The following discussion of our financial condition and results of operations should be read in conjunction with our Consolidated Financial Statements and the related notes included in Item 8, "Financial Statements and Supplementary Data," in this Annual Report on Form 10-K. This discussion contains forward-looking statements, which involve risks and uncertainties. Our actual results could differ materially from those anticipated in the forward-looking statements as a result of certain factors, including but not limited to those discussed in Item 1A, "Risk Factors" and elsewhere in this Annual Report on Form 10-K. (See "Special Note Regarding Forward-Looking Statements"). Pursuant to the FAST Act Modernization and Simplification of Regulation S-K, discussions related to the changes in results of operations from fiscal year 2019 to fiscal year 2018 have been omitted. Such omitted discussion can be found under Item 7 of our Form 10-K for the fiscal year endedJune 30, 2019 , filed with theSEC . EXECUTIVE SUMMARY We are a global leader in process control and a supplier of process-enabling solutions and services for the data era. We are a leading supplier of process control and yield management solutions and services for the semiconductor, PCB and Display markets. Our broad portfolio of inspection and metrology products, and related service, software and other offerings primarily supports integrated circuit ("IC" or "chip") manufacturers throughout the entire semiconductor fabrication process, from research and development to final volume production. We provide leading edge equipment, software and services that enable IC manufacturers to identify, resolve and manage significant advanced technology manufacturing process challenges and obtain higher finished product yields at lower overall cost. In addition to serving the semiconductor, PCB and Display industry, we also provide a range of technology solutions to a number of other high technology industries, including advanced packaging, light emitting diode ("LED"), power devices, compound semiconductor, and data storage industries, as well as general materials research. Our products and services are used by the vast majority of bare wafer, IC, lithography reticle ("reticle" or "mask") and hard disk drive manufacturers around the world. Our products, services and expertise are used by our customers to measure, detect, analyze and resolve critical product defects that arise in that environment in order to control nanometric level manufacturing processes. Our revenues are driven largely by our customers' spending on capital equipment and related maintenance services necessary to support key transitions in their underlying product technologies, or to increase their production volumes in response to market demand or expansion plans. Our semiconductor customers generally operate in one or more of the three major semiconductor markets - memory, foundry and logic. All three of these markets are characterized by rapid technological changes and sudden shifts in end-user demand, which influence the level and pattern of our customers' spending on our products and services. Although capital spending in all three semiconductor markets has historically been cyclical, the demand for more advanced and lower cost chips used in a growing number of consumer electronics, communications, data processing, and industrial and automotive products has resulted over the long term in a favorable demand environment for our process control and yield management solutions, particularly in the foundry and logic markets, which have higher levels of process control adoption than the memory market. The Data Era is creating multiple drivers for growth, with increased demand for advanced and lower cost chips for Artificial Intelligence ("AI"), 5G connectivity, virtual interaction, electric cars, advanced driver assistance automotive systems ("ADAS"), Internet of Things ("IoT") and mobile devices. The semiconductor and electronics industries have also been characterized by constant technological innovation. We believe that, over the long term, our customers will continue to invest in advanced technologies and new materials to enable smaller design rules and higher density applications that fuel demand for process control equipment. The demand for our products and our revenue levels are driven by our customers' needs to solve the process challenges that they face as they adopt new technologies required to fabricate advanced ICs that are incorporated into sophisticated devices. Our customers continuously seek to increase yields and enhance the efficiency of their manufacturing processes, including by improving their manufacturing, inspection, testing and repair capabilities. 40
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Table of Contents The following table sets forth some of our key consolidated financial information for each of our last three fiscal years(1):
Year ended June 30, (Dollar amounts in thousands, except diluted net income per share) 2020 2019 2018 Total revenues$ 5,806,424 $ 4,568,904 $ 4,036,701 Costs of revenues$ 2,449,561 $ 1,869,377 $ 1,446,041 Gross margin percentage 58 % 59 % 64 % Net income attributable to KLA(2)$ 1,216,785 $ 1,175,617 $ 802,265 Diluted net income per share attributable to KLA$ 7.70
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(1)OnFebruary 20, 2019 , we completed the acquisition of Orbotech for total consideration of approximately$3.26 billion . The operating results of Orbotech have been included in our Condensed Consolidated Financial Statements from the Acquisition Date. For additional details, refer to Note 6 "Business Combinations" in the Notes to our Consolidated Financial Statements. (2)Our net income attributable to KLA for the year endedJune 30, 2020 includes a pre-tax goodwill impairment charge of$256.6 million and a pre-tax charge of$22.5 million as a result of the extinguishment of debt. For additional details, refer to Note 7 "Goodwill and Purchased Intangible Assets" and Note 8 "Debt" in the Notes to our Consolidated Financial Statements. Impact of COVID-19 Events surrounding the ongoing COVID-19 pandemic have resulted in a reduction in economic activity across the globe. The severity and duration of these economic repercussions remain largely unknown and ultimately will depend on many factors, including the speed and effectiveness of the containment efforts throughout the world. The extent to which the COVID-19 pandemic will impact demand for our products depends on future developments, which are highly uncertain and very difficult to predict, including new information that may emerge concerning the severity of the virus and actions to contain and treat its impacts. While all of our global sites are currently operational, our facilities could be required to temporarily curtail production levels or temporarily cease operations based on government mandates. From the start of the COVID-19 pandemic, we proactively implemented preventative protocols intended to safeguard our employees, contractors, suppliers, customers, and communities, and ensure business continuity in the event government restrictions or severe outbreaks impact our operations at certain sites. We remain committed to the health and safety of our employees, contractors, suppliers, customers, and communities, and are following government policies and recommendations designed to slow the spread of COVID-19. Our efforts to respond to the COVID-19 pandemic include the following: •We have put health screenings in place, required social distancing, and have established employee separation protocols at our facilities. We have also suspended non-essential business travel and require team members to work from home to the extent possible. Where work from home is not possible, all on-site team members must pass through thermal scanning equipment to ensure they do not have an elevated body temperature and must wear a mask at all times. •We have developed strategies to address our responsiveness and ability to send engineers into customer facilities to provide support services. •We have evaluated our supply chain and communicated with our suppliers to identify supply gaps and taken steps to ensure continuity. We continue to monitor the supply chain and work with our suppliers to identify and mitigate potential gaps to ensure continuity of supply. •We are evaluating all our construction projects across our global operations and enacting protocols to enhance the safety of our employees, suppliers, and contractors. •We have developed strategies and are implementing measures to respond to a variety of potential economic scenarios, such as limitations on new hiring and reductions in discretionary spending. •We are working with government authorities in the jurisdictions where we operate, and continuing to monitor our operations in an effort to ensure we follow government requirements, relevant regulations, industry standards, and best practices to help safeguard our team members, while safely continuing operations to the extent possible at our sites across the globe. We believe these actions are appropriate and prudent to safeguard our employees, contractors, suppliers, customers, and communities, while allowing us to safely continue operations, but we cannot predict how the steps we, our team members, government entities, suppliers, or customers take in response to the COVID-19 pandemic will impact our business, outlook, or results of operations. 41 -------------------------------------------------------------------------------- Table of Contents We will continue to actively monitor the situation and may take further actions altering our business operations that we determine are in the best interests of our employees, customers, partners, suppliers, and stakeholders, or as required by federal, state, or local authorities. The COVID-19 pandemic has resulted in an increase in freight costs due in large part to reduced air traffic, which impacts gross margin, as well as decreases in travel costs which reduce our cost structure. As of the date of this report, we cannot predict with certainty any other effects the COVID-19 pandemic may have on our business, including the effects on our customers, employees, or on our financial results for the remainder of calendar 2020. CRITICAL ACCOUNTING ESTIMATES AND POLICIES The preparation of our Consolidated Financial Statements in conformity with accounting principles generally accepted inthe United States of America requires management to make estimates and assumptions in applying our accounting policies that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. We base these estimates and assumptions on historical experience and evaluate them on an ongoing basis to ensure that they remain reasonable under current conditions. Actual results could differ from those estimates. We discuss the development and selection of the critical accounting estimates with the Audit Committee of our Board of Directors on a quarterly basis, and the Audit Committee has reviewed our related disclosure in this Annual Report on Form 10-K. The accounting policies that reflect our more significant estimates, judgments and assumptions and which we believe are the most critical to aid in fully understanding and evaluating our reported financial results include the following: Revenue Recognition. We primarily derive revenue from the sale of process control and yield management solutions for the semiconductor and related nanoelectronics industries, maintenance and support of all these products, installation and training services and the sale of spare parts. Our portfolio also includes yield enhancement and production solutions used by manufacturers of printed circuit boards, flat panel displays, advanced packaging, microelectromechanical systems and other electronic components. Our solutions provide a comprehensive portfolio of inspection, metrology and data analytics products, which are accompanied by a flexible portfolio of services to enable our customers to maintain the performance and productivity of the solutions purchased. Our solutions are generally not sold with a right of return, nor have we experienced significant returns from or refunds to our customers. We account for a contract with a customer when there is approval and commitment from both parties, the rights of the parties are identified, payment terms are identified, the contract has commercial substance and collectibility of consideration is probable. Our revenues are measured based on consideration stipulated in the arrangement with each customer, net of any sales incentives and amounts collected on behalf of third parties, such as sales taxes. The revenues are recognized as separate performance obligations that are satisfied by transferring control of the product or service to the customer. Our arrangements with our customers include various combinations of products and services, which are generally capable of being distinct and accounted for as separate performance obligations. A product or service is considered distinct if it is separately identifiable from other deliverables in the arrangement and if a customer can benefit from it on its own or with other resources that are readily available to the customer. The transaction consideration, including any sales incentives, is allocated between separate performance obligations of an arrangement based on the stand-alone selling prices ("SSP") for each distinct product or service. Management considers a variety of factors to determine the SSP, such as historical standalone sales of products and services, discounting strategies and other observable data. From time to time, our contracts are modified to account for additional, or to change existing, performance obligations. Our contract modifications are generally accounted for prospectively. Product Revenue We recognize revenue from product sales at a point in time when we have satisfied our performance obligation by transferring control of the product to the customer. We use judgment to evaluate whether the control has transferred by considering several indicators, including: •whether we have a present right to payment; •the customer has legal title; •the customer has physical possession; •the customer has significant risk and rewards of ownership; and •the customer has accepted the product, or whether customer acceptance is considered a formality based on history of acceptance of similar products (for example, when the customer has previously accepted the same tool, with the same specifications, and when we can objectively demonstrate that the tool meets all of the required acceptance criteria, and when the installation of the system is deemed perfunctory). Not all of the indicators need to be met for us to conclude that control has transferred to the customer. In circumstances in which revenue is recognized prior to the product acceptance, the portion of revenue associated with our performance obligations to install product is deferred and recognized upon acceptance. 42 -------------------------------------------------------------------------------- Table of Contents We enter into volume purchase agreements with some of our customers. We adjust the transaction consideration for estimated credits earned by our customers for such incentives. These credits are estimated based upon the forecasted and actual product sales for any given period and agreed-upon incentive rate. The estimate is updated at each reporting period. We offer perpetual and term licenses for software products. The primary difference between perpetual and term licenses is the duration over which the customer can benefit from the use of the software, while the functionality and the features of the software are the same. Software is generally bundled with post-contract customer support ("PCS"), which includes unspecified software updates that are made available throughout the entire term of the arrangement. Revenue from software licenses is recognized at a point in time, when the software is made available to the customer. Revenue from PCS is deferred at contract inception and recognized ratably over the service period, or as services are performed. Services and Spare Parts Revenue The majority of product sales include a standard 6 to 12-month warranty that is not separately paid for by the customers. The customers may also purchase extended warranty for periods beyond the initial year as part of the initial product sale. We have concluded that the standard 12-month warranty as well as any extended warranty periods included in the initial product sales are separate performance obligations for most of our products. The estimated fair value of warranty services is deferred and recognized ratably as revenue over the warranty period, as the customer simultaneously receives and consumes the benefits of warranty services provided by us. Additionally, we offer product maintenance and support services, which the customer may purchase separately from the standard and extended warranty offered as part of the initial product sale. Revenue from separately negotiated maintenance and support service contracts is also recognized over time based on the terms of the applicable service period. Revenue from services performed in the absence of a maintenance contract, including training revenue, is recognized when the related services are performed. We also sell spare parts, revenue from which is recognized when control over the spare parts is transferred to the customer. Installation services include connecting and validating configuration of the product. In addition, several testing protocols are completed to confirm the equipment is performing to customer specifications. Revenues from product installation are deferred and recognized at a point in time, once installation is complete. Significant Judgments Our contracts with our customers often include promises to transfer multiple products and services. Each product and service is generally capable of being distinct within the context of the contract and represents a separate performance obligation. Determining the SSP for each distinct performance obligation and allocation of consideration from an arrangement to the individual performance obligations and the appropriate timing of revenue recognition are significant judgments with respect to these arrangements. We typically estimate the SSP of products and services based on observable transactions when the products and services are sold on a standalone basis and those prices fall within a reasonable range. We typically have more than one SSP for individual products and services due to the stratification of these products by customers and circumstances. In these instances, we use information such as the size of the customer, geographic region, as well as customization of the products in determining the SSP. In instances where the SSP is not directly observable, we determine the SSP using information that includes market conditions, entity-specific factors, including discounting strategies, information about the customer or class of customer that is reasonably available and other observable inputs. While changes in the allocation of SSP between performance obligations will not affect the amount of total revenue recognized for a particular contract, any material changes could impact the timing of revenue recognition, which could have a material effect on our financial position and result of operations. Although the products are generally not sold with a right of return, we may provide other credits or sales incentives, which are accounted for either as variable consideration or material right, depending on the specific terms and conditions of the arrangement. These credits and incentives are estimated at contract inception and updated at the end of each reporting period if and when additional information becomes available. As outlined above, we use judgments to evaluate whether or not the customer has obtained control of the product and considers the several indicators in evaluating whether or not control has transferred to the customer. Not all of the indicators need to be met for us to conclude that control has transferred to the customer. Contract Assets/Liabilities The timing of revenue recognition, billings and cash collections may result in accounts receivable, contract assets, and contract liabilities (deferred revenue) on our Consolidated Balance Sheets. A receivable is recorded in the period we deliver products or provide services when we have an unconditional right to payment. Contract assets primarily relate to the value of 43 -------------------------------------------------------------------------------- Table of Contents products and services transferred to the customer for which the right to payment is not just dependent on the passage of time. Contract assets are transferred to accounts receivable when rights to payment become unconditional. A contract liability is recognized when we receive payment or have an unconditional right to payment in advance of the satisfaction of performance. The contract liabilities represent (1) deferred product revenue related to the value of products that have been shipped and billed to customers and for which the control has not been transferred to the customers, and (2) deferred service revenue, which is recorded when we receive consideration, or such consideration is unconditionally due, from a customer prior to transferring services to the customer under the terms of a contract. Deferred service revenue typically results from warranty services, and maintenance and other service contracts. Contract assets and liabilities related to rights and obligations in a contract are recorded net in the Consolidated Balance Sheets. Business Combinations. Accounting for business combinations requires management to make significant estimates and assumptions to determine the fair values of assets acquired and liabilities assumed at the acquisition date. Although we believe the assumptions and estimates we have made in the past have been reasonable and appropriate, they are based, in part, on historical experience and information obtained from management of the acquired companies and are inherently uncertain. Critical estimates in valuing certain acquired intangible assets include, but are not limited to future expected cash flows including revenue growth rate assumptions from product sales, customer contracts and acquired technologies, expected costs to develop in-process research and development into commercially viable products, estimated cash flows from the projects when completed, including assumptions associated with the technology migration curve, estimated royalty rates used in valuing technology related intangible assets, and discount rates. The discount rates used to discount expected future cash flows to present value are typically derived from a weighted-average cost of capital analysis and adjusted to reflect inherent risks. Unanticipated events and circumstances may occur that could affect either the accuracy or validity of such assumptions, estimates or actual results. We allocate the fair value of the purchase price of our acquisitions to the tangible assets acquired, liabilities assumed, and intangible assets acquired, including in-process research and development ("IPR&D"), based on their estimated fair values. The excess of the fair value of the purchase price over the fair values of these net tangible and intangible assets acquired is recorded as goodwill. Management's estimates of fair value are based upon assumptions believed to be reasonable, but our estimates and assumptions are inherently uncertain and subject to refinement. As a result, during the measurement period, which will not exceed one year from the acquisition date, we record adjustments to the assets acquired and liabilities assumed with the corresponding offset to goodwill. Upon the conclusion of the measurement period or final determination of the fair value of the purchase price of our acquisitions, whichever comes first, any subsequent adjustments are recorded to our Consolidated Statements of Operations. The fair value of IPR&D is initially capitalized as an intangible asset with an indefinite life and assessed for impairment thereafter whenever events or changes in circumstances indicate that the carrying value of the IPR&D assets may not be recoverable. Impairment of IPR&D is recorded to research and development expenses. When an IPR&D project is completed, the IPR&D is reclassified as an amortizable purchased intangible asset and amortized to costs of revenues over the asset's estimated useful life. Acquisition-related expenses are recognized separately from the business combination and are expensed as incurred. Inventories. Inventories are stated at the lower of cost (on a first-in, first-out basis) or net realizable value. Net realizable value is the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal and transportation. Demonstration units are stated at their manufacturing cost and written down to their net realizable value. We review and set standard costs semi-annually at current manufacturing costs in order to approximate actual costs. Our manufacturing overhead standards for product costs are calculated assuming full absorption of forecasted spending over projected volumes, adjusted for excess capacity. Abnormal inventory costs such as costs of idle facilities, excess freight and handling costs, and spoilage are recognized as current period charges. We write down product inventory based on forecasted demand and technological obsolescence and service spare parts inventory based on forecasted usage. These factors are impacted by market and economic conditions, technology changes, new product introductions and changes in strategic direction and require estimates that may include uncertain elements. Actual demand may differ from forecasted demand, and such differences may have a material effect on recorded inventory values. Allowance for Doubtful Accounts. A majority of our accounts receivable are derived from sales to large multinational semiconductor manufacturers throughout the world. In order to monitor potential credit losses, we perform ongoing credit evaluations of our customers' financial condition. An allowance for doubtful accounts is maintained for probable credit losses based upon our assessment of the expected collectibility of the accounts receivable. The allowance for doubtful accounts is reviewed on a quarterly basis to assess the adequacy of the allowance. We take into consideration (1) any circumstances of 44 -------------------------------------------------------------------------------- Table of Contents which we are aware of a customer's inability to meet its financial obligations; and (2) our judgments as to prevailing economic conditions in the industry and their impact on our customers. If circumstances change, such that the financial conditions of our customers are adversely affected and they are unable to meet their financial obligations to us, we may need to record additional allowances, which would result in a reduction of our net income. Accounting for Stock-Based Compensation Plans. We account for share-based awards in accordance with the provisions of the authoritative accounting guidance, which requires the measurement and recognition of compensation expense for all share-based payment awards made to our employees and directors. Compensation expense for restricted stock units with performance metrics is calculated based upon expected achievement of the metrics specified in the grant, or when a grant contains a market condition, the grant date fair value using a Monte Carlo simulation. The Monte Carlo simulation fair value model requires the use of highly subjective and complex assumptions, including the award's expected life, the price volatility of the underlying stock, as well as the potential outcomes of the market condition on the grant date of each award. Contingencies and Litigation. We are subject to the possibility of losses from various contingencies. Considerable judgment is necessary to estimate the probability and amount of any loss from such contingencies. An accrual is made when it is probable that a liability has been incurred or an asset has been impaired and the amount of loss can be reasonably estimated. We accrue a liability and recognize as expense the estimated costs incurred to defend or settle asserted and unasserted claims existing as of the balance sheet date. See Note 16 "Commitments and Contingencies" and Note 15 "Litigation and Other Legal Matters" to our Consolidated Financial Statements for additional details.Goodwill and Purchased Intangible Assets - Impairment Assessments. We review goodwill for impairment annually during our third fiscal quarter as well as whenever events or changes in circumstances indicate the carrying value may not be fully recoverable. Pursuant to the authoritative guidance, we make certain judgments and assumptions to determine our reporting units and in allocating shared assets and liabilities to those reporting units, which determines the carrying values for each reporting unit. When assessing goodwill for impairment, an initial assessment of qualitative factors determines whether the existence of events and circumstances indicate it is more likely than not that the fair value of a reporting unit is less than its carrying value. Judgments related to qualitative factors include macroeconomic conditions; industry and market considerations; cost factors; overall financial performance; relevant entity-specific events; a sustained decrease in share price; and other events affecting the reporting units. If we determine it is more likely than not that the fair value of a reporting unit is less than its carrying value, a quantitative test is then performed by estimating the fair value of the reporting unit and comparing it to its carrying value including goodwill. If the former is lower, goodwill is written down by the excess amount, limited to the amount of goodwill allocated to that reporting unit. See Note 7 "Goodwill and Other Intangible Assets" of the Consolidated Financial Statements for additional information. We determine the fair value of a reporting unit using the market approach when deemed appropriate and the necessary information is available, or the income approach which uses discounted cash flow ("DCF") analysis, or a combination of both. If multiple valuation methodologies are used, the results are weighted. Determining fair value requires the exercise of significant judgment, including judgments about appropriate discount rates, revenue growth rates and the amount and timing of expected future cash flows. Discount rates are based on a weighted average cost of capital ("WACC"), which represents the average rate a business must pay its providers of debt and equity, plus a risk premium. The WACC used to test goodwill is derived from a group of comparable companies. The cash flows employed in the DCF analysis are derived from internal forecasts and external market forecasts. The market approach estimates the fair value of the reporting unit by utilizing the market comparable method which is based on revenue and earnings multiples from comparable companies. We review purchased finite-lived intangible assets for impairment whenever events or changes in business circumstances indicate that the carrying amount of the assets may not be fully recoverable or that the useful lives of the assets are no longer appropriate. We determine whether finite-lived intangible assets are recoverable based on the forecasted undiscounted future cash flows that are expected to be generated by the lowest-level associated asset grouping. Assumptions and estimates about future values and remaining useful lives of our intangible assets are complex and subjective. If the undiscounted cash flows used in the recoverability test are less than the long-lived assets' carrying value, we recognize an impairment loss for the amount that the carrying value exceeds the fair value. We review indefinite-lived intangible assets for impairment whenever events or changes in business circumstances indicate that the carrying value of the assets may not be fully recoverable. The authoritative accounting guidance allows a qualitative approach for testing indefinite-lived intangible assets for impairment, similar to the impairment testing guidance for goodwill. It allows the option to first assess qualitative factors (events and circumstances) that could have affected the significant inputs used in determining the fair value of the indefinite-lived intangible asset. The qualitative factors assist in determining whether it is more-likely-than-not that the indefinite-lived intangible asset is impaired. An organization may choose to bypass the qualitative assessment for any indefinite-lived intangible asset in any period and proceed directly to 45 -------------------------------------------------------------------------------- Table of Contents calculating its fair value. Our indefinite-lived intangible assets are in-process research and development ("IPR&D") intangible assets. Any impairment charges could have a material adverse effect on our operating results and net asset value in the quarter in which we recognize the impairment charge. See Note 7 "Goodwill and Other Intangible Assets" of the Consolidated Financial Statements for additional information. Income Taxes. We account for income taxes in accordance with the authoritative guidance, which requires income tax effects for changes in tax laws are recognized in the period in which the law is enacted. Deferred tax assets and liabilities are recognized using enacted tax rates for the effect of temporary differences between the book and tax bases of recorded assets and liabilities. The guidance also requires that deferred tax assets be reduced by a valuation allowance if it is more likely than not that a portion of the deferred tax asset will not be realized. We have determined that a valuation allowance is necessary against a portion of the deferred tax assets, but we anticipate that our future taxable income will be sufficient to recover the remainder of our deferred tax assets. However, should there be a change in our ability to recover our deferred tax assets that are not subject to a valuation allowance, we could be required to record an additional valuation allowance against such deferred tax assets. This would result in an increase to our tax provision in the period in which we determine that the recovery is not probable. On a quarterly basis, we provide for income taxes based upon an estimated annual effective income tax rate. The effective tax rate is highly dependent upon the geographic composition of worldwide earnings, tax regulations governing each region, availability of tax credits and the effectiveness of our tax planning strategies. We carefully monitor the changes in many factors and adjust our effective income tax rate on a timely basis. If actual results differ from these estimates, this could have a material effect on our financial condition and results of operations. The calculation of our tax liabilities involves dealing with uncertainties in the application of complex tax regulations. In accordance with the authoritative guidance on accounting for uncertainty in income taxes, we recognize liabilities for uncertain tax positions based on the two-step process. The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates that it is more likely than not that the position will be sustained in audit, including resolution of related appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount that is more than 50% likely of being realized upon ultimate settlement. We reevaluate these uncertain tax positions on a quarterly basis. This evaluation is based on factors including, but not limited to, changes in facts or circumstances, changes in tax law, effectively settled issues under audit and new audit activity. Any change in these factors could result in the recognition of a tax benefit or an additional charge to the tax provision. We record income taxes on the undistributed earnings of foreign subsidiaries unless the subsidiaries' earnings are considered indefinitely reinvested outside theU.S. Our effective tax rate would be adversely affected if we change our intent or if such undistributed earnings are needed forU.S. operations because we would be required to provide or pay income taxes on some or all of these undistributed earnings. Global Intangible Low-Taxed Income. The Tax Cuts and Jobs Act (the "Act") includes provisions for Global Intangible Low-Taxed Income ("GILTI") wherein taxes on foreign income are imposed in excess of a deemed return on tangible assets of foreign corporations. This income will effectively be taxed at a 10.5% tax rate in general. As a result, our deferred tax assets and liabilities were being evaluated to determine if the deferred tax assets and liabilities should be recognized for the basis differences expected to reverse as a result of GILTI provisions that are effective for us after the fiscal year endingJune 30, 2018 , or should the tax on GILTI provisions be recognized as period costs in each year incurred. We elected to account for GILTI as a component of current period tax expense starting from the first quarter of the fiscal year endingJune 30, 2019 . Valuation ofMarketable Securities . Our investments in available-for-sale securities are reported at fair value. Unrealized gains related to increases in the fair value of investments and unrealized losses related to decreases in the fair value are included in accumulated other comprehensive income (loss), net of tax, as reported on our Consolidated Statements of Stockholders' Equity. However, changes in the fair value of investments impact our net income only when such investments are sold or an impairment charge is recognized. Realized gains and losses on the sale of securities are determined by specific identification of the security's cost basis. We periodically review our investment portfolio to determine if any investment is other-than-temporarily impaired due to changes in credit risk or other potential valuation concerns, which would require us to record an impairment charge in the period during which any such determination is made. In making this judgment, we evaluate, among other things, the duration of the investment, the extent to which the fair value of an investment is less than its cost, the credit rating and any changes in credit rating for the investment, default and loss rates of the underlying collateral, structure and credit enhancements to determine if a credit loss may exist. Our assessment that an investment is not other-than-temporarily impaired could change in the future due to new developments or changes in our strategies or assumptions related to any particular investment. 46 -------------------------------------------------------------------------------- Table of Contents Recent Accounting Pronouncements For a description of recent accounting pronouncements, including those recently adopted and the expected dates of adoption as well as estimated effects, if any, on our Consolidated Financial Statements of those not yet adopted, see Note 1, "Description of Business and Summary of Significant Accounting Policies" of the notes to our Consolidated Financial Statements. RESULTS OF OPERATIONS Revenues and Gross Margin Year ended June 30, (Dollar amounts in thousands) 2020 2019 2018 FY20 vs. FY19 FY19 vs. FY18 Revenues: Product$ 4,328,725 $ 3,392,243 $ 3,160,671 $ 936,482 28 %$ 231,572 7 % Service 1,477,699 1,176,661 876,030 301,038 26 % 300,631 34 % Total revenues$ 5,806,424 $ 4,568,904 $ 4,036,701 $ 1,237,520 27 %$ 532,203
13 %
Costs of revenues
31 %$ 423,336 29 % Gross margin percentage 58% 59% 64% (1)% (5)% Product revenues Our business is affected by the concentration of our customer base and our customers' capital equipment procurement schedules as a result of their investment plans. Our product revenues in any particular period are significantly impacted by the amount of new orders that we receive during that period and, depending upon the duration of manufacturing and installation cycles, in the preceding period. The increase in product revenues by 28% in the fiscal year endedJune 30, 2020 compared to the prior year is primarily attributable to product revenue from our newly acquired Orbotech business and increased investments from our foundry and logic customers, partially offset by a lower products shipments to customers in the memory business. Service revenues Service revenues are generated from product maintenance and support services, as well as billable time and material service calls made to our customers. The amount of our service revenues is typically a function of the number of systems installed at our customers' sites and the utilization of those systems, but it is also impacted by other factors, such as our rate of service contract renewals, the types of systems being serviced and fluctuations in foreign exchange rates. The increase in service revenues by 26% in the fiscal year endedJune 30, 2020 compared to the prior year is primarily attributable to service revenues from our newly acquired Orbotech business and an increase in the number of customers requesting installations. Revenues by segment(1) Year ended June 30, (Dollar amounts in thousands) 2020 2019 2018 FY20 vs. FY19 FY19 vs. FY18 Revenues: Semiconductor Process Control$ 4,745,446 $ 4,080,822
$ 3,944,015 $ 664,624 16 %$ 136,807 3 % Specialty Semiconductor Process 329,700 151,164 - 178,536 118 % 151,164 (3) PCB, Display and Component Inspection(2) 727,451 332,810 92,516 394,641 119 % 240,294 (3) Other 3,614 4,676 - (1,062) (23) % 4,676 (3) Total revenues$ 5,806,211 $ 4,569,472
$ 4,036,531 $ 1,236,739 27 %$ 532,941 13 %
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(1)Segment revenues exclude corporate allocation and the effects of foreign exchange rates. For additional details, refer to Note 19 "Segment Reporting and Geographic Information" to our Consolidated Financial Statements. (2)Segment revenues for the fiscal year endedJune 30, 2018 includes the component inspection business only. (3)Orbotech was acquired onFebruary 20, 2019 . 47 -------------------------------------------------------------------------------- Table of Contents Fiscal Year 2020 compared with Fiscal Year 2019 Revenue from our Semiconductor Process Control segment increased by 16% primarily due to a strong demand from our foundry and logic customers, and growth in service revenues. The increase in revenues from our Specialty Semiconductor Process, PCB, Display and Component Inspection and Other segments is primarily driven by full year results for the year-endedJune 30, 2020 compared to partial year results for the year-endedJune 30, 2019 and relates to the Orbotech business which was acquired in February of 2019. Revenues - Top Customers The following customers each accounted for more than 10% of our total revenues primarily in Semiconductor Process Control segment for the indicated periods: Year ended June 30, 2020 2019 2018 Taiwan Semiconductor Manufacturing Taiwan Semiconductor Samsung Electronics Co., Ltd. Company Limited Manufacturing Company Limited
Samsung Electronics Co., Ltd.
Revenues by region Revenues by region for the periods indicated were as follows: Year ended June 30, (Dollar amounts in thousands) 2020 2019 2018 Taiwan$ 1,566,823 27 %$ 1,105,726 24 %$ 636,363 16 % China 1,457,579 25 % 1,215,807 27 % 643,033 16 % Korea 982,171 17 % 584,091 13 % 1,178,601 29 % Japan 670,287 12 % 581,529 13 % 638,358 16 % United States 657,550 11 % 596,452 13 % 494,330 12 % Europe and Israel 318,483 5 % 305,924 7 % 300,883 7 % Rest of Asia 153,531 3 % 179,375 3 % 145,133 4 % Total$ 5,806,424 100 %$ 4,568,904 100 %$ 4,036,701 100 % A significant portion of our revenues continues to be generated inAsia , where a substantial portion of the world's semiconductor manufacturing capacity is located, and we expect that trend to continue. Gross margin Our gross margin fluctuates with revenue levels and product mix and is affected by variations in costs related to manufacturing and servicing our products, including our ability to scale our operations efficiently and effectively in response to prevailing business conditions. 48 -------------------------------------------------------------------------------- Table of Contents The following table summarizes the major factors that contributed to the changes in gross margin percentage: Gross Margin Percentage Fiscal year ended June 30, 2018 64.1 % Revenue volume of products and services (1.0) % Mix of products and services sold 0.7 % Manufacturing labor, overhead and efficiencies (1.6) % Other service and manufacturing costs (0.5) % Impact from acquisition of Orbotech (2.6) % Fiscal year ended June 30, 2019 59.1 % Revenue volume of products and services 1.5 % Mix of products and services sold (0.8) % Manufacturing labor, overhead and efficiencies 0.5 % Intangible Amortization (1.6) % Other service and manufacturing costs (0.8) % Fiscal year ended June 30, 2020 57.9 % Changes in gross margin percentage, which are driven by the revenue volume of products and services, reflect our ability to leverage existing infrastructure to generate higher revenues. It also includes average customer pricing, customer revenue deferrals associated with volume purchase agreements and the effect of fluctuations in foreign exchange rates. Changes in gross margin percentage from the mix of products and services sold reflect the impact of changes within the composition of product and service offerings, and amortization of inventory fair value adjustments from business combinations. Changes in gross margin percentage from manufacturing labor, overhead and efficiencies reflect our ability to manage costs and drive productivity as we scale our manufacturing activity to respond to customer requirements, and amortization of intangible assets. Changes in gross margin percentage from other service and manufacturing costs include the impact of customer support costs, including the efficiencies with which we deliver services to our customers, and the effectiveness with which we manage our production plans and inventory risk. The decrease in our gross margin from 59.1% to 57.9% during the fiscal year endedJune 30, 2020 is primarily attributable to an increase in amortization of intangibles related to the acquisition of Orbotech, unfavorable mix of products and services sold, and an increase in service and manufacturing costs. These decreases were partially offset by a favorable impact from higher revenue volume of products and services. Segment gross margin(1) Year ended June 30, (Dollar amounts in thousands) 2020 2019 2018 FY20 vs. FY19 FY19 vs. FY18 Segment gross margin: Semiconductor Process Control$ 3,028,167 $ 2,590,434 $ 2,554,223 $ 437,733 17 %$ 36,211 1 % Specialty Semiconductor Process 183,641 78,800 - 104,841 133 % 78,800
(3)
PCB, Display and Component Inspection(2) 315,723 155,765 38,428 159,958 103 % 117,337 (3) Other (63) 1,102 - (1,165) (106) % 1,102 (3)$ 3,527,468 $ 2,826,101 $ 2,592,651 $ 701,367 25 %$ 233,450 9 % _________________ (1) Segment gross margin is calculated as segment revenues less segment cost of revenues and excludes corporate allocations and the effects of foreign exchange rates, amortization of intangible assets, inventory fair value adjustments, and acquisition related costs. For additional details, refer to Note 19 "Segment Reporting and Geographic Information" to our Consolidated Financial Statements. (2) Segment gross margin in the fiscal year endedJune 30, 2018 includes the component inspection business only. (3) Orbotech was acquired onFebruary 20, 2019 . 49 -------------------------------------------------------------------------------- Table of Contents Fiscal Year 2020 compared with Fiscal Year 2019 The primary factors impacting the performance of our segment gross margins are summarized as follows: •Semiconductor Process Control segment gross margin remained relatively consistent from prior years. •The segment gross margins of Specialty Semiconductor Process, PCB, Display and Component Inspection and Other segments primarily relate to the Orbotech business, which was acquired inFebruary 2019 .
Research and Development ("R&D")
Year ended June 30, (Dollar amounts in thousands) 2020 2019 2018 FY20 vs. FY19 FY19 vs. FY18 R&D expenses$ 863,864 $ 711,030 $ 608,531 $ 152,834 21 %$ 102,499 17 % R&D expenses as a percentage of total revenues 15 % 16 % 15 % (1) % 1 % R&D expenses may fluctuate with product development phases and project timing as well as our R&D efforts. As technological innovation is essential to our success, we may incur significant costs associated with R&D projects, including compensation for engineering talent, engineering material costs, and other expenses. R&D expenses during the fiscal year endedJune 30, 2020 were higher compared to the fiscal year endedJune 30, 2019 , primarily due to an increase in employee-related expenses of$50.2 million as a result of additional engineering headcount, higher employee benefit costs and higher variable compensation and an increase of$100.2 million of expenses from the Orbotech business, partially offset by a decrease in travel and entertainment expense of$4.3 million . Our future operating results will depend significantly on our ability to produce products and provide services that have a competitive advantage in our marketplace. To do this, we believe that we must continue to make substantial and focused investments in our research and development. We remain committed to product development in new and emerging technologies.
Selling, General and Administrative ("SG&A")
Year ended June 30, (Dollar amounts in thousands) 2020 2019 2018 FY20 vs. FY19 FY19 vs. FY18 SG&A expenses$ 734,149 $ 599,124 $ 442,304 $ 135,025 23 %$ 156,820 35 % SG&A expenses as a percentage of total revenues 13 % 13 % 11 % - % 2 % SG&A expenses during the fiscal year endedJune 30, 2020 were higher compared to the fiscal year endedJune 30, 2019 , primarily due to an increase in employee-related expenses of$33.7 million as a result of additional headcount, higher employee benefit costs and variable compensation, an increase in depreciation expense of$12.5 million and expenses related to the Orbotech business of$115.6 million , which includes an increase in amortization expense for purchased intangible assets of$30.8 million . These increases were partially offset by a decrease in acquisition-related expenses of$29.1 million , lower travel-related expenses of$11.6 million , and$10.9 million of stock-based compensation expense from acceleration of certain equity awards for Orbotech employees recorded in the three months endedMarch 31, 2019 . Goodwill Impairment We performed our annual impairment assessment of goodwill as ofFebruary 28, 2020 and concluded that there was no impairment of goodwill for the Wafer Inspection and Patterning, Global Service and Support, and Component Inspection reporting units. However, due to the downward revision of financial outlook for the Specialty Semiconductor Process and PCB and Display reporting units as well as the impact of elevated risk and macroeconomic slowdown driven by the COVID-19 pandemic, we performed a quantitative goodwill impairment assessment for these reporting units. As a result, we recorded$144.2 million and$112.5 million in impairment charges in the Specialty Semiconductor Process and PCB and Display reporting units, respectively, in the three months endedMarch 31, 2020 . For our fiscal year endedJune 30, 2019 , we performed our annual qualitative assessment of goodwill during the third quarter and concluded that there was no impairment. 50
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Restructuring Charges InSeptember 2019 , management approved a plan to streamline our organization and business processes that included the reduction of workforce, which is expected to be completed in the second half of our fiscal year 2021, primarily in our PCB, Display and Component Inspection segment. Restructuring charges were$7.7 million for the year endedJune 30, 2020 , and the accrual for restructuring charges was$5.7 million atJune 30, 2020 . We expect to incur additional restructuring charges in future periods in connection with the completion of our workforce reduction. For additional information refer to Note 20 "Restructuring Charges" in the Notes to the Condensed Consolidated Financial Statements.
Interest Expense and Other Expense (Income), Net
Year ended June 30, (Dollar amounts in thousands) 2020 2019 2018 Interest expense$ 160,274 $ 124,604 $ 114,376 Other expense (income), net$ 2,678 $ (31,462) $ (30,482) Interest expense as a percentage of total revenues 3 % 3 % 3 %
Other expense (income), net as a percentage of total revenues
- % 1 % 1 % The increase in interest expense during the fiscal year endedJune 30, 2020 compared to the fiscal year endedJune 30, 2019 , was primarily due to interest on the$1.20 billion Senior Notes issued inMarch 2019 . Other expense (income), net is comprised primarily of realized gains or losses on sales of marketable securities, gains or losses from revaluations of certain foreign currency denominated assets and liabilities as well as foreign currency contracts, and interest-related accruals (such as interest and penalty accruals related to our tax obligations) and interest income earned on our invested cash, cash equivalents and marketable securities. The decrease in other expense (income), net during the fiscal year endedJune 30, 2020 compared to the fiscal year endedJune 30, 2019 was primarily due to a decrease in interest income of$17.2 million , other impairments of$8.8 million , and foreign exchange losses of$4.6 million . In addition, during the fourth quarter of fiscal 2020, we entered into an Asset Purchase Agreement to sell certain core assets of our non-strategic solar energy business. This transaction resulted in a loss of$1.9 million , which was included in other expense (income) in our Consolidated Statement of Operations for fiscal 2020. Loss on Extinguishment of Debt For the fiscal year endedJune 30, 2020 , loss on extinguishment of debt reflected a pre-tax net loss of$22.5 million associated with the redemption of our$500.0 million of the Senior Notes due 2021, including associated redemption premiums, accrued interest and other fees and expenses. We had no loss on extinguishment of debt in the year endedJune 30, 2019 . Provision for Income Taxes The following table provides details of income taxes: Year ended June 30, (Dollar amounts in thousands) 2020 2019 2018 Income before income taxes$ 1,316,711 $ 1,296,231 $ 1,455,931 Provision for income taxes$ 101,686 $ 121,214 $ 653,666 Effective tax rate 7.7 % 9.4 % 44.9 %
Tax expense was lower as a percentage of income before taxes during the fiscal
year ended
51 -------------------------------------------------------------------------------- Table of Contents •Tax expense decreased by$13.7 million relating to an increase in the Foreign Derived Intangible Income deduction during the fiscal year endedJune 30, 2020 ; •Tax expense decreased by$6.9 million relating to a decrease in the Global Intangible Low Taxed Income during the fiscal year endedJune 30, 2020 ; •Tax expense decreased by$23.6 million relating to the impact of an increase in the proportion of KLA's earnings +generated in jurisdictions with tax rates lower than theU.S. statutory rate during the fiscal year endedJune 30, 2020 ; and •Tax expense decreased by$34.3 million relating to the impact of an internal restructuring during the fiscal year endedJune 30, 2020 ; partially offset by •Tax expense increased by$53.9 million relating to a$256.6 million goodwill impairment charge, which is non-deductible for income tax. Our effective tax rate during the fiscal years endedJune 30, 2019 andJune 30, 2018 was impacted by the Tax Cuts and Jobs Act ("the Act"), which was enacted into law onDecember 22, 2017 . The following items are the tax impact as a result of the Act: •Tax expense decreased by$50.9 million relating to the reduction of theU.S. federal corporate tax rate from 35.0% to 28.1% for the fiscal year endedJune 30, 2018 and tax expense decreased by$49.9 million relating to the reduction of theU.S. federal corporate tax rate from 28.1% to 21.0% for the fiscal year endedJune 30, 2019 . The Act reduced theU.S. federal corporate tax rate from 35.0% to 21.0% as ofJanuary 1, 2018 . The decrease in theU.S. federal corporate tax rate from 35.0% to 21.0% results in a blended statutory tax rate of 28.1% for the fiscal year endedJune 30, 2018 ; •Tax expense increased by$339.6 million relating to the one-time transition tax recorded during the fiscal year endedJune 30, 2018 on our total post-1986 earnings and profits ("E&P") of which, prior to the enactment of the Act, was previously deferred fromU.S. income taxes; •Tax expense increased by$102.1 million relating to the one-time re-measurement of our deferred tax assets and liabilities recorded during the fiscal year endedJune 30, 2018 based on the Act's new corporate tax rate of 21.0%; and •Tax expense decreased by$19.3 million relating to the transition tax liability during the fiscal year endedJune 30, 2019 . Our future effective income tax rate depends on various factors, such as tax legislation, the geographic composition of our pre-tax income, the amount of our pre-tax income as business activities fluctuate, non-deductible expenses incurred in connection with acquisitions, research and development credits as a percentage of aggregate pre-tax income, non-taxable or non-deductible increases or decreases in the assets held within our Executive Deferred Savings Plan, the tax effects of employee stock activity and the effectiveness of our tax planning strategies. In the normal course of business, we are subject to examination by tax authorities throughout the world. We are subject to federal income tax examinations for all years beginning from the fiscal year endedJune 30, 2017 and are underUnited States income tax examination for the fiscal year endedJune 30, 2018 . We are subject to state income tax examinations for all years beginning from the fiscal year endedJune 30, 2016 . We are also subject to examinations in other major foreign jurisdictions, includingSingapore andIsrael , for all years beginning from the calendar year endedDecember 31, 2012 . We are under audit inGermany related to Orbotech for the years endedDecember 31, 2013 toDecember 31, 2015 . We are also under audit inIsrael related to KLA for the fiscal years endedJune 30, 2017 toJune 30, 2019 . Although we believe our tax estimates are reasonable, the final determination of tax audits and any related litigation could be materially different from our historical income tax provisions and accruals. The results of an audit or litigation could have a material adverse effect on our results of operations or cash flows in the period or periods for which that determination is made. InMay 2017 , Orbotech received an assessment from theIsrael Tax Authority ("ITA") with respect to its fiscal years 2012 through 2014 (the "Assessment", and the "Audit Period", respectively), for an aggregate amount of tax, after offsetting all net operating losses ("NOLs") available through the end of 2014, of approximatelyNIS 229.0 million (equivalent to approximately$66.0 million which includes related interest and linkage differentials to the Israeli consumer price index as of date of the issuance of the Tax Decrees). OnAugust 31, 2018 , Orbotech filed an objection in respect of the tax assessment (the "Objection"). The ITA completed the second stage of the audit, in which the claims Orbotech raised in the Objection were examined by different personnel at the ITA. In addition, the ITA examined additional items during this second stage of the audit. As Orbotech and the ITA did not reach an agreement during the second stage, the ITA issued Tax Decrees to Orbotech onAugust 28, 2019 ("Tax Decrees") for an aggregate amount of tax, after offsetting all NOLs available through the end of 2014, of approximatelyNIS 257 million 52 -------------------------------------------------------------------------------- Table of Contents (equivalent to approximately$74 million which includes related interest and linkage differentials to the Israeli consumer price index as of the date of the issuance of the Tax Decrees). These Tax Decrees replaced the Assessment. We believe that our recorded unrecognized tax benefits are sufficient to cover the resolution of these Tax Decrees. Orbotech filed a notice of appeal with respect to the above Tax Decrees with theDistrict Court of Tel Aviv onSeptember 26, 2019 . OnFebruary 27, 2020 the ITA filed its arguments in support of the Tax Decrees. Orbotech filed the grounds of appeal with respect to the above Tax Decrees onJuly 30, 2020 . The ITA and Orbotech are continuing discussions in an effort to resolve this matter in a mutually agreeable manner. In connection with the above, there is an ongoing criminal investigation inIsrael against Orbotech, certain of its employees and its tax consultant. OnApril 11, 2018 , Orbotech received a "suspect notification letter" (datedMarch 28, 2018 ) from theTel Aviv District Attorney's Office (Fiscal and Financial). In the letter, it was noted that the investigation file was transferred from the Assessment Investigation Officer to theDistrict Attorney's Office . The letter further states that theDistrict Attorney's Office has not yet made a decision regarding submission of an indictment against Orbotech; and that if after studying the case, a decision is made to consider prosecuting Orbotech, Orbotech will receive an additional letter, and within 30 days, Orbotech may present its arguments to theDistrict Attorney's Office as to why it should not be indicted. OnOctober 27, 2019 , we received a request for additional information from theDistrict Attorney's Office . We will continue to monitor the progress of theDistrict Attorney's Office investigation; however, we cannot anticipate when the review of the case will be completed and what will be the results thereof. We intend to cooperate with theDistrict Attorney's Office to enable them to conclude their investigation. OnMarch 27, 2020 , The Coronavirus Aid, Relief, and Economic Security (CARES) Act was signed into law which included several tax relief provisions. As a result of the CARES Act, we have deferred payment of certain payroll taxes to the federal government throughDecember 31, 2022 and accelerated the tax deduction of qualified improvement property. The provisions of the CARES Act do not have a material impact to our liquidity and we are not expecting a material tax refund. Liquidity and Capital Resources As of June 30, (Dollar amounts in thousands) 2020 2019 2018 Cash and cash equivalents$ 1,234,409 $ 1,015,994 $ 1,404,382 Marketable securities 746,063 723,391 1,475,936 Total cash, cash equivalents and marketable securities$ 1,980,472 $ 1,739,385 $ 2,880,318 Percentage of total assets 21 % 19 % 51 % Year ended June 30, (In thousands) 2020 2019 2018 Cash flows: Net cash provided by operating activities$ 1,778,850 $
1,152,632
291,618 Net cash used in financing activities (1,299,635) (360,005) (1,270,103) Effect of exchange rate changes on cash and cash equivalents (1,926) (33) 696 Net (decrease) increase in cash and cash equivalents$ 218,415 $
(388,388)
Cash andCash Equivalents and Marketable Securities : As ofJune 30, 2020 , our cash, cash equivalents and marketable securities totaled$1.98 billion , which represents an increase of$0.24 billion fromJune 30, 2019 . The increase is mainly due to net proceeds from our 2020 Senior Notes of$0.74 billion , net proceeds from our revolving credit facility of$0.45 billion and cash generated from operations of$1.78 billion , partially offset by repayments of debt of$1.17 billion , payments of dividends and dividend equivalents of$0.52 billion , stock repurchases of$0.83 billion and capital expenditures of$0.15 billion . As ofJune 30, 2020 ,$0.82 billion of our$1.98 billion of cash, cash equivalents, and marketable securities were held by our foreign subsidiaries and branch offices. We currently intend to indefinitely reinvest$0.53 billion of the cash, cash equivalents and marketable securities held by our foreign subsidiaries for which we assert that earnings are permanently reinvested. If, however, a portion of these funds were to be repatriated tothe United States , we would be required to accrue and pay state and foreign taxes of approximately 1%-22% of the funds repatriated. The amount of taxes due will depend on the amount and manner of the repatriation, as well as the location from which the funds are repatriated. We have accrued state and foreign tax on the remaining cash of$0.29 billion of the$0.82 53 -------------------------------------------------------------------------------- Table of Contents billion held by our foreign subsidiaries and branch offices. As such, these funds can be returned to theU.S. without accruing any additionalU.S. tax expense. Cash Dividends and Special Cash Dividend: The total amounts of regular quarterly cash dividends and dividends equivalents paid during the fiscal years endedJune 30, 2020 , 2019 and 2018 were$522.4 million ,$469.4 million and$395.6 million , respectively. The increase in the amount of regular quarterly cash dividends and dividends equivalents paid during the fiscal year endedJune 30, 2020 reflected the increase in the level of our regular quarterly cash dividend from$0.75 to$0.85 per share that was instituted during the three months endedDecember 31, 2019 . The amounts of accrued dividend equivalents payable for regular quarterly cash dividends on unvested restricted stock units ("RSUs") with dividend equivalent rights were$8.3 million and$7.3 million as ofJune 30, 2020 and 2019, respectively. These amounts will be paid upon vesting of the underlying unvested RSUs as described in Note 10 "Equity, Long-term Incentive Compensation Plans and Non-Controlling Interest" to our Consolidated Financial Statements. OnAugust 6, 2020 , we announced that our Board of Directors had declared a quarterly cash dividend of$0.90 per share. Refer to Note 21 "Subsequent Events" to the Consolidated Financial Statements for additional information regarding the declaration of our quarterly cash dividend announced subsequent toJune 30, 2020 . OnNovember 19, 2014 , our Board of Directors declared a special cash dividend of$16.50 per share on our outstanding common stock. The declaration and payment of the special cash dividend was part of our leveraged recapitalization transaction under which the special cash dividend was financed through a combination of existing cash and proceeds from the debt financing disclosed in Note 8 "Debt" that was completed during the three months endedDecember 31, 2014 . The total amount of the special cash dividend accrued by us at the declaration date was substantially paid out during the three months endedDecember 31, 2014 , except for the aggregate special cash dividend of$43.0 million that was accrued for the unvested RSUs to be paid when such underlying unvested RSUs vest. Payments of the special cash dividend with respect to vested restricted stock units during the fiscal years endedJune 30, 2019 and 2018 were$2.9 million and$6.4 million , respectively, and by the end of the second quarter of fiscal 2019 all of the special cash dividend accrued with respect to outstanding RSUs had vested and been paid in full. Other than the special cash dividend declared during the three months endedDecember 31, 2014 , we historically have not declared any special cash dividends. Stock Repurchases: The shares repurchased under our stock repurchase program have reduced our basic and diluted weighted-average shares outstanding for the fiscal years endedJune 30, 2020 and 2019. The stock repurchase program is intended, in part, to offset shares issued in connection with the purchases under our Employee Stock Purchase Plan ("ESPP") program and the vesting of employee restricted stock units. Fiscal Year 2020 Compared to Fiscal Year 2019 Cash Flows from Operating Activities: We have historically financed our liquidity requirements through cash generated from operations. Net cash provided by operating activities during the fiscal year endedJune 30, 2020 increased by$0.63 billion compared to the fiscal year endedJune 30, 2019 , from$1.15 billion to$1.78 billion , primarily as a result of the following factors: •An increase in collections of approximately$1.67 billion mainly driven by higher shipments and inclusion of Orbotech during the entire 2020 fiscal year; •Lower merger and acquisition costs of approximately$29.0 million ; partially offset by the following: •A decrease in interest income of approximately$16.0 million mainly due to lower average cash balances and interest rates; •An increase in accounts payable payments of approximately$619.0 million mainly due to the inclusion of Orbotech during the entire 2020 fiscal year; •An increase in employee-related payments of approximately$391.0 million mainly due to the inclusion of Orbotech during the entire 2020 fiscal year; •An increase of debt interest payments of approximately$47.0 million related to Senior Notes issued inMarch 2019 for the Orbotech acquisition and early redemption of 2021 Senior Notes. Cash Flows from Investing Activities: Net cash used in investing activities during the fiscal year endedJune 30, 2020 was$0.26 billion compared to net cash used by investing activities of$1.18 billion during the fiscal year endedJune 30, 2019 . This decrease was mainly due to a 54 -------------------------------------------------------------------------------- Table of Contents decrease in cash paid for business acquisitions of$1.73 billion , partially offset by higher net purchases of marketable securities of$0.79 billion . Cash Flows from Financing Activities: Net cash used in financing activities during the fiscal year endedJune 30, 2020 increased compared to the fiscal year endedJune 30, 2019 , from$0.36 billion to$1.30 billion . This change was mainly impacted by lower net proceeds from borrowings of$1.16 billion , partially offset by a decrease in cash used for common stock repurchases of$0.27 billion . Senior Notes: InFebruary 2020 ,March 2019 andNovember 2014 , we issued$750.0 million ,$1.20 billion and$2.50 billion , respectively (each a "2020 Senior Notes", a "2019 Senior Notes", a "2014 Senior Notes", and collectively the "Senior Notes"), aggregate principal amount of senior, unsecured long-term notes. InFebruary 2020 andOctober 2019 , we repaid$500.0 million and$250.0 million of Senior Notes, respectively. InFebruary 2020 , S&P upgraded its credit rating of the Company to "BBB+" and revised its outlook to stable, which permanently removed interest rate adjustments and the interest rate on the 2014 Senior Notes became fixed. The interest rate for each series of the 2020 Senior Notes and 2019 Senior Notes are not subject to adjustments. InJanuary 2020 , we entered into a series of forward contracts ("2020 Rate Lock Agreements") to lock the 30-year treasury rate ("benchmark rate") on a portion of the 2020 Senior Notes. The 2020 Rate Lock Agreements had a notional amount of$350.0 million in aggregate and matured in the same quarter. The 2020 Rate Lock Agreements were terminated on the date of the pricing of the$750.0 million of 3.300% Senior Notes due in 2050 and we recorded the fair value of$21.5 million as a loss within Accumulated Other Comprehensive Income (Loss) ("OCI") as ofMarch 31, 2020 , which will be amortized over the life of the debt. During the fiscal year endedJune 30, 2018 , we entered into a series of forward contracts (the "2018 Rate Lock Agreements") to lock the benchmark interest rate with notional amount of$500.0 million in aggregate. InOctober 2014 , we entered into a series of forward contracts to lock the 10-year treasury rate ("benchmark rate") on a portion of the 2014 Senior Notes with a notional amount of$1.00 billion in aggregate. For additional details, refer to Note 17 "Derivative Instruments and Hedging Activities" and Note 8 "Debt" of the Notes to the Consolidated Financial Statements. The original discounts on the 2020 Senior Notes, the 2019 Senior Notes and the 2014 Senior Notes amounted to$0.3 million ,$6.7 million and$4.0 million , respectively, and are being amortized over the life of the debt. Interest is payable as follows: semi-annually onMarch 1 andSeptember 1 of each year for the 2020 Senior Notes; semi-annually onMarch 15 andSeptember 15 of each year for the 2019 Senior Notes; and semi-annually onMay 1 andNovember 1 of each year for the 2014 Senior Notes. The indenture for the Senior Notes (the "Indenture") includes covenants that limit our ability to grant liens on our facilities and enter into sale and leaseback transactions, subject to certain allowances under which certain sale and leaseback transactions are not restricted. In certain circumstances involving a change of control followed by a downgrade of the rating of a series of Senior Notes by at least two of Moody's, S&P andFitch Inc. , unless we have exercised our rights to redeem the Senior Notes of such series, we will be required to make an offer to repurchase all or, at the holder's option, any part, of each holder's Senior Notes of that series pursuant to the offer described below (the "Change of Control Offer"). In the Change of Control Offer, we will be required to offer payment in cash equal to 101% of the aggregate principal amount of Senior Notes repurchased plus accrued and unpaid interest, if any, on the Senior Notes repurchased, up to, but not including, the date of repurchase. As ofJune 30, 2020 , we were in compliance with all of our covenants under the Indenture associated with the Senior Notes. Revolving Credit Facility: InNovember 2017 , we entered into a Credit Agreement (the "Credit Agreement") providing for a$750.0 million five-year unsecured Revolving Credit Facility (the "Revolving Credit Facility"), which replaced our prior Credit Facility. Subject to the terms of the Credit Agreement, the Revolving Credit Facility may be increased in an amount up to$250.0 million in the aggregate. InNovember 2018 , we entered into an Incremental Facility, Extension and Amendment Agreement (the "Amendment"), which amends the Credit Agreement to (a) extend the Maturity Date (the "Maturity Date") fromNovember 30, 2022 toNovember 30, 2023 , (b) increase the total commitment by$250.0 million and (c) effect certain other amendments to the Credit Agreement as set forth in the Amendment. After giving effect to the Amendment, the total commitments under the Credit Agreement are$1.00 billion . During the fiscal year endedJune 30, 2020 , we borrowed$450.0 million from the Revolving Credit Facility and made a principal payment of$400.0 million . As ofJune 30, 2020 , we had outstanding$50.0 million aggregate principal amount of borrowings under the Revolving Credit Facility. 55 -------------------------------------------------------------------------------- Table of Contents We may borrow, repay and reborrow funds under the Revolving Credit Facility until the Maturity Date, at which time such Revolving Credit Facility will terminate, and all outstanding loans under such facility, together with all accrued and unpaid interest, must be repaid. We may prepay outstanding borrowings under the Revolving Credit Facility at any time without a prepayment penalty. Borrowings under the Revolving Credit Facility will bear interest, at our option, at either: (i) the Alternative Base Rate ("ABR") plus a spread, which ranges from 0 bps to 75 bps, or (ii) the London Interbank Offered Rate ("LIBOR") plus a spread, which ranges from 100 bps to 175 bps. The spreads under ABR and LIBOR are subject to adjustment in conjunction with credit rating downgrades or upgrades. We are also obligated to pay an annual commitment fee on the daily undrawn balance of the Revolving Credit Facility, which ranges from 10 bps to 25 bps, subject to an adjustment in conjunction with changes to our credit rating. As ofJune 30, 2020 , we elected to pay interest on the borrowed amount under the Revolving Credit Facility at LIBOR plus a spread of 112.5 bps and we pay an annual commitment fee of 12.5 bps on the daily undrawn balance of the Revolving Credit Facility. The Revolving Credit Facility requires us to maintain an interest expense coverage ratio as described in the Credit Agreement, on a quarterly basis, covering the trailing four consecutive fiscal quarters of no less than 3.50 to 1.00. In addition, we are required to maintain the maximum leverage ratio as described in the Credit Agreement, on a quarterly basis of 3.00 to 1.00, covering the trailing four consecutive fiscal quarters for each fiscal quarter, which can be increased to 4.00 to 1.00 for a period of time in connection with a material acquisition or a series of material acquisitions. As ofJune 30, 2020 , our maximum allowed leverage ratio was 3.50 to 1.00. We were in compliance with all covenants under the Credit Agreement as ofJune 30, 2020 (the interest expense coverage ratio was 13.97 to 1.00 and the leverage ratio was 1.56 to 1.00). Considering our current liquidity position, short-term financial forecasts and ability to prepay the Revolving Credit Facility, if necessary, we expect to continue to be in compliance with our financial covenants at the end of our fiscal year endingJune 30, 2021 . Contractual Obligations The following is a schedule summarizing our significant obligations to make future payments under contractual obligations as ofJune 30, 2020 : Fiscal year ending June 30, 2026 and (In thousands) Total 2021 2022 2023 2024 2025 thereafter Others Debt obligations(1)$ 3,500,000 $ - $ - $ -$ 50,000 $ 1,250,000 $ 2,200,000 $ - Interest payments associated with all debt obligations(2) 2,087,338 151,118 151,067 150,331 149,800 120,738 1,364,284 - Purchase commitments(3) 896,928 887,851 8,397 453 227 - - - Income taxes payable(4) 172,674 - - - - - - 172,674 Operating leases 105,743 30,628 22,750 15,410 10,221 8,508 18,226 - Cash long-term incentive program(5) 197,116 78,404 56,573 41,039 21,100 - - - Pension obligations(6) 42,482 3,014 2,955 3,047 4,317 3,758 25,391 - Executive Deferred Savings Plan(7) 215,167 - - - - - - 215,167 Transition tax payable(8) 274,498 26,143 26,143 26,143 49,018 65,357 81,694 - Liability for employee rights upon retirement(9) 52,898 - - - - - - 52,898 Other(10) 8,310 3,287 2,600 1,612 811 - - - Total obligations$ 7,553,154 $ 1,180,445 $ 270,485 $ 238,035 $ 285,494 $ 1,448,361
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(1)Represents
56 -------------------------------------------------------------------------------- Table of Contents (2)The interest payments associated with the Senior Notes payable included in the table above are based on the principal amount multiplied by the applicable interest rate for each series of Senior Notes. Our future interest payments are subject to change if our then effective credit rating is below investment grade as discussed above. The interest payment under the Revolving Credit Facility for the undrawn balance is payable at 12.5 bps as a commitment fee based on the daily undrawn balance and we utilized the existing rate for the projected interest payments included in the table above. Our future interest payments for the Revolving Credit Facility is subject to change due to any upgrades or downgrades to our then effective credit rating. (3)Represents an estimate of significant commitments to purchase inventory from our suppliers as well as an estimate of significant purchase commitments associated with goods, services and other assets in the ordinary course of business. Our obligation under these purchase commitments is generally restricted to a forecasted time-horizon as mutually agreed upon between the parties. This forecasted time-horizon can vary among different suppliers. Actual expenditures will vary based upon the volume of the transactions and length of contractual service provided. In addition, the amounts paid under these arrangements may be less in the event the arrangements are renegotiated or canceled. Certain agreements provide for potential cancellation penalties. (4)Represents the estimated income tax payable obligation related to uncertain tax positions as well as related accrued interest. We are unable to make a reasonably reliable estimate of the timing of payments in individual years due to uncertainties in the timing of tax audit outcomes. (5)Represents the amount committed under our cash long-term incentive program. The expected payment after estimated forfeitures is approximately$160.2 million . (6)Represents an estimate of expected benefit payments up to fiscal year 2030 that was actuarially determined and excludes the minimum cash required to contribute to the plan. As ofJune 30, 2020 , our defined benefit pension plans do not have material required minimum cash contribution obligations. (7)Represents the amount committed under our non-qualified executive deferred compensation plan. We are unable to make a reasonably reliable estimate of the timing of payments in individual years due to the uncertainties in the timing around participant's separation and any potential changes that participants may decide to make to the previous distribution elections. (8)Represents the transition tax liability associated with our deemed repatriation of accumulated foreign earnings as a result from the enactment of the Tax Cuts and Jobs-Act into law onDecember 22, 2017 . (9)Represents severance payments due upon dismissal of an employee or upon termination of employment in certain other circumstances as required under Israeli law. (10)Represents amounts committed for accrued dividends payable for quarterly cash dividends for unvested restricted stock units granted with dividend equivalent rights. For additional details, refer to Note 10 "Equity, Long-term Incentive Compensation Plans and Non-Controlling Interest" to our Consolidated Financial Statements. We have adopted a cash-based long-term incentive ("Cash LTI") program for many of our employees as part of our employee compensation program. Cash LTI awards issued to employees under the Cash Long-Term Incentive Plan ("Cash LTI Plan") generally vest in three or four equal installments. For additional details, refer to Note 10 "Equity, Long-term Incentive Compensation Plans and Non-Controlling Interest" to our Consolidated Financial Statements. We have agreements with financial institutions to sell certain of our trade receivables and promissory notes from customers without recourse. In addition, we periodically sell certain letters of credit ("LCs"), without recourse, received from customers in payment for goods and services. The following table shows total receivables sold under factoring agreements and proceeds from sales of LCs for the indicated periods: Year ended June
30,
(In thousands) 2020 2019
2018
Receivables sold under factoring agreements
$ 217,462 Proceeds from sales of LCs$ 59,036 $ 95,436 $ 5,511 Factoring and LC fees for the sale of certain trade receivables were recorded in other expense (income), net and were not material for the periods presented. We maintain guarantee arrangements available through various financial institutions for up to$81.7 million , of which$68.7 million had been issued as ofJune 30, 2020 , primarily to fund guarantees to customs authorities for value-added tax ("VAT") and other operating requirements of our subsidiaries inEurope ,Israel , andAsia . 57 -------------------------------------------------------------------------------- Table of Contents Working Capital: Working capital was$3.02 billion as ofJune 30, 2020 , which represents an increase of$477.2 million compared to our working capital as ofJune 30, 2019 . As ofJune 30, 2020 , our principal sources of liquidity consisted of$1.98 billion of cash, cash equivalents and marketable securities. Our liquidity may be affected by many factors, some of which are based on the normal ongoing operations of the business, spending for business acquisitions, and other factors such as uncertainty in the global and regional economies and the semiconductor, semiconductor-related and electronic device industries. Although cash requirements will fluctuate based on the timing and extent of these factors, we believe that cash generated from operations, together with the liquidity provided by existing cash and cash equivalents balances and our$1.00 billion Revolving Credit Facility, will be sufficient to satisfy our liquidity requirements associated with working capital needs, capital expenditures, cash dividends, stock repurchases and other contractual obligations, including repayment of outstanding debt, for at least the next 12 months. Our credit ratings as ofJune 30, 2020 are summarized below: Rating Agency Rating Fitch BBB+ Moody's Baa1 Standard & Poor's BBB+ Factors that can affect our credit ratings include changes in our operating performance, the economic environment, conditions in the semiconductor and semiconductor equipment industries, our financial position, material acquisitions and changes in our business strategy. Off-Balance Sheet Arrangements As ofJune 30, 2020 , we did not have any off-balance sheet arrangements, as defined in Item 303(a)(4)(ii) of SEC Regulation S-K, that have or are reasonably likely to have a current or future effect on our financial position, changes in financial condition, revenues and expenses, results of operations, liquidity, capital expenditures, or capital resources that are material to investors. Refer to Note 16 "Commitments and Contingencies" to our Consolidated Financial Statements for information related to indemnification obligations. 58
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