3                    | %

Gross
profit and margins were negatively affected in 2003 by the weakening of the United States dollar in relation to the euro and other European currencies. The manufacturing operations
for our electron optics products are located in Europe, and, as the dollar has weakened in relation to the euro and Czech koruna, our expenses in these locations have increased, as we have shifted
additional manufacturing capabilities to Europe, and our margins have been negatively impacted. In addition, our electron optics segment has experienced pricing pressures from competitors, such as
Jeol and Seiko, who have introduced new products into our markets or who have benefited from favorable currency exchange movements in their home countries. Currency issues reduced our overall gross
profit by approximately $6.7 million in 2003 and increased our gross profit by approximately $2.1 million in 2002. Currency related issues did not have a material effect on our gross
profit in 2001.

A
shift in product mix in 2003, especially within the electron optics segment, to lower margin products, as well as a shift to a greater percentage of our sales being generated by our
service segment, have also negatively affected gross margin and gross profit. Service segment gross margins, however, have improved in 2003 compared to 2002 due to continued improved economies of
scale from the additional growth in our installed base of systems.

Gross
margin in the microelectronics segment was positively affected in 2003 by the sale of high margin software products acquired when we purchased EGSoft in the third quarter of 2003.
These sales increased our overall gross margin by approximately 0.7% in 2003.

We
realized lower gross margins in 2002 compared to 2001 primarily due to a change in our product mix. In general, our microelectronics products carry higher gross margins than our
electron optics products and our service business carries lower gross margins than any of our other segments. Microelectronics products decreased to 37.7% of net sales in 2002 from 44.8% of net sales
in 2001. Our service segment sales increased to 19.9% of net sales in 2002 from 14.8% of net sales in 2001. Though service segment margins remain well below system margins, service segment gross
margins improved in 2002 compared to 2001 due to continued improved economies of scale from the additional growth in our installed base of systems. In 2002, our overall margins were also adversely
affected by pricing pressures due to weak market conditions and from competitors who have introduced new products into our markets or who benefited from favorable currency exchange movements in their
home countries. We also experienced cost increases in 2002 from some of our larger vendors.

As
part of our overall emphasis on cost reduction, we are continuing to seek lower product manufacturing costs in 2004 by improving our manufacturing and procurement efficiencies through
global sourcing and shifting production to more efficient and lower cost manufacturing centers. During 2003, we transitioned the assembly of certain products from our operations in the Netherlands to
our new Brno, Czech Republic facility, and additional transfers to the Brno facility are planned for 2004 as

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we
increase our utilization of this lower-cost facility. In addition, we are working on improving our capacity utilization and redesigning certain products with the intent of lowering
overall product costs.

Research and Development Costs

Research and development, or R&D, costs include labor, materials, overhead and payments to Philips and other third parties incurred in research and development of
new products and new software or enhancements to existing products and software.

R&D
costs were $46.3 million (12.8% of net sales) in 2003 compared to $42.5 million (12.4% of net sales) for 2002 and $41.5 million (11.0% of net sales) for 2001.
R&D costs are reported net of subsidies and capitalized software development costs. Subsidies totaled $7.5 million, $5.2 million and $3.1 million, respectively, in 2003, 2002 and
2001. Capitalized software totaled $2.4 million, $5.7 million and $1.8 million, respectively, in 2003, 2002 and 2001. We anticipate that subsidies will decrease by approximately
$1.0 million in 2004 compared to 2003 due to contracts that are nearing completion or have recently been completed. However, we anticipate that R&D costs, net of subsidies and capitalized
software, will remain relatively constant as a percentage of revenue.

The
weakening of the United States dollar in relation to the euro increased R&D costs in 2003 compared to 2002 by approximately $3.8 million. R&D costs increased an additional
approximately $1.5 million in 2003 as a result of our acquisitions of EGSoft and Revise in the third quarter of 2003 and of Emispec in the fourth quarter of 2003. These increases were partially
offset by a decrease in 2003 of $1.8 million in material consumption compared to 2002.

The
increase in R&D costs in 2002 compared to 2001 was attributable to investment in the development of product improvements and upgrades, new software systems and new products to
broaden the product line offerings of our business segments.

We
anticipate that we will continue to invest in R&D at a similar percentage of revenue for the foreseeable future. Accordingly, as revenues increase, we currently anticipate that R&D
expenditures will also increase. However, actual future spending will depend on market conditions.

Selling, General and Administrative Costs

Selling, general and administrative, or SG&A, costs include labor, travel, outside services and overhead incurred in our sales, marketing, management and
administrative support functions. SG&A costs include sales commissions paid to our employees as well as to our agents.

SG&A
costs were $77.5 million (21.5% of net sales) in 2003, $71.5 million (21.0% of net sales) in 2002 and $71.6 million (19.0% of net sales) in 2001.

The
weakening of the United States dollar in relation to the euro increased SG&A costs in 2003 compared to 2002 by approximately $4.6 million. The increase in 2003 also includes
costs for moving and temporarily maintaining duplicate facilities related to our transition from leased facilities to our new Hillsboro facility, which totaled approximately $0.7 million. SG&A
costs increased approximately $1.9 million in 2003 due to our acquisitions of EGSoft, Revise and Emispec and increased $0.6 million due to increased sales commissions, which resulted
from increased sales. These increases were partially offset by cost containment programs initiated in the fourth quarter of 2002 and throughout 2003. In addition, we were able to reduce our
expenditures in the areas of travel, consulting fees, supplies and other miscellaneous corporate related charges in 2003 as compared to 2002. For additional information, please also read the section
under the headingRestructuring and Reorganization Costsbelow.

The
increase in SG&A costs as a percentage of sales in 2002 compared to 2001 was primarily attributable to the ratio effect of lower sales volumes in 2002 and the fact that many SG&A
costs are fixed or semi-fixed rather than variable in nature.

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Merger Costs

During 2002, $6.8 million of legal, accounting and investment banking costs were incurred and expensed in connection with our proposed merger with Veeco.
In January 2003, the proposed merger was terminated by mutual agreement of the parties. There were no merger related expenses in 2003.

Amortization of Purchased Technology

Amortization of purchased technology increased to $1.4 million per quarter in the third quarter of 2003 compared to $1.2 million per quarter in the
first two quarters of 2003 and in all of 2002 due to the acquisition of EGSoft and Revise during the third quarter of 2003 and Emispec in the fourth quarter of 2003. Our purchased technology balance
at December 31, 2003 was $27.1 million and current amortization of purchased technology is approximately $1.5 million per quarter, which could increase if we acquire additional
technology in the coming year.

In
addition to the amortization of purchased technology, 2001 also includes $3.1 million of amortization of goodwill, which, pursuant to Statement of Financial Accounting
Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets,"that was adopted on July 2, 2001, is no longer amortized effective
January 1, 2002. Under SFAS No. 142, amortization has been replaced with a periodic impairment test for goodwill.

Purchased In-Process Research and Development

The $1.2 million of purchased in-process research and development in 2003 relates to the write-off of certain
in-process technology purchased in connection with the acquisition of EGSoft and Revise in the third quarter of 2003. The EGSoft acquisition in-process research and development
relates to next generation CAD Navigation software. This software was approximately 55% complete upon acquisition, and we expect it to be ready for market in late 2004. The Revise acquisition
in-process research and development relates to laser technology to take core samples from silicon. This project was approximately 50% complete upon acquisition, and we also expect it to be
complete in late 2004.

The
$3.4 million of purchased in-process research and development in 2001 relates to two projects acquired through our purchase of Deschutes Corporation. Neither of
these projects had been proven technologically feasible or had generated revenue or cost savings as of the date of the acquisition.

The
first project concerned image engine technology that could be applied to certain of our existing FIB products and improve the performance and reliability of these products. This
development project was approximately 56% complete and was assigned an estimated fair value of $0.4 million at the date of acquisition. This project was completed in 2002 at a cost of
approximately $0.5 million. The image engine project technology is being utilized in certain of our current products.

The
second project concerned the development of a new metrology tool with wafer handling capability. This project was approximately 21% complete and was assigned an estimated fair value
of $3.0 million at the date of acquisition. This project was completed in 2002 at a cost of approximately $1.5 million. We shipped our first products utilizing this technology in early
2003.

Restructuring and Reorganization Costs

Restructuring and Reorganization Summary

The restructuring charges for both the fourth quarter 2002 and the second quarter 2003 plans are based on estimates that are subject to change. Workforce related
charges could change because of shifts in timing, redeployment or changes in amounts of severance and outplacement benefits. Facilities charges could change due to changes in sublease income. Our
ability to generate sublease income is dependent upon lease market conditions at the time we negotiate the sublease arrangements. Variance

31

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from
these estimates could alter our ability to achieve anticipated expense reductions in the planned timeframe and modify our expected cash outflows and working capital.

As
a result of restructuring and other cost reduction efforts, as of December 31, 2003, we had reduced operating expenses and materials costs by approximately $9.0 million
to $10.0 million per year compared to expense levels at the end of 2002. These cost reductions, however, were offset by increased costs due to foreign currency fluctuation, increased salary
costs (primarily in Europe), increased insurance expense, increased costs due to redundant operations while we transition manufacturing lines to the Brno site and consolidate our Hillsboro operations
and increased costs due to our acquisitions.

In
addition to the charges in connection with our two restructuring and reorganization plans discussed below, this line item includes costs related to relocating current employees.

Second Quarter 2003 Restructuring and Reorganization

Our restructuring in 2003 included a workforce reduction of 21 employees, or approximately 1.3% of our worldwide work force. The positions affected included
manufacturing, marketing, administrative, field service, research and development and sales personnel. All but one termination was completed in the second quarter of 2003. The remaining position was
terminated at the beginning of the fourth quarter of 2003.

The
following table summarizes the charges, write-offs and expenditures related to the second quarter 2003 restructuring charge in thousands:

|Year Ended December 31, 2003                                          |  | Beginning
Accrued
Liability |   | Charged
to
Expense |   | Expenditures |  | Write-Offs &
Adjustments |      | Ending
Accrued
Liability
|--------------------------------------------------------------------- |  | --------------------------- | - | ------------------ | - | ------------ |  | ------------------------ | ---- | ------------------------
|Severance, outplacement and related benefits for terminated employees |  | $                           |  |                    | $ | 610          |  | $                        | (578 | )                       
|                                                                      |  |                             |   |                    |   |              |  |                          |      |                         

Fourth Quarter 2002 Restructuring

During the fourth quarter of 2002, in response to the continuing global economic downturn, we recorded restructuring and reorganization charges of
$5.5 million related to our plan to consolidate operations, reduce excess leased facilities and reduce operating expenses. Costs included in the restructuring charges consist of workforce
reductions and other related costs, and facility and leasehold improvement charges related to future abandonment of various leased office and manufacturing sites in North America and Europe.

As
detailed below, in 2003, we recorded additional charges to our 2002 restructuring charge resulting from changes in estimates related to our ability to sublease offices that we had
vacated as part of the restructuring. However, we also recorded reductions to the estimated charges due to lower termination costs in Europe due primarily to unanticipated voluntary departures before
severance was required and unanticipated redeployment of employees to vacant positions.

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Our 2002 restructuring plan included the reduction of 145 employees, or 9% of our worldwide work force. The positions affected included manufacturing, marketing, administrative, field
service, research and development and sales personnel. During the fourth quarter of 2002, employees were informed of the headcount reduction plans and the related severance benefits they would be
entitled to receive. Approximately 40% of the planned reductions were completed in the fourth quarter of 2002 and all but three of the remaining terminations occurred in 2003. These remaining
employees are expected to be terminated in 2004. The positions remaining to be terminated as of December 31, 2003 are located throughout Europe.

Leasehold
improvements and facilities charges represent ongoing contractual lease payments, less estimated proceeds from subleasing activities, and the remaining net book value of
leasehold improvements for various buildings located in the United States and Europe. Lease costs for these facilities will be charged against the restructuring accrual on a monthly basis when the
premises are vacated until the lease contracts expire or the facilities are sub-leased. The majority of these premises were vacated during 2003.

The
following table summarizes the charges, write-offs and expenditures related to the fourth quarter 2002 restructuring charge (in thousands):

|Year Ended December 31, 2003                                          |  | Beginning
Accrued
Liability |       | Charged
to
Expense |   | Expenditures |  | Write-Offs &
Adjustments |        | Ending
Accrued
Liability
|--------------------------------------------------------------------- |  | --------------------------- | ----- | ------------------ | - | ------------ |  | ------------------------ | ------ | ------------------------
|Severance, outplacement and related benefits for terminated employees |  | $                           | 3,333 |                    | $ |             |  | $                        | (787   | )                       
|Abandoned leases, leasehold improvements and facilities               |  |                             | 1,869 |                    |   | 1,378        |  |                          | (657   | )                       
|                                                                      |  |                             |       |                    |   |              |  |                          |        |                         
|                                                                      |  | $                           | 5,202 |                    | $ | 1,378        |  | $                        | (1,444 | )                       
|                                                                      |  |                             |       |                    |   |              |  |                          |        |                         

Remaining
cash expenditures for severance and related charges of approximately $0.6 million are expected to be paid throughout 2004. The current estimate accrued for cash to be
paid related to abandoned leases, leasehold improvements and facilities of $1.5 million is net of estimated sublease payments to be received and will be paid over the respective lease terms
through 2006.

Other Income (Expense), Net

Other income (expense) items include interest income, interest expense, valuation adjustments, and foreign currency gains and losses and other miscellaneous
items.

Interest
income represents interest earned on cash and cash equivalents, investments in marketable securities and a shareholder note receivable. Interest income was $4.9 million
in 2003, $6.8 million in 2002 and $4.7 million in 2001. The decrease in 2003 compared to 2002 is the result of lower average interest rates, partially offset by increased average cash
and investment balances, which was the result of our receipt of net proceeds of $145.9 million from our zero coupon convertible debt offering in June 2003. The average cash and
investment balance increased to $286.3 million in 2003 compared to $275.5 million in 2002, and the average interest rate decreased to 1.71% from 2.32%. See Liquidity and Capital
Resources below for a discussion of the changes in our cash and investment balances during 2003.

The
increase in interest income in 2002 compared to 2001 was the result of increased cash balances, which were partially offset by lower average interest rates. The increased cash
balances in 2002 resulted from a public offering of our common stock in May 2001 and our convertible debt offering in August 2001.

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Interest
expense totaled $11.5 million in 2003, $11.1 million in 2002 and $5.6 million in 2001. Interest expense for 2003, 2002 and 2001 primarily relates to our
5.5% convertible debt issued in August 2001. In addition, interest expense in 2003 includes the write-off of $0.7 million of bond issuance costs and $0.8 million for
the premium paid on the redemption of $30 million of our 5.5% convertible debt in June 2003. Interest expense in 2002 and 2001 also includes $0.6 million and $1.2 million,
respectively, of interest related to borrowings under bank lines of credit and to borrowings from Philips under the Philips credit facility, which was terminated prior to the August 2001 debt
offering. Amortization of our remaining convertible debt issuance costs totals $0.4 million per quarter.

The
valuation adjustment of $3.7 million in 2001 represents a charge to earnings resulting from of our purchase in 2001 of the assets of Surface/Interface, Inc. and the
resulting adjustment to the carrying value of our previously existing investment in Surface/Interface, Inc.

Other
income and expense consists of foreign currency gains and losses on transactions, hedging contracts and other miscellaneous items. Currency transaction losses totaled
$0.6 million in 2003 and $0.3 million in 2002, compared to a gain of $0.8 million in 2001. We enter into forward sale or purchase contracts for foreign currencies to hedge
specific cash, receivables or payables positions. We had realized and unrealized losses and on these hedges in 2003 totaling $0.6 million.

In
addition, beginning in July 2003, we entered into various forward exchange contracts to partially mitigate the impact of changes in the euro against the dollar on our
manufacturing and operating expenses in Europe. We mark to market any contracts that are not realized in a given quarter. The realized and unrealized gains related to these contracts totaled
$4.7 million in 2003.

There
were no other significant items included in 2003, 2002 or 2001. See also Item 7A Qualitative and Quantitative Disclosures about Market Risk below for a discussion of our foreign
currency gains and losses and hedging activities.

Income Tax Expense

Our effective income tax rate was 33.0% in 2003, 36.5% in 2002 and 40.9% in 2001. Our effective tax rate differs from the United States federal statutory tax rate
primarily as a result of the effects of state and foreign taxes and our use of the foreign export benefit, research and experimentation tax credits earned in the United States and other factors. The
2003 effective tax rate decreased compared to the rate for 2002 primarily due to our utilization of foreign net operating losses. The 2002 effective tax rate decreased compared to the rate for 2001
primarily due to tax credits for research and experimentation, which were a higher percentage of pretax income in 2002 compared to 2001.

In
addition to the factors mentioned above, our effective income tax rate can be affected by changes in statutory tax rates in the United States and foreign jurisdictions, our ability or
inability to utilize various carry forward tax items, changes in tax laws in the United States governing research and experimentation credits, the foreign export benefit, and other factors. In 2002,
the World Trade Organization ruled against the United States tax policies covering United States exports and it is unclear what action, if any, the United States government may take in response to
this ruling. We currently anticipate our 2004 effective tax rate to be approximately 35% due to the assumed expiration of the United States foreign export benefit at the end of the first quarter of
2004 and the changing foreign and Unites States mix of our business.

34

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LIQUIDITY AND CAPITAL RESOURCES

Our sources of liquidity and capital resources as of December 31, 2003 consisted of $300.0 million of cash, cash equivalents and
short-term investments, $22.1 million in non-current investments, $20.4 million of available borrowings under our existing credit facilities, as well as potential
future cash flows from operations. We believe that these sources of liquidity and capital will be sufficient to meet our expected operational and capital needs for the next 12 months and will
likely be sufficient to meet our operating needs for the foreseeable future.

In
2003, cash and cash equivalents increased $69.1 million primarily as a result of $2.7 million provided by operations, $145.9 million of proceeds from the issuance
of zero coupon convertible notes, the net maturity or redemption of $20.7 million of investments and marketable securities and $4.6 million from the exercise of employee stock options
and employee stock purchases, offset by $29.9 million used for the purchase of property, plant and equipment, $15.8 million used for the acquisition of businesses, $3.1 million
used for development of software, $31.4 million used for the repurchase of $30 million of our 5.5% convertible notes and $23.9 million used for the purchase of a convertible note
hedge.

Accounts
receivable increased $15.0 million to $103.0 million as of December 31, 2003 from $88.0 million as of December 31, 2002. Of the increase,
$10.6 million was due to the weakening of the dollar in relation to currencies of our foreign subsidiaries. The remainder of the increase was due to increased sales in the fourth quarter of
2003 compared to the fourth quarter of 2002. Our days sales outstanding, calculated on a quarterly basis, was 97 days at December 31, 2003 compared to 95 days at
December 31, 2002.

Inventories
increased $16.1 million to $102.3 million as of December 31, 2003 compared to $86.2 million as of December 31, 2002. Of the increase,
$10.1 million was due to weakening of the United States dollar in relation to currencies of our foreign subsidiaries. The remainder was due to a buildup of inventory in Europe as we complete
our transition of manufacturing lines to our Brno site. Our annualized inventory turnover rate, calculated on a quarterly basis, was 2.3 times for the quarters ended December 31, 2003 and 2002.

Other
current assets increased $7.1 million to $13.2 million at December 31, 2003 compared to $6.1 million at December 31, 2002. Other current assets
at December 31, 2003 included a $4.7 million receivable related to hedging activities compared to none at December 31, 2002.

Expenditures
for property, plant and equipment of $29.9 million in 2003 included $9.4 million for our worldwide corporate headquarters and manufacturing site in Hillsboro,
Oregon. The total cost of this facility to date is $26.9 million and, as of December 31, 2003, is substantially complete. As of December 31, 2003, we have completed our plan to
vacate all of our leased facilities in Oregon and have consolidated operations into the newly purchased facilities. Other significant expenditures in 2003 included $16.3 million for application
laboratory and demonstration systems, which exhibit the capabilities of our equipment to our customers and potential customers, and which capabilities we have expanded over the last two years. We also
invest in equipment for development, manufacturing and testing purposes. We expect to continue to invest in capital equipment, customer evaluation systems, research and development equipment for
applications development and additional manufacturing equipment to complete the transition of manufacturing to the Czech Republic. Our estimated capital expenditures in 2004 are approximately
$20 million, primarily for development and introduction of new products.

Goodwill
increased $8.6 million to $41.4 million at December 31, 2003 compared to $32.9 million at December 31, 2002 due to the addition of
$8.4 million of goodwill related to our acquisitions of EGSoft, Revise and Emispec in 2003 and $0.2 million related to milestone payments made related to

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our
2001 acquisition of Deschutes Corporation (see Note 3 of Notes to Consolidated Financial Statements).

Other
assets, which include service inventories, capitalized software development costs, debt issuance costs, trademarks, patents, deposits and other long-term assets,
increased $9.8 million to $54.7 million at December 31, 2003 compared to $44.9 million at December 31, 2002.

Significant
components of other assets are summarized as follows (in thousands):

|                                                |  | Balance at
December 31, 2002 |        | Additions |   | Amortization and write-offs |  | Balance at
December 31, 2003 |        | Current
quarterly
amortization |  
|----------------------------------------------- |  | ---------------------------- | ------ | --------- | - | --------------------------- |  | ---------------------------- | ------ | ------------------------------ | -
|Service inventories                             |  | $                            | 26,768 |           | $ | 211                         |  |                              |       |                                | $
|Capitalized software development costs          |  | $                            | 9,461  |           | $ | 3,138                       |  | $                            | (3,385 | )                              | $
|Debt issuance costs                             |  | $                            | 4,707  |           | $ | 4,811                       |  | $                            | (1,951 | )                              | $
|Trademarks, patents and other intangible assets |  | $                            | 1,001  |           | $ | 4,745                       |  | $                            | (482   | )                              | $

We
expect to continue to invest in software development as we develop new software for our existing products and new products under development. Additions to debt issuance costs resulted
from the issuance of $150.0 million in principal amount zero-coupon convertible notes. Amortization and write-offs of debt issuance costs include $0.7 million of
debt issuance costs related to the redemption of $30.0 million of our 5.5% convertible notes in June 2003. Increases to trademarks, patents and other intangible assets primarily resulted
from our acquisitions in 2003.

Our
convertible debt increased $120.0 million to $295.0 million at December 31, 2003 compared to $175.0 million at December 31, 2002 as a result of the
issuance of $150.0 million of zero coupon convertible subordinated notes in June 2003, offset by the repurchase of $30.0 million of our 5.5% convertible notes in June 2003.

On
June 13, 2003, we issued $150.0 million aggregate principal amount of zero coupon convertible subordinated notes. The interest rate on the notes is zero and the notes
will not accrete interest. The notes are due on June 15, 2023 and are first putable to us at the noteholder's option (in whole or in part) on June 15, 2008, at a price equal to 100.25%
of the principal amount, and on June 15, 2013 and 2018, at a price equal to 100% of the principal amount. The notes are also putable to us at the noteholder's option upon a change of control at
a price equal to 100% of the principal amount. We can redeem the notes (in whole or in part) for cash on June 15, 2008, at a price equal to 100.25% of the principal amount, or thereafter at a
price equal to 100% of the principal amount. The notes are subordinated to our existing and future senior indebtedness and effectively are subordinated to all
indebtedness and other liabilities of our subsidiaries. The cost of this transaction, including underwriting discounts and commissions and offering expenses, totaled $4.8 million and is
recorded on our balance sheet in other long-term assets and is being amortized over the life of the notes. The amortization of these costs totals $0.2 million per quarter and is
reflected as additional interest expense in our statements of operations.

The
notes are convertible into shares of our common stock upon the occurrence of certain events at an initial conversion price of $27.132 per share (subject to adjustment), or
approximately 5.53 million shares if the entire $150.0 million is converted. Upon conversion, we have the option to settle the notes in cash, shares of our common stock, or a combination
of cash and shares.

We
used a portion of the net proceeds from the offering to enter into convertible note hedge and warrant transactions with respect to our common stock, the exposure for which was held at
the time the notes were issued by Credit Suisse First Boston International, an affiliate of an initial purchaser of the notes. The hedging transactions may be settled at our option on a net basis and
run for a term

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concurrent
with the notes. The warrant held by us offsets the dilution from the conversion of the notes by allowing us to purchase up to 5.53 million shares of common stock at a price of
$27.132 per share. The bond hedge creates an upper limit on the cost of the warrant by proportionately reducing the amount of shares deliverable to us under the warrant by the amount that our stock
price at the time of conversion exceeds $40.80. These hedging transactions are expected to reduce the potential dilution from the conversion of the notes up to a market price of $40.80 per share. The
net cost of the hedging transactions has been included in stockholders' equity in accordance with the guidance in Emerging Issues Task Force ("EITF") Issue No. 00-19,
"Accounting for Derivative Financial Instruments Indexed to, and Potentially Settled in, a Company's Own Stock."

In
addition to the purchase of the hedging instruments, we used a portion of the note proceeds to repurchase $30.0 million of our 5.5% convertible subordinated notes due
August 2008, at a cost of $30.8 million.

We
maintain a $10.0 million unsecured and uncommitted bank borrowing facility in the United States, a $2.8 million unsecured and uncommitted bank borrowing facility in
Japan and various limited facilities in selected foreign countries. In addition, we maintain a $5.0 million unsecured and uncommitted bank facility in the United States and a
$2.6 million facility in the Netherlands for the purpose of issuing standby letters of credit and bank guarantees. At December 31, 2003, we had outstanding standby letters of credit and
bank guarantees totaling approximately $2.8 million to secure customer advance deposits. We also had outstanding at December 31, 2003, $12.8 million of foreign bank guarantees
that are secured by cash balances. At December 31, 2003 a total of $20.4 million was available under these facilities.

Contractual Payment Obligations

A summary of our contractual commitments and obligations as of December 31, 2003 is as follows (in thousands):

|                                      |  | Payments Due By Period
|------------------------------------- |  | ----------------------
|
|Convertible Debt                      |  | $                     
|Letters of Credit and Bank Guarantees |  |                       
|Purchase Order Commitments            |  |                       
|Operating Leases                      |  |                       
|Lease Guarantees                      |  |                       
|                                      |  |                       
|                                      |  | $                     
|                                      |  |                       

RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

On July 30, 2002, the Financial Accounting Standards Board ("FASB") issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." SFAS No. 146 requires companies to recognize costs associated with exit or disposal activities when they are incurred rather than at
the date of commitment to an exit or disposal plan. SFAS No. 146 is to be applied prospectively to exit or disposal activities initiated after December 31, 2002. In the past, we have
restructured from time to time, and this may occur in the future. Restructuring charges taken for exit plans committed to subsequent to December 31, 2002 have been expensed as incurred in
accordance with SFAS No. 146.

In
October 2002, the Emerging Issues Task Force ("EITF") issued EITF 00-21, "Accounting for Revenue Arrangements with Multiple
Deliverables." This standard addresses revenue recognition accounting for multiple revenue-generating activities. This statement was effective for the quarter

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ended
September 28, 2003. The adoption of the provisions of this statement did not have a material effect on our financial position, results of operations, or cash flows.

In
December 2002, the FASB issued Financial Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others." Financial Interpretation No. 45 elaborates on the existing disclosure requirements for most guarantees, including loan
guarantees such as standby letters of credit. It also clarifies that at the time a company issues a guarantee, the company must recognize an initial liability for the fair value of the obligations it
assumes under that guarantee and must disclose that information in its interim and annual financial statements. Financial Interpretation No. 45 was effective January 1, 2003. The
adoption of this statement did not have a material effect on our financial position, results of operations, or cash flows.

In
January 2003, the FASB issued FASB Interpretation No. 46 ("FIN 46"),"Consolidation of Variable Interest Entities"(revised December 2003). FIN 46 addresses when a company should include in its financial statements the assets, liabilities and activities of a variable interest entity. FIN 46 defines variable
interest entities as those entities with a business purpose that either do not have any equity investors with voting rights or have equity investors that do not provide sufficient financial resources
for the entity to support its activities. FIN 46 also requires disclosures about variable interest entities that a company is not required to consolidate, but in which it has a significant variable
interest. FIN 46 consolidation requirements are effective for all variable interest entities created after January 31, 2003, and to pre-existing entities in the first fiscal year or
interim period ending after December 15, 2003. Certain disclosure requirements are effective for financial statements issued after January 31, 2003. The adoption of FIN 46 had no effect
on our financial position, results of operations or cash flows.

In
April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on Derivative Instruments and Hedging Activities."
SFAS No. 149 amends SFAS No. 133 to clarify the definition of a derivative and incorporate many of the implementation issues cleared as a result of the Derivatives Implementation Group
process. This statement is effective for contracts entered into or modified after June 30, 2003. The adoption of this statement did not have a material effect on our financial position, results
of operations, or cash flows.

In
May 2003, FASB issued SFAS No. 150,"Accounting for Certain Financial Instruments with Characteristics of both Liabilities and
Equity." SFAS No. 150 requires that certain financial instruments that, under previous guidance, issuers could account for as equity, be classified as liabilities in
statements of financial position. Most of the guidance in SFAS No. 150 is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at
the beginning of the first interim period beginning after June 15, 2003. The adoption of SFAS No. 150 had no effect on our financial position, results of operations or cash flows.

In
December 2003, the SEC issued Staff Accounting Bulletin No. 104, Revenue Recognition ("SAB 104"), which updates the previously issued revenue recognition guidance in SAB
101, based on the Emerging Issues Task Force Issue 00-21, Revenue Arrangements with Multiple Deliverables. If the deliverables in a sales arrangement constitute separate units of
accounting according to the EITF's separation criteria, the revenue-recognition policy must be determined for each identified unit. If the arrangement is a single unit of accounting under the
separation criteria, the revenue-recognition policy must be determined for the entire arrangement. The issuance of SAB 104 has not had any impact on our financial position, results of operations or
cash flow.

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CRITICAL ACCOUNTING POLICIES AND THE USE OF ESTIMATES

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and
assumptions. These estimates and assumptions 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 amount of revenues and expenses during the reporting period.

Significant
estimates underlying the accompanying consolidated financial statements include:



It
is reasonably possible that the estimates we make may change in the future.

Revenue Recognition

For products produced according to our published specifications, revenue is recognized when the title to the product and the risks and rewards of ownership pass
to the customer. For products produced according to a particular customer's specifications, revenue is recognized when the product meets the customer's specifications and when the title and the risks
and rewards of ownership have passed to the customer. In each case, the portion of revenue applicable to installation and customer acceptance is recognized upon meeting specifications at the
installation site. For new applications of our products where performance cannot be assured prior to meeting specifications at the installation site, no revenue is recognized until such specifications
are met. Revenue, from time and materials based service arrangements, is recognized as the service is performed.

Our
billing terms on TEMs, SEMs, FIBs andDualBeamsystems generally include a holdback of 10% to 20% of the total purchase price subject
to completion of installation and final acceptance at the customer site. The portion of revenue related to installation and final acceptance, which is 5%, is deferred until such installation and final
acceptance are completed.

We
recognize software license revenues in accordance with AICPA Statement of Position ("SOP") 97-2, "Software Revenue Recognition" or SOP 97-2, as amended by SOP
98-9. SOP 97-2 provides specific industry guidance and stipulates that revenue recognized from software arrangements is to be allocated to each element of the arrangement based
on the relative fair value of the elements. Under SOP 97-2, the determination of fair value is based on objective evidence that is specific to the vendor. We utilize the residual method
under which revenue is allocated to the undelivered element, based on vendor specific evidence of fair value, and the residual amount of revenue is allocated to the delivered element. We recognize
license revenues upon delivery of the software.

We
generally provide consulting and training services on a time and materials basis and provide maintenance and support services under renewable, term maintenance agreements. Maintenance
and support fee revenue is recognized ratably over the contractual term, which is generally 12 months, and

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commences
from delivery of product. Amounts received prior to services being rendered are recorded as deferred revenue, with recognition commencing upon service delivery.

Allowance for Doubtful Accounts

The allowance for doubtful accounts is estimated based on past collection problems and known trends with current customers. The large number of entities
comprising our customer base and their dispersion across many different industries and geographies somewhat mitigates our credit risk exposure and the magnitude of our allowance for doubtful accounts.
Our estimates of the allowance for doubtful accounts are reviewed and updated on a quarterly basis. Changes to the reserve occur based upon changes in revenue levels and associated balances in
accounts receivable and estimated changes in credit quality. Historically, we have not incurred significant write-offs of accounts receivable, however, an individual loss could be
significant due to the relative size of our sales transactions. Our allowance for doubtful accounts totaled $5.0 million and $4.4 million, respectively, at December 31, 2003 and
2002.

Valuation of Excess and Obsolete Inventory

Inventory is stated at the lower of cost or market, with cost determined by standard cost methods, which approximate the first-in,
first-out method. Inventory costs include material, labor and manufacturing overhead. Inventory is reviewed for obsolescence and excess quantities on a quarterly basis, based on estimated
future use of quantities on hand, which is determined based on past usage, planned changes to products and known trends in markets and technology. Changes in support plans or technology could have a
significant impact on obsolescence. Because of the long-lived nature of many of our products, we maintain a substantial supply of parts for possible use in future repairs and customer
field service. As these service parts become older, we apply a higher percentage of reserve against the recorded balance, recognizing that the older the part, the less likely it is ultimately to be
used. Total valuation adjustments to inventory were $3.2 million and $7.6 million, respectively, in 2003 and 2002.

Lives and Recoverability of Equipment and Other Long-Lived Assets

We evaluate the remaining life and recoverability of equipment and other assets, including intangible assets, whenever events or changes in circumstances indicate
that the carrying amount of the asset may not be recoverable in accordance with SFAS No. 144 "Accounting for the Impairment or Disposal of Long-Lived Assets." If there is an
indication of impairment, we prepare an estimate of future, undiscounted cash flows expected to result from the use of the asset and its eventual disposition. If these cash flows are less than the
carrying value of the asset, we adjust the carrying amount of the asset to its estimated fair value.

Goodwill

Goodwill, which represents the excess of cost over the fair value of net assets acquired in business combinations, is evaluated for impairment annually and
whenever events or changes in circumstances indicate the carrying amount may not be recoverable. We perform our annual impairment test in November each year. To perform that test, we compare the
carrying value of our business segments to our estimates of the fair value of each of those segments. If the fair value of a business segment is less than its carrying value, we will write down the
related goodwill to its implied fair value. We use estimates of future cash flows, discounted to present value, and other measures of fair value to estimate the relative fair value of each of our
business segments. It is reasonably possible that our estimates of future cash flows, discount rates and other assumptions inherent in the calculation of the estimated fair value of each business
segment will change in the future, which could cause us to write down goodwill at that time. We did not record any goodwill impairment charges in 2003, 2002 or 2001.

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Existing Technology Intangible Assets

Existing technology intangible assets purchased in business combinations, which represent the estimated value of products utilizing technology existing as of the
combination date discounted to their net present value, are amortized on a straight-line basis over the estimated useful life of the technology. We currently are using amortization periods
ranging from 5 to 12 years for these assets. Changes in technology could affect our estimates of the useful lives of such assets. We test our technology intangible assets for impairment
whenever events or circumstances indicate that the carrying amount of assets may not be recoverable in accordance with SFAS No. 144. We evaluate recoverability by comparing the carrying amount
to future net undiscounted cash flows to be generated by the asset. If such assets are considered to be impaired, the impairment to be recognized is measured as the amount by which the carrying amount
of the assets exceeds the fair value of the assets. Such reviews
assess the fair value of the assets based upon estimates of future cash flows that the assets are expected to generate. We review the estimated useful lives of the assets on an annual basis. We have
not changed estimated useful lives or recognized impairment charges related to our technology intangible assets during 2003, 2002 or 2001.

Software Development Costs

We capitalize certain software development costs for software expected to be sold independently or within our products. Such costs are capitalized after the
technological feasibility of the project is determined and are reported on the balance sheet in other assets. Once we begin to include such software in our products, these costs are amortized over the
estimated economic life of the software, which is usually 3 years. Changes in technology could affect our estimate of the useful life of such assets.

Restructuring and Reorganization Costs

Restructuring and reorganization costs are recognized and recorded at fair value as incurred in accordance with SFAS No. 146,
"Accounting for Costs Associated with Exit or Disposal Activities." Restructuring and reorganization costs include severance and other costs related to
employee terminations as well as facility costs related to future abandonment of various leased office and manufacturing sites. Changes in our estimates could occur, and have occurred, due to
fluctuations in exchange rates, the sublease of unused space, unanticipated voluntary departures before severance was required and unanticipated redeployment of employees to vacant positions.

Income Taxes

We account for income taxes using the asset and liability method, which requires the recognition of deferred tax assets and liabilities for the expected future
tax consequences of temporary differences between the carrying amounts and tax bases of the assets and liabilities. In accordance with the provisions of SFAS No. 109,
"Accounting for Income Taxes," we record a valuation allowance to reduce deferred tax assets to the amount expected to "more likely than not" be
realized in our future tax returns. Should we determine that we would not be able to realize all or part of our net deferred tax assets in the future, adjustments to the valuation allowance for
deferred tax assets may be required. Our net deferred tax assets totaled $29.9 million and $11.4 million, respectively, at December 31, 2003 and 2002.

Warranty Liabilities

Our products generally carry a one-year warranty. A reserve is established at the time of sale to cover estimated warranty costs and certain
commitments for product upgrades. Our estimate of warranty cost is primarily based on our history of warranty repairs and maintenance, as applied to

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systems
currently under warranty. For our new products without a history of known warranty costs, we estimate the expected costs based on our experience with similar product lines and technology.
While most new products are extensions of existing technology, the estimate could change if new products require a significantly different level of repair and maintenance than similar products have
required in the past. Our estimated warranty costs are reviewed and updated on a quarterly basis. Changes to the reserve occur as volume, product mix and warranty costs fluctuate. Our warranty reserve
totaled $10.5 million and $13.6 million, respectively, at December 31, 2003 and 2002. Warranty expense totaled $10.1 million, $11.4 million and $11.4 million,
respectively, during 2003, 2002 and 2001.

Stock-Based Compensation

We measure compensation expense for our stock-based employee compensation plans using the method prescribed by Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees." We provide disclosures of net income and earnings per share as if the method prescribed by SFAS
No. 123, "Accounting for Stock-Based Compensation," had been applied in measuring compensation expense. Compensation expense calculated pursuant
to SFAS No. 123 totaled $8.7 million, $7.1 million and $5.1 million, respectively, in 2003, 2002 and 2001.

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements that have or are reasonably likely to have a material current or future effect on our financial
condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.

Item 7A. Quantitative and Qualitative Disclosures About Market Risk

Foreign Currency Exchange Rate Risk

A large portion of our business is conducted outside of the United States through a number of foreign subsidiaries. Each of the foreign subsidiaries keeps its
accounting records in its respective local currency. These local currency denominated accounting records are translated at exchange rates that fluctuate up or down from period to period and
consequently affect the consolidated results of operations and financial position. The major foreign currencies in which we experience periodic fluctuations are the euro, the Czech koruna, the
Japanese yen and the British pound sterling. Although for each of the last three years more than 55% of our sales occurred outside of the United States, a large portion of these foreign sales were
denominated in United States dollars and euros.

In
addition, because of our substantial research, development and manufacturing operations in Europe, we incur a greater proportion of our costs in Europe than the revenue we derive from
sales in that geographic region. Our raw materials, labor and other manufacturing costs are primarily denominated in United States dollars, euros and Czech korunas. This situation negatively affects
our gross margins and results of operations when the dollar weakens in relation to the euro or koruna, as was the case in 2003 and 2002. A strengthening of the dollar in relation to the euro or koruna
would have a positive effect on our reported results of operations, as was the case in 2001. Movement of Asian currencies in relation to the dollar and euro also can affect our reported sales and
results of operations because we derive more revenue than we incur costs from the Asian-Pacific region. In addition, several of our competitors are based in Japan and a weakening of the Japanese yen
has the effect of lowering their prices relative to ours.

As
a result of an overall weakening of the United States dollar against European currencies and the Japanese yen in 2003 and 2002, net sales were positively affected. As a result of an
overall strengthening of the United States dollar against European currencies and the Japanese yen in 2001, our net sales were negatively affected. However, because of the weakening of the United
States dollar

42

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against
European currencies in 2003, and to a smaller extent in 2002, our cost of sales increased more rapidly than our sales.

Assets
and liabilities of foreign subsidiaries are translated using the exchange rates in effect at the balance sheet date. The resulting translation adjustments increased shareholders'
equity and comprehensive income for 2003 and 2002 by $19.3 million and $13.7 million, respectively. Holding other variables constant, if the United States dollar weakened by 10% against
all currencies that we translate, shareholders' equity would increase by approximately $16.5 million as of December 31, 2003.

Risk Mitigation

Balance Sheet Related

We attempt to mitigate our currency exposures for recorded transactions by using forward exchange contracts to reduce the risk that our future cash flows will be
adversely affected by changes in exchange rates. We enter into forward sale or purchase contracts for foreign currencies to hedge specific cash, receivables or payables positions. We had realized and
unrealized foreign currency losses on our 2003 transactions of $0.6 million and realized and unrealized losses on these hedges in 2003 totaling $0.6 million, which are both included as a
component of other income.

Manufacturing and Operating Expense Related

In addition, beginning in July 2003, we entered into various forward exchange contracts to partially mitigate the impact of changes in the euro against the
dollar on our manufacturing and operating expenses in Europe. The foreign exchange hedging structure we have set up has a nine-month horizon. We mark to market any contracts that are not
realized in a given quarter. The realized and unrealized gains related to these contracts totaled $4.7 million in 2003 and are included as a component of other income. Other income may
fluctuate significantly on a quarterly basis due to the timing of these hedges and their related accounting treatment. In addition, at times, we will incur mark-to-market gains
and losses related to contracts that expire in subsequent periods. Accordingly, the related impact to operating margin may be realized in a different period than the
mark-to-market gain or loss. The hedging transactions we undertake limit our exposure to changes in the dollar/euro exchange rate. The hedges have a bias to protect us as the
dollar weakens, but also provide us some flexibility if the dollar strengthens.

As
of December 31, 2003, the aggregate stated amount of our outstanding foreign exchange contracts was $95.1 million and they have varying maturities through
August 29, 2004.

Holding
other variables constant, if the United States dollar weakened by 10%, the market value of foreign currency contracts outstanding as of December 31, 2003 would increase by
approximately $4.7 million. The increase in value relating to the forward sale or purchase contracts would, however, be substantially offset by the revaluation of the transactions being hedged.
A 10% increase in the United States dollar relative to the hedged currencies would have a similar, but negative, effect on the value of our foreign currency contracts, offset again by the revaluation
of the transactions being hedged.

We
are not able to eliminate all currency risk through hedging activities and, at times, our hedging activities may not be successful. In early May 2003, we determined that we
incorrectly hedged a foreign currency exposure in Europe during a period of high volatility in the euro against the dollar, which led to a $1.2 million loss when the forward exchange position
matured in May 2003. In response, we modified our review and approval practices to reduce the risk of incorrect hedging transactions in the future.

We
do not enter into derivative financial instruments for speculative purposes.

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Interest Rate Risk

Our exposure to market risk for changes in interest rates relate primarily to our investments. Since we have no variable interest rate debt outstanding at
December 31, 2003, we would not experience a material impact on our results of operations, financial position or cash flows as the result of a one percentage point increase in interest rates.
The primary objective of our investment activities is to preserve principal while maximizing yields without significantly increasing risk. This is accomplished by investing in diversified investments,
consisting only of investment grade securities.

As
of December 31, 2003, we held cash and cash equivalents of $236.5 million that consisted of cash and highly liquid short-term investments having maturity
dates of no more than 90 days at the date of acquisition. Declines of interest rates over time would reduce our interest income from our highly liquid short-term investments. A
decrease in interest rates of one percentage point would cause a corresponding decrease in our annual interest income by approximately $2.4 million assuming our cash and cash equivalent
balances at December 31, 2003 remained constant for 2004. Due to the nature of our highly liquid cash equivalents, an increase in interest rates would not materially change the fair market
value of our cash and cash equivalents.

As
of December 31, 2003, we held short and long-term fixed rate investments of $85.5 million that consisted of corporate notes and bonds and government-backed
securities. An increase or decrease in interest rates would not have a material impact on our results of operations, financial position or cash flows, as we have the intent and ability to hold these
fixed rate investments until maturity. Declines in interest rates over time would reduce our interest income from our short-term investments, as our short-term portfolio is
re-invested at current market interest rates. A decrease in interest rates of one percentage point would cause a corresponding decrease in our annual interest income from these items of
less than $0.9 million assuming our investment balances at December 31, 2003 remained constant for 2004.

The
following summarizes our investments, weighted average yields and expected maturity dates as of December 31, 2003 (in thousands, except interest rates):

|                             |  | Maturing in: |        |   |  
|---------------------------- |  | ------------ | ------ | - | -
|
|Corporate notes and bonds    |  | $            | 22,166 |   | $
|Weighted average yield       |  |              | 2.88   | % |  
|Government backed securities |  | $            | 41,314 |   | $
|Weighted average yield       |  |              | 1.65   | % |  
|Total investment securities  |  | $            | 63,480 |   | $

Fair Value of Fixed Rate Debt

The fair market value of our long-term fixed interest rate debt is subject to interest rate risk. Generally, the fair market value of fixed interest
rate debt will increase as interest rates fall and decrease as interest rates rise. The interest rate changes affect the fair market value but do not impact earnings or cash flows. At
December 31, 2003, we had $295.0 million of long-term fixed interest rate debt outstanding. Based on open market trades, we have determined that the fair market value of our
long-term fixed interest rate debt was approximately $303.9 million at December 31, 2003.

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Item 8. Financial Statements and Supplementary Data

Unaudited quarterly financial data for each of the eight quarters in the two-year period ended December 31, 2003 is as follows:

|In thousands, except per share data           |  | 1st Quarter |        | 2nd Quarter |   | 3rd Quarter |   | 4th Quarter |       
|--------------------------------------------- |  | ----------- | ------ | ----------- | - | ----------- | - | ----------- | ------
|2003                                          |  |             |        |             |   |             |   |             |       
|Net sales                                     |  | $           | 85,442 |             | $ | 89,803      |   | $           | 87,995
|Cost of sales                                 |  |             | 50,411 |             |   | 52,801      |   |             | 52,709
|                                              |  |             |        |             |   |             |   |             |       
|Gross profit                                  |  |             | 35,031 |             |   | 37,002      |   |             | 35,286
|Total operating expenses                      |  |             | 30,740 |             |   | 31,223      |   |             | 33,725
|                                              |  |             |        |             |   |             |   |             |       
|Operating income                              |  |             | 4,291  |             |   | 5,779       |   |             | 1,561 
|Other income (expense), net                   |  |             | (1,396 | )           |   | (3,741      | ) |             | (513  
|                                              |  |             |        |             |   |             |   |             |       
|Income before taxes                           |  |             | 2,895  |             |   | 2,038       |   |             | 1,048 
|Income tax expense                            |  |             | 1,013  |             |   | 713         |   |             | 367   
|                                              |  |             |        |             |   |             |   |             |       
|Net income                                    |  | $           | 1,882  |             | $ | 1,325       |   | $           | 681   
|                                              |  |             |        |             |   |             |   |             |       
|Basic net income per share                    |  | $           | 0.06   |             | $ | 0.04        |   | $           | 0.02  
|Diluted net income per share                  |  | $           | 0.06   |             | $ | 0.04        |   | $           | 0.02  
|Shares used in basic per share calculations   |  |             | 32,745 |             |   | 32,860      |   |             | 32,974
|Shares used in diluted per share calculations |  |             | 33,423 |             |   | 33,606      |   |             | 34,074
|2002                                          |  |             |        |             |   |             |   |             |       
|Net sales                                     |  | $           | 84,498 |             | $ | 87,881      |   | $           | 83,809
|Cost of sales                                 |  |             | 44,652 |             |   | 47,967      |   |             | 48,604
|                                              |  |             |        |             |   |             |   |             |       
|Gross profit                                  |  |             | 39,846 |             |   | 39,914      |   |             | 35,205
|Total operating expenses                      |  |             | 29,278 |             |   | 30,873      |   |             | 31,940
|                                              |  |             |        |             |   |             |   |             |       
|Operating income (loss)                       |  |             | 10,568 |             |   | 9,041       |   |             | 3,265 
|Other expense, net                            |  |             | (1,234 | )           |   | (1,385      | ) |             | (1,029
|                                              |  |             |        |             |   |             |   |             |       
|Income (loss) before taxes                    |  |             | 9,334  |             |   | 7,656       |   |             | 2,236 
|Income tax expense (benefit)                  |  |             | 3,407  |             |   | 2,794       |   |             | 817   
|                                              |  |             |        |             |   |             |   |             |       
|Net income (loss)                             |  | $           | 5,927  |             | $ | 4,862       |   | $           | 1,419 
|                                              |  |             |        |             |   |             |   |             |       
|Basic net income (loss) per share             |  | $           | 0.18   |             | $ | 0.15        |   | $           | 0.04  
|Diluted net income (loss) per share           |  | $           | 0.18   |             | $ | 0.15        |   | $           | 0.04  
|Shares used in basic per share calculations   |  |             | 32,126 |             |   | 32,341      |   |             | 32,427
|Shares used in diluted per share calculations |  |             | 33,477 |             |   | 33,411      |   |             | 33,220

Included in quarterly total operating expenses are the following charges that affect comparability:



Fluctuations
in other income (expense), net, on a quarterly basis, typically result from the timing or amount of realized and unrealized gains and losses on our foreign currency hedging
contracts.

45

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INDEPENDENT AUDITORS' REPORT

To
the Board of Directors and Shareholders
of FEI Company
Hillsboro, Oregon

We
have audited the accompanying consolidated balance sheets of FEI Company and subsidiaries as of December 31, 2003 and 2002, and the related consolidated statements of
operations, comprehensive income, shareholders' equity, and cash flows for each of the three years in the period ended December 31, 2003. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.

We
conducted our audits in accordance with auditing standards generally accepted in the United States of America. 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, such consolidated financial statements present fairly, in all material respects, the financial position of FEI Company and subsidiaries as of December 31, 2003 and
2002, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2003, in conformity with accounting principles generally accepted in
the United States of America.

As
discussed in Note 2 to the consolidated financial statements, the Company adopted Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets,"
effective January 1, 2002, and SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities," effective January 1, 2003.

/s/
DELOITTE & TOUCHE LLP
Portland, Oregon
March 12, 2004

46

---



FEI Company and Subsidiaries        Consolidated Balance Sheets        (in thousands)

|                                                                               |                                                                                         | December 31,                               |        
|------------------------------------------------------------------------------ | --------------------------------------------------------------------------------------- | ------------------------------------------ | -------
|
|Assets                                                                         |                                                                                         |                                            |        
|Current Assets:                                                                |                                                                                         |                                            |        
|                                                                               | Cash and cash equivalents                                                               |                                            | $      
|                                                                               | Short-term investments in marketable securities                                         |                                            |        
|                                                                               | Receivables, net of allowances for doubtful accounts of $5,020 and $4,414               |                                            |        
|                                                                               | Current receivable from Accurel                                                         |                                            |        
|                                                                               | Inventories                                                                             |                                            |        
|                                                                               | Deferred tax asset                                                                      |                                            |        
|                                                                               | Other current assets                                                                    |                                            |        
|                                                                               |                                                                                         |                                            |        
|                                                                               |                                                                                         | Total Current Assets                       |        
|Non-current investments in marketable securities                               |                                                                                         |                                            | 22,068 
|Long-term receivable from Accurel                                              |                                                                                         |                                            | 1,170  
|Property and equipment, net of accumulated depreciation of $51,671 and $49,287 |                                                                                         |                                            | 69,392 
|Purchased technology, net of accumulated amortization of $21,046 and $15,978   |                                                                                         |                                            | 27,105 
|Goodwill                                                                       |                                                                                         |                                            | 41,423 
|Other assets, net                                                              |                                                                                         |                                            | 54,665 
|                                                                               |                                                                                         |                                            |        
|                                                                               |                                                                                         | Total Assets                               |        
|                                                                               |                                                                                         |                                            |        
|Liabilities and Shareholders' Equity                                           |                                                                                         |                                            |        
|Current Liabilities:                                                           |                                                                                         |                                            |        
|                                                                               | Accounts payable                                                                        |                                            | $      
|                                                                               | Current account with Philips                                                            |                                            |        
|                                                                               | Accrued payroll liabilities                                                             |                                            |        
|                                                                               | Accrued warranty reserves                                                               |                                            |        
|                                                                               | Deferred revenue                                                                        |                                            |        
|                                                                               | Income taxes payable                                                                    |                                            |        
|                                                                               | Accrued restructuring, reorganization and relocation                                    |                                            |        
|                                                                               | Other current liabilities                                                               |                                            |        
|                                                                               |                                                                                         |                                            |        
|                                                                               |                                                                                         | Total Current Liabilities                  |        
|Convertible debt                                                               |                                                                                         |                                            | 295,000
|Deferred tax liability                                                         |                                                                                         |                                            | 2,662  
|Other liabilities                                                              |                                                                                         |                                            | 4,441  
|Commitments and contingencies                                                  |                                                                                         |                                            |        
|Shareholders' Equity:                                                          |                                                                                         |                                            |        
|                                                                               | Preferred stock500 shares authorized; none issued and outstanding                      |                                            |        
|                                                                               | Common stock, 70,000 shares authorized; 33,153 and 32,647 shares issued and outstanding |                                            |        
|                                                                               | Note receivable from shareholder                                                        |                                            |        
|                                                                               | Accumulated earnings (deficit)                                                          |                                            |        
|                                                                               | Accumulated other comprehensive income                                                  |                                            |        
|                                                                               |                                                                                         |                                            |        
|                                                                               |                                                                                         | Total Shareholders' Equity                 |        
|                                                                               |                                                                                         |                                            |        
|                                                                               |                                                                                         | Total Liabilities and Shareholders' Equity |        
|                                                                               |                                                                                         |                                            |        

See
accompanying Notes to Consolidated Financial Statements.

47

---

FEI Company and Subsidiaries        Consolidated Statements of Operations        (in thousands, except per share data)

|                                       |                                                   | For the Year
Ended December 31, |        
|-------------------------------------- | ------------------------------------------------- | ------------------------------- | -------
|
|Net Sales:                             |                                                   |                                 |        
|                                       | Products                                          |                                 | $      
|                                       | Productsrelated party                            |                                 |        
|                                       | Service                                           |                                 |        
|                                       | Servicerelated party                             |                                 |        
|                                       |                                                   |                                 |        
|                                       |                                                   | Total net sales                 |        
|Cost of Sales:                         |                                                   |                                 |        
|                                       | Products                                          |                                 |        
|                                       | Services                                          |                                 |        
|                                       |                                                   |                                 |        
|                                       |                                                   | Total cost of sales             |        
|                                       |                                                   |                                 |        
|Gross Profit                           |                                                   |                                 | 145,311
|Operating Expenses:                    |                                                   |                                 |        
|                                       | Research and development                          |                                 |        
|                                       | Selling, general and administrative               |                                 |        
|                                       | Merger costs                                      |                                 |        
|                                       | Amortization of purchased technology and goodwill |                                 |        
|                                       | Purchased in-process research and development     |                                 |        
|                                       | Restructuring and reorganization costs            |                                 |        
|                                       |                                                   |                                 |        
|                                       |                                                   | Total operating expenses        |        
|                                       |                                                   |                                 |        
|Operating Income                       |                                                   |                                 | 13,549 
|Other Income (Expense):                |                                                   |                                 |        
|                                       | Interest income                                   |                                 |        
|                                       | Interest expense                                  |                                 |        
|                                       | Valuation adjustment                              |                                 |        
|                                       | Other, net                                        |                                 |        
|                                       |                                                   |                                 |        
|                                       |                                                   | Total other expense, net        |        
|                                       |                                                   |                                 |        
|Income before income taxes             |                                                   |                                 | 10,737 
|Income tax expense                     |                                                   |                                 | 3,543  
|                                       |                                                   |                                 |        
|Net income                             |                                                   | $                               | 7,194  
|                                       |                                                   |                                 |        
|Basic net income per share             |                                                   | $                               | 0.22   
|                                       |                                                   |                                 |        
|Diluted net income per share           |                                                   | $                               | 0.21   
|                                       |                                                   |                                 |        
|Shares used in per share calculations: |                                                   |                                 |        
|                                       | Basic                                             |                                 |        
|                                       |                                                   |                                 |        
|                                       | Diluted                                           |                                 |        
|                                       |                                                   |                                 |        

See
accompanying Notes to Consolidated Financial Statements.

48

---



FEI Company and Subsidiaries        Consolidated Statements of Comprehensive Income        (in thousands)

|                            |                                                              | For the Year Ended December 31,
|--------------------------- | ------------------------------------------------------------ | -------------------------------
|
|Net income                  |                                                              | $                              
|Other comprehensive income: |                                                              |                                
|                            | Foreign currency translation adjustment, zero taxes provided |                                
|                            |                                                              |                                
|Comprehensive income        |                                                              | $                              
|                            |                                                              |                                

See
accompanying Notes to Consolidated Financial Statements.

49

---

FEI Company and Subsidiaries        Consolidated Statements of Shareholders' Equity        For The Years Ended December 31, 2003, 2002 and 2001        (in thousands)

|                                                                        |  |        |   |   |         |   |   |        |   | Accumulated
Other
Comprehensive
Income
(Loss) |         |   |  
|----------------------------------------------------------------------- |  | ------ | - | - | ------- | - | - | ------ | - | --------------------------------------------- | ------- | - | -
|
|
|
|Balance at December 31, 2000                                            |  | 28,489 |   | $ | 222,547 |   | $ | (1,116 | ) | $                                             | (42,874 | ) | $
|Net income                                                              |  |       |   |   |        |   |   |       |   |                                               | 32,506  |   |  
|Employee purchases of common stock through employee stock purchase plan |  | 120    |   |   | 2,065   |   |   |       |   |                                               |        |   |  
|Stock options exercised                                                 |  | 211    |   |   | 1,553   |   |   |       |   |                                               |        |   |  
|Shares issued to Philips for pre-merger options exercised               |  | 22     |   |   |        |   |   |       |   |                                               |        |   |  
|Shares issued in public offering                                        |  | 3,067  |   |   | 87,994  |   |   |       |   |                                               |        |   |  
|PEO Combination resolution (Note 8)                                     |  |       |   |   | (5,000  | ) |   |       |   |                                               |        |   |  
|Shares issued for acquisitions                                          |  | 194    |   |   | 6,588   |   |   |       |   |                                               |        |   |  
|Repurchase of common stock                                              |  | (50    | ) |   | (1,009  | ) |   |       |   |                                               |        |   |  
|Tax benefit of non-qualified stock options exercised                    |  |       |   |   | 2,402   |   |   |       |   |                                               |        |   |  
|Translation adjustment                                                  |  |       |   |   |        |   |   |       |   |                                               |        |   |  
|                                                                        |  |        |   |   |         |   |   |        |   |                                               |         |   |  
|Balance at December 31, 2001                                            |  | 32,053 |   |   | 317,140 |   |   | (1,116 | ) |                                               | (10,368 | ) |  
|Net income                                                              |  |       |   |   |        |   |   |       |   |                                               | 8,678   |   |  
|Employee purchases of common stock through employee stock purchase plan |  | 158    |   |   | 2,811   |   |   |       |   |                                               |        |   |  
|Stock options exercised                                                 |  | 247    |   |   | 2,490   |   |   |       |   |                                               |        |   |  
|Shares issued to Philips for pre-merger options exercised               |  | 189    |   |   |        |   |   |       |   |                                               |        |   |  
|Tax benefit of non-qualified stock options exercised                    |  |       |   |   | 2,762   |   |   |       |   |                                               |        |   |  
|Translation adjustment                                                  |  |       |   |   |        |   |   |       |   |                                               |        |   |  
|                                                                        |  |        |   |   |         |   |   |        |   |                                               |         |   |  
|Balance at December 31, 2002                                            |  | 32,647 |   |   | 325,203 |   |   | (1,116 | ) |                                               | (1,690  | ) |  
|Net income                                                              |  |       |   |   |        |   |   |       |   |                                               | 7,194   |   |  
|Accrual of interest on shareholder note receivable                      |  |       |   |   |        |   |   | (390   | ) |                                               |        |   |  
|Employee purchases of common stock through employee stock purchase plan |  | 222    |   |   | 2,880   |   |   |       |   |                                               |        |   |  
|Stock options exercised                                                 |  | 215    |   |   | 1,707   |   |   |       |   |                                               |        |   |  
|Shares issued to Philips for pre-merger options exercised               |  | 69     |   |   |        |   |   |       |   |                                               |        |   |  
|Tax benefit of non-qualified stock options exercised                    |  |       |   |   | 2,591   |   |   |       |   |                                               |        |   |  
|Convertible note hedge                                                  |  |        |   |   | (23,872 | ) |   |        |   |                                               |         |   |  
|Translation adjustment                                                  |  |       |   |   |        |   |   |       |   |                                               |        |   |  
|                                                                        |  |        |   |   |         |   |   |        |   |                                               |         |   |  
|Balance at December 31, 2003                                            |  | 33,153 |   | $ | 308,509 |   | $ | (1,506 | ) | $                                             | 5,504   |   | $
|                                                                        |  |        |   |   |         |   |   |        |   |                                               |         |   |  

See accompanying Notes to Consolidated Financial Statements.

50

---



FEI Company and Subsidiaries        Consolidated Statements of Cash Flows        (in thousands)

|                                                                                  |                                                                      | For the Year Ended December 31,                |                                          
|--------------------------------------------------------------------------------- | -------------------------------------------------------------------- | ---------------------------------------------- | -----------------------------------------
|
|Cash flows from operating activities:                                             |                                                                      |                                                |                                          
|Net income                                                                        |                                                                      | $                                              | 7,194                                    
|Adjustments to reconcile net income to net cash provided by operating activities: |                                                                      |                                                |                                          
|                                                                                  | Depreciation                                                         |                                                |                                          
|                                                                                  | Amortization                                                         |                                                |                                          
|                                                                                  | Purchased in-process research and development                        |                                                |                                          
|                                                                                  | Loss on retirement of fixed assets                                   |                                                |                                          
|                                                                                  | Valuation adjustment                                                 |                                                |                                          
|                                                                                  | Non-cash interest income from shareholder note receivable            |                                                |                                          
|                                                                                  | Deferred income taxes                                                |                                                |                                          
|                                                                                  | Expenses incurred on redemption of 5.5% convertible note             |                                                |                                          
|                                                                                  | Tax benefit of non-qualified stock options exercised                 |                                                |                                          
|                                                                                  | (Increase) decrease in:                                              |                                                |                                          
|                                                                                  |                                                                      | Receivables                                    |                                          
|                                                                                  |                                                                      | Current account with Accurel                   |                                          
|                                                                                  |                                                                      | Inventories                                    |                                          
|                                                                                  |                                                                      | Long term receivable from Accurel              |                                          
|                                                                                  |                                                                      | Other assets                                   |                                          
|                                                                                  | Increase (decrease) in:                                              |                                                |                                          
|                                                                                  |                                                                      | Accounts payable                               |                                          
|                                                                                  |                                                                      | Current account with Philips                   |                                          
|                                                                                  |                                                                      | Accrued payroll liabilities                    |                                          
|                                                                                  |                                                                      | Accrued warranty reserves                      |                                          
|                                                                                  |                                                                      | Deferred revenue                               |                                          
|                                                                                  |                                                                      | Income taxes payable                           |                                          
|                                                                                  |                                                                      | Accrued restructuring and reorganization costs |                                          
|                                                                                  |                                                                      | Other liabilities                              |                                          
|                                                                                  |                                                                      |                                                |                                          
|                                                                                  |                                                                      |                                                | Net cash provided by operating activities
|Cash flows from investing activities:                                             |                                                                      |                                                |                                          
|                                                                                  | Acquisition of property, plant and equipment                         |                                                |                                          
|                                                                                  | Investment in software development                                   |                                                |                                          
|                                                                                  | Investment in unconsolidated affiliate                               |                                                |                                          
|                                                                                  | Purchase of investments in marketable securities                     |                                                |                                          
|                                                                                  | Redemption of investments in marketable securities                   |                                                |                                          
|                                                                                  | Acquisition of patents                                               |                                                |                                          
|                                                                                  | Acquisition of businesses, net of cash acquired                      |                                                |                                          
|                                                                                  |                                                                      |                                                |                                          
|                                                                                  |                                                                      |                                                | Net cash used in investing activities    
|Cash flows from financing activities:                                             |                                                                      |                                                |                                          
|                                                                                  | Net repayments of bank lines of credit                               |                                                |                                          
|                                                                                  | Net repayments under credit facility with Philips                    |                                                |                                          
|                                                                                  | Proceeds from convertible debt offering, net of expenses             |                                                |                                          
|                                                                                  | Proceeds from common stock offering, net of expenses                 |                                                |                                          
|                                                                                  | Redemption of 5.5% convertible notes                                 |                                                |                                          
|                                                                                  | Purchase of convertible note hedge, net of warrant issued            |                                                |                                          
|                                                                                  | Proceeds from exercise of stock options and employee stock purchases |                                                |                                          
|                                                                                  | Repurchase of common stock                                           |                                                |                                          
|                                                                                  |                                                                      |                                                |                                          
|                                                                                  |                                                                      |                                                | Net cash provided by financing activities
|Effect of exchange rate changes                                                   |                                                                      |                                                | 2,869                                    
|                                                                                  |                                                                      |                                                |                                          
|Increase (decrease) in cash and cash equivalents                                  |                                                                      |                                                | 69,065                                   
|Cash and cash equivalents:                                                        |                                                                      |                                                |                                          
|                                                                                  | Beginning of year                                                    |                                                |                                          
|                                                                                  |                                                                      |                                                |                                          
|                                                                                  | End of year                                                          |                                                | $                                        
|                                                                                  |                                                                      |                                                |                                          

See accompanying Notes to Consolidated Financial Statements.

51

---



FEI COMPANY AND SUBSIDIARIES        NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1.     SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Nature of Business

We design, manufacture, market and service products based on focused charged particle beam technology. Our products include transmission electron microscopes
("TEMs"), scanning electron microscopes ("SEMs"), focused ion-beam systems ("FIBs") andDualBeamsystems that combine a FIB column and a SEM
column on a single platform. We also design, manufacture and sell some of the components of electron microscopes and FIBs to other manufacturers.

We
have research, development and manufacturing operations in Hillsboro, Oregon; Peabody, Massachusetts; Sunnyvale, California; Eindhoven, the Netherlands; Munich, Germany; and Brno,
Czech Republic.

Sales
and service operations are conducted in the United States of America ("U.S.") and 28 other countries located throughout North America, Europe and the Asia Pacific Region. We also
sell our products through independent agents and representatives in various additional countries. Our products are sold to semiconductor manufacturers, thin film head manufacturers in the data storage
industry and to industrial, institutional and research organizations in the life sciences and material sciences fields.

Basis of Presentation

The consolidated financial statements include the accounts of FEI Company and our wholly-owned subsidiaries. All significant intercompany balances and
transactions have been eliminated in consolidation.

Use of Estimates in Financial Reporting

The preparation of financial statements in conformity with accounting principles generally accepted in the U.S. requires management to make estimates and
assumptions. These estimates and assumptions 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 amount of revenues and expenses during the reporting period. Significant estimates underlying the accompanying consolidated financial statements include:



It
is reasonably possible that the estimates we make may change in the future.

52

---

Concentration of Credit Risk

Instruments that potentially subject us to concentration of credit risk consist principally of cash and cash equivalents, short-term investments and
receivables. Our investment policy limits investments with any one issuer to five percent or less of the total investment portfolio, with the exceptions of money market funds which may comprise up to
25 percent of the total investment portfolio and securities issued by the U.S. government or its agencies which may comprise up to 100 percent of the total investment portfolio. Our
exposure to credit risk concentrations within our receivables balance is limited due to the large number of entities comprising our customer base and their dispersion across many different industries
and geographies.

Dependence on Key Suppliers

Although many of the components and subassemblies included in our system products are standard products, a significant portion of the mechanical parts and
subassemblies are custom made by one or two suppliers, including Philips Enabling Technologies Group, B.V. and Sanmina-SCI. In addition, we obtain a significant portion of our component
parts from a limited number of suppliers. Neways Electronics N.V. is a sole source for electronic subassemblies that were, until 2000, manufactured at our facilities in Eindhoven. We believe some of
the components supplied to us are available to the suppliers only from single sources. We monitor those parts subject to single or a limited source supply to ensure that adequate sources are available
to maintain manufacturing schedules. Although we believe we would be able to develop alternate sources for any of the components used in our products, significant delays or interruptions in the
delivery of components from suppliers or difficulties or delays in shifting manufacturing capacity to new suppliers could have a material adverse
effect on us. In the ordinary course, we continually evaluate our existing suppliers and potential different or additional suppliers to determine whether changes in suppliers may be appropriate.

Cash and Cash Equivalents

Cash and cash equivalents include cash deposits in banks, money market funds and other highly liquid marketable securities with maturities of three months or less
at the date of acquisition.

Accounts Receivable

Our bad debt expense and write-offs against our accounts receivable reserve were as follows (in thousands):

Year Ended December 31,

2003

2002

2001Expense

$
559

$
672

$
1,064Write-offs

$
47

$
221

$
759


Write-offs
include amounts written off for specifically identified bad debts as well as currency translation gains and losses on the balance.

Investments

Investments represent marketable debt securities with maturities greater than 90 days at the time of purchase. All such investments are classified as
held-to-maturity and, accordingly, are carried at amortized cost on the consolidated balance sheet. Investments with maturities greater than 12 months from the balance
sheet date are classified as non-current investments, unless it is probable that such

53

---

investment
will be called by the issuer within the next 12 months; in which case, the investment is classified as current. Non-current investments at December 31, 2003 mature
at varying dates through August 2006.

Inventories

Inventories are stated at lower of cost or market with cost determined by standard cost methods, which approximate the first-in, first-out
method. Inventory costs include material, labor and manufacturing overhead. Service inventories that exceed the estimated requirements for the next 12 months based on recent usage levels are
reported as other assets. Management has established inventory reserves based on estimates of excess and/or obsolete current and non-current inventory.

Deferred Income Taxes

In accordance with Statement of Financial Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes," deferred income taxes are provided for
temporary differences between the amounts of assets and liabilities for financial and tax reporting purposes. Deferred tax assets are reduced by a valuation allowance when it is estimated to be more
likely than not that some portion of the deferred tax assets will not be realized.

Property, Plant and Equipment

Land is stated at cost. Buildings and improvements are stated at cost and depreciated over estimated useful lives of approximately 35 years using the
straight-line method. Machinery and equipment, including systems used in research and development activities, production and in demonstration laboratories, is stated at cost and
depreciated over estimated useful lives of approximately three to seven years using the straight-line method. Leasehold improvements are amortized over the shorter of their economic lives
or the lease term. Maintenance and repairs are expensed as incurred.

Purchased Technology

Purchased technology represents the estimated value of products utilizing technology existing as of the purchase date, discounted to its net present value.
Purchased technology is amortized on a straight-line basis over the estimated useful life of the technology, typically 5 to 12 years.

Long-Lived Asset Impairment

We evaluate the remaining life and recoverability of equipment and other assets that are to be held and used, including purchased technology and other intangible
assets with definite useful lives, whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable in accordance with SFAS No. 144 "Accounting
for the Impairment or Disposal of Long-Lived Assets." If there is an indication of impairment, we prepare an estimate of future, undiscounted cash flows expected to result from the use of
the asset and its eventual disposition. If these cash flows are less than the carrying value of the asset, we adjust the carrying amount of the asset to its estimated fair value.
Long-lived assets to be disposed of by sale are valued at the lower of book value or fair value less cost to sell.

54

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Goodwill

Goodwill represents the excess purchase price over fair value of net assets acquired, which is not allocable to separately identifiable intangible assets.
Pursuant to SFAS No. 142, "Goodwill and Other Intangible Assets," which was adopted in the first quarter of 2002, goodwill and other identifiable intangible assets with indefinite useful lives
are no longer amortized, but, instead, tested for impairment, at least annually, in accordance with the provisions of SFAS No. 142. We tested our goodwill for impairment in the fourth quarter
of 2003 utilizing a discounted cash flows method in accordance with the provisions of SFAS No. 142 in 2003 and determined that no impairment losses were required to be recognized.

The
following table discloses what reported net income would have been in the year ended December 31, 2001, which was prior to the adoption of SFAS No. 142, exclusive of
goodwill amortization (including any related tax effects) recognized in that periods (in thousands, except per share amounts):

Net income as reported

$
32,506Add back amortization of goodwill, no tax effect


3,149Adjusted net income

$
35,655Basic net income per share as reported

$
1.06Adjustment for add back of amortization expense, net of tax effect


0.11Adjusted basic net income per share

$
1.17Diluted net income as reported

$
1.02Adjustment for add back of amortization expense, net of tax effect


0.09Adjusted diluted net income per share

$
1.11


Software Development Costs

We capitalize certain software development costs for software expected to be sold independently or within our products. Such costs are capitalized after the
technological feasibility of the project is determined and are reported on the balance sheet in other assets. Once we begin to include such software in our products, these costs are amortized over the
estimated economic life of the software, currently three years. Changes in technology could affect our estimate of the useful life of such assets. Capitalized software totaled $9.2 million and
$9.5 million, respectively, at December 31, 2003 and 2002.

Segment Reporting

Based upon definitions contained within SFAS No. 131 "Disclosures about Segments of an Enterprise and Related
Information," we have determined that we operate in four segments: Microelectronics, Electron Optics, Components and Service. There are no differences between the accounting
policies used for our business segments compared to those used on a consolidated basis.

Revenue Recognition

For products produced according to our published specifications, revenue is recognized when title to the product and the risks and rewards of ownership pass to
the customer. For products produced according to a particular customer's specifications, revenue is recognized when the product meets the customer's specifications and when title and the risks and
rewards of ownership have passed to the customer. In each case, the portion of revenue applicable to installation and customer acceptance is recognized upon meeting specifications at the installation
site. For new applications of our products

55

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where
performance cannot be assured prior to meeting specifications at the installation site, no revenue is recognized until such specifications are met.

Our
billing terms on TEMs, SEMs, FIBs andDualBeamsystems generally include a holdback of 10% to 20% of the total purchase price subject
to completion of installation and final acceptance at the customer site. The estimated fair value of revenue related to installation and final acceptance, which is 5%, is deferred until such
installation and final acceptance are completed.

We
recognize software license revenues in accordance with AICPA Statement of Position ("SOP") 97-2, "Software Revenue
Recognition" or SOP 97-2, as amended by SOP 98-9. SOP 97-2 provides specific industry guidance and stipulates that revenue recognized from
software arrangements is to be allocated to each element of the arrangement based on the relative fair value of the elements. Under SOP 97-2, the determination of fair value is based on
objective evidence that is specific to the vendor. We utilize the residual method under which revenue is allocated to the undelivered element, based on vendor specific evidence of fair value, and the
residual amount of revenue is allocated to the delivered element. We recognize license revenues upon delivery of the software.

We
generally provide consulting and training services on a time and materials basis and provide maintenance and support services under renewable, term maintenance agreements. Maintenance
and support fee revenue is recognized ratably over the contractual term, which is generally 12 months, and commences from delivery of product. Amounts received prior to services being rendered
are recorded as deferred revenue, with recognition commencing upon service delivery.

Deferred Revenue

Deferred revenue represents customer deposits on equipment orders, orders awaiting customer acceptance and prepaid service contract revenue. Deferred revenue is
recognized in accordance with our revenue recognition policies described above.

Product Warranty Costs

Our products generally carry a one-year warranty. A reserve is established at the time of sale to cover estimated warranty costs and certain
commitments for product upgrades as a component of cost of sales on our consolidated statements of operations. Our estimate of warranty cost is based on our history of warranty repairs and
maintenance. While most new products are extensions of existing technology, the estimate could change if new products require a significantly different level of repair and maintenance than similar
products have required in the past. Our estimated warranty costs are reviewed and updated on a quarterly basis. Historically, these reviews have not resulted in material

56

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adjustments
to previous estimates. A roll-forward of our warranty liability for the years ended December 31, 2003, 2002 and 2001 is as follows (in thousands):

Balance, December 31, 2000

$
15,201Reductions for warranty costs incurred


(9,999
)Warranties issued


11,443Adjustments and changes in estimates


Balance, December 31, 2001


16,645Reductions for warranty costs incurred


(14,955
)Warranties issued


11,432Warranty reserve acquired with Atomika


509Adjustments and changes in estimates


Balance, December 31, 2002


13,631Reductions for warranty costs incurred


(13,214
)Warranties issued


10,083Adjustments and changes in estimates


Balance, December 31, 2003

$
10,500


Research and Development

Research and development costs are expensed as incurred, except for capitalized software development costs (see above).

In-Process Research and Development

Technology purchased that has not been proven technologically feasible, nor generated cost savings as of the date of acquisition, is expensed upon purchase.

Advertising

Advertising costs are expensed as incurred. The amount of advertising expense was $2.2 million in 2003, $2.1 million in 2002 and $1.9 million
in 2001.

Computation of Per Share Amounts

Basic earnings per share (EPS) and diluted EPS are computed using the methods prescribed by SFAS No. 128, "Earnings per Share." Following is a
reconciliation of the shares used for basic EPS and diluted EPS (in thousands):

Year Ended December 31,

2003

2002

2001Shares used for basic EPS

32,930

32,493

30,563Dilutive effect of stock options calculated using the treasury stock method

891

967

1,423Shares used for diluted EPS

33,821

33,460

31,986Potential common shares excluded from diluted EPS since their effect would be antidilutive:Stock options

1,794

1,526

185Convertible debt

8,457

3,534

3,534


57

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Stock-Based Compensation

We measure compensation expense for our stock-based employee compensation plans using the method prescribed by Accounting Principles Board Opinion No. 25
and its related interpretations, "Accounting for Stock Issued to Employees." We provide disclosures of net income and earnings per share as if the
method prescribed by SFAS No. 123, "Accounting for Stock-Based Compensation," had been applied in measuring compensation expense.

No
compensation expense has been recognized for stock options granted at fair value on the date of grant or Employee Share Purchase Plan ("ESPP") shares issued at a fifteen percent
discount to the lower of the market price on either the first day of the applicable offering period or the purchase date. Had compensation expense for our stock option and ESPP plans been determined
based on the estimated fair value of the options or shares at the date of grant or issuance, our net income and net income per share would have been reduced to the amounts shown as follows (in
thousands, except per share amounts):

|Year Ended December 31,                                                                                                                        |             | 2003 |        | 2002  |   | 2001   |     
|---------------------------------------------------------------------------------------------------------------------------------------------- | ----------- | ---- | ------ | ----- | - | ------ | ----
|Net income, as reported                                                                                                                        |             | $    | 7,194  |       | $ | 8,678  |     
|Deducttotal stock-based employee compensation expense determined under the fair value based method for all awards, net of related tax effects |             |      | (8,654 | )     |   | (7,111 | )   
|                                                                                                                                               |             |      |        |       |   |        |     
|Net income (loss), pro forma                                                                                                                   |             | $    | (1,460 | )     | $ | 1,567  |     
|                                                                                                                                               |             |      |        |       |   |        |     
|Basic net income (loss) per share:                                                                                                             |             |      |        |       |   |        |     
|                                                                                                                                               | As reported |      | $      | 0.22  |   | $      | 0.27
|                                                                                                                                               |             |      |        |       |   |        |     
|                                                                                                                                               | Pro forma   |      | $      | (0.04 | ) | $      | 0.05
|                                                                                                                                               |             |      |        |       |   |        |     
|Diluted net income (loss) per share:                                                                                                           |             |      |        |       |   |        |     
|                                                                                                                                               | As reported |      | $      | 0.21  |   | $      | 0.26
|                                                                                                                                               |             |      |        |       |   |        |     
|                                                                                                                                               | Pro forma   |      | $      | (0.04 | ) | $      | 0.05
|                                                                                                                                               |             |      |        |       |   |        |     

We
used the Black-Scholes option pricing model and the following weighted average assumptions in calculating the value of all options granted during the periods presented:

|Year Ended December 31,  |      | 2003      |          | 2002      |          | 2001      |         
|------------------------ | ---- | --------- | -------- | --------- | -------- | --------- | --------
|Risk-free interest rate  |      | 1.0%-3.3  | %        | 2.0%-3.8  | %        | 2.2%-4.6  | %       
|Expected dividend yield  |      | 0.0%      |          | 0.0%      |          | 0.0%      |         
|Expected lives2001 Plan |      | 5.6 years |          | 5.2 years |          | 5.1 years |         
|                         | ESPP |           | 6 months |           | 6 months |           | 6 months
|Expected volatility      |      | 77.1%     |          | 73.0%     |          | 79.6%     |         

Using
the Black-Scholes methodology, the total value of stock awards and options granted during 2003, 2002 and 2001 was $17.6 million, $17.1 million and
$18.4 million, respectively, which would be amortized on a pro forma basis over the vesting period of the options. The weighted average fair value of stock awards and options granted during
2003, 2002 and 2001 was $10.12 per share, $18.03 per share and $17.50 per share, respectively.

58

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Foreign Currency Translation

Assets and liabilities denominated in a foreign currency, where the local currency is the functional currency, are translated to U.S. dollars at the exchange rate
in effect on the respective balance sheet date. Gains and losses resulting from the translation of assets, liabilities and equity are included in accumulated other comprehensive income (loss) on the
consolidated balance sheet. Transactions representing revenues, costs and expenses are translated using an average rate of exchange for the period. Realized and unrealized foreign currency transaction
gains and losses (excluding hedging activity) are included in the consolidated statements of operations as other income (expense) and aggregated $(0.6) million in 2003, $(0.3) million in 2002 and
$0.8 million in 2001.

Supplemental Cash Flow Information

Supplemental cash flow information is as follows (in thousands):

|Year Ended December 31,                                |  | 2003 |       | 2002 |   | 2001  
|------------------------------------------------------ |  | ---- | ----- | ---- | - | ------
|Cash paid for interest                                 |  | $    | 8,800 |      | $ | 10,538
|Cash paid for income taxes                             |  |      | 8,299 |      |   | 11,835
|Issuance of common stock for acquisition of businesses |  |      |      |      |   |      
|Assumption of debt for acquisition of businesses       |  |      | 276   |      |   | 1,484 
|Exchange of finished goods for software license        |  |      | 507   |      |   |      

Reclassifications

Certain reclassifications have been made to the prior year financial statements to conform to the current year presentation.

2.     RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

On July 30, 2002, the Financial Accounting Standards Board ("FASB") issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." SFAS No. 146 requires companies to recognize costs associated with exit or disposal activities when they are incurred rather than at
the date of commitment to an exit or disposal plan. SFAS No. 146 is to be applied prospectively to exit or disposal activities initiated after December 31, 2002. In the past, we have
restructured from time to time, and this may occur in the future. Restructuring charges taken for exit plans committed to subsequent to December 31, 2002 have been expensed as incurred in
accordance with SFAS No. 146.

In
October 2002, the Emerging Issues Task Force ("EITF") issued EITF 00-21, "Accounting for Revenue Arrangements with Multiple
Deliverables." This standard addresses revenue recognition accounting for multiple revenue-generating activities. This statement was effective for the quarter ended
September 28, 2003. The adoption of the provisions of this statement did not have a material effect on our financial position, results of operations, or cash flows.

In
December 2002, the FASB issued Financial Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others." Financial Interpretation No. 45 elaborates on the existing disclosure requirements for most guarantees,
including loan guarantees such as standby letters of credit. It also clarifies that at the time a company issues a guarantee, the company must recognize an initial liability for the fair value of the
obligations it assumes under that guarantee and must disclose that information in its interim and annual financial statements. Financial Interpretation No. 45 was effective January 1,
2003. The adoption of this statement did not have a material effect on our financial position, results of operations, or cash flows.

In
January 2003, the FASB issued FASB Interpretation No. 46 ("FIN 46"),"Consolidation of Variable Interest Entities"(revised December 2003). FIN 46 addresses when a company should include

59

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in
its financial statements the assets, liabilities and activities of a variable interest entity. FIN 46 defines variable interest entities as those entities with a business purpose that either do not
have any equity investors with voting rights or have equity investors that do not provide sufficient financial resources for the entity to support its activities. FIN 46 also requires disclosures
about variable interest entities that a company is not required to consolidate, but in which it has a significant variable interest. FIN 46 consolidation requirements are effective for all variable
interest entities created after January 31, 2003, and to pre-existing entities in the first fiscal year or interim period ending after December 15, 2003. Certain disclosure
requirements are effective for financial statements issued after January 31, 2003. The adoption of FIN 46 had no effect on our financial position, results of operations or cash flows.

In
April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on Derivative Instruments and Hedging Activities."
SFAS No. 149 amends SFAS No. 133 to clarify the definition of a derivative and incorporate many of the implementation issues cleared as a result of the Derivatives Implementation Group
process. This statement is effective for contracts entered into or modified after June 30, 2003. The adoption of this statement did not have a material effect on our financial position, results
of operations, or cash flows.

In
May 2003, FASB issued SFAS No. 150,"Accounting for Certain Financial Instruments with Characteristics of both Liabilities and
Equity." SFAS No. 150 requires that certain financial instruments that, under previous guidance, issuers could account for as equity, be classified as liabilities in
statements of financial position. Most of the guidance in SFAS No. 150 is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at
the beginning of the first interim period beginning after June 15, 2003. The adoption of SFAS No. 150 had no effect on our financial position, results of operations or cash flows.

In
December 2003, the SEC issued Staff Accounting Bulletin No. 104, Revenue Recognition ("SAB 104"), which updates the previously issued revenue recognition guidance in SAB
101, based on the Emerging Issues Task Force Issue 00-21, Revenue Arrangements with Multiple Deliverables. If the deliverables in a sales arrangement constitute separate units of
accounting according to the EITF's separation criteria, the revenue-recognition policy must be determined for each identified unit. If the arrangement is a single unit of accounting under the
separation criteria, the
revenue-recognition policy must be determined for the entire arrangement. The issuance of SAB 104 has not had any impact on our financial position, results of operations or cash flow.

3.     MERGERS AND ACQUISITIONS

For each of the acquisitions discussed below, their results of operations are included in the accompanying consolidated financial statements from the date of
purchase.

It
is possible that estimates of anticipated future gross revenues, remaining estimated economic lives of products or technologies, or both, which are used to value goodwill, purchased
technology, in-process research and development and other intangible assets, may change due to competitive pressures or other factors. We periodically evaluate the remaining economic
useful lives and amortization periods for these intangible assets.

Within
one year from the purchase date, we may update the value allocated to purchased assets and the resulting goodwill balances for new information regarding the cost of the
acquisition or the settlement of certain liabilities incurred.

We
anticipate that approximately 100% of the goodwill acquired in all of the acquisitions will be deductible for tax purposes over the period of 15 years.

Pro
forma results of operations, both individually and combined for a given year, are not materially different from reported results of operations for all periods presented.

60

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2003 Acquisitions

On July 15, 2003, we purchased the CAD Navigation and Yield Management Software product lines of the EGSoft division ("EGSoft") of Electroglas, Inc.
("Electroglas"). We paid Electroglas $6.1 million and assumed certain liabilities in exchange for the product lines.

On
July 15, 2003, we also purchased substantially all of the assets and assumed certain liabilities of LMC Instrument Corp., dba Revise ("Revise"), a developer and manufacturer of
laser-based tools for the microelectronics and micro-machining industries. The purchase price was $4.0 million.

On
November 26, 2003, we purchased substantially all of the assets and assumed certain liabilities of Emispec Systems, Inc. ("Emispec"), a developer of TEM software. We
paid Emispec $6.1 million and assumed certain liabilities in exchange for their existing technology and other assets.

For
these acquisitions, we estimated the fair value of the intangible assets, inventory, and equipment acquired in order to allocate the total purchase price to the assets acquired and
liabilities assumed. Intangible assets include existing technology, in-process research and development, trademarks and trade names, non-compete agreements, customer
relationships and goodwill. To determine the value of the technology and product lines acquired, we projected product revenues, gross margins, operating expenses, future research and development
costs, income taxes and returns on requisite assets. The resulting operating income projections were discounted to a net present value. This approach was applied to existing technology as well as to
research and development projects which had not yet been proven technologically feasible and which had not yet generated revenue at the date of the acquisition. For existing technology product lines,
the discount rate used was 17 to 22 percent, representing management's estimate of the weighted average cost of capital for the acquired businesses. For research projects on products which had
not yet been proven technologically feasible, the discount rate applied was 22 to 27 percent, reflecting the estimated equity cost of capital plus a premium for the risk and uncertainty
associated with successful completion and market acceptance for such unproven products.

The
existing technology is being amortized over its estimated useful life of 7 to 10 years. Trademarks and trade names and customer relationships are amortized over estimated
useful lives of 7 to 15 years, while non-compete agreements are amortized over 2 to 3 years.

61

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There
are no future contingent payouts related to the above acquisitions and no portion of the purchase price was paid with our equity securities. The purchase price and the purchase
price allocation for these acquisitions were as follows:

Purchase price:Cash paid

$
16,161Liabilities assumed


5,275$
21,436Purchase price allocation:Cash

$
321Accounts receivable


544Inventory


536Other current assets


17Property and equipment


401Goodwill


8,412Purchased technology


6,310Trademarks and trade names


1,810In-process research and development


1,240Customer relationships and non-compete


1,840Other long-term assets


5Total assets acquired


21,436Deferred revenue


2,948Accrued warranty


92Other current liabilities


2,134Other long-term liabilities


101Total liabilities acquired


5,275Net assets acquired

$
16,161


The
$1.2 million of purchased in-process research and development in 2003 relates to the write-off of certain in-process technology purchased
in connection with the EGSoft and Revise acquisitions. The EGSoft acquisition of in-process research and development relates to next generation CAD Navigation software. This software was
approximately 55% complete upon acquisition, and we expect it to be ready for market in late 2004. The Revise acquisition in-process research and development relates to laser technology to
take core samples from silicon. This project was approximately 50% complete upon acquisition, and we expect it to be complete in late 2004.

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2002 Acquisitions

On June 10, 2002, we purchased all of the assets and assumed certain liabilities of Atomika Instruments GmbH ("Atomika"), a supplier of secondary ion mass
spectrometry equipment, in a transaction accounted for under the purchase method. Atomika was under bankruptcy protection at the time of the transaction. The purchase price and the purchase price
allocation for this acquisition was as follows:

Purchase price:Cash paid

$
974Liabilities assumed


1,484$
2,458Purchase price allocation:Current assets

$
2,406Equipment


52$
2,458


2001 Acquisitions

On April 24, 2001, we acquired all of the outstanding common stock of Deschutes Corporation ("Deschutes"), a manufacturer of focused charged particle beam
systems, in a transaction accounted for under the purchase method. The original purchase price was $3.0 million. An additional $0.4 million was
paid in 2002 and an additional $0.2 million was paid in 2003 upon meeting milestones identified in the purchase agreement.

On
August 13, 2001, we purchased all of the assets and assumed certain liabilities of Surface/Interface, Inc. ("Surface/Interface"), a supplier of stylus nanoprofilometry
systems, in a transaction accounted for under the purchase method. The purchase price totaled $12.4 million. Our Chief Executive Officer and members of his family held an ownership interest in
Surface/Interface up to the date of the acquisition.

For
each of these acquisitions, we estimated the fair value of the intangible assets, inventory, and equipment acquired in order to allocate the total purchase price to the assets
acquired and liabilities assumed. To determine the value of the technology and product lines acquired, we projected product revenues, gross margins, operating expenses, future research and development
costs, income taxes and returns on requisite assets. The resulting operating income projections were discounted to a net present value. This approach was applied to existing technology as well as to
research and development projects which had not yet been proven technologically feasible and which had not yet generated revenue at the date of the acquisition. For existing technology product lines,
the discount rate used was 25 to 30 percent, representing our estimate of the weighted average cost of capital for the acquired businesses. For research projects on products which had not yet
been proven technologically feasible, the discount rate applied was 32 to 37 percent, reflecting the estimated equity cost of capital plus a premium for the risk and uncertainty associated with
successful completion and market acceptance for such unproven products. The existing technology is being amortized over its estimated useful life of 5 years.

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The
purchase price and the purchase price allocation for these acquisitions were as follows:

Purchase price:Cash paid

$
1,700Liabilities assumed


5,174Previous investment and advances


2,515Value of common stock issued


6,588$
15,977Purchase price allocation:Current assets

$
531Equipment


603Existing technology


9,074Goodwill


2,016Other assets


315In-process research and development


3,438$
15,977


In-process
research and development related to Deschutes consisted of one image engine technology project that could be applied to certain of our existing FIB products to
improve the performance and reliability of these products. As of December 31, 2002, the image engine project was complete, and we began using the technology in products that were shipped in
2003.

In-process
research and development related to Surface/Interface consisted of a project for the development of a new metrology tool with wafer handling capability. As of
December 31, 2002, the metrology tool project was complete, and we began product shipments in 2003.

4.     INVESTMENTS IN MARKETABLE SECURITIES

Investments in marketable securities are classified as held-to-maturity based on our intent and ability to hold them to their maturity. As
such, they are recorded at their amortized cost. Short-term investments in marketable securities consisted of:

December 31,2003

2002Corporate notes and bonds

$
22,166

$
47,142Government backed securities


41,314


7,034Short-term investments in marketable securities

$
63,480

$
54,176


Non-current
investments in marketable securities consisted of:

December 31,2003

2002Government backed securities

$
1,001

$
45,318Corporate notes and bonds


21,067


6,713Non-current investments in marketable securities

$
22,068

$
52,031


Non-current
investments at December 31, 2003 mature as to $15.7 million in 2005 and $6.4 million in 2006.

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5.     FACTORING OF ACCOUNTS RECEIVABLE

In the fourth quarter of 2003, we entered into agreements under which we sold $2.4 million of our accounts receivable at a discount to unrelated third
party financiers without recourse. The transfers qualify for sales treatment under SFAS No. 140, "Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities." Discounts related to the sale of the receivables, which were immaterial in 2003, are recorded on our statement of operations as other expense.
No factoring agreements were entered into in 2002.

6.     INVENTORIES

Inventories consisted of the following (in thousands):

December 31,2003

2002Raw materials and assembled parts

$
37,131

$
33,399Service inventories, estimated current requirements


9,787


10,404Work-in-process


36,342


30,449Finished goods


25,525


17,724108,785


91,976Valuation adjustment for excess and obsolete inventory


(6,470
)

(5,752
)Total inventories

$
102,315

$
86,224Service inventories included in other long-term assets, net

$
26,979

$
26,768


We
disposed of inventory and charged the cost against the related excess and obsolescence valuation adjustment in the amount of $3.2 million and $7.6 million, respectively,
during 2003 and 2002. We also disposed of service inventories and charged the cost against the related excess and obsolescence valuation adjustment in the amount of $5.1 million and
$3.1 million, respectively, during 2003 and 2002.

7.     PROPERTY, PLANT AND EQUIPMENT

Property, plant and equipment consisted of the following:

December 31,2003

2002Land

$
7,755

$
7,869Buildings and improvements


17,517


9,037Leasehold improvements


2,984


5,582Machinery and equipment


34,612


36,437Demonstration systems


40,781


34,047Other fixed assets


17,414


13,017121,063


105,989Accumulated depreciation


(51,671
)

(49,287
)Total property, plant and equipment, net

$
69,392

$
56,702


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8.     GOODWILL, PURCHASED TECHNOLOGY AND OTHER INTANGIBLE ASSETS

The roll forward of our goodwill is as follows (in thousands):

|Year Ended December 31,                                                       |  | 2003 |        | 2002
|----------------------------------------------------------------------------- |  | ---- | ------ | ----
|Balance, beginning of year                                                    |  | $    | 32,859 |     
|Goodwill acquired                                                             |  |      | 8,412  |     
|Adjustments to goodwill due to milestone payments and translation adjustments |  |      | 152    |     
|Goodwill written off                                                          |  |      |       |     
|                                                                              |  |      |        |     
|Balance, end of year                                                          |  | $    | 41,423 |     
|                                                                              |  |      |        |     

Adjustments
due to translation adjustments result from a portion of our goodwill being recorded on the books of our foreign subsidiaries. Milestone payments relate to payments made
related to our Deschutes acquisition.

At
December 31, 2003 and 2002, our other intangible assets included purchased technology, capitalized software and patents, trademarks and other. The gross amount of our other
intangible assets and the related accumulated amortization were as follows (in thousands):

|                                                           |  |               |  | December 31, |        
|---------------------------------------------------------- |  | ------------- |  | ------------ | -------
|
|
|Purchased technology                                       |  | 5 to 12 years |  | $            | 48,151 
|Accumulated amortization                                   |  |               |  |              | (21,046
|                                                           |  |               |  |              |        
|                                                           |  |               |  | $            | 27,105 
|                                                           |  |               |  |              |        
|Capitalized software                                       |  | 3 years       |  | $            | 16,950 
|Accumulated amortization                                   |  |               |  |              | (7,736 
|                                                           |  |               |  |              |        
|                                                           |  |               |  |              | 9,214  
|Patents, trademarks and other                              |  | 2 to 15 years |  |              | 5,990  
|Accumulated amortization                                   |  |               |  |              | (726   
|                                                           |  |               |  |              |        
|                                                           |  |               |  |              | 5,264  
|Bond issuance costs                                        |  | 5 to 7 years  |  |              | 10,711 
|Accumulated amortization                                   |  |               |  |              | (3,144 
|                                                           |  |               |  |              |        
|                                                           |  |               |  |              | 7,567  
|                                                           |  |               |  |              |        
|Total intangible assets included in other long-term assets |  |               |  | $            | 22,045 
|                                                           |  |               |  |              |        

66

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Amortization expense was as follows (in thousands):

|                              |  | Year Ended December 31,
|----------------------------- |  | -----------------------
|
|Purchased technology          |  | $                      
|Capitalized software          |  |                        
|Patents, trademarks and other |  |                        
|Bond issuance costs           |  |                        

Amortization
is as follows over the next five years (in thousands):

|           |  | Purchased
Technology |       | Capitalized
Software |   | Patents,
Trademarks
and Other |  | Bond
Issuance
Costs
|---------- |  | -------------------- | ----- | -------------------- | - | ----------------------------- |  | -------------------
|2004       |  | $                    | 5,653 |                      | $ | 5,650                         |  | $                  
|2005       |  |                      | 5,653 |                      |   | 3,564                         |  |                    
|2006       |  |                      | 5,048 |                      |   |                              |  |                    
|2007       |  |                      | 3,839 |                      |   |                              |  |                    
|2008       |  |                      | 3,839 |                      |   |                              |  |                    
|Thereafter |  |                      | 3,073 |                      |   |                              |  |                    

9.     CREDIT FACILITIES

We maintain a $10.0 million unsecured and uncommitted bank borrowing facility in the U.S., a $2.8 million unsecured and uncommitted bank borrowing
facility in Japan and various limited facilities in selected foreign countries. In addition, we maintain a $5.0 million unsecured and uncommitted bank facility in the U.S. and a
$2.6 million facility in the Netherlands for the purpose of issuing standby letters of credit and bank guarantees. At December 31, 2003, we had outstanding standby letters of credit and
bank guarantees totaling approximately $2.8 million to secure customer advance deposits. We also had outstanding at December 31, 2003, $12.8 million of foreign bank guarantees
that are secured by cash balances. At December 31, 2003, a total of $20.4 million was available under these facilities.

10.   CONVERTIBLE DEBT

5.5% Convertible Subordinated Notes

On August 3, 2001, we issued $175.0 million of convertible subordinated notes, due August 15, 2008, through a private placement. The notes
are redeemable at our option beginning in 2004. The notes bear interest at 5.5%, payable semi-annually. The notes are convertible into shares of our common stock, at the noteholder's
option, at a price of $49.52 per share. On June 13, 2003, we redeemed $30.0 million of the notes at a redemption price of 102.75%. The premium on redemption of $0.8 million is
included in our consolidated statement of operations as interest expense. The $145.0 million of currently outstanding notes are convertible into approximately 2.93 million shares of our
common stock.

Zero Coupon Convertible Subordinated Notes

On June 13, 2003, we issued $150.0 million aggregate principal amount of zero coupon convertible subordinated notes. The interest rate on the notes
is zero and the notes will not accrete interest. The notes are due on June 15, 2023 and are first putable to us at the noteholder's option (in whole or in part) for cash on June 15,
2008, at a price equal to 100.25% of the principal amount, and on June 15, 2013 and 2018, at a price equal to 100% of the principal amount. The notes are also putable to us at the noteholder's
option upon a change of control at a price equal to 100% of the principal amount. We

67

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can
redeem the notes (in whole or in part) for cash on June 15, 2008, at a price equal to 100.25% of the principal amount, or thereafter at a price equal to 100% of the principal amount. The
notes are subordinated to all previously existing and future senior indebtedness and are effectively subordinated to all indebtedness and other liabilities of our subsidiaries. The cost of this
transaction, including underwriting discounts and commissions and offering expenses, totaled $4.8 million and is recorded on our balance sheet in other long-term assets and is being
amortized over the life of the notes. The amortization of these costs totals $240,000 per quarter and is reflected as additional interest expense in our statements of operations.

The
notes are convertible into shares of our common stock upon the occurrence of certain events at an initial conversion price of $27.132 per share (subject to adjustment), or
approximately 5.53 million shares if the entire $150.0 million is converted. Upon conversion, we have the option to settle the notes in cash, shares of our common stock, or a combination
of cash and shares.

11.   CONVERTIBLE NOTE HEDGE AND WARRANT TRANSACTIONS

We used a portion of the net proceeds from the offering of our zero coupon convertible subordinated notes to enter into convertible note hedge and warrant
transactions with respect to our common stock, the exposure for which was held at the time the notes were issued by Credit Suisse First Boston International, an affiliate of an initial purchaser of
the notes. The hedging transactions may be settled at our option on a net basis and run for a term concurrent with the notes. The warrant held by us offsets the dilution from the conversion of the
notes by allowing us to purchase up to 5.53 million shares of our common stock at a price of $27.132 per share. The bond hedge creates an upper limit on the cost of the warrant by
proportionately reducing the amount of shares deliverable to us under the warrant by the amount that our stock price at the time of conversion exceeds $40.80. These hedging transactions are expected
to reduce the potential dilution from the conversion of the notes up to a market price of $40.80 per share. The net cost of the hedging transactions of $23.9 million has been included as a
reduction of common stock in shareholders' equity in accordance with the guidance in EITF Issue No. 00-19, "Accounting for Derivative Financial Instruments
Indexed to, and Potentially Settled in, a Company's Own Stock."

12.   LEASE OBLIGATIONS

We have operating leases for certain of our manufacturing and administrative facilities that extend through 2018. The lease agreements generally provide for
payment of base rental amounts plus our share of property taxes and common area costs. The leases generally provide renewal options at current market rates.

Rent
expense is recognized on a straight-line basis over the term of the lease. Rent expense was $7.2 million in 2003, $7.5 million in 2002 and
$6.4 million in 2001.

The
approximate future minimum rental payments due under these agreements as of December 31, 2003, net of sublease income, are as follows (in thousands):

Year Ending December 31,2004

$
6,8022005


6,9692006


5,3522007


5,3062008


5,316Thereafter


45,679Total

$
75,424


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13.   INCOME TAXES

Income tax expense consisted of the following (in thousands):

|                           |         | Year Ended December 31,
|-------------------------- | ------- | -----------------------
|
|Current:                   |         |                        
|                           | Federal |                        
|                           | State   |                        
|                           | Foreign |                        
|                           |         |                        
|                           |         |                        
|Deferred expense (benefit) |         |                        
|                           |         |                        
|Total income tax expense   |         | $                      
|                           |         |                        

The
effective income tax rate applied to net income varies from the U.S. federal statutory rate due to the following (in thousands):

|                                    |                                               | Year Ended December 31, |      
|----------------------------------- | --------------------------------------------- | ----------------------- | -----
|
|Tax expense at statutory rates      |                                               | $                       | 3,758
|Increase (decrease) resulting from: |                                               |                         |      
|                                    | State income taxes, net of federal benefit    |                         |      
|                                    | Foreign taxes, including U.S. export benefit  |                         |      
|                                    | Research and experimentation credit           |                         |      
|                                    | Purchased in-process research and development |                         |      
|                                    | Goodwill amortization                         |                         |      
|                                    | Other                                         |                         |      
|                                    |                                               |                         |      
|                                    |                                               | $                       | 3,543
|                                    |                                               |                         |      

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The
tax effects of temporary differences that give rise to significant portions of deferred tax assets and deferred tax liabilities are as follows (in thousands):

|                               |                                           | December 31,              |       
|------------------------------ | ----------------------------------------- | ------------------------- | ------
|
|Deferred tax assets:           |                                           |                           |       
|                               | Accrued liabilities                       |                           | $     
|                               | Warranty reserves                         |                           |       
|                               | Inventory reserves                        |                           |       
|                               | Allowance for bad debts                   |                           |       
|                               | Net capital loss carryforwards            |                           |       
|                               | Revenue recognition                       |                           |       
|                               | Net operating loss carryforwards          |                           |       
|                               | Foreign jurisdictions                     |                           |       
|                               | Basis difference in equipment             |                           |       
|                               | Other assets                              |                           |       
|                               |                                           |                           |       
|                               |                                           | Gross deferred tax assets |       
|                               | Valuation allowance                       |                           |       
|                               |                                           |                           |       
|Net deferred tax assets        |                                           |                           | 21,348
|Deferred tax liabilities:      |                                           |                           |       
|                               | Capitalized software development costs    |                           |       
|                               | Existing technology and other intangibles |                           |       
|                               | Foreign jurisdictions                     |                           |       
|                               | Other liabilities                         |                           |       
|                               |                                           |                           |       
|Total deferred tax liabilities |                                           |                           | (9,775
|                               |                                           |                           |       
|Net deferred tax asset         |                                           | $                         | 11,573
|                               |                                           |                           |       

70

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The net change in the total valuation allowance for 2003 was a decrease of $3.6 million. The reduction in the valuation allowance is due to management's determination that we no
longer require a valuation allowance against our foreign net operating loss carryforwards.

At
December 31, 2003, we had approximately $22.3 million of net operating loss carryforwards to offset against future income for federal income tax purposes, which expire
in 2023, $18.2 million for Oregon state income tax purposes, which expire in 2018, and approximately $1.6 million of foreign net operating loss carryforwards.

As
of December 31, 2003, U.S. income taxes have not been provided for approximately $0.1 million of cumulative undistributed earnings of several non-U.S.
subsidiaries because we intend to reinvest these earnings indefinitely in operations outside the U.S. Foreign tax provisions have been provided for these cumulative undistributed earnings. Upon
distribution of those earnings in the form of dividends or otherwise, we would be subject to both U.S. income taxes (subject to an adjustment for foreign tax credits) and withholding taxes payable to
the various foreign countries. Similarly, we have not provided deferred taxes on the cumulative translation adjustment related to those non-U.S. subsidiaries. Determination of the amount
of the unrecognized deferred U.S. income tax liability is not practicable because of the complexities associated with its hypothetical calculation.

The
Internal Revenue Service is conducting an examination of our federal income tax return for the year ended December 31, 2000. We do not expect any changes which would
materially increase our liability for income taxes.

14. RESTRUCTURING AND REORGANIZATION

Second Quarter 2003 Restructuring and Reorganization

Our restructuring in 2003 included a workforce reduction of 21 employees, or approximately 1.3% of our worldwide work force. The positions affected included
manufacturing, marketing, administrative, field service, research and development and sales personnel. All but one termination was completed in the second quarter of 2003. The remaining position was
terminated at the beginning of the fourth quarter of 2003.

The
following table summarizes the charges, write-offs and adjustments and expenditures related to the second quarter 2003 restructuring charge (in thousands):

|Year Ended December 31, 2003                                          |  | Beginning
Accrued
Liability |   | Charged
to
Expense |   | Expend-
itures |  | Write-Offs
& Adjust-
ments |      | Ending
Accrued
Liability
|--------------------------------------------------------------------- |  | --------------------------- | - | ------------------ | - | -------------- |  | -------------------------- | ---- | ------------------------
|Severance, outplacement and related benefits for terminated employees |  | $                           |  |                    | $ | 610            |  | $                          | (578 | )                       
|                                                                      |  |                             |   |                    |   |                |  |                            |      |                         

Fourth Quarter 2002 Restructuring

During the fourth quarter of 2002, in response to the continuing global economic downturn, we recorded restructuring and reorganization charges of
$5.5 million related to our plan to consolidate operations, reduce excess leased facilities and reduce operating expenses. Costs included in the restructuring charges consist of workforce
reductions and other related costs, and facility and leasehold improvement charges related to future abandonment of various leased office and manufacturing sites in North America and Europe.

As
detailed below, in 2003, we recorded additional charges to our 2002 restructuring charge resulting from changes in estimates related to our ability to sublease offices that we had
vacated as part of the restructuring. However, we also recorded reductions to the estimated charges due to lower

71

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termination
costs in Europe due primarily to unanticipated voluntary departures before severance was required and unanticipated redeployment of employees to vacant positions.

This
plan included the reduction of 145 employees, or 9% of our worldwide work force. The positions affected included manufacturing, marketing, administrative, field service, research
and development and sales personnel. During the fourth quarter of 2002, employees were informed of the headcount reduction plans and the related severance benefits they would be entitled to receive.
Approximately 40% of the planned reductions were completed in the fourth quarter of 2002 and all but three of the remaining terminations occurred in 2003. These remaining employees are expected to be
terminated in 2004. The positions remaining to be terminated as of December 31, 2003 are located throughout Europe.

Leasehold
improvements and facilities charges represent ongoing contractual lease payments, less estimated proceeds from subleasing activities, and the remaining net book value of
leasehold improvements for various buildings located in the United States and Europe. Lease costs for these facilities will be charged against the restructuring accrual on a monthly basis when the
premises are vacated until the lease contracts expire or the facilities are sub-leased. The majority of these premises were vacated during 2003.

The
following table summarizes the charges, write-offs and adjustments and expenditures related to the fourth quarter 2002 restructuring charge (in thousands):

|Year Ended December 31, 2002                                          |  | Beginning
Accrued
Liability |   | Charged
to
Expense |   | Expend-
itures |  | Write-Offs &
Adjust-
ments |      | Ending
Accrued
Liability
|--------------------------------------------------------------------- |  | --------------------------- | - | ------------------ | - | -------------- |  | -------------------------- | ---- | ------------------------
|Severance, outplacement and related benefits for terminated employees |  | $                           |  |                    | $ | 3,660          |  | $                          | (467 | )                       
|Abandoned leases, leasehold improvements and facilities               |  |                             |  |                    |   | 1,869          |  |                            |     |                         
|                                                                      |  |                             |   |                    |   |                |  |                            |      |                         
|                                                                      |  | $                           | - |                    | $ | 5,529          |  | $                          | (467 | )                       
|                                                                      |  |                             |   |                    |   |                |  |                            |      |                         

|Year Ended December 31, 2003                                          |  | Beginning
Accrued
Liability |       | Charged
to
Expense |   | Expend-
itures |  | Write-Offs &
Adjust-
ments |        | Ending
Accrued
Liability
|--------------------------------------------------------------------- |  | --------------------------- | ----- | ------------------ | - | -------------- |  | -------------------------- | ------ | ------------------------
|Severance, outplacement and related benefits for terminated employees |  | $                           | 3,333 |                    | $ |               |  | $                          | (787   | )                       
|Abandoned leases, leasehold improvements and facilities               |  |                             | 1,869 |                    |   | 1,378          |  |                            | (657   | )                       
|                                                                      |  |                             |       |                    |   |                |  |                            |        |                         
|                                                                      |  | $                           | 5,202 |                    | $ | 1,378          |  | $                          | (1,444 | )                       
|                                                                      |  |                             |       |                    |   |                |  |                            |        |                         

Remaining
cash expenditures for severance and related charges of approximately $0.6 million are expected to be paid throughout 2004. The current estimate accrued for cash to be
paid related to abandoned leases, leasehold improvements and facilities of $1.5 million is net of estimated sublease payments to be received and will be paid over the respective lease terms
through 2006.

15. SHAREHOLDERS' EQUITY

As of December 31, 2003, 5,310,588 shares of common stock were reserved for stock incentive plans.

On
February 21, 1997, we acquired substantially all of the assets and liabilities of the electron optics business of Koninklijke Philips Electronics N.V. (the "PEO Combination"),
in a transaction accounted for as a reverse acquisition. As part of the PEO Combination, we agreed to issue to Philips

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additional
shares of our common stock whenever stock options that were outstanding on the date of the closing of the PEO Combination are exercised. Any such additional shares are issued at a rate of
approximately 1.22 shares to Philips for each share issued on exercise of these options. We receive no additional consideration for these shares issued to Philips under this agreement. We issued
69,000 shares in 2003, 189,000 in 2002 and 22,000 in 2001 to Philips under this agreement. As of December 31, 2003, 199,000 shares of our common stock are potentially issuable and reserved for
issuance as a result of this agreement.

On
May 22, 2001, we completed a public offering of 3.1 million shares of our common stock sold by us and 6.1 million shares of our common stock sold by Philips.
Proceeds to us, net of underwriting discounts, commissions and offering expenses, totaled $88.0 million. At completion of the offering, Philips' ownership of our common stock was reduced to
approximately 8.1 million shares, or 25.6% of our common shares then outstanding, compared with 49.7% ownership prior to the offering.

On
September 18, 2001, we announced a share repurchase program had been approved by our Board of Directors. The program allowed for the purchase of up to 2 million shares
of our common stock over a nine-month period ended June 18, 2002. During 2001, we repurchased and retired 50,000 shares at a total cost of $1.0 million. There were no shares
repurchased during 2003.

16. STOCK INCENTIVE PLANS

1995 Plan and 1995 Supplemental Plan

We maintain stock incentive plans for selected directors, officers, employees and certain other parties, which allow the Board of Directors to grant options
(incentive and nonqualified), stock and cash bonuses and stock appreciation rights and to sell restricted stock. The 1995 Stock Incentive Plan ("1995 Plan") allows for issuance of a maximum of
6 million shares and the 1995 Supplemental Stock Incentive Plan ("1995 Supplemental Plan") allows for issuance of a maximum of 500,000 shares. The Board of Directors' ability to grant options
under either the 1995 Plan or the 1995 Supplemental Plan will terminate, if the plans are not amended, when all shares reserved for issuance have been issued and all restrictions on such shares have
lapsed or earlier, at the discretion of the Board of Directors. At December 31, 2003, there were 1,128,859 shares available for grant under these plans and 5,270,186 shares of our common stock
reserved for issuance.

73

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Options
are granted under various vesting arrangements, up to a maximum of five years. Options expire after a maximum of ten years. Options outstanding are summarized as follows:

Options
Outstanding
(in thousands)

Weighted
Average
Exercise PriceBalance, December 31, 2000

2,009

$
10.79Options granted

929


27.69Options exercised

(211
)

7.96Options expired or canceled

(143
)

12.58Balance, December 31, 2001

2,584


16.99Options granted

790


30.99Options exercised

(247
)

9.56Options expired or canceled

(156
)

22.48Balance, December 31, 2002

2,971


21.04Options granted

1,522


16.50Options exercised

(214
)

7.96Options expired or canceled

(138
)

23.75Balance, December 31, 2003

4,141

$
19.95


74

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Additional information regarding options outstanding as of December 31, 2003 is as follows (shares in thousands):

|Options Outstanding |  | Options Exercisable
|------------------- |  | -------------------
|
|$6.63$15.30        |  | 1,626              
|$15.39$22.69       |  | 899                
|$22.70$30.00       |  | 835                
|$30.06$39.88       |  | 780                
|$40.33              |  | 1                  
|                    |  |                    
|$6.63$40.33        |  | 4,141              
|                    |  |                    

At
December 31, 2002 and 2001, options covering 1.2 million and 875,000 shares, respectively, were exercisable at weighted average exercise prices of $12.68 and $9.14,
respectively.

Employee Share Purchase Plan

In 1998, we implemented an Employee Share Purchase Plan ("ESPP"). Under the ESPP, employees may elect to have compensation withheld and placed in a designated
stock subscription account for purchase of our common stock. Each ESPP offering period consists of two consecutive six-month purchase periods. The purchase price in a purchase period is
set at a 15 percent discount to the lower of the market price on either the first day of the applicable offering period or the purchase date. If the fair market value of a share of stock on a
purchase date (other than the final purchase date of an offering period) is less than the fair market value of a share of stock on the offering date of the offering period, the offering period and
purchase price are re-set on the first business day subsequent to such purchase date. The ESPP allows a maximum purchase of 1,000 shares by each employee during any 12-month
offering period.

Activity
pursuant to the ESPP was as follows:

Year Ended December 31,

Shares Purchased

Weighted Average
Purchase Price2001

120,173

$
17.182002

157,742


17.792003

222,084


13.33


At
December 31, 2003, 40,402 shares of common stock were reserved for issuance under the ESPP.

Restricted Stock Award and Purchase

On June 25, 1998, in connection with the commencement of his employment with FEI, Vahé Sarkissian, Chairman, President and Chief Executive
Officer, was granted a stock bonus of 50,000 shares of our common stock. The stock was valued at $7.41 per share, or $370,000, the fair market value on the date of grant. In conjunction with the
grant, we loaned Mr. Sarkissian an amount equal to his federal and state tax liability for the stock bonus. This loan was forgiven at the rate of 20% annually and, at December 31, 2003,
had been completely forgiven.

Also
on June 25, 1998, in connection with the commencement of his employment, we sold to Mr. Sarkissian 151,000 shares of our common stock subject to specified
restrictions. The purchase price for the shares was $7.41, or $1.1 million, the fair market value on the date of purchase. As of

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December 31,
2003, the restrictions on these shares have all been removed. We loaned Mr. Sarkissian the $1.1 million for the purchase of these restricted shares. The loan bears
interest at 5.75% and is due June 25, 2005.

17.   EMPLOYEE BENEFIT PLANS

Pension Plans

Employee pension plans have been established in many foreign countries in accordance with the legal requirements and customs in the countries involved. The
majority of employees in Europe, Asia and Canada are covered by defined benefit or defined contribution pension plans. The benefits provided by these plans are based primarily on years of service and
employees' compensation near retirement. Employees in the U.S. are covered by a profit sharing 401(k) plan, which is a defined contribution plan.

Through
August 31, 2001, certain of these pension plans were sponsored by Philips. Our share of the cost or benefit under these plans was determined by Philips and allocated to
us. In certain countries, the return on invested assets exceeded the cost of the benefits under these Philips pension plans, and we were allocated a portion of the pension income that Philips
recognized. Our net pension benefit under these Philips sponsored pension plans was $1.4 million in 2001. Because our employees represented less than 1% of the total active participants in
these Philips plans, and because separate pension records were not maintained for each participating company, we did not account for our share of plan assets and obligations within the Philips
sponsored plans.

Effective
September 1, 2001, employees who previously participated in the Philips sponsored pension plans were transferred to other pension arrangements. Employees in the
Netherlands began participating with other companies in making collectively-bargained payments to the Metal-Electro Industry pension fund. Pension costs relating to this multi-employer plan were
$3.6 million in 2003, $2.9 million in 2002 and $1.1 million in 2001.

Employees
in Europe outside the Netherlands are now covered through a defined contribution plan. Contributions to this plan totaled $116,000 in 2003, $112,000 in 2002 and $18,000 in
2001.

In
certain foreign countries, employees are covered by pension plans under local legal requirements. The total cost of these additional pension plans was $0.5 million in 2003,
$0.2 million in 2002 and $0.4 million in 2001. These supplemental pension plans are not funded. A liability for the projected benefit obligations of these supplemental plans of
$1.6 million and $1.1 million is included in other non-current liabilities as of December 31, 2003 and 2002, respectively.

Post-Employment Benefits Other Than Pensions

Most of our employees in the Netherlands are provided group health insurance after retirement. Government based programs in the Netherlands provide this benefit
after the normal retirement age of 65. Through December 31, 2002, for employees who elected early retirement at age 62, we continue to be responsible for providing the employer's portion of the
health insurance premium until the normal retirement age of 65 is reached. Through August 31, 2001, these benefits in the Netherlands were generally provided under Philips sponsored plans.
Based on the number of our employees located in the Netherlands, a charge of approximately $25,000 each year was allocated to us by Philips. Effective September 1, 2001, we are responsible for
providing these same post-retirement benefits for certain future early retirees in the Netherlands. We expensed $0.1 million in 2002 for these benefits. Effective January 1,
2003, the multi-employer plan was modified and accepted by the employees, and we will no longer be obligated to provide this benefit to employees electing early retirement after December 31,
2002.

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Profit Share Plan

In 2000, we implemented a Profit Share Plan ("PSP") covering substantially all employees who are not already covered by an incentive compensation plan. The PSP
pays employees a share of our profits on a semi-annual basis, subject to approval by our Board of Directors. The total cost of the PSP was $0.2 million in 2003, $1.6 million
in 2002 and $3.0 million in 2001.

Profit Sharing 401(k) Plan

We maintain a profit sharing 401(k) plan that covers substantially all U.S. employees. Employees may elect to defer a portion of their compensation, and we may
contribute an amount approved by the Board of Directors. We match 100 percent of employee contributions to the 401(k) plan up to one and one half percent of each employee's eligible
compensation. In addition, a supplemental match may be approved by the Board of Directors, based on our performance, up to a maximum of an additional three percent of eligible compensation. Employees
must meet certain requirements to be eligible for the matching contribution. We contributed $0.8 million in 2003, $0.8 million in 2002 and $1.6 million in 2001 to this plan. Our
401(k) plan does not allow for the investment in shares of our common stock.

18.   RELATED-PARTY ACTIVITY

Philips

On February 21, 1997, we acquired substantially all of the assets and liabilities of the electron optics business of Philips in a transaction accounted for
as a reverse acquisition. Philips received 55% of our then outstanding common stock in the exchange. Philips maintained majority control of us until May 22, 2001, when its ownership was reduced
through a secondary public stock offering (see Note 15). The following summarizes the dollar amount of transactions with Philips (in thousands):

|                                                                                                                                                       |  | Year Ended December 31, 2003
|------------------------------------------------------------------------------------------------------------------------------------------------------ |  | ----------------------------
|
|
|Reimbursement by Philips of certain pension costs                                                                                                      |  | $                           
|                                                                                                                                                       |  |                             
|Amounts Paid to Philips                                                                                                                                |  |                             
|Subassemblies and other materials purchased from Philips                                                                                               |  | $                           
|Facilities leased from Philips                                                                                                                         |  |                             
|Various administrative, accounting, customs, export, human resources, import, information technology, logistics and other services provided by Philips |  |                             
|Research and development services provided by Philips                                                                                                  |  |                             
|Other services provided by Philips                                                                                                                     |  |                             
|                                                                                                                                                       |  |                             
|                                                                                                                                                       |  | $                           
|                                                                                                                                                       |  |                             

The
following paragraphs describe the business transactions and relationships between us and Philips which resulted in the above payments.

Agreement with Philips Effective as of December 31, 2000

During 2001, we entered into an agreement with Philips effective as of December 31, 2000 (the "Supplemental Agreement") that clarifies certain
relationships and transactions between the parties. Certain terms of the agreement became effective May 22, 2001, or 120 days after May 22, 2001, the day Philips' ownership fell
below 45% of our outstanding common stock. The agreement addresses, among other things, patents and intellectual property, research and development services, use of the Philips name and trademark,
participation in Philips' insurance programs and the Philips credit facility. Under

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the
agreement, we ceased to participate in certain Philips sponsored or administered programs. We continue to purchase certain of these services from Philips and certain other of these services are
procured from other suppliers. The cost to procure these services from other suppliers and from Philips subsequent to May 22, 2001 is in excess of the amounts previously paid to Philips. Under
terms of the Supplemental Agreement, Philips paid us $6.0 million over a three-year period to reduce the effect of these increased costs. These amounts were recorded as a reduction
to operating expenses on our consolidated statements of operations. Philips agreed to the payments as partial reimbursement of an over-funding of our pension liability to the Philips
pension plan that was not transferred to us at the time our employees transferred out of the Philips pension plan and as partial reimbursement for lost refunds we were previously receiving from the
Philips plan due to the over-funding.

The
Supplemental Agreement resolved a number of issues and transactions between the parties in anticipation of the reduction in Philips' ownership interest below 45%. In connection with
the resolution of these issues, we reduced current accounts with Philips and common stock by $5.0 million to adjust the amount of division equity of the Philips electron optics business
recorded at the original date of the PEO Combination. This division equity was originally recorded as our common stock in the reverse acquisition accounting treatment of the PEO Combination.

Materials Purchased from Philips

A substantial portion of the subassemblies included in our FIBs, TEMs and SEMs are purchased from Philips Enabling Technologies Group.

Purchases Under Philips Arrangements and Terms

From time to time, we purchased materials, supplies and services under collective purchase agreements and purchase conditions negotiated by Philips for the
benefit of its group of companies. For this service, we paid a fixed annual fee amounting to $111,000 in 2001. These arrangements generally ended after December 31, 2001. We also participated
in certain business insurance programs under terms arranged by Philips through May 22, 2001. Effective May 23, 2001, we obtained our own independent business insurance. The benefits to
us of these arrangements cannot be calculated precisely, but management believes that the costs of procuring these goods and services on a stand-alone basis are higher than the costs under the Philips
arrangements.

Employment Related Arrangements

Through the majority shareholdings of Philips, we had the benefit of certain collective bargaining arrangements and the Philips rate for social charges in the
Netherlands and other countries. Effective May 22, 2001, when Philips was no longer the majority shareholder, we negotiated new collective bargaining arrangements and a new social charge rate
was applied to us, which resulted in increased labor costs for us. See also Note 17.

Facilities Leased from Philips

We lease sales, service and administrative facilities from Philips in certain countries.

Development Services Provided by Philips

We purchase research and development services from Philips' central research facility.

Intellectual Property

Prior to May 22, 2001, most of the patents used by us relating to our Electron Optics business segment products and certain Microelectronics business
segment products were licensed from Philips

78

---

and
its affiliates. As part of the PEO Combination, we acquired perpetual rights to certain patents owned by Philips and the right to transfer of title of those patents upon Philips no longer being a
controlling shareholder. The Supplemental Agreement confirmed the transfer of ownership of most of these patents to us for a fee of $19,000. The Supplemental Agreement specified certain other patents
that are jointly owned and may be jointly used by Philips and us, and also provided for the license by us of certain patents owned by Philips. The Supplemental Agreement required us to pay Philips
$0.6 million from 2001 through 2003 in compensation for the development efforts related to a specific patented technology, which we may use in future products. We must pay a royalty of 1% of
sales on any future sales of products using this technology. To date, we have not sold any products using this technology or paid any related royalties. In addition, we had access to technology
through cross-licenses between Philips affiliates and a large number of manufacturers in the electronics industry worldwide, and our patents were also subject to such cross-licenses. Some of these
cross-licenses provide us with the right to use intellectual property that relates to our core technologies. In general, these cross licenses were subject to continued majority ownership of us by
Philips. The reduction below majority ownership by Philips, which occurred on May 22, 2001, could result in increased royalty costs or patent infringement actions and the costs associated with
such claims, including direct costs as well as the diversion of management and technical resources.

Other Services Provided by Philips

In connection with the PEO Combination, we entered into various services agreements with Philips affiliates to continue to provide us certain administrative,
accounting, customs, export, human resources, import, information technology, logistics and other services that had been provided to us since February 1997.

Current Accounts with Philips

Current accounts with Philips represent accounts receivable and accounts payable between us and other Philips units. Most of the current account transactions
relate to deliveries of goods, materials and services. Current accounts with Philips consisted of the following (in thousands):

December 31,

2003

2002Current accounts receivable

$
266

$
252Current accounts payable


(4,489
)

(5,881
)Net current accounts with Philips

$
(4,223
)
$
(5,629
)


Accurel

Our Chief Executive Officer and Chairman of our Board of Directors owns a 50 percent interest in Accurel Systems International Corp. ("Accurel"), an
analytical services provider to the semiconductor and data storage markets. We have sold equipment and related services and have provided certain other services to Accurel.

During
2002, we sold three systems to Accurel for an aggregate of $3.2 million. In addition, we provide service to Accurel on these and other systems purchased by them. These
transactions were reviewed and approved by our Board of Directors.

79

---

The sale of a circuit edit tool to Accurel in the third quarter of 2002 for $1.1 million was cancelled and reversed from product sales in the second quarter of 2003. This resulted
in a reduction of gross margin by $0.4 million in that quarter. The following information relates to the amounts due us from Accurel for the remaining two systems as of December 31,
2003:

System 1

System 2Amount remaining due (in thousands)

$1,438

$98Final payment due

March 2006

August 2004Interest rate

7.0%

6.5%Current on payments

yes

yes


Also
included in current receivables from Accurel at December 31, 2003 is $0.2 million related to parts and service sales.

Atos Origin

We purchase information technology consulting and other services from Atos Origin, a company which is partially owned by Philips. Services purchased from Atos
Origin totaled $2.1 million in 2003, $2.5 million in 2002 and $2.8 million in 2001.

In
July 2003, we entered into a data processing and network management agreement with Atos Origin. Beginning in July 2003 and ending in June 2008, we are paying
$60,000 per month for services. We paid Atos Origin a total of $0.4 million pursuant to this agreement during 2003.

Sales to Related Parties

Both Accurel and certain Philips business units purchase our products and services for their own use. In addition, we have sold products and services to LSI Logic
Corporation, whose chairman and chief executive officer serves on our Board of Directors. Sales to Philips, Accurel and LSI Logic were as follows (in thousands):

|                               |           | Year Ended December 31, 2003
|------------------------------ | --------- | ----------------------------
|
|Product sales:                 |           |                             
|                               | Accurel   |                             
|                               | LSI Logic |                             
|                               | Philips   |                             
|                               |           |                             
|                               |           |                             
|Service sales:                 |           |                             
|                               | Accurel   |                             
|                               | LSI Logic |                             
|                               | Philips   |                             
|                               |           |                             
|                               |           |                             
|                               |           |                             
|Total sales to related parties |           | $                           
|                               |           |                             

Consulting Agreement

During 2003 and 2002, we paid $57,000 and $98,000, respectively, to Shaunt Sarkissian, the son of our Chairman, President and Chief Executive Officer, pursuant to
a consulting agreement entered into in January 2002. This agreement was terminated June 25, 2003.

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Stock Purchase Loan

On June 25, 1998, we loaned our Chairman, President and Chief Executive Officer $1.1 million for the purchase of restricted stock. We recorded
interest income on this loan totaling $390,000 in 2003. See Note 16 for additional details of the loan.

19. FORWARD EXCHANGE CONTRACTS

Most of our subsidiaries transact some business in currencies other than their functional currencies. As a result, changes in foreign currency exchange rates may
have an impact on our operating results. Forward exchange contracts are used to offset a portion of the risk of foreign currency fluctuations. We do not hold or issue derivative financial instruments
for trading purposes. The purpose of our hedging activities is to reduce risk that the eventual cash flows of the underlying assets, liabilities and manufacturing and operating expenses in Europe will
be adversely affected by changes in exchange rates. We account for such forward exchange contracts in accordance with SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," as amended by SFAS No. 138, "Accounting for Certain Derivative Instruments and Certain Hedging
Activities-an amendment of FASB Statement No. 133," and SFAS No. 149, "Amendment of Statement 133 on Derivative Instruments
and Hedging Activities." Accordingly, realized and unrealized gains and losses on such contracts are recognized in the consolidated statements of operations concurrent with the
related transactions as a component of other income.

We
enter into forward sale or purchase contracts for foreign currencies to hedge specific cash, receivables or payables positions. We had realized and unrealized foreign currency losses
on our 2003 transactions of $0.6 million and realized and unrealized losses on these hedges in 2003 totaling $0.6 million, which are both included as a component of other income.

In
addition, beginning in July 2003, we entered into various forward exchange contracts to partially mitigate the impact of changes in the euro against the dollar on our
manufacturing and operating expenses in Europe. We mark to market any contracts that are not realized in a given quarter. The realized and unrealized gains related to these contracts totaled
$4.7 million in 2003 and are included as a component of other income.

Generally,
our practice is to hold our hedge contracts to maturity. The counter-parties to such transactions are major financial institutions. Accordingly, no provision for counter-party
non-performance has been made. The stated value of contracts outstanding at December 31, 2003 and 2002 was $95.1 million and $51.6 million, respectively. The fair
value of all of our hedge contracts was $47.0 million at December 31, 2003.

20. COMMITMENTS AND CONTINGENT LIABILITIES

From time to time, we may be a party to litigation arising in the ordinary course of business. Currently, we are not a party to any litigation that we believe
would have a material adverse effect on our financial position, results of operations or cash flows.

We
are self-insured for certain aspects of our property and liability insurance programs and are responsible for deductible amounts under most policies. The deductible
amounts generally range from $10,000 to $250,000 per claim. Our director and officer liability insurance coverage, however, has a $3.0 million deductible relating to entity coverage.

We
participate in third party equipment lease financing programs with United States financial institutions for a small portion of products sold. In these circumstances, the financial
institution purchases our equipment and then leases it to a third party. Under these arrangements, the financial institutions have limited recourse against us on a portion of the outstanding lease
portfolio if the lessee defaults on the lease. Under certain circumstances, we are obligated to exercise best efforts to

81

---

re-market
the equipment, should the financial institutions reacquire it. During 2003, our third party equipment lease financing programs added $0.3 million of such guarantees and,
as of December 31, 2003, we had outstanding guarantees under these lease financing programs of $2.7 million related to lease transactions entered into from 2002 through 2003.

We
have commitments under non-cancelable purchase orders totaling $15.8 million at December 31, 2003, which expire at various times through
December 2004.

21. SEGMENT AND GEOGRAPHIC INFORMATION

We operate in four business segments: Microelectronics, Electron Optics, Components and Service. The microelectronics segment manufactures and markets FIBs and DualBeamsystems. Microelectronics segment products are sold primarily to the semiconductor and data storage markets, with additional sales to the
industry and institute market. The electron optics segment manufactures and markets SEMs and TEMs. Electron optics products are sold to materials and life sciences customers in the
industry and institute markets, as well as in the semiconductor and data storage markets. The components segment manufactures and markets electron and ion emitters, focusing columns and components
thereof. These components are used in our FIB,DualBeam, SEM and TEM systems and are also sold to other microscope manufacturers. The service segment
services our worldwide installed base of products, generally under service contracts.

82

---

The
following table summarizes various financial amounts for each of our business segments (in thousands):

|                              |             | Micro-
elec-
tronics |         | Electron
Optics |   | Com-
ponents |         | Service |        | Corporate
and
Elimina-
tions |   | Total 
|----------------------------- | ----------- | -------------------- | ------- | --------------- | - | ------------ | ------- | ------- | ------ | ---------------------------- | - | ------
|2003                          |             |                      |         |                 |   |              |         |         |        |                              |   |       
|Sales to external customers   |             | $                    | 146,199 |                 | $ | 123,927      |         | $       | 9,756  |                              | $ | 81,095
|Inter-segment sales           |             |                      | 2,930   |                 |   | 12,072       |         |         | 7,187  |                              |   | 3,497 
|                              |             |                      |         |                 |   |              |         |         |        |                              |   |       
|                              | Total sales |                      |         | 149,129         |   |              | 135,999 |         |        | 16,943                       |   |       
|Gross profit                  |             |                      | 71,854  |                 |   | 41,791       |         |         | 5,863  |                              |   | 25,803
|Depreciation and amortization |             |                      | 11,010  |                 |   | 6,908        |         |         | 1,105  |                              |   | 899   
|Operating income (loss)       |             |                      | 17,076  |                 |   | (10,768      | )       |         | 2,356  |                              |   | 17,007
|Total assets                  |             |                      | 162,515 |                 |   | 123,303      |         |         | 10,403 |                              |   | 66,017
|2002                          |             |                      |         |                 |   |              |         |         |        |                              |   |       
|Sales to external customers   |             | $                    | 128,549 |                 | $ | 134,700      |         | $       | 10,328 |                              | $ | 67,804
|Inter-segment sales           |             |                      | 3,621   |                 |   | 24,112       |         |         | 6,549  |                              |   |      
|                              |             |                      |         |                 |   |              |         |         |        |                              |   |       
|                              | Total sales |                      |         | 132,170         |   |              | 158,812 |         |        | 16,877                       |   |       
|Gross profit                  |             |                      | 68,601  |                 |   | 54,664       |         |         | 5,360  |                              |   | 21,188
|Depreciation and amortization |             |                      | 11,134  |                 |   | 3,478        |         |         | 1,278  |                              |   | 1,070 
|Operating income (loss)       |             |                      | 12,405  |                 |   | 17,508       |         |         | 1,404  |                              |   | 12,516
|Total assets                  |             |                      | 115,647 |                 |   | 112,087      |         |         | 6,682  |                              |   | 57,299
|2001                          |             |                      |         |                 |   |              |         |         |        |                              |   |       
|Sales to external customers   |             | $                    | 168,482 |                 | $ | 136,720      |         | $       | 15,317 |                              | $ | 55,485
|Inter-segment sales           |             |                      | 1,153   |                 |   | 7,739        |         |         | 7,946  |                              |   |      
|                              |             |                      |         |                 |   |              |         |         |        |                              |   |       
|                              | Total sales |                      |         | 169,635         |   |              | 144,459 |         |        | 23,263                       |   |       
|Gross profit                  |             |                      | 96,204  |                 |   | 65,794       |         |         | 7,788  |                              |   | 12,606
|Depreciation and amortization |             |                      | 12,555  |                 |   | 3,795        |         |         | 1,218  |                              |   | 1,062 
|Operating income (loss)       |             |                      | 39,095  |                 |   | 29,699       |         |         | 2,801  |                              |   | 3,975 
|Total assets                  |             |                      | 95,855  |                 |   | 94,143       |         |         | 8,015  |                              |   | 44,520

Inter-segment
sales are shown at cost, with no markup for gross profit within the selling segment, and are eliminated in consolidation. Corporate administration expenses, amortization of
purchased goodwill and technology, charges for in-process research and development, merger costs, and restructuring and reorganization costs are not allocated to our business segments.
Assets that cannot be assigned to a specific segment are shown as corporate assets, including purchased goodwill and technology.

Our
long-lived assets were geographically located as follows (in thousands):

December 31,

2003

2002U.S.

$
158,998

$
132,135The Netherlands


18,845


18,955Other


15,912


11,429Total

$
193,755

$
162,519


83

---

The
following table summarizes sales by geographic region (in thousands):

North
America

Europe

Asian-
Pacific

Total2003Product sales

$
86,595

$
98,436

$
94,851

$
279,882Service sales


41,992


26,051


13,052


81,095Total sales

$
128,587

$
124,487

$
107,903

$
360,9772002Product sales

$
106,161

$
84,888

$
82,528

$
273,577Service sales


36,430


20,207


11,167


67,804Total sales

$
142,591

$
105,095

$
93,695

$
341,3812001Product sales

$
132,707

$
101,856

$
85,953

$
320,516Service sales


30,480


17,102


7,906


55,488Total sales

$
163,187

$
118,958

$
93,859

$
376,004


None
of our customers represented 10% or more of our total sales in 2003, 2002 or 2001.

Sales
to countries which totaled 10% or more of our total sales were as follows (dollars in thousands):

Dollar
Amount

% of Total
Sales2003U.S.

$
121,145

33.6
%Japan

$
49,119

13.6
%2002U.S.

$
138,866

40.7
%Japan

$
35,246

10.3
%2001U.S.

$
160,114

42.6
%Japan

$
46,499

12.4
%


22. PROPOSED MERGER WITH VEECO INSTRUMENTS INC.

On July 11, 2002, we entered into an Agreement and Plan of Merger (the "Merger Agreement") with Veeco Instruments Inc. ("Veeco") and Venice
Acquisition Corp., a wholly-owned subsidiary of Veeco. Pursuant to the Merger Agreement, Venice Acquisition Corp. would merge with and into us, with the result that we would be the surviving
corporation and would become a wholly-owned subsidiary of Veeco. On January 9, 2003, we jointly announced with Veeco that we would not proceed with the merger due to the difficult overall
market and economic conditions and the uncertain timing of an industry recovery. During 2002, $6.8 million of legal, accounting and investment banking costs were incurred and expensed in
connection with the proposed Veeco merger.

84

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23. FAIR VALUE OF FINANCIAL ASSETS AND LIABILITIES

We estimate the fair value of our monetary assets and liabilities based upon comparison of such assets and liabilities to the current market values for
instruments of a similar nature and degree of risk.

We
believe the carrying amounts of cash and cash equivalents, receivables, current accounts with Philips, our current receivable from Accurel, accounts payable and other current
liabilities are a reasonable approximation of the fair value of those financial instruments because of the nature of the underlying transactions and the short-term maturities involved.

Management
classifies all marketable debt investments as "held to maturity" and therefore carries these financial instruments at amortized cost and not current fair value. The fair value
and cost of certain financial assets and liabilities as of December 31, 2003 was as follows (in thousands):

Fair Value

CostMarketable debt investments

$
85,074

$
85,548Convertible debt

$
303,925

$
295,000Hedge contracts

$
46,951

$
95,077


The
fair values of our investments in unconsolidated affiliates are not readily determinable, as the securities are not actively traded.

85

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Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

None.

Item 9A. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

Our management has evaluated, under the supervision and with the participation of our President and Chief Executive Officer and Chief Financial Officer, the
effectiveness of our disclosure controls and procedures as of the end of the period covered by this report pursuant to Rule 13a- 15(b) under the Securities Exchange Act of 1934, as amended
(Exchange Act). Based on that evaluation, our Chairman, President and Chief Executive Officer and our Chief Financial Officer have concluded that, as of the end of the period covered by this report,
our disclosure controls and procedures are effective in ensuring that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized and reported within the time
periods specified in the SEC's rules and forms, and accumulated and communicated to our management, including our Chairman, President and Chief Executive Officer and our Chief Financial Officer, as
appropriate to allow timely decisions regarding required disclosure.

Changes in Internal Controls

There has been no change in our internal controls over financial reporting that occurred during our last fiscal quarter that has materially affected or is
reasonably likely to materially affect our internal controls over financial reporting nor were there any changes in any other factor that could significantly affect these controls subsequent to the
end of the of the period covered by this report.

PART III

Item 10. Directors and Executive Officers of the Registrant

Information required by this item is included under the captionsElection of Directors, Meetings and Committees of
the Board of Directors,Audit Committee Financial Expert, Code of Ethics, Executive OfficersandSection 16(a) Beneficial Ownership
Reporting Compliancein our Proxy Statement for our 2004 Annual Meeting of Shareholders and is incorporated by reference herein.

On
September 9, 2003, we adopted a code of business conduct and ethics that applies to all directors, officers and employees. We have posted our code of business conduct and
ethics on our website at www.feicompany.com. The information concerning our code of business conduct and ethics required by this item is incorporated by reference to the information under the heading
"Corporate Governance" in our proxy statement.

We
intend to disclose any amendment to the provisions of the code of business conduct and ethics that apply specifically to directors or executive officers by posting such information on
our website. We intend to disclose any waiver to the provisions of the code of business conduct and ethics that apply specifically to directors or executive officers by filing such information on a
Current Report on Form 8-K with the SEC, to the extent such filing is required by the Nasdaq National Market's listing requirements; otherwise, we will disclose such waiver by
posting such information on our website.

Item 11. Executive Compensation

Information required by this item is included under the captionsDirector Compensation, Executive Compensation, Employment Contracts and
Termination of Employment, Change-in-Control ArrangementsandCompensation Committee Interlocks and Insider
Participationin our proxy statement for our 2004 Annual Meeting of Shareholders and is incorporated by reference herein.

86

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Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

Information required by this item is included under the captionsSecurity Ownership of Certain Beneficial Owners and
ManagementandEquity Securities Authorized for Issuancein our proxy statement for our 2004 Annual Meeting of Shareholders and
is incorporated by reference herein.

Item 13. Certain Relationships and Related Transactions

Information required by this item is included under the captionCertain Relationships and Related Transactionsin
our Proxy Statement for our 2004 Annual Meeting of Shareholders and is incorporated herein by reference.

Item 14. Principal Accountant Fees and Services

Information required by this item is included under the captionRatification of Appointment of Independent AuditorsFees Paid
to Deloitte & Touche, LLP Related to Fiscal 2003 and 2002in our proxy statement for our 2004 Annual Meeting of Shareholders and is incorporated by reference herein.

PART IV

Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K

Financial Statements and Schedules

The Consolidated Financial Statements, together with the report thereon of our independent auditor, are included on the pages indicated below:

|                                                                                                     |  | Page
|---------------------------------------------------------------------------------------------------- |  | ----
|Independent Auditors' Report                                                                         |  | 46  
|Consolidated Balance Sheets as of December 31, 2003 and 2002                                         |  | 47  
|Consolidated Statements of Operations for the years ended December 31, 2003, 2002 and 2001           |  | 48  
|Consolidated Statements of Comprehensive Income for the years ended December 31, 2003, 2002 and 2001 |  | 49  
|Consolidated Statements of Shareholders' Equity for the years ended December 31, 2003, 2002 and 2001 |  | 50  
|Consolidated Statements of Cash Flows for the years ended December 31, 2003, 2002 and 2001           |  | 51  
|Notes to Consolidated Financial Statements                                                           |  | 52  

There
are no schedules required to be filed herewith.

Reports on Form 8-K

During the quarter ended December 31, 2003, we filed a Current Report on Form 8-K on October 22, 2003 to furnish our financial results
for the quarter ended September 30, 2003 under Item 12. "Results of Operations and Financial Condition."

87

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Exhibits

The following exhibits are filed herewith and this list is intended to constitute the exhibit index. A plus sign (+) beside the exhibit number indicates the
exhibits containing a management contract, compensatory plan or arrangement, which are required to be identified in this report.

|Exhibit No. |  | Description                                                                                                                                                                                                                                                   
|----------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|2.1(3)      |  | Combination Agreement, dated November 15, 1996, as amended, between FEI and Philips Business Electronics International B.V.                                                                                                                                   
|2.2(12)     |  | Agreement and Plan of Merger, dated December 3, 1998, between FEI, Micrion Corporation and MC Acquisition Corporation                                                                                                                                         
|3.1(3)      |  | Second Amended and Restated Articles of Incorporation, as amended                                                                                                                                                                                             
|3.2(17)     |  | Amended and Restated Bylaws dated April 17, 2003                                                                                                                                                                                                              
|4.1(1)      |  | See Articles III and IV of Exhibit 3.1 and Articles I and VI of Exhibit 3.2                                                                                                                                                                                   
|4.2(9)      |  | Indenture between FEI and BNY Western Trust Company dated August 3, 2001                                                                                                                                                                                      
|4.3(9)      |  | Registration Rights Agreement between FEI and Credit Suisse First Boston dated August 3, 2001                                                                                                                                                                 
|4.4(9)      |  | Form of Note                                                                                                                                                                                                                                                  
|4.5(18)     |  | Indenture, dated as of June 13, 2003, between FEI and BNY Western Trust Company, a California state chartered banking corporation                                                                                                                             
|4.6(18)     |  | Form of Note                                                                                                                                                                                                                                                  
|4.7(18)     |  | Registration Rights Agreement, dated as of June 13, 2003, between FEI Company and the initial purchasers named therein                                                                                                                                        
|4.8         |  | Employee Share Purchase Plan, as amended May 18, 2000                                                                                                                                                                                                         
|10.1(1)+    |  | 1984 Stock Incentive Plan                                                                                                                                                                                                                                     
|10.2(8)+    |  | 1995 Stock Incentive Plan, as amended                                                                                                                                                                                                                         
|10.3(2)+    |  | 1995 Supplemental Stock Incentive Plan                                                                                                                                                                                                                        
|10.4(1)+    |  | Form of Incentive Stock Option Agreement                                                                                                                                                                                                                      
|10.5(1)+    |  | Form of Nonstatutory Stock Option Agreement                                                                                                                                                                                                                   
|10.6(4)     |  | Lease, dated October 27, 1997, between Philips Business Electronics International B.V., as lessor, and Philips Electron Optics B.V., a wholly owned indirect subsidiary of FEI, as lessee, including a guarantee by FEI of the lessee's obligations
thereunder
|10.7(7)     |  | Master Divestment Agreement, dated October 28, 1999, between FEI and Koninklijke Philips Electronics B.V.                                                                                                                                                     
|10.8(7)+    |  | Offer Letter between FEI and Vahé A. Sarkissian, dated May 14, 1998                                                                                                                                                                                           
|10.9(5)+    |  | Stock Bonus Agreement, dated June 25, 1998 between FEI and Vahé A. Sarkissian                                                                                                                                                                                 
|10.10(5)+   |  | Restricted Stock Purchase Agreement, dated June 25, 1998, between FEI and Vahé A. Sarkissian                                                                                                                                                                  
|            |  |                                                                                                                                                                                                                                                               

88

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|10.11(6)   |  | Stock Purchase Agreement, dated December 3, 1998, between Philips Business Electronics International B.V. and FEI                                                             
|---------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|10.12(10)  |  | Agreement, effective as of December 31, 2000, between FEI, Koninklijke Philips Electronics N.V. and Philips Business Electronics International B.V.                           
|10.13(11)+ |  | Executive Severance Agreement, dated February 1, 2002, between FEI and its Chief Executive Officer, Vahé A. Sarkissian                                                        
|10.14(11)+ |  | Form of Executive Severance Agreement between FEI and its other named officers                                                                                                
|10.15(13)+ |  | Amendment to the FEI Company Non-Negotiable Promissory Note (Stock Purchase), dated July 24, 2002, between FEI and Vahé A. Sarkissian                                         
|10.16(14)  |  | Purchase and Sale Agreement, dated July 24, 2002, between FEI and Tokyo Electron Oregon, LLC                                                                                  
|10.17(15)  |  | FEI Company Nonqualified Deferred Compensation Plan                                                                                                                           
|10.18(16)  |  | Purchase Agreement, dated November 1, 2002, between FEI and Philips Enabling Technologies Group                                                                               
|10.19(16)  |  | Lease, dated December 11, 2002, between FEI, Technologicky Park Brno, a.s. and FEI Czech Republic, s.r.o.                                                                     
|10.20(17)  |  | Master Agreement for the Acht facility, dated January 14, 2003                                                                                                                
|10.21(19)  |  | Outsourcing Agreement for Managed Services between Atos Origin, Inc. and FEI Company, dated July 1, 2003.                                                                     
|10.22      |  | Form of Indemnity Agreement for Directors and Executive Officers of FEI Company                                                                                               
|14         |  | Code of Ethics                                                                                                                                                                
|21         |  | Subsidiaries                                                                                                                                                                  
|23         |  | Consent of Deloitte & Touche, LLP                                                                                                                                             
|31         |  | Certifications of Chief Executive Officer and Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002                                               
|32         |  | Certifications of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

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SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.

|Date: March 12, 2004 | FEI COMPANY
|-------------------- | -----------
|                     | By         

Pursuant
to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities
indicated on March 12, 2004:

|Signature                                   |  | Title                                                                             
|------------------------------------------- |  | ----------------------------------------------------------------------------------
|/s/VAHÉ A. SARKISSIANVahé A. Sarkissian     |  | Chairman of the Board, President and Chief Executive (Principal Executive Officer)
|/s/ROBERT S. GREGGROBERT S. GREGG           |  | Executive Vice President and Chief Financial Officer (Principal Financial Officer)
|/s/STEPHEN F. LOUGHLINStephen F. Loughlin   |  | Vice President of Corporate Finance (Principal Accounting Officer)                
|/s/MICHAEL J. ATTARDOMichael J. Attardo     |  | Director                                                                          
|/s/WILFRED J. CORRIGANWilfred J. Corrigan   |  | Director                                                                          
|/s/THOMAS F. KELLYThomas F. Kelly           |  | Director                                                                          
|/s/WILLIAM W. LATTINWilliam W. Lattin       |  | Director                                                                          
|/s/JAN C. LOBBEZOOJan C. Lobbezoo           |  | Director                                                                          
|/s/GERHARD H. PARKERGerhard H. Parker       |  | Director                                                                          
|/s/JAMES T. RICHARDSONJames T. Richardson   |  | Director                                                                          
|/s/DONALD R. VANLUVANEEDonald R. VanLuvanee |  | Director                                                                          

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