Document
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
—————————
FORM 10-K

x
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended September 30, 2019
or
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ___ to ___

Commission File Number 001-36632

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 EMCORE Corporation
(Exact name of registrant as specified in its charter)
New Jersey
(State or other jurisdiction of incorporation or organization)
22-2746503
(I.R.S. Employer Identification No.)
 
 
2015 W. Chestnut Street, Alhambra, California, 91803
(Address of principal executive offices) (Zip Code)

Registrant's telephone number, including area code:  (626) 293-3400

Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class
Trading Symbol
Name of Each Exchange on Which Registered
Common stock, no par value
EMKR
The Nasdaq Stock Market LLC (Nasdaq Global Market)

Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act ¨ Yes þ No
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act.   ¨ Yes þ No

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. þ Yes ¨ No

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). þ Yes ¨ No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definition of “large accelerated filer”, “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. ¨ Large accelerated filer þ Accelerated filer ¨ Non-accelerated filer þ Smaller reporting company ¨ Emerging growth company
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ¨ Yes þ No

The aggregate market value of our common stock held by non-affiliates as of March 29, 2019 (the last business day of our most recently completed second fiscal quarter) was approximately $98.4 million, based on the closing sale price of $3.65 per share of common stock as reported on the Nasdaq Global Market. For purposes of this disclosure, shares of common stock held by officers and directors and by each person known by us to own 10% or more of our outstanding common stock have been excluded. This determination of affiliate status is not necessarily a conclusive determination for any other purpose.

As of December 6, 2019, the number of shares outstanding of our no par value common stock totaled 28,904,853.




DOCUMENTS INCORPORATED BY REFERENCE

In accordance with General Instruction G(3) of Form 10-K, certain information required by Part III hereof will either be incorporated into this Form 10-K by reference to our Definitive Proxy Statement for our Annual Meeting of Shareholders filed within 120 days of September 30, 2019 or will be included in an amendment to this Form 10-K filed within 120 days of September 30, 2019.





CAUTIONARY STATEMENT
REGARDING FORWARD-LOOKING STATEMENTS


This Annual Report on Form 10-K includes forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). These forward-looking statements are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are based on our current expectations and projections about future events and financial trends affecting the financial condition of our business. Such forward-looking statements include, in particular, projections about our future results included in our Exchange Act reports and statements about our plans, strategies, business prospects, changes and trends in our business and the markets in which we operate. These forward-looking statements may be identified by the use of terms and phrases such as “anticipates,” “believes,” “can,” “could,” “estimates,” “expects,” “forecasts,” “intends,” “may,” “plans,” “projects,” “should,” “targets,” “will,” “would,” and similar expressions or variations of these terms and similar phrases. Additionally, statements concerning future matters such as our expected liquidity, development of new products, enhancements or technologies, sales levels, expense levels, expectations regarding the outcome of legal proceedings
and other statements regarding matters that are not historical are forward-looking statements. Management cautions that these forward-looking statements relate to future events or our future financial performance and are subject to business, economic, and other risks and uncertainties, both known and unknown, that may cause actual results, levels of activity, performance, or achievements of our business or our industry to be materially different from those expressed or implied by any forward-looking statements. Factors that could cause or contribute to such differences in results and outcomes include without limitation the following: (a) the rapidly evolving markets for the Company's products and uncertainty regarding the development of these markets; (b) the Company's historical dependence on sales to a limited number of customers and fluctuations in the mix of products and customers in any period; (c) delays and other difficulties in commercializing new products; (d) the failure of new products: (i) to perform as expected without material defects, (ii) to be manufactured at acceptable volumes, yields, and cost, (iii) to be qualified and accepted by our customers, and (iv) to successfully compete with products offered by our competitors; (e) uncertainties concerning the availability and cost of commodity materials and specialized product components that we do not make internally; (f) actions by competitors; (g) risks and uncertainties related to applicable laws and regulations, including the impact of changes to applicable tax laws and tariff regulations; (h) acquisition-related risks, including that (i) the revenues and net operating results obtained from the Systron Donner Inertial, Inc. ("SDI") business may not meet our expectations, (ii) the costs and cash expenditures for integration of the SDI business operations may be higher than expected, (iii) there could be losses and liabilities arising from the acquisition of SDI that we will not be able to recover from any source, and (iv) we may not realize sufficient scale in our navigation systems product line from the SDI acquisition and will need to take additional steps, including making additional acquisitions, to achieve our growth objectives for this product line; (i) risks related to our ability to obtain capital; (j) risks related to the transition of certain of our manufacturing operations from our Beijing facility to a contract manufacturer’s facility; and (k) other risks and uncertainties discussed in Part I, Item 1A, Risk Factors in this Annual Report as well as those discussed elsewhere in this Annual Report, as such risk factors may be amended, supplemented or superseded from time to time by our subsequent periodic reports we file with the Securities and Exchange Commission (“SEC”). These cautionary statements apply to all forward-looking statements wherever they appear in this Annual Report.

Forward-looking statements are based on certain assumptions and analysis made in light of our experience and perception of historical trends, current conditions and expected future developments as well as other factors that we believe are appropriate under the circumstances. While these statements represent our judgment on what the future may hold, and we believe these judgments are reasonable, these statements are not guarantees of any events or financial results. All forward-looking statements in this Annual Report are made as of the date hereof, based on information available to us as of the date hereof, and subsequent facts or circumstances may contradict, obviate, undermine, or otherwise fail to support or substantiate such statements. We caution you not to rely on these statements without also considering the risks and uncertainties associated with these statements and our business that are addressed in this Annual Report on Form 10-K. Certain information included in this Annual Report may supersede or supplement forward-looking statements in our other reports filed with the SEC. We assume no obligation to update any forward-looking statement to conform such statements to actual results or to changes in our expectations, except as required by applicable law or regulation.






EMCORE Corporation
FORM 10-K
For the Fiscal Year ended September 30, 2019

TABLE OF CONTENTS

 
 
 
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PART I.
            
Item 1. Business

Company Overview

EMCORE Corporation, together with its subsidiaries (referred to herein as the “Company,” “we,” “our,” or “EMCORE”), was established in 1984 as a New Jersey corporation. The Company became publicly traded in 1997 and is listed on the Nasdaq Stock Exchange under the ticker symbol EMKR. EMCORE is a leading provider of sensors for navigation in the Aerospace and Defense market as well as a manufacturer of lasers and optical subsystems for use in the cable TV industry.

EMCORE pioneered the linear fiber optic transmission technology that enabled the world’s first delivery of Cable TV directly on fiber, and today is a leading provider of advanced Mixed-Signal Optics products serving the broadband communications and Aerospace and Defense markets. The Mixed-Signal Optics technology at the heart of our broadband communications products is shared with our fiber optic gyros and inertial sensors to provide the aerospace and defense markets with state-of-the-art navigations systems technology. With the acquisition of Systron Donner Inertial, Inc. (“SDI”), a navigation systems provider with a scalable, chip-based platform for higher volume gyro applications utilizing Quartz MEMS technology, in June of 2019, EMCORE further expanded its portfolio of gyros and inertial sensors with SDI’s quartz MEMS gyro and accelerometer technology.

EMCORE has fully vertically-integrated manufacturing capability through our Indium Phosphide (“InP”) compound semiconductor wafer fabrication facility at our headquarters in Alhambra, CA, and through our quartz processing and sensor manufacturing facility in Concord, CA. These facilities support EMCORE’s vertically-integrated manufacturing strategy for quartz and fiber optic gyro products, for Navigation systems, and for our chip, laser, transmitter, and receiver products for broadband applications.

For the fiscal year ended September 30, 2019, we had one reporting segment, comprised of three product lines: Navigation Systems, Broadband and Chip Devices. Please see our consolidated financial statements and notes included in this Annual Report for financial information regarding this segment.
 
For the fiscal year ending September 30, 2020, as a result of the acquisition of SDI and the increased size and growth expectations of our aerospace and defense business, we expect that we will have two reporting segments, Aerospace and Defense, and Broadband. Aerospace and Defense will be comprised of two product lines: (i) Navigation and Inertial Sensing, and (ii) Defense Optoelectronics. The Broadband segment will be comprised of three product lines: (i) Cable TV Lasers and Transmitters, (ii) Chip Devices, and (iii) Other. Due to a shift in customer base, the previously existing Satellite/Microwave Communications product line has been renamed “Defense Optoelectronics”.

This reporting change, detailing information for these two segments, will go into effect when EMCORE releases our results of operations for the period ending December 31, 2019.

EMCORE’s headquarters and principal executive offices are located at 2015 W. Chestnut Avenue, Alhambra, California, 91803 and our main telephone number is (626) 293-3400. For specific information about us, our products or the markets we serve, please visit our website at http://www.emcore.com. The information contained in or linked to our website is not a part of, nor incorporated by reference into, this Annual Report on Form 10-K or a part of any other report or filing with the Securities and Exchange Commission (the “SEC”).

We are subject to the information requirements of the Securities Exchange Act of 1934 (the “Exchange Act”). We file periodic reports, current reports, proxy statements, and other information with the SEC. The SEC maintains a website at http://www.sec.gov that contains all of our information that has been filed or furnished electronically with the SEC. We make available free of charge on our website a link to our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act, as soon as reasonably practicable, after such material is electronically filed with, or furnished to, the SEC. 



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Overview of Our Industry and Markets We Serve

InP compound semiconductor-based products provide the foundation of components, subsystems, and systems used in a broad range of technology markets. Compound semiconductor materials can provide electrical or electro-optical functions, such as emitting optical communications signals and detecting optical communications signals.

Specifically, within our Fiber Optics reporting segment, our Broadband products serve the Cable TV (“CATV”), Satellite Communications and Wireless markets; our Chip products serve the Telecommunications, Fiber-To-The-Premises (“FTTP”), Long-Term Evolution (“LTE”) and Data Center markets; and our Navigation Systems products primarily serve the Aerospace and Defense markets.

Navigation and Inertial Sensing Product Line

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EMCORE, through our vertically-integrated infrastructure, has been able to adapt the same technologies, chip designs, and production assets applicable to our CATV products to the development of state-of-the-art Fiber Optic Gyroscopes (“FOG”) that have broad application within the aerospace and defense markets for land, sea, air and space navigation. This gives EMCORE the ability to leverage our high-volume infrastructure for lower volume, higher value-added product. EMCORE has expanded its FOG-based product line to include Inertial Measurement Units (“IMU or IMUs”) and Inertial Navigation Systems (“INS”) that provide superior Size, Weight and Power (“SWaP”) compared to competing or legacy systems. In June of 2019, EMCORE added the SDI series of Quartz MEMS (“QMEMS”) gyros and IMU products to our portfolio, expanding EMCORE’s portfolio to better address high volume markets and taking advantage of EMCORE’s core wafer fabrication and processing capabilities to further improve upon SDI’s base technology platforms.

To the extent sales of our navigation system products are related to U.S. government contracts or subcontracts, this portion of the business may be subject to renegotiation of profits or termination of contracts or subcontracts at the election of the U.S. government or an agency thereof.

Fiber Optic Gyroscope Products - EMCORE’s FOG program has received multiple U.S. patents and has been qualified for several key military programs for applications including Unmanned Aerial Systems (“UAS”), line-of-site stabilization, aviation and aeronautics. All EMCORE FOGs feature advanced optics with only three components for simplified assembly along with Digital Signal Processing (“DSP”) or Field Programmable Gate Array (“FPGA”) for higher accuracy, lower noise and greater efficiency. The integrated DSP or FGPA also improves optical drift stability and enables higher linearity and greater environmental flexibility. EMCORE’s FOG products range from tactical to navigational grade gyros where the critical specifications for fiber length, Angle Random Walk (“ARW”) and drift rate improves through the product line to provide customers greater flexibility in choosing the performance level that best meets their application.

Quartz MEMS Gyroscope Products - EMCORE’s Systron Donner Inertial brand supplies the world’s highest performance MEMS Inertial Sensors & Systems. Our quartz MEMS Gyroscopes, Accelerometers, Inertial Measurement Units and GPS/INS products deliver a clear, continuously improving Size, Weight, Power, and Cost (“SWaPC”) advantages over alternative technologies. With more than 50 years of extensive experience EMCORE is continuously developing leading-edge disciplines with new innovative breakthrough products, which are enabling advanced performance capabilities in mission critical applications worldwide.

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Systron Donner Inertial products have no moving parts, no friction, no known modes of wear out, and require no recalibration or rebuilding. They deliver industry-leading reliability under the most demanding conditions through dedicated engineering technology and manufacturing operations excellence, and AS9100 Aerospace Quality System Certification. EMCORE’s QMEMS products provide precision system solutions and establish higher standards for price/performance characteristics across guidance, navigation, control, pointing and stabilization applications in commercial and military aircraft, unmanned autonomous vehicles, land vehicles, precision guided weapons, industrial and marine platforms.

FOG-Based Inertial Measurement Units and Navigation Systems Products - EMCORE’s FOG-based MU and INS systems provide superior SWaP compared to competing systems. Our products provide customers the flexibility to choose options from straightforward IMU operation to full navigation and are higher performance form, fit and function replacements for other IMUs and legacy systems. EMCORE’s FOG-based IMUs and INS products deliver high-precision with up to five-times better performance than competing units in compact, portable form-factors that provide standalone aircraft grade navigator performance at one-third the size of competing systems.



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Defense Optoelectronics Product Line (Formerly Satellite/Microwave Communications Products)

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Satellite/Microwave Communications Products - EMCORE has an established history as a pioneer of innovative Radio Frequencey (“RF”) over fiber solutions for high-performance fiber optic links in the terrestrial portion of satellite communications networks. EMCORE’s satellite/microwave band components and complete systems transport an ultra-broadband frequency range including IF, L, S, C, X, DBS, Ku, K, Ka, and Ultra-Wideband signal transport. A wide range of high-dynamic-range applications are supported including satellite antenna remoting and signal distribution, inter- and intra-facility links, site diversity systems, high-performance supertrunking links, electronic warfare systems and radar testing. EMCORE’s complete line of satellite and microwave components, subassemblies and systems eliminate the distance limitations of copper-based coaxial systems. Our rack-mount Optiva Platform RF & Microwave Fiber Optic Transport System features a wide range of Simple Network Management Protocol (“SNMP”) managed fiber optic transmitters, receivers, optical amplifiers, RF and optical switches, passive devices and Ethernet products that provide high-performance fiber optic transmission between satellite hub equipment and antenna dishes. EMCORE also offers a series of ruggedized microwave flange-mount transmitters, receivers and optical delay line products that meet the reliability and durability requirements of the U.S. government and defense markets. These products are tailored to the requirements of higher frequency applications such as microwave antenna signal distribution, electronic warfare systems and radar system calibration and testing. They provide our customers with high frequency, dynamic range, compact form-factors, and extreme temperature, shock and vibration tolerance. To the extent sales of our satellite/microwave communications products are related to U.S. government contracts or subcontracts, this portion of the business may be subject to renegotiation of profits or termination of contracts or subcontracts at the election of the U.S. government or an agency thereof.

Cable TV Lasers and Transmitters Product Line


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EMCORE is an established market leader in providing RF over fiber products for the CATV industry. Our products enable cable systems providers to increase data transmission distance, speed and bandwidth in Hybrid Fiber Coaxial (“HFC”) networks, with lower noise and power consumption. This empowers cable service operators to meet the growing demand for high-speed Internet, HDTV, Ultra HDTV, 4K, video streaming and other advanced services. Our CATV products include forward and return-path analog lasers, receivers, photodetectors and subassembly components; analog and digital fiber-optic transmitters, Quadrature Amplitude Modulation (“QAM”) transmitters, optical switches and CATV fiber amplifiers.


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EMCORE’s latest series of CATV transmitters feature the Company’s breakthrough Linear Externally Modulated Laser (“L-EML”) technology that enables long distance optical link performance approaching traditional lithium niobate-based externally-modulated transmitters, but is more cost-effective and far exceeds the performance of Distributed Feedback (“DFB”) laser-based systems. EMCORE’s CATV transmitter products are offered on an OEM and ODM basis for integration into complete CATV transmission systems. The Company also offers its own branded line of EMCORE Medallion series rack-mount CATV transmitters, optical switches and fiber amplifiers. EMCORE’s Medallion series products include DOCSIS 3.1, 1550 nm externally-modulated transmitters, 1550 nm directly-modulated transmitters, optical A/B switches, and 1RU and 2RU rack-mount CATV fiber amplifiers. EMCORE’s Medallion series transmitters, optical switches and fiber amplifiers, in conjunction with EMCORE’s components and Radio Frequency over Glass (“RFoG”) products, comprise a complete end-to-end CATV system.

Chip Devices Product Line

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Telecommunications companies throughout the world have been extending their Passive Optical Network (“PON”) infrastructure to business, enterprise and residential customers for several years. Since the sale of the Company’s telecom module products in 2015, EMCORE has supported this market through commercialization of products developed in our InP wafer fab to become a merchant supplier of high-performance chip devices to the Telecom industry. EMCORE’s semiconductor wafer fabrication facility features Metal-Organic Chemical Vapor Deposition (“MOCVD”) reactors for 2" or 3" wafer processing for InP-based devices including high-power gain chips, laser chips, Avalanche Photodiode (“APD”) and P-type Intrinsic N-type (“PIN”) photodetector chips. Our technical team has expertise in device design, epitaxial growth, wafer processing, device characterization, and Chip-On-Block (“COB”), TO-Can and Optical Sub-Assembly (“OSA”) from development through manufacturing.

High-Power Gain Chips Products - EMCORE, through our previous experience in the Telecom tunable module market, has design and engineering expertise in development and manufacturing of high-power gain chips for tunable lasers and transceivers utilized in coherent DWDM optical transmission systems.

Photodiode Products - In addition to EMCORE’s offering of GPON and gain chip products, the Company also has an extensive offering of photodiodes for use in Telecommunications and Datacenter applications. These products include (but are not limited to) 2.5G and 10G APD top and bottom illuminated chips and COB, along with 10G PIN photodiode chips, with additional products in development.

GPON Fiber-To-The-Premises (FTTP) and Data Center Chip Products - EMCORE’s chip devices portfolio is continually developing to support the latest advances in PON including GPON, 10G-EPON, XG-PON, XGS-PON, along with 4G LTE and data center applications. The Company’s laser chip devices offering includes 2.5G and 10G PON DFB and 10G Fabry-Perot laser chips. Wavelengths supported include 1270, 1290, 1310, 1330, 1490, 1550 and 1610 nm.

Other Optical Product Line
The Other Optical Product Line is comprised of lasers and subsystems sold into a variety of applications, including wireless, distributed sensing, and Light Detecting and Ranging. (“LiDAR”).


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Wireless Communications Products - The increasing dependence on wireless access for social media, text, email, uploading and downloading of apps, music, videos and photos has created greater demand for deployment of cost-effective, high-performance, integrated wireless Distributed Antenna System (“DAS”) networks. Wireless systems providers are building systems in subway tunnels, stadiums, hotels, high-speed trains and cruise ships. EMCORE has developed highly linear fiber optic products that are optimized for wireless applications which we believe integrate extremely well into these systems. They enhance bandwidth and linearity to enable the delivery of consistent, reliable signals in areas where interference is high or signals are weak. EMCORE’s products for wireless applications include DFB lasers and optical receivers specifically designed for wireless networks, 3 GHz and 6.5 GHz fiber optic links for cellular backhaul, 4G LTE and DAS.

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Laser, Receiver and Photodetector Component Products - We are a leading provider of optical components including lasers, receivers and photodetectors (also called “photodiodes”). Our products include CWDM (“Coarse Wavelength Division Multiplexing”) and DWDM (“Dense Wavelength Division Multiplexing”), 1310 nm and 1550 nm DFB lasers and optical receivers optimized for CATV, DOCSIS (Data Over Cable Service Interface Specification) 3.1 and wireless applications. In addition, we offer narrow linewidth 1310 and 1550 nm DFB lasers optimized for LiDAR and distributed sensing applications. Form-factors for laser products include 14-pin butterfly and coaxial TO-Can. In addition, we offer broadband photodiodes used in forward-and return-path broadband and FTTP applications. EMCORE’s component products to the global fiber optics industry leverage the benefits of our vertically-integrated infrastructure, low-cost manufacturing and early access to newly developed internally-produced components.

Customers

Our major customers include: Cisco Systems Inc., Commscope Holding Company, Inc. and Raytheon Company and their respective affiliates. In the fiscal year ended September 30, 2019, Cisco Systems Inc., Commscope Holding Company, Inc. and Raytheon Company and their respective affiliates each represented greater than 10% of our consolidated revenue. See Note 15 - Geographical Information in the notes to our consolidated financial statements for additional information about our significant customers.

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Strategic Plan

Strategy and Alternatives Committee of the Board of Directors

In addition to organic growth and development of our existing Fiber Optics business, we intend to pursue other strategies to enhance shareholder value. The Strategy and Alternatives Committee of the Company's Board of Directors (the "Strategy Committee"), which was established in December 2013, is charged with overseeing the Company’s strategic plan and evaluating strategic opportunities and alternatives available to the Company, including potential mergers, acquisitions, divestitures and other key strategic transactions outside the ordinary course of the Company’s business. Accordingly, the Strategy Committee may from time to time consider strategic opportunities to enhance shareholder value, which may include, at various times depending on the circumstances, acquisitions, investments in joint ventures, partnerships, and other strategic alternatives, such as dispositions, reorganizations, recapitalizations or other similar transactions, the repurchase of shares of our outstanding common stock or payment of dividends to our shareholders. The Strategy Committee may engage financial and other advisors to assist it in doing so. Accordingly, the Strategy Committee and our management may from time to time be engaged in evaluating potential strategic opportunities and may enter into definitive agreements with respect to such transactions or other strategic alternatives. However, there is no assurance that the Strategy Committee will identify further strategic opportunities that the Company will determine to pursue, or that the consideration of any such opportunity would result in the completion of a strategic transaction. The Strategy Committee met five (5) times during the fiscal year ended September 30, 2019.

Acquisition of Systron Donner Inertial, Inc.

On June 7, 2019, the Company acquired SDI, a private-equity backed navigation systems provider with a scalable, chip-based platform for higher volume gyro applications utilizing QMEMS technology. The total purchase price was approximately $25.0 million, consisting of (i) approximately $22.0 million in cash after working capital adjutments and (ii) the issuance of 811 thousand shares of common stock with an aggregate value of approximately $3.0 million as of the closing date.

Following the closing, we began integrating SDI into our Navigation and Inertial Sensing product line and have included the financial results of SDI in our condensed consolidated financial statements beginning on the acquisition date. Net revenue and net loss of SDI from the acquisition date through September 30, 2019 of $9.8 million and $0.6 million, respectively, is included in our consolidated statements of operations and comprehensive (loss) income for the fiscal year ended September 30, 2019.

Sources of Raw Materials

We depend on a limited number of suppliers for certain raw materials, components, and equipment used in our products, though no single supplier of raw materials or components accounts for more than 10% of our aggregate consolidated cost of goods sold. We continually review our supplier relationships to mitigate risks and lower costs, especially where we depend on one or two suppliers for critical components or raw materials. While maintaining inventories that we believe are sufficient to meet our near-term needs, we strive not to carry significant inventories of raw materials. Accordingly, we maintain ongoing communications with our suppliers in order to prevent any interruptions in supply, and have implemented a supply-chain management program to maintain quality and lower purchase prices through standardized purchasing efficiencies and design requirements. To date, we generally have been able to obtain sufficient quantities of critical supplies in a timely manner.

We are subject to rules promulgated by the SEC pursuant to the Dodd-Frank Wall Street Reform and Consumer Protection Act regarding the use of "conflict minerals". These rules have imposed and will continue to impose additional costs and may introduce new risks related to our ability to verify the origin of any "conflict minerals" used in our products.

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Manufacturing

We utilize MOCVD (metal-organic chemical vapor deposition) systems that are capable of processing virtually all compound semiconductor-based materials. Our operations include wafer fabrication, device design and production and fiber optic module, subsystem and system design and manufacture. Many of our manufacturing operations are computer monitored or controlled to enhance production output and statistical control. We employ a strategy of minimizing ongoing capital investments, while maximizing the variable nature of our cost structure. We maintain supply agreements with key suppliers. Where we can gain cost advantages while maintaining quality and intellectual property control, we outsource the production of certain products, subsystems, components, and subassemblies to contract manufacturers located overseas. Our contract manufacturers maintain comprehensive quality assurance and delivery systems, and we continuously monitor them for compliance.

Our various manufacturing processes involve extensive quality assurance systems and performance testing. Our facilities have acquired and maintain certification status for their quality management systems. Our manufacturing facilities located in Alhambra, California; and Beijing, China are registered to ISO 9001 standards. Our manufacturing facility located in Concord, California is registered to AS 9100 standards.

As part of the effort to better streamline operations and move to a variable cost model with respect to our Cable TV Lasers and Transmitters product line, on October 25, 2019, the Company entered into an Asset Purchase Agreement (the “Purchase Agreement”) with Hytera Communications (Hong Kong) Company Limited, a limited liability company incorporated in Hong Kong (“Hytera HK”), and Shenzhen Hytera Communications Co., Ltd., a corporation formed under the laws of the P.R.C. (“Shenzhen Hytera”, and together with Hytera HK, the “Buyers”), pursuant to which the Buyers agreed to purchase from EMCORE certain Cable TV Laser and Transmitter catv module and transmitter manufacturing equipment (the “Equipment”) owned by EMCORE and currently located at the manufacturing facility of EMCORE’s wholly-owned subsidiary, EMCORE Optoelectronics (Beijing) Co, Ltd., a corporation formed under the laws of the P.R.C., for an aggregate purchase price of approximately $5.54 million. The Equipment will be transferred to the Buyers in multiple closings, the last of which is expected to occur during the quarter ending March 31, 2020. Concurrently with entry into the Purchase Agreement, EMCORE entered into a Contract Manufacturing Agreement (the “Manufacturing Agreement”), dated as of October 25, 2019, with the Buyers pursuant to which the Buyers agreed to manufacture certain catv module and transmitter products for EMCORE from a manufacturing facility located in Thailand for an initial five year term at product prices agreed to between the parties. These manufacturing activities are expected to commence during the fiscal year ending September 30, 2020.

Sales and Marketing

We sell our products worldwide through our direct sales force, application engineers, third party sales representatives and distributors. Our sales force communicates with our customers' engineering, manufacturing, and purchasing personnel to provide optimized customer solutions through product design, qualifications, performance, and price. Our strategy is to use our direct sales force to sell to original equipment manufacturers and key accounts and to expand our use of distribution partners for increased coverage in both international markets and certain domestic segments.

Throughout our sales cycle, we work closely with our customers to qualify our products into their product lines and platforms. As a result, we develop strategic and long-lasting customer relationships with products and services that are tailored to our customers' requirements. We focus our marketing communication efforts on increasing brand awareness, communicating our technologies' advantages, and generating leads for our sales force. We use a variety of marketing methods, including our website, participation at trade shows, and selective advertising to achieve these goals.

Externally, our marketing group works with customers to define requirements, characterize market trends, define new product development activities, identify cost reduction initiatives, and manage new product introductions. Internally, our marketing group communicates and manages customer requirements with the goal of ensuring that our product development activities are aligned with our customers' needs. These product development activities allow our marketing group to manage new product introductions and market trends. See Note 15 - Geographical Information in the notes to the consolidated financial statements for disclosures related to geographic revenue and significant customers.



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Research and Development

Our research and development efforts have been focused on maintaining our technological competitive edge by working to improve the quality and features of our product lines. We are also making investments to expand our existing technology and infrastructure in an effort to develop new products and production technology that we can use to expand into new markets. Our industry is characterized by rapid changes in process technologies with increasing levels of functional integration. Our efforts are focused on designing new proprietary processes and products, on improving the performance of our existing materials, components, and subsystems, and on reducing costs in the product manufacturing process.

As part of the ongoing effort to cut costs, many of our projects have focused on developing lower cost versions of our existing products. In view of the high cost of development, we solicit research contracts that provide opportunities to enhance our core technology base and promote the commercialization of targeted products. Generally, internal research and development funding is used for the development of products that will be released within twelve months and external funding is used for long-term research and development efforts.

We believe that in order to remain competitive, we must invest significant financial resources in developing new product features and enhancements and in maintaining customer satisfaction worldwide. Research and development expense was $19.4 million, $15.4 million and $12.5 million for the fiscal years ended September 30, 2019, 2018 and 2017, respectively. As a percentage of revenue, research and development expenses were 22.3%, 18.0% and 10.2% for the fiscal years ended September 30, 2019, 2018 and 2017, respectively. Our research and development expense consists primarily of compensation expense including non-cash stock-based compensation expense, as well as engineering and prototype costs, depreciation expense, and other overhead expenses, as they relate to the design, development, and testing of our products. These costs are expensed as incurred.


Intellectual Property and Licensing

We protect our proprietary technology by applying for patents, where appropriate, and in other cases by preserving the technology, related know-how, and information as trade secrets. The success and competitive advantage enjoyed by our product lines depends heavily on our ability to obtain intellectual property protection for our proprietary technologies. We also acquire, through license grants or assignments, rights to patents on inventions originally developed by others. As of September 30, 2019, we held approximately 76 U.S. patents and approximately 64 foreign patents and had over 9 additional patent applications pending. The issued patents cover various products in the major markets we serve. Our U.S. patents will expire on varying dates between 2020 and 2035. These patents and patent applications claim protection for various aspects of current or planned commercial versions of our materials, components, subsystems, and systems.

We also have entered into license agreements with other organizations, under which we have obtained exclusive or non-exclusive rights to practice inventions claimed in various patents and applications issued or pending in the U.S. or other foreign jurisdictions. We do not believe our financial obligations under any of these agreements adversely affects our business, financial condition, or results of operations.

We rely on trade secrets to protect our intellectual property when we believe that publishing patents would make it easier for others to reverse engineer our proprietary processes. We also rely on other intellectual property rights such as trademarks and copyrights where appropriate.


Environmental Regulations

We are subject to U.S. federal, state, and local laws and regulations concerning the use, storage, handling, generation, treatment, emission, release, discharge, and disposal of certain materials used in our research and development and production operations, as well as laws and regulations concerning environmental remediation, homeland security, and employee health and safety. The production of wafers and devices involves the use of certain hazardous raw materials, including, but not limited to, ammonia, phosphine, and arsine. We have in-house professionals to address compliance with applicable environmental, homeland security, and health and safety laws and regulations. We believe that we are currently in compliance with all applicable federal, state, and local environmental protection laws and regulations.



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Competition

The markets for our products are extremely competitive and are characterized by rapid technological change, frequent introduction of new products, short product life cycles, and with respect to certain of our product lines, significant price erosion. We face actual and potential competition from numerous domestic and international companies. Many of these companies have significant engineering, manufacturing, marketing, and financial resources.

We also sell our products to current competitors and companies with the capability of becoming competitors. As the markets for our products grow, new competitors are likely to emerge and current competitors may increase their market share. In the European Union (“EU”) and certain countries throughout the world, political and legal arrangements encourage the purchase of domestically produced goods, which places us at a disadvantage in those regions or countries.

There are substantial barriers to entry by new competitors across our product lines. These barriers include the large number of existing patents, the time and costs required to develop products, the technical difficulty in manufacturing semiconductor-based products, the lengthy sales and qualification cycles, and the difficulties in hiring and retaining skilled employees with the required scientific and technical backgrounds. We believe that the primary competitive factors within our current markets are product cost, yield, throughput, performance and reliability, breadth of product line, product heritage, customer satisfaction, and customer commitment to competing technologies. Competitors may develop enhancements to or future generations of competitive products that offer superior price and performance characteristics. We believe that in order to remain competitive, we must invest significant financial resources in developing new product features and enhancements and in maintaining customer satisfaction worldwide.


Order Backlog

EMCORE's product sales are made pursuant to purchase orders, often with short lead times. These orders are subject to revision or cancellation and often are made without deposits. For certain of our product categories, products typically ship within the same quarter in which a purchase order is received; therefore, our order backlog at any particular date is not necessarily indicative of actual revenue or the level of orders for any succeeding period and may not be comparable to prior periods.


Seasonality

In certain of our previous fiscal years, we have experienced an increase in revenues in our third and fourth fiscal quarters due to increased sales of our CATV products resulting from an increased build of cable networks during seasons with warmer weather.


Employees

As of September 30, 2019, we had approximately 420 employees, including approximately 101 international employees that are located primarily in China. This represents an increase of approximately 29 employees when compared to September 30, 2018, primarily as a result of the purchase of SDI in June 2019, partially offset by a reduction of headcount in China and the U.S. during the fiscal year ended September 30, 2019. None of our employees are covered by a collective bargaining agreement. We have never experienced any labor-related work stoppage and believe that our employee relations are good.

Competition is intense in the recruiting of personnel in the semiconductor industry and fiber optics industries. Our ability to attract and retain qualified personnel is essential to our continued success. We are focused on retaining key contributors, developing our staff, and cultivating their commitment to our Company.


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ITEM 1A.    Risk Factors

We have incurred losses from continuing operations and our future profitability is not certain.

For the fiscal years ended September 30, 2019 and 2018, loss from continuing operations was $36.0 million and $17.5 million, respectively. For the fiscal year ended September 30, 2017, income from continuing operations was $8.2 million. Our operating results for future periods are subject to numerous uncertainties and we cannot be certain that we will be profitable or that we will not experience substantial losses in the future. If we are not able to increase revenue and reduce our costs, we may not be able to achieve profitability in future periods and our business, financial condition, results of operations and cash flows may be adversely affected.


We are a small company and dependent on a few products for our success.

We are a small company with a narrow, focused portfolio of products. Our small size could cause our cash flow and growth prospects to be more volatile and makes us more vulnerable to actions by our competitors. As a small company, we will be subject to greater revenue fluctuations if our older product lines’ sales were to decline faster than we anticipate or if we are unable to grow our revenue inour newer product lines in the manner we anticipate. In addition, we may not be able to appropriately restructure or maintain our supporting functions to fit the needs of a small company, which could adversely affect our business, financial condition, results of operations, and cash flows.


We may not be able to obtain capital when desired on favorable terms, if at all, or without dilution to our shareholders.

We believe that our existing cash and cash equivalents, and cash flows from our operating activities and funds available under our credit facilities, will be sufficient to meet our anticipated cash needs for at least the next 12 months. We operate in an industry, however, that makes our prospects difficult to evaluate. It is possible that we may not generate sufficient cash flow from operations or otherwise have the capital resources to meet our future capital needs. If this occurs, we may need additional financing to continue operations or execute on our current or future business strategies, including to:

invest in our research and development efforts, including by hiring additional technical and other personnel;

maintain and expand our operating or manufacturing infrastructure;

acquire complementary businesses, products, services or technologies; or

otherwise pursue our strategic plans and respond to competitive pressures.

If we raise additional funds through the issuance of equity or convertible debt securities, the percentage ownership of our shareholders could be significantly diluted, and these newly-issued securities may have rights, preferences or privileges senior to those of existing shareholders. We cannot be certain that additional financing will be available on terms favorable to us, or at all. In addition, as described in Note 11 - Credit Facilities in the notes to the consolidated financial statements, our Credit and Security Agreement with Wells Fargo Bank, N.A. (i) is subject to a borrowing base formula based on the Company's eligible accounts receivable, inventory, and machinery and equipment accounts and (ii) requires that for certain specific uses, the Company have liquidity of at least $25.0 million after such use. If adequate funds are not available or are not available on acceptable terms, if and when needed, our ability to fund our operations, take advantage of unanticipated opportunities, develop or enhance our products, or otherwise respond to competitive pressures could be significantly limited. Furthermore, in the event adequate capital is not available to us as required, or is not available on favorable terms, our business, financial condition, results of operations, and cash flows may be adversely affected.


We are substantially dependent on revenues from a small number of customers. The loss of or decrease in sales from any one of these customers could adversely affect our business, financial condition, results of operations, and cash flows.

A small number of customers account for a significant portion of our revenue, and our dependence on orders from a relatively small number of customers makes our relationship with each customer critically important to our business. For example, for the fiscal year ended September 30, 2019, sales to three customers accounted for an aggregate of 55% of our total consolidated

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revenues, for the fiscal year ended September 30, 2018, sales to two customers accounted for an aggregate of 60.3% of our total consolidated revenues, and for the fiscal year ended September 30, 2017, sales to three customers accounted for an aggregate of 71% of our total consolidated revenues. Sales from any of our major customers may decline or fluctuate significantly in the future. We may not be able to offset any decline in sales from our existing major customers with sales from new customers or other existing customers. Because of our reliance on a limited number of customers, any decrease in sales from, or loss of, one or more of these customers without a corresponding increase in sales from other customers would harm our business, operating results, financial condition and cash flows.

In addition, any negative developments in the business of existing significant customers could result in significantly decreased sales to these customers, which could seriously harm our business, operating results, financial condition and cash flows, and if there is consolidation among our customer base, our customers may be able to command increased leverage in negotiating prices and other terms of sale, which could adversely affect our profitability. If we are required to reduce our pricing, our revenue and gross margins would be adversely impacted. Consolidation among our customer base may also lead to reduced demand for our products, replacement of our products by the combined entity with those of our competitors and cancellations of orders, each of which could adversely affect our business, financial condition, results of operations, and cash flows.

Although we are attempting to expand our customer base, the markets in which we sell our products are dominated by a relatively small number of companies, thereby limiting the number of potential customers. Accordingly, our success will depend on our continued ability to develop and manage relationships with significant customers, and we expect that the majority of our sales will continue to depend on sales of our products to a limited number of customers for the foreseeable future.


Our future revenue is inherently unpredictable. As a result, our operating results are likely to fluctuate from period to period, and we may fail to meet the expectations of our analysts and/or investors, which may cause volatility in our stock price and may cause our stock price to decline.

Our quarterly and annual operating results have fluctuated substantially in the past and are likely to fluctuate significantly in the future due to a variety of factors, some of which are outside of our control. Factors that could cause our quarterly or annual operating results to fluctuate include:

a downturn in the markets for our customers’ products;

discontinuation by our vendors of, or unavailability of, components or services used in our products;

disruptions or delays in our manufacturing processes or in our supply of raw materials or product components;

a failure to anticipate changing customer product requirements;

market acceptance of our products;

cancellations or postponements of previously placed orders;

increased financing costs or any inability to obtain necessary financing;

the impact on our business of current or future cost reduction measures;

a loss of key personnel or the shortage of available skilled workers;

economic conditions in various geographic areas where we or our customers do business;

the impact of political uncertainties, such as government sequestration and uncertainties surrounding the federal budget, customer spending and demand for our products;

significant warranty claims, including those not covered by our suppliers;

product liability claims;

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other conditions affecting the timing of customer orders;

reductions in prices for our products or increases in the costs of our raw materials;

effects of competitive pricing pressures, including decreases in average selling prices of our products;

fluctuations in manufacturing yields;

obsolescence of products;

research and development expenses incurred associated with new product introductions;

natural disasters, such as hurricanes, earthquakes, fires, and floods;

the emergence of new industry standards;

the loss or gain of significant customers;

the introduction of new products and manufacturing processes;

changes in technology;

intellectual property disputes;

customs (including tariffs imposed on our products or raw materials, equipment or components used in the production of our products), import/export, and other regulations of the countries in which we do business;

the occurrence of M&A activities; and

acts of terrorism or violence and international conflicts or crises.

In addition, the limited lead times with which several of our customers order our products restrict our ability to forecast
revenue. We may also experience a delay in generating or recognizing revenue for a number of reasons. For example, orders at the beginning of each quarter typically represent a small percentage of expected revenue for that quarter. We depend on obtaining orders during each quarter for shipment in that quarter to achieve our revenue objectives. Failure to ship these products by the end of a quarter may adversely affect our results of operations and cash flows.

As a result of the foregoing factors, we believe that period-to-period comparisons of our results of operations should not be solely relied upon as indicators of future performance.


We are subject to the cyclical nature of the markets in which we compete and any future downturn may reduce demand for our products and revenue.

In the past, the markets in which we compete have experienced significant downturns, often connected with, or in anticipation of, the maturation of product cycles, for both manufacturers’ and their customers’ products, and declining general economic conditions. These downturns have been characterized by diminished product demand, production overcapacity, high inventory levels, and accelerated erosion of average selling prices. These markets are impacted by the aggregate capital expenditures of service providers and enterprises as they build out and upgrade their network infrastructure. These markets are highly cyclical and characterized by constant and rapid technological change, pricing pressures, evolving standards, and wide fluctuations in product supply and demand.

We may experience substantial period-to-period fluctuations in future results of operations. Any future downturn in the markets in which we compete, or changes in demand for our products from our customers, could result in a significant reduction in our revenue and may also increase the volatility of the price of our common stock.


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In addition, the communication networks industry from time to time has experienced and may again experience a pronounced downturn. To respond to a downturn, many service providers and enterprises may slow their capital expenditures, cancel or delay new developments, reduce their workforces and inventories, and take a cautious approach to acquiring new equipment and technologies, any of which could cause our results of operations to fluctuate from period to period and harm our business.


Customer demand is difficult to forecast and, as a result, we may be unable to optimally match production with customer demand.

We make planning and spending decisions, including determining the levels of business that we will seek and accept, production schedules, component procurement commitments, personnel needs and other resource requirements, based on our estimates of customer demand. While our customers generally provide us with their demand forecasts, they are typically not contractually committed to buy any quantity of products beyond firm purchase orders. The short-term nature of our customer commitments and the possibility of unexpected changes in demand for their products limit our ability to accurately predict future customer demand. On occasion, customers have required rapid increases in production, which has strained our resources. We may not have sufficient capacity at any given time to meet the volume demands of our customers, or one or more of our suppliers may not have sufficient capacity at any given time to meet our volume demands. Conversely, a downturn in the markets in which our customers compete can cause, and in the past has caused, our customers to significantly reduce the amount of products ordered from us or to cancel existing orders, leading to lower utilization of our facilities. Because many of our costs and operating expenses are relatively fixed, reduction in customer demand would have an adverse effect on our gross margin, results of operations, and cash flow. During an industry downturn, there is also a higher risk that a larger portion of our trade receivables would be uncollectible. In addition, certain of our arrangements with component vendors require us to purchase minimum quantities of components within specific time periods, which could cause us to hold excess inventories of these components during periods concurrent with a decrease in customer demand for our products.


Our acquisition of Systron Donner Inertial, Inc., and acquisitions of other companies or investments in joint ventures with other companies could adversely affect our operating results, dilute our shareholders' equity, or cause us to incur additional debt or assume contingent liabilities.

To increase our business, maintain our competitive position or for other business or strategic reasons, we may acquire other companies or engage in joint ventures or similar transactions in the future. For example, in June 2019, we acquired SDI, a navigation systems provider with a scalable, chip-based platform for higher volume gyro applications utilizing Quartz MEMS technology. Our acquisition of SDI, and any other acquisitions, joint ventures and similar transactions that we may enter into from time to time, involve a number of risks that could harm our business and result in SDI or any other acquired business or joint venture not performing as expected, including:

problems integrating the acquired operations, personnel, technologies, or products with the existing business and products;

failure to achieve cost savings or other financial or operating objectives with respect to an acquisition;

possible adverse short-term effects on our cash flows or operating results, and the use of cash and other resources for the acquisition that might affect our liquidity, and that could have been used for other purposes;

diversion of management's time and attention from our core business to the acquired business or joint venture;

potential failure to retain key technical, management, sales, and other personnel of the acquired business or joint venture;

difficulties in retaining relationships with suppliers and customers of the acquired business, particularly where such customers or suppliers compete with us;

difficulties in the integration of financial reporting systems, which could cause a delay in the issuance of, or impact the reliability of our financial statements;


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failure to comply with Section 404 of the Sarbanes-Oxley Act of 2002, including a delay in or failure to successfully integrate these businesses into our internal control over financial reporting;

insufficient experience with technologies and markets in which the acquired business is involved, which may be necessary to successfully operate and integrate the business;

reliance upon joint ventures which we do not control;

subsequent impairment of goodwill and acquired long-lived assets, including intangible assets; and

assumption of liabilities including, but not limited to, lawsuits, environmental liabilities, regulatory liabilities, tax examinations and warranty issues.

We may decide that it is in our best interests to enter into acquisitions, joint ventures or similar transactions that are dilutive to earnings per share or that adversely impact margins as a whole. In addition, acquisitions or joint ventures could require investment of significant financial resources and require us to obtain additional equity financing, which may dilute our shareholders' equity, or require us to incur indebtedness.


We expect to consider from time to time further strategic opportunities that may involve acquisitions, dispositions, investments in joint ventures, partnerships, and other strategic alternatives that may enhance shareholder value, any of which may result in the use of a significant amount of our management resources or significant costs, and we may not be able to fully realize the potential benefit of such transactions.

We expect to continue to consider acquisitions, dispositions, investments in joint ventures, partnerships, and other strategic alternatives that may enhance shareholder value. The Strategy and Alternatives Committee of the Board and our management may from time to time be engaged in evaluating potential transactions and other strategic alternatives. In addition, from time to time, we may engage financial advisors, enter into non-disclosure agreements, conduct discussions, and undertake other actions that may result in one or more transactions. Although there would be uncertainty that any of these activities or discussions would result in definitive agreements or the completion of any transaction, we may devote a significant amount of our management resources to analyzing and pursuing such a transaction, which could negatively impact our operations. In addition, we may incur significant costs in connection with seeking such transactions or other strategic alternatives regardless of whether the transaction is completed. In the event that we consummate an acquisition, disposition, partnership, or other or strategic alternative in the future, we cannot be certain that we would fully realize the potential benefit of such a transaction and cannot predict the impact that such strategic transaction might have on our operations or stock price. We do not undertake to provide updates or make further comments regarding the evaluation of strategic alternatives, unless otherwise required by law.


Our failure to successfully manage the transition of certain of our manufacturing operations from our Beijing facility to a contract manufacturer’s facility could harm our business, financial condition, results of operations and cash flows.

In October 2019, we entered into (i) an agreement with Hytera Communications (Hong Kong) Company Limited and Shenzhen Hytera Communications Co., Ltd. (collectively, “Hytera”) to transfer and sell to Hytera the equipment that was being used by us to manufacture certain of our CATV modules and transmitters and (ii) an agreement pursuant to which Hytera agreed to manufacture such CATV modules and transmitters for sale to us. In connection with these agreements, the manufacture of our product lines and sub-assemblies previously manufactured at our Beijing facility is in the process of being relocated to Hytera’s facility located in Thailand.

This transition could involve the re-acceptance and requalification of certain of our products by customers, potentially creating a competitive disadvantage for our products. These initiatives can be time-consuming, disruptive to our operations, and costly in the short-term. In addition, this transition has and will continue to cause us to incur costs associated with the shipment of complex manufacturing equipment.  If we are unable to manage this transfer smoothly and comprehensively, we could suffer delays, resulting in harm to our reputation with our customers and potentially loss of customers. If we are unable to successfully manage the relocation or initiation of the manufacture of these products by our contract manufacturer, our business, financial condition, results of operations and cash flows could be harmed.

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Changes in U.S. and international trade policies, particularly with regard to China, may adversely impact our business and operating results.

The U.S. government has recently taken certain actions with respect to its trade policies, including recently imposed tariffs affecting certain products manufactured in China, and may take further actions with respect to these policies in the future. For example, the U.S. and China have applied tariffs to certain of each other’s exports and announced additional tariffs to be applied in the future to certain of each other’s exports. Certain of our broadband products manufactured by our Chinese affiliate have been included in the tariffs imposed on imports into the U.S. from China, and these products manufactured by our Chinese affiliate may be subject to tariff increases that may be implemented in the future. China has imposed retaliatory tariffs affecting certain products manufactured in the U.S. and imported into China, including our chip products manufactured in the U.S., and other products manufactured by us in the U.S. may be included on lists of products to be targeted by proposed tariff increases that may be implemented by China in the future. The implementation of these tariffs could result in decreased sales of our products manufactured in China and shipped to the U.S. and sales of our products manufactured in the U.S. and shipped to China, which would negatively impact our business.

In addition, it is unknown whether and to what extent new tariffs (or other new laws or regulations) will be adopted that increase the cost of importing products into the U.S., or that might trigger retaliatory action by U.S. trading partners. Further, it is unknown what effect any such new tariffs or retaliatory actions would have on us or our industry and customers. For example, there are risks that the Chinese government may, among other things, require the use of local suppliers, compel companies that do business in China to partner with local companies to conduct business and provide incentives to government-backed local customers to buy from local suppliers. If any new tariffs, legislation and/or regulations are implemented, or if existing trade agreements are renegotiated or if China or other affected countries take retaliatory trade actions, such changes could have a material adverse effect on our business, financial condition, results of operations and cash flows.


We currently have substantial operations in China, which exposes us to risks inherent in doing business in China.

In an effort to keep manufacturing costs down, we currently operate a manufacturing facility and certain operations logistics functions in China. Our China-based activities are subject to greater political, legal, and economic risks than those faced by our other operations. In particular, the political, legal, and economic climate in China (both at the national and regional levels) is extremely volatile and unpredictable. Our ability to operate in China may be adversely affected by changes in, or our failure to comply with, Chinese laws and regulations, such as those relating to taxation, import and export tariffs, environmental regulations, land use rights, intellectual property, labor and employment laws and other matters, which laws and regulations remain underdeveloped and subject to change for political or other reasons, with little or no prior notice. Moreover, the enforceability of applicable existing Chinese laws and regulations is uncertain. For example, since Chinese administrative and court authorities have significant discretion in interpreting and implementing statutory and contract terms, it may be more difficult to evaluate the outcome of administrative and court proceedings and the level of legal protection we would receive. These uncertainties may impede our ability to enforce the contracts we have entered into with our distributors, business partners, customers and suppliers. In addition, protections of intellectual property rights and confidentiality in China may not be as effective as in the U.S. or other countries or regions. All of these uncertainties could limit the legal protections available to us and could materially and adversely affect our business, financial condition, cash flows and results of operations.

Also, if we are found to be, or to have been, in violation of Chinese laws or regulations governing technology import and export, the relevant regulatory authorities have broad discretion in dealing with such violations, including, but not limited to, issuing a warning, levying fines, restricting us from benefiting from these technologies inside or outside of China, confiscating our earnings generated from the import or export of such technology or even restricting our future import and export of any technology.

In addition, we may not obtain the requisite legal permits to continue to operate in China and costs or operational limitations may be imposed in connection with obtaining and complying with such permits. Our business could be adversely harmed by any changes in the political, legal, or economic climate in China, our failure to comply with applicable laws and regulations or our inability to enforce applicable Chinese laws and regulations.


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While under certain circumstances we previously were not subject to certain Chinese taxes and were exempt from customs duty assessment on imported components or materials when our finished products were exported from China, we are no longer eligible for such exemptions due to our current Beijing facility being located in a non-economic zone. In addition, we are required to pay income taxes in China subject to certain tax relief. We may become subject to other forms of taxation and duty assessments in China, including import tariffs as described in more detail above, or may be required to pay for export license fees in the future. In the event that we become subject to any increased taxes or new forms of taxation imposed by authorities in China, our results of operations and cash flows could be adversely affected.

Retention of employees in China is a challenge as compared to companies headquartered in China. If our China employee turnover rates are higher than we expect, or we otherwise fail to adequately manage these rates, then our business and results of operations could be adversely affected.


We may have difficulty maintaining adequate management and financial controls over our China operations.

Businesses in China have historically not adopted a western style of management and financial reporting concepts and practices, which includes strong corporate governance, internal controls and computer, financial and other control systems. Moreover, familiarity with accounting principles generally accepted in the United States of America (“U.S. GAAP”) principles and reporting procedures is less common in China. As a consequence and due to our current operations in China, we may have difficulty employing accounting personnel experienced with U.S. GAAP, and we may have difficulty integrating our China-based accounting staff with our U.S.-based finance organization. As a result of these factors, we may experience difficulty in maintaining adequate management and financial controls over our China operations. These difficulties include collecting financial data and preparing financial statements, books of account and corporate records and instituting business practices that meet U.S. public-company reporting requirements. We may, in turn, experience difficulties in implementing and maintaining adequate internal controls as required under Section 404 of the Sarbanes-Oxley Act. If we cannot provide reliable and timely financial reports, our brand, operating results, and the market value of our equity securities could be harmed.


We have a large amount of intercompany balances with our China entities, which may be subject to taxes and penalties when we try to pay them down or collect them.

Payments for goods and services into and out of China are subject to numerous and over-lapping government regulation with respect to foreign exchange controls, banking controls, import and export controls, and taxes. We have been operating in China for an extended period of time and have accumulated significant intercompany balances with our related entities. Our ability to repay or collect these balances may be restricted by Chinese laws and, as a result, we may be unable to successfully pay down or collect on these balances. As a consequence, we may be assessed additional taxes in China if we are unable to claim bad debt deductions or incur debt forgiveness income from the cancellation of these intercompany balances. Additionally, if we are found not to have complied with the various local laws surrounding cross border payments, we may incur penalties and fines for non-compliance. Any such taxes, penalties and/or fines could be significant in amount and, as a result, could have an adverse effect on our financial condition and results of operations, including our cash and cash equivalent balances.


Our products are complex and may take longer to develop and qualify than anticipated and we face lengthy sales and qualification cycles for our new products and, in many cases, must invest a substantial amount of time and money before we receive orders.

We are constantly developing new products and using new technologies in these products. These products often take substantial time to develop because of their complexity, rigorous testing and qualification requirements and because customer and market requirements can change during the product development or qualification process. Most of our products are tested by current and potential customers to determine whether they meet customer or industry specifications. The length of the qualification process, which can span a year or more, varies substantially by product and customer and, thus, can cause our results of operations and cash flows to be unpredictable. During a given qualification period, we invest significant resources and allocate substantial production capacity to manufacture these new products prior to any commitment to purchase by customers. In addition, it is difficult to obtain new customers during the qualification period as customers are reluctant to expend the resources necessary to qualify a new supplier if they have one or more existing qualified sources. If we are unable to meet applicable specifications or do not receive sufficient orders to profitably use our allocated production capacity, our business, financial condition, results of operations, and cash flows may be adversely affected.


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Our historical and future budgets for operating expenses, capital expenditures, operating leases, and service contracts are based upon our assumptions as to the future market acceptance of our products. Because of the lengthy lead times required for product development and the changes in technology that typically occur while a product is being developed, it is difficult to accurately estimate customer demand for any given product. If our products do not achieve an adequate level of customer demand, our business, financial condition, results of operations, and cash flows may be adversely affected.


Our products are difficult to manufacture. Our production could be disrupted and our results of operations and cash flows could suffer if our production yields are low as a result of manufacturing difficulties.

We manufacture many of our wafers and products in our own production facilities. Difficulties in the production process, such as contamination, raw material quality issues, human error, or equipment failure, could cause a substantial percentage of wafers and devices to be nonfunctional. These problems may be difficult to detect at an early stage of the manufacturing process and often are time-consuming and expensive to correct. Lower-than-expected production yields may delay shipments or result in unexpected levels of warranty claims, either of which could adversely affect our results of operations and cash flows. We have experienced difficulties in achieving planned yields in the past, particularly in pre-production and upon initial commencement of full production volumes, which have adversely affected our gross margins. Because the majority of our manufacturing costs are fixed, achieving planned production yields is critical to our results of operations and cash flows. Changes in manufacturing processes required as a result of changes in product specifications, changing customer needs and the introduction of new product lines could significantly reduce our manufacturing yields, resulting in low or negative margins on those products. In addition, transitioning to automation in certain manufacturing processes could result in manufacturing delays or significantly reduce our manufacturing yields.

Manufacturing yields depend on a number of factors, including the stability and manufacturability of the product design, manufacturing improvements gained over cumulative production volumes, the quality and consistency of component parts and the nature and extent of customization requirements by customers. Higher volume demand for more mature designs requiring less customization generally results in higher manufacturing yields than products with lower volumes, less mature designs and requiring extensive customization. Capacity constraints, raw materials shortages, logistics issues, the introduction of new product lines and changes in our customer requirements, manufacturing facilities or processes or those of our third-party contract manufacturers and component suppliers have historically caused, and may in the future cause, significantly reduced manufacturing yields, negatively impacting the gross margins on, and our production capacity for, those products. Our ability to maintain sufficient manufacturing yields is particularly important with respect to certain products we manufacture, as a result of the long manufacturing process. Moreover, an increase in the rejection and rework rate of products during the quality control process before, during or after manufacture would result in lower yields, gross margins and production capacity. Finally, manufacturing yields and margins can also be lower if we receive and inadvertently use defective or contaminated materials from our suppliers.

Also, we have substantial risk of interruption in manufacturing resulting from fire, natural disaster, equipment failures, or similar events, because we manufacture most of our products using a few facilities, and do not have back-up facilities available for manufacturing these products. We could also incur significant costs to repair and/or replace products that are defective and in some cases costly product redesigns and/or rework may be required to correct a defect. Additionally, any defect could adversely affect our reputation and result in the loss of future orders.

Some of the capital equipment used in the manufacture of our products have been developed and made specifically for us, may not be readily available from multiple vendors, and would be difficult to repair or replace if they were to become damaged or stop working. If any of these suppliers were to experience financial difficulties or go out of business, or if there were any damage to, or a breakdown of our manufacturing equipment at a time when we are manufacturing commercial quantities of our products, our business, financial condition, results of operations, and cash flows could be adversely affected.


If we do not keep pace with rapid technological change, our products may not be competitive.

We compete in markets that are characterized by rapid technological change, frequent new product introductions, changes in customer requirements, evolving industry standards, continuous improvement in products and the use of our existing products in new applications. We may not be able to develop the underlying core technologies necessary to create new products and enhancements to our existing products at the same rate as or faster than our competitors, to develop products that effectively compete with competitors’ products used in new applications, such as remote physical layer (“remote PHY”), or to license the technology from third parties that is necessary for our products. Product development delays may result from numerous factors, including:

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changing product specifications and customer requirements;

unanticipated engineering complexities;

expense reduction measures we have implemented and others we may implement;

difficulties in hiring and retaining necessary technical personnel; and

difficulties in allocating engineering resources and overcoming resource limitations.

We cannot be certain that we will be able to identify, develop, manufacture, market, or support new or enhanced products successfully, if at all, or on a timely, cost effective, or repeatable basis. Our future performance will depend on our successful development and introduction of, as well as market acceptance of, new and enhanced products that address market changes, as well as current and potential customer requirements and our ability to respond effectively to product announcements by competitors, technological changes, or emerging industry standards. Because it is generally not possible to predict the amount of time required and the costs involved in achieving certain research, development and engineering objectives, actual development costs may exceed budgeted amounts and estimated product development schedules may be extended. If we are unable to develop, manufacture, market, or support new or enhanced products successfully, or incur budget overruns or delays in our research and development efforts, our business, financial condition, results of operations, and cash flows may be adversely affected.


Spending to develop and improve our technology may adversely impact our financial results.

We may need to increase our research and development and/or capital expenditures and expenses above our historical run-rate model in order to attempt to improve our existing technology and develop new technology. Increasing our investments in research and development of technology could cause our cost structure to fall out of alignment with demand for our products, which would have a negative impact on our financial results. If we are unable to fund these types of expenditures, we may be unable to improve our technology or develop new technologies, which may adversely affect our business, financial condition, results of operations and cash flows. Further, our research and development programs may not produce successful results, and our new products and services may not achieve market acceptance, create additional revenue or become profitable, which could materially harm our business, prospects, financial results and liquidity.


The competitive and rapidly evolving nature of our industries and pressure from competitors with greater resources has in the past resulted in and is likely in the future to result in reductions in our product prices and periods of reduced demand for our products.

We face substantial competition from a number of companies, many of which have greater financial, marketing, manufacturing, and technical resources than we do. Larger-sized competitors often spend more on research and development, which could give those competitors an advantage in meeting customer demands and introducing technologically innovative products before we do. We expect that existing and new competitors will continue to improve the design of their existing products and will introduce new products with enhanced performance characteristics.

The introduction of new products and more efficient production of existing products by our competitors have resulted and are likely in the future to result in price reductions, increases in expenses, and reduced demand for our products. In addition, some of our competitors may be willing to provide their products at lower prices, accept a lower profit margin, or spend more capital in order to obtain or retain business. Competitive pressures have required us to reduce the prices of some of our products. These competitive forces could diminish our market share and gross margins, resulting in an adverse effect on our business, financial condition, results of operations, and cash flows.


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New competitors may also enter our markets, including some of our current and potential customers who may attempt to integrate their operations by producing their own components and subsystems or acquiring one of our competitors, thereby reducing demand for our products. In addition, rapid product development cycles, increasing price competition due to maturation of technologies, the emergence of new competitors in Asia with lower cost structures, and industry consolidation resulting in competitors with greater financial, marketing, and technical resources could result in lower prices or reduced demand for our products, which could have an adverse effect on our business, financial condition, results of operations, and cash flows.

Expected and actual introductions of new and enhanced products may cause our customers to defer or cancel orders for existing products and may cause our products to become obsolete. A slowdown in demand for existing products ahead of a new product introduction could result in a write-down in the value of inventory on hand related to existing products. We have in the past experienced a slowdown in demand for existing products and delays in new product development and such delays may occur in the future. To the extent customers defer or cancel orders for existing products due to a slowdown in demand or in anticipation of a new product release, or if there is any delay in development or introduction of our new products or enhancements of our products, our business, financial condition, results of operations, and cash flows could be adversely affected.


A failure to attract and retain managerial, technical, and other key personnel could reduce our revenue and our operational effectiveness.

Our future success depends, in part, on our ability to attract and retain certain key personnel, including scientific, operational, financial, and managerial personnel. In addition, our technical personnel represent a significant asset and serve as the source of our technological and product innovations. The competition for attracting and retaining key employees (especially scientists, technical personnel, and senior managers and executives) is intense. Because of this competition for skilled employees, we may be unable to retain our existing personnel or attract additional qualified employees in the future to keep up with our business demands and changes, and our business, financial condition, results of operations, and cash flows could be adversely affected. The risks involved in recruiting and retaining these key personnel may be increased by our historical lack of profitability, the volatility of our stock price, and the perceived effect of previously implemented reductions in force and other cost reduction efforts.


If spending for CATV and optical communications networks declines, our revenues and financial performance may decline.

A material portion of our revenues depend on continued capital investment in CATV and global communications networks infrastructure and on continued demand for high-bandwidth, high-speed communications networks and the ability of original equipment manufacturers to meet this demand. Spending on CATV and communications networks is limited by several factors, including limited investment resources, uncertainty regarding the long-term evolution and sustainability of service provider business models, and a changing regulatory environment. We cannot be certain that demand for bandwidth-intensive content will continue to grow at the same pace in the future or that communications service providers will continue to increase spending to meet such demand. If investment in CATV and communications networks does not grow as anticipated, our revenues, results of operations, and gross margins could be harmed.


Our ability to achieve operational and material cost reductions and to realize production efficiencies for our operations is critical to our ability to achieve long-term profitability.

We have implemented a number of operational and material cost reductions and productivity improvement initiatives, which are intended to reduce our cost structure at both the cost of revenue and the operating expense levels. Cost reduction initiatives often involve the re-design of our products, which requires our customers to accept and qualify the new designs, potentially creating a competitive disadvantage for our products. These initiatives can be time-consuming, disruptive to our operations, and costly in the short-term. Successfully implementing these and other cost-reduction initiatives throughout our operations is critical to our future competitiveness and ability to achieve long-term profitability. However, we cannot be certain that these initiatives will be successful in creating profit margins sufficient to sustain our current operating structure and business.


Our operating results could be harmed if we are unable to obtain timely deliveries of sufficient components of acceptable quality from sole or limited sources of materials, components, or services, or if the prices of components for which we do not have alternative sources increase.


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We currently obtain materials, components, and services used in our products from limited or sole sources. We generally do not carry significant inventories of any raw materials. The reliance on a sole supplier, single qualified vendor or limited number of suppliers could result in delivery or quality problems or reduced control over product pricing, reliability and performance. Because we often do not account for a significant part of our suppliers’ businesses, we may not have access to sufficient capacity from these suppliers in periods of high demand. In addition, since we generally do not have guaranteed supply arrangements with our suppliers, we risk serious disruption to our operations if an important supplier terminates product lines, changes business focus, or goes out of business, and we may need large end of life purchases when a sole source supplier is ceasing manufacturing of required components. Because some of these suppliers are located overseas, we may be faced with higher costs of purchasing these materials if the U.S. dollar weakens against other currencies, or if import tariffs are imposed on these materials. If we were to change any of our limited or sole source suppliers, we would be required to re-qualify each new supplier. Re-qualification could prevent or delay product shipments that could adversely affect our results of operations and cash flows. In addition, our reliance on these suppliers may adversely affect our production if the components vary in quality or quantity. If we are unable to obtain timely deliveries of sufficient components of acceptable quality or if the prices of components for which we do not have alternative sources increase, our business, financial condition, results of operations, and cash flows could be materially adversely affected.


If our contract manufacturers fail to deliver qualified products at reasonable prices and on a timely basis, our business, financial condition, results of operations, and cash flows could be adversely affected.

We use contract manufacturers as a less-expensive alternative to our manufacturing of certain products. Contract manufacturers in Asia currently manufacture a significant portion of our CATV fiber optics products. We supply inventory to our contract manufacturers, and we bear the risk of loss, theft, or damage to our inventory while it is held in their facilities.

If these contract manufacturers do not fulfill their obligations to us, or if we do not properly manage these relationships and the transition of production to these contract manufacturers, our existing customer relationships may suffer. In addition, by undertaking these activities, we run the risk that the reputation and competitiveness of our products and services may deteriorate as a result of the reduction of our ability to oversee and control the assembly process, quality and delivery schedules. If we fail to manage our relationship with our contract manufacturers, or if any of the contract manufacturers experience financial difficulty, delays, disruptions, capacity constraints or quality control problems in their operations, our ability to ship products to our customers could be impaired and our competitive position and reputation could be harmed.

The use of contract manufacturers located outside of the U.S. also subjects us to the following additional risks that could significantly impair our ability to source our contract manufacturing requirements internationally, including:

unexpected changes in regulatory requirements;

legal uncertainties regarding liability, tariffs, and other trade barriers;

inadequate protection of intellectual property in some countries;

greater incidence of shipping delays;

greater difficulty in overseeing manufacturing operations;

greater difficulty in hiring talent needed to oversee manufacturing operations;

potential political and economic instability and natural disasters;

potential adverse actions by the U.S. government pursuant to its stated intention to reduce the loss of U.S. jobs;

trade and travel restrictions; and

the outbreak of infectious diseases which could result in travel restrictions or the closure of the facilities of our contract manufacturers.


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Any of these factors could significantly impair our ability to source our contract manufacturing requirements internationally. Prior to our customers accepting products manufactured at our contract manufacturers, they must qualify the product and manufacturing processes. The qualification process can be lengthy and expensive, with no guarantee that any particular product qualification process will lead to profitable product sales. The qualification process determines whether the product manufactured at our contract manufacturer achieves our customers' quality, performance, and reliability standards. Our expectations as to the time periods required to qualify a product line and ship products in volumes to our customers may be erroneous. Delays in qualification can impair our expected timing of the transfer of a product line to our contract manufacturer and may impair our expected amount of sales of the affected products. Any of these uncertainties could adversely affect our operating results and customer relationships.

In addition, our contract manufacturers may terminate our agreements with them upon prior notice to us or immediately for reasons such as if we become insolvent, or if we fail to perform a material obligation under the agreements. If we are required to change contract manufacturers or assume internal manufacturing operations for any reason, including the termination of one of our contracts, we will likely suffer manufacturing and shipping delays, lost revenue, increased costs and damage to our customer relationships, any of which could harm our business, financial condition, results of operations and cash flows.


We participate in vendor managed inventory programs for the benefit of certain of our customers, which could result in increased inventory levels and/or decreased visibility into the timing of sales.

Certain of our significant customers have implemented a supply chain management tool called vendor managed inventory (“VMI”) that requires us to assume responsibility for maintaining an agreed upon level of consigned inventory at the customer’s location or at a third-party logistics provider, based on the customer’s demand forecast. Notwithstanding the fact that the supplier builds and ships the inventory, the customer does not purchase the consigned inventory until the inventory is drawn or pulled from the customer or third-party location to be used in the manufacture of the customer’s product. Though the consigned inventory may be at the customer’s or third-party logistics provider’s physical location, it remains inventory owned by the supplier until the inventory is drawn or pulled, which is the time at which the sale takes place. In addition, certain of our customers require us to maintain agreed levels of product inventory at our own locations. Our participation in VMI programs and our commitment to other product inventory requirements at our own locations has resulted in our experiencing higher levels of inventory than we might otherwise and has decreased our visibility into the timing of when our finished goods will ultimately result in revenue-generating sales.

Such VMI programs and other inventory requirements increase the likelihood that estimates of our customers’ requirements that prove to be greater than our customers’ actual purchases could result in surplus inventory and we could be required to record charges for obsolete or excess inventories. If we are unable to effectively manage our customers’ VMI programs or other inventory requirements, our business, financial condition, results of operations and cash flows may be adversely affected.


It could be discovered that our products contain defects that may cause us to incur significant costs, divert management's attention, result in a loss of customers, and result in product liability claims.

Our products are complex and undergo quality testing and formal qualification by our customers and us. However, defects may occur from time to time. Our customers' testing procedures involve evaluating our products under likely and foreseeable failure scenarios and over varying amounts of time. For various reasons, such as the occurrence of performance problems that are unforeseeable in testing or that are detected only when products age or are operated under peak stress conditions, our products may fail to perform as expected long after customer acceptance. Failures could result from faulty components or design, problems in manufacturing, or other unforeseen reasons. For the majority of our products, we provide a product warranty of one year or less from date of shipment. For select customers, we provide extended warranties beyond our normal product warranty period for specified failures on a case-by-case basis. As a result, we could incur significant costs to repair or replace defective products under warranty, particularly when such failures occur in installed systems. We have experienced failures in the past and will continue to face this risk going forward, as our products are widely deployed throughout the world in multiple demanding environments and applications. In addition, we may in certain circumstances honor warranty claims after the warranty has expired or for problems not covered by warranty in order to maintain customer relationships. Any significant product failure could result in product recalls, product liability claims, lost future sales of the affected product and other products, as well as customer relations problems, litigation, and damage to our reputation.

In addition, our products are typically embedded in, or deployed in conjunction with, our customers' products, which incorporate a variety of components, modules and subsystems and may be expected to interpolate with modules and subsystems produced by third parties. As a result, not all defects are immediately detectable and when problems occur, it may

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be difficult to identify the source of the problem. These problems may cause us to incur significant damages or warranty and repair costs, divert the attention of our engineering personnel from our product development efforts, and cause significant customer relations problems or loss of customers, all of which would harm our business. The occurrence of any defects in our products could also give rise to liability for damages caused by such defects. Although we carry product liability insurance to mitigate this risk, insurance may not adequately cover costs that may arise from defects in our products or otherwise, nor will it protect us from reputational harm that may result from such defects. Costs incurred in connection with product recalls or warranty or product liability claims may adversely affect our business, financial condition, results of operations, and cash flows.


Shifts in industry-wide demands and inventories could result in significant inventory write-downs.

The life cycles of some of our products depend heavily upon the life cycles of the end products into which our products are designed. Products with short life cycles require us to manage production and inventory levels closely. We evaluate our ending inventories on a quarterly basis for excess quantities, impairment of value, and obsolescence. This evaluation includes analysis of sales levels by product and projections of future demand based upon input received from our customers, sales team, and management. If inventories on hand are in excess of demand, or if they are generally greater than 12-months old, appropriate write-downs may be recorded. In addition, we write off inventories that are considered obsolete based upon changes in customer demand, manufacturing process changes that result in existing inventory obsolescence, or new product introductions, which eliminate demand for existing products. Remaining inventory balances are adjusted to approximate the lower of our manufacturing cost or net realizable market value.

If future demand or market conditions are less favorable than our estimates, inventory write-downs may be required. We cannot be certain that obsolete or excess inventories, which may result from unanticipated changes in the estimated total demand for our products and/or the estimated life cycles of the end products into which our products are designed, will not affect us beyond the inventory charges that we have already taken.


The types of sales contracts we use in the markets we serve subject us to unique risks in each of those markets.

We generally do not have long-term supply contracts with our customers, we typically sell our products pursuant to purchase orders with short lead times, and even where we do have long-term supply contracts, our customers are typically not obligated to purchase any minimum amount of our products. As a result, in most cases our customers could stop purchasing our products at any time, and we must fulfill orders in a timely manner to keep our customers satisfied.

Risks associated with an absence of long-term purchase commitments with our customers include the following:

our customers can stop purchasing our products at any time without penalty;

our customers may purchase products from our competitors; and

our customers are not required to make minimum purchases.

These risks are increased by the fact that our customers in this market are large sophisticated companies which have considerable purchasing power and control over their suppliers. If we are unable to fulfill these orders in a timely manner, it is likely that we will lose sales and customers.

Fixed-price development work inherently has more uncertainty than production contracts and, therefore, entails more variability in estimates of the cost to complete the work. Many of these development programs have very complex designs. As technical or quality issues arise, we may experience schedule delays and adverse cost impacts, which could increase our estimated cost to perform the work, either of which could adversely affect our results of operations. Some fixed-price development contracts include initial production units in their scope of work. Successful performance of these contracts depends on our ability to meet production specifications and delivery rates. If we are unable to perform and deliver to contract requirements, our contract price could be reduced through the incorporation of liquidated damages, termination of the contract for default, or other financially significant consequences. Management uses its best judgment to estimate the cost to perform the work and the price we will eventually be paid on fixed-price development programs. While we believe the cost and price estimates incorporated in the financial statements are appropriate, future events could result in either favorable or unfavorable adjustments to those estimates.


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We have significant international sales, which expose us to additional risks and uncertainties.

For the fiscal years ended September 30, 2019, 2018 and 2017, sales to customers located outside the U.S. accounted for approximately 21%, 19% and 20%, respectively, of our annual consolidated revenue, with revenue assigned to geographic regions based on our customers' billing address. Sales to customers in Asia represent the majority of our international sales. We believe that international sales will continue to account for a significant percentage of our revenue as we seek international expansion opportunities. In addition, certain of our sales to customers with a U.S. billing address may be physically shipped to a location outside of the U.S. Our international sales and operations are subject to a number of material risks, including, but not limited to:

political and economic instability or changes in U.S. government policy with respect to these foreign countries may inhibit export of our products and limit potential customers’ access to U.S. dollars in a country or region in which those potential customers are located;

we may experience difficulties in enforcing our legal contracts or the collecting of foreign accounts receivable in a timely manner and we may be forced to write off these receivables;

tariffs and other barriers may make our products less cost competitive;

the laws of certain foreign countries may not adequately protect our trade secrets and intellectual property or may be burdensome to comply with;

potentially adverse tax consequences to our customers may damage our cost competitiveness;

customs, import/export, and other regulations of the countries in which we do business may adversely affect our business;

different technical standards or requirements, such as country or region-specific requirements to eliminate the use of lead

currency fluctuations may make our products less cost competitive, affecting overseas demand for our products or otherwise adversely affecting our business; and

language and other cultural barriers may require us to expend additional resources competing in foreign markets or hinder our ability to effectively compete.

Negative developments in one or more countries or regions in which we operate or sell our products could result in a reduction in demand for our products, the cancellation or delay of orders already placed, difficulties in producing and delivering our products, threats to our intellectual property, difficulty in collecting receivables, or a higher cost of doing business, any of which could negatively impact our business, financial condition, cash flows and results of operations. In addition, we may be exposed to legal risks under the laws of the countries outside the U.S. in which we do business, as well as the laws of the U.S. governing our business activities in those other countries, such as the U. S. Foreign Corrupt Practices Act ("FCPA").


We could be subject to legal and regulatory consequences if we fail to comply with applicable export control laws and regulations.

Exports of certain of our products are subject to export controls imposed by the U.S. government and administered by the United States Departments of State and Commerce. In certain instances, these regulations may require pre-shipment authorization from the administering department. For products subject to the Export Administration Regulations, or EAR, administered by the Department of Commerce’s Bureau of Industry and Security, the requirement for a license is dependent on the type and end use of the product, the final destination, the identity of the end user and whether a license exception might apply. Virtually all exports of products subject to the International Traffic in Arms Regulations, or ITAR, administered by the Department of State’s Directorate of Defense Trade Controls, require a license.


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Obtaining necessary export licenses can be difficult and time-consuming. Failure to obtain necessary export licenses could significantly reduce our revenue and adversely affect our business, financial condition, results of operations and cash flows. We could be subject to investigation and potential regulatory consequences, including, but not limited to, a no-action letter, monetary penalties, debarment from government contracting or denial of export privileges and criminal sanctions, any of which would adversely affect our business, financial condition, results of operations and cash flows. Compliance with U.S. government regulations may also subject us to significant fees and expenses, including legal expenses, and require us to expend significant time and resources. Finally, the absence of comparable restrictions on competitors in other countries may adversely affect our competitive position.


For a portion of our business, we are subject to extensive government regulation, and our failure to comply with applicable regulations could subject us to penalties that may restrict our ability to conduct our business.

As a contractor and/or subcontractor to the U.S. government, we are subject to and must comply with various government regulations that impact our revenue, operating costs, profit margins and the internal organization and operation of our business. The most significant regulations and regulatory authorities affecting the portion of our business related to U.S. government contracts include the following:

the Federal Acquisition Regulations, Defense Federal Acquisition Regulation Supplement and other supplemental agency regulations, which comprehensively regulate the formation and administration of, and performance under, U.S. government contracts;

the Truth in Negotiations Act, which requires certification and disclosure of all factual cost and pricing data in connection with contract negotiations;

the False Claims Act and the False Statements Act, which impose penalties for payments made on the basis of false facts provided to the government and on the basis of false statements made to the government, respectively; and

the Foreign Corrupt Practices Act, which prohibits U.S. companies from providing anything of value to a foreign official to help obtain, retain or direct business, or obtain any unfair advantage.

Our failure to comply with applicable regulations, rules and approvals or misconduct by any of our employees could result in the imposition of fines and penalties, the loss of our government contracts or our suspension or debarment from contracting with the U.S. government generally, any of which could harm our business, financial condition, results of operations and cash flows. We are also subject to certain regulations of comparable government agencies in other countries, and our failure to comply with these non-U.S. regulations could also harm our business, financial condition, results of operations and cash flows.


Our business related to government contracts subjects us to additional risks.

We believe that the growth of our navigation business for the foreseeable future will depend to a certain degree on our ability to win government contracts and subcontracts, in particular from the Department of Defense. Many of our government customers are subject to budgetary constraints and our continued performance under these contracts or subcontracts, or award of additional contracts or subcontracts from these agencies, could be jeopardized by spending reductions, including constraints on government spending imposed by the Budget Control Act of 2011 and its subsequent amendments, or budget cutbacks at these agencies. The funding of U.S. government programs is uncertain and dependent on continued congressional appropriations and administrative allotment of funds based on an annual budgeting process. We cannot be certain that current levels of congressional funding for our products and services will continue and that our business related to these products will not decline or increase at currently anticipated levels, or that we will not be subject to delays in the negotiation of contracts or increased costs due to changes in the funding of U.S. government programs. A significant decline in government expenditures generally, or with respect to programs for which we provide products, could adversely affect our business and prospects.


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In addition, our business could be adversely affected by a negative audit or investigation by the U.S. government. U.S. government agencies, primarily the Defense Contract Audit Agency and the Defense Contract Management Agency, routinely audit and investigate government contractors. These agencies review a contractor’s performance under its contracts, cost structure and compliance with applicable laws, regulations and standards. These agencies also may review the adequacy of, and a contractor’s compliance with, its internal control systems and policies, including the contractor’s purchasing, quality, accounting, property, estimating, compensation and management information systems. Any costs found to be improperly allocated to a specific cost reimbursement contract will not be reimbursed, while such costs already reimbursed must be refunded. If an audit or investigation of our business were to uncover improper or illegal activities, then we could be subject to civil and criminal penalties and administrative sanctions, including termination of contracts, suspension of payments, fines and suspension or debarment from doing business with the U.S. government. We could experience serious harm to our reputation if allegations of impropriety or illegal acts were made against us, even if the allegations were inaccurate. In addition, responding to governmental audits or investigations may involve significant expense and divert management attention. Moreover, if any of our administrative processes and business systems are found not to comply with the applicable requirements, we may be subjected to increased government scrutiny or required to obtain additional governmental approvals that could delay or otherwise adversely affect our ability to compete for or perform contracts. If any of the foregoing were to occur, our business, financial condition, operating results and cash flows may be adversely affected.


Our failure to obtain or maintain the right to use certain intellectual property may adversely affect our business, financial condition, results of operations, and cash flows.

Our industries are characterized by frequent litigation regarding patent and other intellectual property rights. From time to time we have received, and may receive in the future, notice of claims of infringement of other parties’ proprietary rights and licensing offers to commercialize third party patent rights. Numerous patents in our industry are held by others, including our competitors and certain academic institutions. Our competitors may seek to gain a competitive advantage or other third parties may seek an economic return on their intellectual property portfolios by making infringement claims against us. We cannot be certain that:

infringement claims (or claims for indemnification resulting from infringement claims) will not be asserted against us or that such claims will not be successful;

future assertions will not result in an injunction against the sale of infringing products, which could require us to cease the manufacture, use or sale of the infringing products, processes or technology and expend significant resources to develop non-infringing technology, adversely affecting our business, results of operations, and cash flows;

any patent owned or licensed by us will not be invalidated, circumvented, or challenged; or

we will not be required to obtain licenses or pay substantial damages for past, present and future use of the infringing technology, the expense of which may adversely affect our results of operations, and cash flows.

For example, on June 12, 2018, Phoenix Navigation Components, LLC (“Phoenix”) commenced an arbitration against EMCORE with the American Arbitration Association (“AAA”) in New York and on June 21, 2018, Phoenix commenced a special proceeding against EMCORE in the New York Supreme Court, Commercial Division, Index No. 653128/2018. Please see the disclosures under the caption “Legal Proceedings” in Note 13 - Commitments and Contingencies in the notes to our condensed consolidated financial statements for additional information regarding these proceedings.

In addition, effective copyright and trade secret protection may be unavailable or limited in certain foreign jurisdictions. Litigation, which could result in substantial cost and diversion of our resources, may be necessary to defend our rights or defend us against claimed infringement of the rights of others. In certain circumstances, our intellectual property rights associated with government contracts may be limited.



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If we fail to protect, or incur significant costs in defending, our intellectual property and other proprietary rights, our business and results of operations could be materially harmed.

Our success depends to a significant degree on our ability to protect our intellectual property and other proprietary rights. We rely on a combination of patent, trademark, trade secret and unfair competition laws, as well as license agreements and other contractual provisions, to establish and protect our intellectual property and other proprietary rights. We have applied for patent registrations in the United States and selected international jurisdictions, most of which have been issued. We cannot guarantee that our pending applications will be approved by the applicable governmental authorities. Moreover, our existing and future patents and trademarks may not be sufficiently broad to protect our proprietary rights or may be held invalid or unenforceable in court. Failure to obtain patent registrations or a successful challenge to our registrations in the United States or other foreign countries may limit our ability to protect the intellectual property rights that these applications and registrations are intended to cover.

We also attempt to protect our intellectual property, including our trade secrets and know-how, through the use of trade secret and other intellectual property laws, and contractual provisions. We enter into confidentiality and invention assignment agreements with our employees and independent consultants. We also use non-disclosure agreements with other third parties who may have access to our proprietary technologies and information. Such measures, however, provide only limited protection, and we cannot be certain that our confidentiality and non-disclosure agreements will not be breached, especially after our employees or those of our third-party contract manufacturers end their employment or engagement, and that our trade secrets will not otherwise become known by competitors or that we will have adequate remedies in the event of unauthorized use or disclosure of proprietary information. Unauthorized third parties may try to copy or reverse engineer our products or portions of our products, otherwise obtain and use our intellectual property, or may independently develop similar or equivalent trade secrets or know-how. If we fail to protect our intellectual property and other proprietary rights, or if such intellectual property and proprietary rights are infringed or misappropriated, we could lose our competitive advantage and our business, results of operations, financial condition and cash flows could be materially harmed.

Policing unauthorized use of our technology is difficult, and we cannot be certain that the steps we have taken will prevent the misappropriation, unauthorized use, or other infringement of our intellectual property rights. Further, we may not be able to effectively protect our intellectual property rights from misappropriation or other infringement in foreign countries where we have not applied for patent protections, and where effective patent, trademark, trade secret, and other intellectual property laws may be unavailable, or may not protect our proprietary rights as fully as U.S. law.

In the future, we may need to take legal actions to prevent third parties from infringing upon or misappropriating our intellectual property or from otherwise gaining access to our technology. Protecting and enforcing our intellectual property rights and determining their validity and scope could result in significant litigation costs and require significant time and attention from our technical and management personnel, which could significantly harm our business. The availability of financial resources may limit our ability to commence or defend such litigation. In addition, we may not prevail in such proceedings. An adverse outcome of such proceedings may reduce our competitive advantage or otherwise harm our business, financial condition, results of operations and cash flows.



We may be obligated to indemnify our customers and vendors for claims that our intellectual property infringes the rights of others, which may result in substantial expenses to us.

We may be required to indemnify our customers or vendors for intellectual property claims made against them for products incorporating our technology. As such, claims against our customers and vendors may require us to incur substantial expenses, such as legal expenses, damages for past infringement or royalties for future use. Future indemnity claims could adversely affect our business relationships and result in substantial costs to us.



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We face certain litigation risks that could harm our business.

We are and may become subject to various legal proceedings and claims that arise in or outside the ordinary course of business. The results of complex legal proceedings are difficult to predict. Moreover, many of the complaints filed against us do not specify the amount of damages that plaintiffs seek, and we therefore are unable to estimate the possible range of damages that might be incurred should these lawsuits be resolved against us. However, certain of these lawsuits assert types of claims that, if resolved against us, could give rise to substantial damages. Thus, an unfavorable outcome or settlement of one or more of these lawsuits may have an adverse effect on our business, financial condition, results of operations and cash flows. Even if these lawsuits are not resolved against us, the uncertainty and expense associated with unresolved lawsuits could seriously harm our business, financial condition, and reputation. Litigation is costly, time-consuming and disruptive to normal business operations. The costs of defending these lawsuits have been significant, will continue to be costly, and may not be covered by our insurance policies. The defense of these lawsuits could also result in continued diversion of our management's time and attention away from business operations, which could harm our business. For additional discussion regarding litigation in which we are involved, see Note 13 - Commitments and Contingencies in the notes to our consolidated financial statements.


We could be subject to legal consequences if we fail to comply with the Modified Partial Final Award issued in connection with the Phoenix legal proceedings.

In the Interim Award incorporated by reference into the Modified Partial Final Award (in each case as defined in the disclosures under the caption “Legal Proceedings” in Note 13 - Commitments and Contingencies in the notes to our condensed consolidated financial statements), the arbitrator determined and ordered that we are required to pay Phoenix a royalty of 7.5% of the sale price on (i) future customer payments for certain EMCORE product contracts previously entered into at the time the Interim Award was issued and (ii) customer payments for future sales of any product using any Deemed Trade Secret (as defined in the disclosures under the caption “Legal Proceedings” in Note 13 - Commitments and Contingencies in the notes to our condensed consolidated financial statements), in each case payable in a single lump sum within one month of completion of the calendar quarter in which payment has been received from the customer, and that we are required to concurrently submit to Phoenix a written report that sets forth the calculation of the amount of the royalty payment in a form similar to previous royalty reports, provided that following the first $1.0 million of royalty payments on the EMP-1 product only, inclusive of payments made prior to the Interim Award, we must pay to Phoenix a royalty of 2.25% of the sale price (net of any warranty work, returns, rebates, discounts or credits) with respect to subsequent sales of the EMP-1 product. We must continue to make royalty payments in this manner until such time as we have in good faith determined, and can so document, that it has completely ceased use of the Deemed Trade Secrets, and at such time, we must provide Phoenix written notice of same by certified letter, return receipt requested. If we fail to comply with these obligations, it could be subject to additional claims, penalties or judgments, which could harm our business, financial condition, results of operations and cash flows. In addition, we could be subject to significant legal costs and expenses in connection with the interpretation of certain of the obligations pursuant to the Interim Award, which could harm our business, financial condition, results of operations and cash flows.


Our business and operations could be adversely impacted in the event of a failure or security breach of our information technology infrastructure.

We rely upon the capacity, reliability, and security of our information technology hardware and software infrastructure and our ability to expand and update this infrastructure in response to our changing needs. We are constantly updating our information technology infrastructure. Although we have a disaster recovery plan, any failure to manage, expand, and update our information technology infrastructure or any failure in the operation of this infrastructure could harm our business.


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The secure maintenance of this information is critical to our business and reputation. Despite our implementation of security measures, our systems are vulnerable to damages from computer viruses, computer denial-of-service attacks, worms, and other malicious software programs or other attacks, covert introduction of malware to computers and networks, unauthorized access, including impersonation of unauthorized users, efforts to discover and exploit any security vulnerabilities or securities weaknesses, and other similar disruptions. Our business is also subject to break-ins, sabotage, and intentional acts of vandalism by third parties as well as intentional and unintentional acts by employees or other insiders with access privileges. Our customers’ network and storage applications may be subject to similar disruptions. It is often difficult to anticipate or immediately detect such incidents and the damage caused by such incidents. Data breaches and any unauthorized access or disclosure of our information, employee information or intellectual property could compromise our intellectual property, trade secrets and other sensitive business information, any of which could result in legal action against us, exposure of our intellectual property to our competitors, damages, fines and other adverse effects. A data security breach could also lead to public exposure of personal information of our employees, customers and others. Any such theft, loss or misuse of personal data collected, used, stored or transferred by us to run our business could result in significantly increased security costs or costs related to defending legal claims. Cyber attacks, such as computer viruses or other forms of cyber terrorism, may disrupt access to our network or storage applications. Such disruptions could result in delays or cancellations of customer orders or delays or interruptions in the production or shipment of our products. Data security breaches involving our data center customers could affect their financial condition and ability to continue to purchase our products. In addition, cyber attacks may cause us to incur significant remediation costs, result in product development delays, disrupt key business operations and divert attention of management and key information technology resources. These incidents could also subject us to liability, expose us to significant expense and cause significant harm to our reputation and business.

In addition, our technology infrastructure and systems are vulnerable to damage or interruption from natural disasters, power loss and telecommunications failures. Further, our products contain sophisticated hardware and operating system software and applications that may contain security problems, security vulnerabilities, or defects in design or manufacture, including “bugs” and other problems that could interfere with the intended operation of our products. To the extent that any disruption or security breach results in a loss or damage to our technology infrastructure, systems or data or inappropriate disclosure of confidential information or sensitive or personal information, it could harm our relationships with customers and other third parties and damage our brand and reputation and our business. In addition, we may be required to incur significant costs to protect against damage caused by these disruptions or security breaches in the future.


We may be subject to theft, loss, or misuse of personal data about our employees, customers, or other third parties, which could increase our expenses, damage our reputation, or result in legal or regulatory proceedings.

The theft, loss, or misuse of personal data collected, used, stored, or transferred by us to run our business could result in significantly increased security costs or costs related to defending legal claims. Global privacy legislation, enforcement, and policy activity in this area are rapidly expanding and creating a complex compliance regulatory environment. Costs to comply with and implement these privacy-related and data protection measures could be significant. In addition, our even inadvertent failure to comply with federal, state, or international privacy-related or data protection laws and regulations could result in proceedings against us by governmental entities or others or cause us to incur penalties or other significant legal liability or change our business practices.



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The costs of compliance with state, federal and international legal and regulatory requirements, such as environmental, labor, trade and tax regulations, and customers' standards of corporate citizenship could cause an increase in our operating costs.

We are subject to environmental and health and safety laws and regulations and must obtain certain permits and licenses relating to the use of hazardous materials in our production activities. If our control systems are unsuccessful in preventing a release of these materials into the environment or other adverse environmental conditions or human exposure occurs, we could experience interruptions in our operations and incur substantial remediation and other costs or liabilities. We are also subject to a number of federal and state laws and regulations related to safety, including OSHA and comparable state statutes, the purpose of which are to protect the health and safety of workers. Failure to comply with OSHA requirements and other related state regulations, including general industry standards, record keeping requirements and monitoring and control of occupational exposure to regulated substances, could have a material adverse effect on our results of operations and financial condition if we are subjected to significant penalties, fines or compliance costs. In addition, certain foreign laws and regulations place restrictions on the concentration of certain hazardous materials, including, but not limited to, lead, mercury, and cadmium, in our products. Failure to comply with such laws and regulations could subject us to future liabilities or result in the limitation or suspension of the sale or production of our products. These regulations include the European Union's (EU) Restrictions on Hazardous Substances and Directive on Waste Electrical and Electronic Equipment. Failure to comply with environmental and health and safety laws and regulations may limit our ability to export products to the EU and could adversely affect our business, financial condition, results of operations, and cash flows. In addition, we purchase certain chemicals from Europe and Asia that are unique, nearing the end of life and could be subject to future changes to environmental regulations in the country of origin and/or the U.S. In the event new restrictions are placed on any such chemicals, they may be difficult to replace, and may require us to re-design or re-validate existing products that use such chemicals in their production.

In connection with our compliance with such environmental laws and regulations, as well as our compliance with industry environmental initiatives, the standards of business conduct required by some of our customers, and our commitment to sound corporate citizenship in all aspects of our business, we could incur substantial compliance and operating costs and be subject to disruptions to our operations. In addition, in the last few years, there has been increased media scrutiny and associated reports focusing on a potential link between working in semiconductor manufacturing clean room environments and certain illnesses, primarily different types of cancers. Regulatory agencies and industry associations have begun to study the issue to see if any actual correlation exists. Because we utilize clean rooms, we may become subject to liability claims. These reports may also affect our ability to recruit and retain employees. If we were found to be in violation of environmental and safety regulations laws or noncompliance with industry initiatives or standards of conduct, we could be subject to government fines or liabilities owed to our customers, which could have an adverse effect on our business, financial condition, results of operations, and cash flows.

In addition, climate change is a significant topic of discussion and potential regulatory activity and has generated and may continue to generate federal or other regulatory responses in the near future. If we or our component suppliers fail to timely comply with applicable legislation, our customers may refuse to purchase our products or we may face increased operating costs as a result of taxes, fines or penalties, which may have an adverse effect on our business, financial condition, results of operations and cash flows.

The Department of Homeland Security has commenced a program to evaluate the security of certain chemicals which may be of interest to terrorists, including chemicals utilized by us. This evaluation may lead to regulations or restrictions affecting our ability to utilize these chemicals or the costs of doing so.

In connection with our compliance with such environmental laws and regulations, as well as our compliance with industry environmental initiatives, the standards of business conduct required by some of our customers, and our commitment to sound corporate citizenship in all aspects of our business, we could incur substantial compliance and operating costs and be subject to disruptions to our operations and logistics. In addition, if we were found to be in violation of these laws or noncompliant with these initiatives or standards of conduct, we could be subject to governmental fines, liability to our customers and damage to our reputation and corporate brand which could cause our business, financial condition, results of operations and cash flows to suffer.



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We are subject to anti-corruption laws in the jurisdictions in which we operate, including the FCPA. Our failure to comply with these laws could result in penalties which could harm our reputation and have an adverse effect on our business, results of operations and financial condition.

We are subject to the FCPA, which generally prohibits companies and their intermediaries from making improper payments to foreign officials for the purpose of obtaining or keeping business and/or other benefits, along with various other anticorruption laws. Although we have implemented policies and procedures designed to ensure that we, our employees and other intermediaries comply with the FCPA and other anticorruption laws to which we are subject, we cannot be certain that such policies or procedures will work effectively all of the time or protect us against liability under the FCPA or other laws for actions taken by our employees and other intermediaries with respect to our business or any businesses that we may acquire.

We have manufacturing operations in China and other jurisdictions, many of which pose elevated risks of anti-corruption violations, and we export our products for sale internationally. This puts us in frequent contact with persons who may be considered “foreign officials” under the FCPA, resulting in an elevated risk of potential FCPA violations. If we are not in compliance with the FCPA and other laws governing the conduct of business with government entities (including local laws), we may be subject to criminal and civil penalties and other remedial measures, which could have an adverse impact on our business, financial condition, results of operations and cash flows. Any investigation of any potential violations of the FCPA or other anticorruption laws by U.S. or foreign authorities could harm our reputation and have an adverse impact on our business, financial condition, results of operations and cash flows.


If we identify deficiencies in our current system of internal controls or fail to remediate them, we may not be able to accurately report our financial results or prevent fraud. As a result, our business could be harmed and current and potential investors could lose confidence in our financial reporting, which could have an adverse effect on the trading price of our equity securities.

We are subject to the ongoing internal control provisions of Section 404 of the Sarbanes-Oxley Act of 2002. These provisions provide for the identification of material weaknesses or other lesser deficiencies in internal control over financial reporting, which is a process to provide reasonable assurance regarding the reliability of financial reporting for external purposes in accordance with U.S. GAAP. If we cannot provide reliable and timely financial reports, our brand, operating results, and the market value of our equity securities could be harmed. We have in the past discovered, and may in the future discover, areas of our internal controls that need improvement.

We have devoted significant resources to remediate and improve our internal controls. We have also been monitoring the effectiveness of these remediated measures. We cannot be certain that these measures will ensure adequate controls over our financial processes and reporting in the future. Any failure to implement required new or improved controls, or difficulties encountered in their implementation, could harm our operating results or cause us to fail to meet our reporting obligations.

Inadequate internal controls could also cause investors to lose confidence in our reported financial information, which could have an adverse effect on the trading price of our equity securities. Further, the impact of these events could also make it more difficult for us to attract and retain qualified persons to serve on our Board of Directors or as executive officers, which could harm our business.

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We could be required to record an impairment charge as a result of changes to assumptions used in our impairment testing.

We have substantial long-lived assets recorded on our balance sheet. As of September 30, 2019, we had $37.2 million of property, plant and equipment, net, on our consolidated balance sheet. If we make changes in our business strategy or if market or other conditions adversely affect our business operations, we may be forced to record an impairment charge related to these assets, which would adversely impact our results of operations. Impairment assessment inherently involves judgment as to assumptions about expected future cash flows and the impact of market conditions on those assumptions. Future events and changes in market conditions, underlying business operations, competition or technologies may impact our assumptions as to prices, costs, holding periods, or other factors that may result in changes in our estimates of future cash flows. Although we believe the assumptions we used in testing for impairment are reasonable, we will continue to evaluate the recoverability of the carrying amount of our property, plant and equipment on an ongoing basis, and significant changes in any one of our assumptions could produce a significantly different result. In such a circumstance, we may incur substantial impairment charges, which would adversely affect our financial results. In any period where our stock price, as determined by our market capitalization, is less than our book value, this too could indicate a potential impairment and we may be required to record an impairment charge in that period.


Changes in accounting standards issued by the Financial Accounting Standards Board (“FASB”) could have a material effect on our balance sheet, revenue and result of operations, and could require a significant expenditure of time, attention and resources, especially by senior management.

Our accounting and financial reporting policies conform to U.S. GAAP, which are periodically revised and/or expanded. The application of accounting principles is also subject to varying interpretations over time. Accordingly, we are required to adopt new or revised accounting standards or comply with revised interpretations that are issued from time to time by various parties, including accounting standard setters and those who interpret the standards, such as the FASB and the SEC and our independent registered public accounting firm. Such new financial accounting standards may result in significant changes that could adversely affect our financial condition and results of operations.


Compliance with regulations related to conflict minerals and other regulations with respect to our supply chains
could increase costs and affect the manufacturing and sale of our products.

Public companies are required to disclose the use of tin, tantalum, tungsten and gold (collectively, “conflict minerals”) mined from the Democratic Republic of the Congo and adjoining countries (the “covered countries”) if a conflict mineral(s) is necessary to the functionality of a product manufactured, or contracted to be manufactured, by the company. We may determine, as part of our compliance efforts, that certain products or components we obtain from our suppliers contain conflict minerals. If we are unable to conclude that all our products are free from conflict minerals originating from covered countries, this could have a negative impact on our business, reputation and/or results of operations. We may also encounter challenges to satisfy customers who require that our products be certified as conflict free, which could place us at a competitive disadvantage if we are unable to substantiate such a claim. Compliance with these rules could also affect the sourcing and availability of some of the minerals used in the manufacture of products or components we obtain from our suppliers, including our ability to obtain products or components in sufficient quantities and/or at competitive prices. Certain of our customers are requiring additional information from us regarding the origin of our raw materials, and complying with these customer requirements may cause us to incur additional costs, such as costs related to determining the origin of any minerals used in our products. Our supply chain is complex and we may be unable to verify the origins for all metals used in our products.

In addition, the U.S. federal government has issued new policies for federal procurement focused on eradicating the practice of forced labor and human trafficking, and the United Kingdom and the State of California have issued laws that require us to disclose our policy and practices for identifying and eliminating forced labor and human trafficking in our supply chain. Several customers as well as the Electronic Industry Citizenship Coalition (EICC) have also issued expectations to eliminate these practices that may impact us. While we have a policy and management systems to identify and avoid these practices in our supply chain, we cannot guarantee that our suppliers will always be in conformance to these laws and expectations. We may face enforcement liability and reputational challenges if we are unable to sufficiently meet these expectations. Moreover, we are likely to encounter challenges with customers if we cannot satisfy their forced and trafficked labor polices and they may choose a competitor’s product.

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Our business and results of operations may continue to be negatively impacted by general economic and financial market conditions and market conditions in the industries in which we operate, and such conditions may increase the other risks that affect our business.

In recent years, the world’s financial markets have experienced significant turmoil, resulting in reductions in available credit, increased costs of credit, extreme volatility in security prices, potential changes to existing credit terms, and rating downgrades of investments. These conditions materially and adversely affected the market conditions in the industries in which we operate and caused many of our customers to reduce their spending plans, leading them to draw down their existing inventory and reduce orders for our products, which, in turn, had an adverse impact on our revenues. We cannot predict the timing, strength or duration of any economic slowdown or subsequent economic recovery, worldwide or within our industry. It is possible that economic conditions could result in further setbacks, and that these customers, or others, could as a result significantly reduce their capital expenditures, draw down their inventories, reduce production levels of existing products, defer introduction of new products or place orders and accept delivery for products for which they do not pay us due to their economic difficulties or other reasons. If any of these events occur, our business, financial condition, results of operations and cash flows may be adversely affected.


Natural disasters or other catastrophic events could have an adverse effect on our business.

Natural disasters, such as hurricanes, earthquakes, fires, and floods, could adversely affect our operations and financial performance. Such events could result in physical damage to one or more of our facilities, the temporary closure of one or more of our facilities or those of our suppliers, a temporary lack of an adequate work force in a market, a temporary or long-term disruption in the supply of products from some local and overseas suppliers, a temporary disruption in the transport of goods from overseas, and delays in the delivery of goods. Public health issues, whether occurring in the United States or abroad, could disrupt our operations, disrupt the operations of suppliers or customers, or have an adverse impact on customer demand. As a result of any of these events, we may be required to suspend operations in some or all of our locations, which could have an adverse effect on our business, financial condition, results of operations, and cash flows. These events could also reduce demand for our products or make it difficult or impossible to receive products from suppliers. Although we maintain business interruption insurance and other insurance intended to cover some or all of these risks, such insurance may be inadequate, whether because of coverage amount, policy limitations, the financial viability of the insurance companies issuing such policies, or other reasons.


We are subject to risks associated with the availability and coverage of insurance.

For certain risks, we do not maintain insurance coverage because of cost or availability. Because we retain some portion of our insurable risks, and in some cases self-insure completely, unforeseen or catastrophic losses in excess of insured limits may have an adverse effect on our business, financial condition, results of operations and cash flows.


The market price for our common stock has experienced significant price and volume volatility and is likely to continue to experience significant volatility in the future. This volatility may impair our ability to finance strategic transactions with our stock and otherwise harm our business.

Our stock price has experienced significant price and volume volatility for the past several years, and our stock price is likely to experience significant volatility in the future. The trading price of our common stock may be influenced by factors beyond our control, such as the volatility of the financial markets, uncertainty surrounding domestic and foreign economies, conditions and trends in the markets we serve, changes in the estimation of the future size and growth rate of our markets, publication of research reports and recommendations by financial analysts relating to our business, the business of our competitors or the industry in which we operate and compete, changes in market valuation or earnings of our competitors, legislation or regulatory policies, practices, or actions, sales of our common stock by our principal shareholders, and the trading volume of our common stock. The historical market prices of our common stock may not be indicative of future market prices and we may be unable to sustain or increase the value of our common stock. We have historically used equity incentive compensation as part of our overall compensation arrangements. The effectiveness of equity incentive compensation in retaining key employees may be adversely impacted by volatility in our stock price. Significant declines in our stock price may also interfere with our ability, if needed, to raise additional funds through equity financing or to finance strategic transactions with our stock. In addition, there may be increased risk of securities litigation following periods of fluctuations in our stock price. Securities class action lawsuits

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are often brought against companies after periods of volatility in the market price of their securities. These and other consequences of volatility in our stock price which could be exacerbated by macroeconomic conditions that affect the market generally, or our industry in particular could have the effect of diverting management's attention and could materially harm our business.


We may not pay additional dividends on our common stock and, consequently, your only opportunity to achieve a return on your investment may be an increase in the price of our common stock.

Although we paid a special dividend in 2016, we cannot guarantee that that we will pay additional dividends in the future. In addition, the terms of our loan and security agreement with our financial institution restrict our ability to pay dividends. Consequently, your only opportunity to achieve a return on any shares of our common stock may be for you to sell your shares at a profit. There is no guarantee that the market price of our common stock will increase or ever exceed the price that you paid for the shares.


We may undergo an "ownership change" within the meaning of Section 382 of the Code, which could affect our ability to offset U.S. federal income tax against our net operating losses and certain of our tax credit carryovers.

Section 382 of the Internal Revenue Code, as amended (the “Code”) contains rules that limit the ability of a company that undergoes an ownership change to utilize its net operating losses and tax credits (the “Tax Benefits”) existing as of the date of such ownership change. Under the rules, such an ownership change is generally any change in ownership of more than 50% of a company's stock within a rolling three-year period. The rules generally operate by focusing on changes in ownership among shareholders considered by the rules as owning, directly or indirectly, 5% or more of the stock of a company and any change in ownership arising from new issuances of stock by the company.

If we were to undergo one or more "ownership changes" within the meaning of Section 382 of the Code, our net operating losses and certain of our tax credits existing as of the date of each ownership change may be unavailable, in whole or in part, to offset U.S. federal income tax resulting from our operations or any gains from the disposition of any of our assets and/or business, which could result in increased U.S. federal income tax liability.


Certain provisions of New Jersey law and our governing documents may make a takeover of our Company difficult even if such takeover could be beneficial to some of our shareholders.

Certain provisions of our organizational documents and New Jersey law could discourage potential acquisition proposals, delay or prevent a change in control of the Company or limit the price that investors may be willing to pay in the future for shares of our common stock. For example, our amended and restated certificate of incorporation and amended and restated bylaws:

provided for the classification of our Board of Directors into three classes, with staggered three-year terms and, until recent respective amendments to our certificate of incorporation and bylaws to declassify our Board of Directors that became effective in March 2018 are fully phased in beginning with our 2021 annual meeting of shareholders, the current three-year term of certain of our directors will remain in effect until their current term expires;

provide that directors may be removed at any time, but only for cause and only by the affirmative vote of the holders of at least a majority of our outstanding shares of capital stock entitled to vote generally in the election of directors cast at a meeting of shareholders called for that purpose;

provide that a supermajority vote of our shareholders is required to amend some portions of our amended and restated certificate of incorporation and amended and restated bylaws, including requiring approval by the holders of 80% or more of the outstanding shares of our capital stock entitled to vote generally in the election of directors for certain business combinations unless these transactions meet certain fair price criteria and procedural requirements or are approved by two-thirds of our continuing directors;

authorize the issuance of preferred stock, without any requirement of vote or class vote of shareholders, commonly referred to as “blank check” preferred stock, which shares of preferred stock may have rights senior to those of our common stock;

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limit the persons who can call special shareholder meetings; shareholders do not have authority to call a special meeting of shareholders;

establish advance notice requirements that must be complied with by shareholders to nominate persons for election to our Board of Directors or to propose matters that can be acted on by shareholders at shareholder meetings;

do not provide for cumulative voting in the election of directors; and

provide for the filling of vacancies on our Board of Directors by action of 66 2/3% of the directors and not by the shareholders.

These and other provisions in our organizational documents could allow our Board of Directors to affect the rights of our shareholders in a number of ways, including making it difficult for shareholders to replace members of the Board of Directors. Because our Board of Directors is responsible for approving the appointment of members of our management team, these provisions could in turn affect any attempt to replace the current management team. These provisions could also limit the price that investors would be willing to pay in the future for shares of our common stock. We may in the future adopt other measures that may have the effect of delaying or discouraging an unsolicited takeover, even if the takeover were at a premium price or favored by a majority of unaffiliated shareholders. Certain of these measures may be adopted without any further vote or action by our shareholders and this could depress the price of our common stock.

***

The risks above are not the only risks we face. If any of the events described in our risk factors actually occur, or if additional risks and uncertainties not presently known to us or that we currently deem immaterial, materialize, then our business, financial condition, results of operations, and cash flows could be materially affected.

 
ITEM 1B. Unresolved Staff Comments

Not Applicable.

ITEM 2. Properties


The following chart contains certain information regarding each of our principal facilities.
Location
Function
Approximate
Square Footage
Term
(in calendar year)
 
 
 
 
Alhambra, California
Corporate Headquarters
Manufacturing and research and development facilities
75,000
Lease covering one of six buildings expired in 2011; other leases covering five of six buildings expire in 2023 (1) and (2)
 
 
 
 
Langfang, China
Warehouse facility
1,100
Lease expired in 2019 (2)
 
 
 
 
Beijing, China
Manufacturing facility
23,200
Lease expires in 2021 (1)
 
 
 
 
Concord, California
Manufacturing and research and development facility
110,000
N/A - Owned property

Footnotes
(1)
Leases have the option to be renewed by us at fixed terms.

(2)
Certain facility leases which have expired are being maintained on a month-to-month basis.

ITEM 3.    Legal Proceedings

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See the disclosures under the caption “Legal Proceedings” in Note 13- Commitments and Contingencies in the notes to our consolidated financial statements for disclosures related to our legal proceedings, which disclosures are incorporated herein by reference.

ITEM 4.    Mine Safety Disclosures

Not Applicable.


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ITEM 5.    Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity
Securities

Our common stock is traded on the Nasdaq Global Market and is quoted under the symbol "EMKR". As of December 6, 2019, we had approximately 81 shareholders of record. Many of our shares of common stock are held by brokers and other institutions on behalf of shareholders, and we are unable to estimate the number of these shareholders.


Dividend Policy

No dividends have been declared during the two most recent fiscal years. Under the terms of our credit facility with Wells Fargo Bank, N. A., we are restricted from paying dividends that result in the liquidity of the Company being less than $25.0 million after paying the dividend if any amounts are outstanding under our credit facility. The payment of dividends, if any, in the future is at the discretion of the Board of Directors.

ITEM 6.    Selected Financial Data

In the tables below, we have provided you with consolidated financial data. We derived the statement of operations data for the fiscal years ended September 30, 2019, 2018, and 2017 and the balance sheet data as of September 30, 2019 and 2018 from our audited consolidated financial statements included in Financial Statements and Supplementary Data under Item 8 within this Annual Report.

We derived the statement of operations data for the years ended September 30, 2016 and 2015 and the selected balance sheet data as of September 30, 2017, 2016, and 2015 from audited consolidated financial statements that are not included in this Annual Report after giving effect to the discontinued operations of the Photovoltaics and Digital Products Businesses. You should read this financial data together with our Management's Discussion and Analysis of Financial Condition and Results of Operations under Item 7 and Financial Statements and Supplementary Data under Item 8 within this Annual Report. Our historic results are not necessarily indicative of the results that may be expected in the future.


Selected Financial Data

Statements of Operations Data
(in thousands, except loss per share)
For the Fiscal Years ended September 30,
 
2019
 
2018
 
2017
 
2016
 
2015
Revenue
$
87,265

 
$
85,617

 
$
122,895

 
$
91,998

 
$
81,685

Gross profit
15,089

 
18,487

 
42,534

 
30,954

 
28,691

Operating (loss) income
(36,132
)
 
(18,311
)
 
7,741

 
2,939

 
(4,522
)
(Loss) income from continuing operations
(35,984
)
 
(17,453
)
 
8,221

 
2,619

 
(2,272
)
Income from discontinued operations

 

 
14

 
5,647

 
65,372

Net (loss) income
(35,984
)
 
(17,453
)
 
8,235

 
8,266

 
63,100

Net (loss) income per basic share
 
 
 
 
 
 
 
 
 
Continuing operations
$
(1.29
)
 
$
(0.64
)
 
$
0.31

 
$
0.10

 
$
(0.08
)
Discontinued operations

 

 

 
0.22

 
2.18

Net (loss) income per basic share
$
(1.29
)
 
$
(0.64
)
 
$
0.31

 
$
0.32

 
$
2.10

Net (loss) income per diluted share

 
 
 
 
 
 
 
 
 
Continuing operations

$
(1.29
)
 
$
(0.64
)
 
$
0.30

 
$
0.10

 
$
(0.08
)
Discontinued operations

 

 

 
0.21

 
2.18

Net (loss) income per diluted share
$
(1.29
)
 
$
(0.64
)
 
$
0.30

 
$
0.31

 
$
2.10



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Balance Sheet Data
(in thousands)
 
As of September 30,
 
 
2019
 
2018
 
2017
 
2016
 
2015
Cash, cash equivalents and restricted cash
 
$
21,977

 
$
63,195

 
$
68,754

 
$
64,870

 
$
112,260

Working capital
 
41,250

 
88,848

 
103,042

 
92,957

 
127,994

Total assets
 
109,562

 
135,898

 
144,084

 
127,211

 
160,907

Long-term liabilities
 
2,097

 
1,891

 
1,667

 
1,635

 
1,774

Shareholders' equity
 
76,746

 
106,805

 
120,774

 
107,317

 
135,442


Working capital, calculated as current assets minus current liabilities, is a financial metric we use that represents available operating liquidity.

Significant Transactions
Significant transactions that affect the comparability of our operating results and financial condition include:
Fiscal 2019
Continuing Operations:
On June 7, 2019, we completed the acquisition of Systron Donner Inertial, Inc. (“SDI”), a private-equity backed navigation systems provider with a scalable, chip-based platform for higher volume gyro applications utilizing Quartz MEMS technology. The total purchase price was approximately $25.0 million, consisting of (i) approximately $22.8 million in cash, subject to certain working capital adjustments and (ii) the issuance of 810,698 shares of common stock with an aggregate value of approximately $3.0 million as of the closing date. Subsequent to the closing, we calculated the working capital adjustment and determined that our aggregate purchase price should be reduced by approximately $0.7 million, which was paid in the three months ended September 30, 2019. Following the closing, we began integrating SDI into our Navigation Systems product line and have included the financial results of SDI in our condensed consolidated financial statements beginning on the acquisition date. Net revenue and net loss of SDI from the acquisition date through September 30, 2019 of $9.8 million and $0.6 million, respectively, is included in our consolidated statements of operations and comprehensive (loss) income for the fiscal year ended September 30, 2019. Acquired assets of SDI comprise 25% of the total consolidated assets as of September 30, 2019.
We recorded a $4.7 million inventory write-down on CATV products and a $1.3 million write-downe on non-current inventory in the fiscal year ended September 30, 2019 due to the decline in sales and future demand of the inventory.
We incurred approximately $0.8 million of merger and acquisition costs in the fiscal year ended September 30, 2019 in conjunction with the acquisition of SDI.
We recorded an award to Phoenix Navigation Components, LLC (“Phoenix”) of attorneys’ fees and costs in the amount of approximately $3.8 million. In connection with the litigation proceedings involving Phoenix, we incurred approximately $5.7 million of legal expenses.

Fiscal 2018
Continuing Operations:
We recorded a $1.0 million write-down on non-current inventory in the fiscal year ended September 30, 2018 due to the decline in sales and future demand of the inventory.
As a result of the revision in the estimated amount and timing of cash flows for Asset Retirement Obligations (“ARO” or “AROs”) during the fiscal year ended September 30, 2018, the Company increased the ARO liability by $0.1 million and recorded a loss from change in estimate on ARO liability.

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Fiscal 2017
Continuing Operations:
We recorded a charge to impairments of approximately $0.5 million in the fiscal year ended September 30, 2017 in connection with the transition of our manufacturing operations in China to a new manufacturing facility. See Note 9 - Property, Plant, and Equipment, net for additional information.
During the fiscal year ended September 30, 2017, the Company recorded charges of $2.0 million related to various reductions in workforce primarily related to the outsourcing of our wafer fabrication lab and operations assembly and the opening of our new manufacturing facility in China. See Note 10 - Accrued Expenses and Other Current Liabilities for additional information.

Fiscal 2016
Continuing Operations:
On July 5, 2016, the Company declared a special cash dividend of $1.50 per share of the Company's common stock, for a total of $39.2 million. The dividend was paid on July 29, 2016 to shareholders of record as of the close of business on July 18, 2016.
On September 23, 2014, Sumitomo Electric Industries, Ltd. ("SEI") filed for arbitration against EMCORE, in accordance with the terms of the Master Purchase Agreement between the parties. SEI was seeking $47.5 million from EMCORE, relating to numerous claims. On April 12, 2016, the International Court of Arbitration tribunal rejected SEI's claims. The panel ruled that EMCORE owed SEI none of the amounts SEI sought in the arbitration and that the Company was entitled to collect the $1.9 million held in escrow, which was received in June 2016 and was included in cash at September 30, 2016. The Company was also entitled to recover $2.6 million in legal fees and costs from SEI, which was received in June 2016 and has been recorded by EMCORE within operating income.
In September 2016, the Company paid $2.9 million previously accrued related to a termination fee for terminating a prior joint venture agreement.
During fiscal year 2016, the Company paid $6.1 million for the purchase of long-term inventory as a result of the vendor announcing it would cease manufacturing a part.
Discontinued Operations:
As a result of the SEI arbitration tribunal ruling above, during the fiscal year ended September 30, 2016, we recognized a gain associated with the release of $3.4 million of previously deferred gain associated with the sale of assets and reversal of other liabilities of $0.4 million, resulting in a credit of $3.8 million to recognition of previously deferred gain on sale of assets within discontinued operations of the Digital Products Business.


Fiscal 2015
Continuing Operations:
Common Stock Repurchase: In April 2015, EMCORE's Board of Directors authorized the Company to repurchase $45.0 million of shares of its common stock. On May 15, 2015, we announced the commencement of a modified "Dutch auction" tender offer to purchase for cash shares of our common stock (the "Tender Offer"). On June 15, 2015, we completed the Tender Offer and purchased 6.9 million shares of our common stock at a purchase price of $6.55 per share, for an aggregate cost of $45.0 million excluding fees and expenses. Repurchased common stock was recorded to treasury stock. The Company incurred costs of $0.7 million in connection with the Tender Offer, which were recorded to treasury stock.
AROs: As a result of the revision in the estimated amount and timing of cash flows for AROs during the fiscal year ended September 30, 2015, the Company reduced ARO liability by $2.9 million with an offsetting reduction

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to property, plant, and equipment, net of $2.1 million, and recorded a gain from change in estimate on ARO of $0.8 million. The Company first reduced the net leasehold improvement asset to the extent of the carrying amount of the related asset initially recorded when the ARO was established. The amount of the remaining reduction to the ARO liability was recorded as a reduction to operating expenses.

Discontinued Operations:
Photovoltaic and Digital Products Asset Sales: On December 10, 2014, SolAero Technologies Corporation (“SolAero”) purchased substantially all of the assets, and assumed substantially all of the liabilities, related to or used in connection with the Company’s photovoltaics business, including EMCORE’s subsidiaries EMCORE Solar Power, Inc. and EMCORE IRB Company, LLC (collectively, the “Photovoltaics Business”), for $149.9 million in cash, after giving effect to a $0.1 million working capital adjustment finalized and paid during the fiscal year ended September 30, 2015. On January 2, 2015, NeoPhotonics Corporation acquired certain assets, and assumed certain liabilities, of the Company’s telecommunications business (the “Digital Products Business”), for $17.0 million in cash and a notes receivable that was paid in April 2015. These asset sales are reported as discontinued operations, which require retrospective restatement of prior periods to classify the results of operations for the businesses sold as discontinued operations. No assets or liabilities that were sold from either the Photovoltaic Business or Digital Products Business remain on the consolidated balance sheet as of September 30, 2019, 2018, 2017 and 2016.

ITEM 7.     Management’s Discussion and Analysis of Financial Condition and Results of Operations

You should read the following discussion of our financial condition and results of operations in conjunction with the financial statements and the notes thereto included in Financial Statements under Item 1 within this Annual Report. The following discussion contains forward-looking statements that reflect our plans, estimates, and beliefs. Our actual results could differ materially from those discussed in the forward-looking statements. See Cautionary Statement Regarding Forward-Looking Statements.

Business Overview

EMCORE Corporation (referred to herein, together with its subsidiaries, as the “Company,” “we,” “our,” or “EMCORE”) was established in 1984 as a New Jersey corporation. The Company became publicly traded in 1997 and is listed on the Nasdaq Stock Exchange under the ticker symbol EMKR. EMCORE pioneered the linear fiber optic transmission technology that enabled the world’s first delivery of Cable TV directly on fiber, and today is a leading provider of advanced Mixed-Signal Optics products that enable communications systems and service providers to meet growing demand for increased bandwidth and connectivity. The Mixed-Signal Optics technology at the heart of our broadband communications products is shared with our fiber optic gyros and inertial sensors to provide the aerospace and defense markets with state-of-the-art navigations systems technology. With both analog and digital circuits on multiple chips, or even a single chip, the value of Mixed-Signal device solutions is often far greater than traditional digital applications and requires a specialized expertise held by EMCORE which is unique in the optics industry.

Recent Developments
On June 7, 2019, we completed the acquisition of SDI, a private-equity backed navigation systems provider with a scalable, chip-based platform for higher volume gyro applications utilizing Quartz MEMS technology. See Note 4 - Acquisition in the notes to our consolidated financial statements for additional information regarding this acquisition. Following the closing, we began integrating SDI into our current navigation product line and have included the financial results of SDI in our consolidated financial statements beginning on the acquisition date.
As part of the effort to streamline operations and move to a variable cost model in our Cable TV Lasers and Transmitters product lines, on October 25, 2019, we entered into an Asset Purchase Agreement (the “Purchase Agreement”) with Hytera Communications (Hong Kong) Company Limited, a limited liability company incorporated in Hong Kong (“Hytera HK”), and Shenzhen Hytera Communications Co., Ltd., a corporation formed under the laws of the P.R.C. (“Shenzhen Hytera”, and together with Hytera HK, the “Buyers”), pursuant to which the Buyers agreed to purchase from EMCORE certain CATV module and transmitter manufacturing equipment (the “Equipment”) owned by EMCORE and currently located at the manufacturing facility of EMCORE’s wholly-owned subsidiary, EMCORE Optoelectronics (Beijing) Co, Ltd., a corporation formed under the laws of the P.R.C., for an aggregate purchase price of approximately $5.54 million.

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The Equipment will be transferred to the Buyers in three separate closings, which are expected to occur during the quarters ending December 31, 2019 and March 31, 2020, with payment for each portion of the equipment to be made following such transfer in an amount equal to (i) 80% of the applicable sale price within three months following the closing of the applicable sale and transfer and (ii) 20% of the applicable sale price within six months following the closing of the applicable sale and transfer. In October 2019, we received the first such payment in an amount equal to approximately $1.9 million.
Concurrently with entry into the Purchase Agreement, we entered into a Contract Manufacturing Agreement (the “Manufacturing Agreement”), dated as of October 25, 2019, with the Buyers pursuant to which the Buyers agreed to manufacture certain CATV module and transmitter products for EMCORE from a manufacturing facility located in Thailand for an initial five year term at product prices agreed to between the parties. In the Manufacturing Agreement, we agreed to pay certain shortfall penalties in the event that orders for manufactured products are below certain thresholds, which penalties shall not exceed $660,000 in any of the first of four specified 12 months periods, and which will not exceed approximately US$5.54 million in the aggregate following the fifth such 12 month period.
Additionally, we completed two other actions in the quarter ended September 30, 2019 by reducing the size of our CATV-related employee headcount and reducing the capacity of our wafer fab to one shift. These actions incurred one-time costs of $0.4 million in the quarter ended September 30, 2019 and are expected to result in annual cash savings of approximately $3.0 million beginning in the December 2019 quarter. These operational changes in CATV also fulfill a strategic objective of better positioning the CATV product lines to generate positive cash flow to help fund the other growth areas of EMCORE in Aerospace and Defense.

Critical Accounting Policies

The preparation of consolidated financial statements in conformity with U.S. GAAP requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities, as of the date of the financial statements, and the reported amounts of revenue and expenses during the reported period.

We develop estimates based on historical experience and on various assumptions about the future that are believed to be reasonable based on the best information available to us. Our reported financial position or results of operations may be materially different under changed conditions or when using different estimates and assumptions, particularly with respect to significant accounting policies. In the event that estimates or assumptions prove to differ from actual results, adjustments are made in subsequent periods to reflect more current information. A listing and description of our critical accounting policies includes the following:


Inventory

Inventory is stated at the lower of cost or net realizable value (first-in, first-out). Inventory that is expected to be used within the next 12 months is classified as current inventory. We write-down inventory once it has been determined that conditions exist that may not allow the inventory to be sold for its intended purpose or the inventory is determined to be excess or obsolete based on assumptions about future demand and market conditions. The charge related to inventory write-downs is recorded as a cost of revenue. We evaluate inventory levels at least quarterly against sales forecasts on a significant part-by-part basis, in addition to determining its overall inventory risk. We have incurred, and may in the future incur, charges to write-down our inventory. See Note 8 - Inventory in the notes to the consolidated financial statements for additional information related to our inventory.


Income Taxes

In accordance with the authoritative guidance on accounting for income taxes, we recognize income taxes using an asset and liability approach. This approach requires the recognition of taxes payable or refundable for the current year and deferred tax liabilities and assets for the future tax consequences of events that have been recognized in our consolidated financial statements or tax returns. The measurement of current and deferred taxes is based on provisions of the enacted tax law and the effects of future changes in tax laws or rates are not anticipated.

The authoritative guidance provides for recognition of deferred tax assets if the realization of such deferred tax assets is more likely than not to occur based on an evaluation of all available evidence, both positive and negative, and the relative weight of the evidence. We have determined that at this time it is more likely than not that deferred tax assets attributable to all other items will not be realized, primarily due to uncertainties related to our ability to utilize our net operating loss carryforwards

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before they expire. Accordingly, we have established a valuation allowance for such deferred tax assets which we do not expect to realize. If there is a change in our ability to realize our deferred tax assets for which a valuation allowance has been established, then our tax valuation allowance may decrease in the period in which we determine that realization is more likely than not. Likewise, if we determine that it is not more likely than not that deferred tax assets will be realized, then a valuation allowance may be established for such deferred tax assets and our tax provision may increase in the period in which we make the determination. See Note 12 - Income and other Taxes in the notes to the consolidated financial statements for additional information related to our income taxes.

Business Combinations

We apply significant estimates and judgments in order to determine the fair value of the identified tangible and intangible assets acquired, liabilities assumed and goodwill recognized in business combinations. The value of all assets and liabilities are recognized at fair value as of the acquisition date using a market participant approach. In measuring the fair value, we utilize a number of valuation techniques consistent with the market, income or cost approaches. To estimate fair value, we are required to make certain estimates and assumptions, including future economic and market conditions.


Revenue Recognition

We recognize revenue in accordance with the Financial Accounting Standards Board’s (“FASB”) Accounting
Standards Codification (“ASC”) 606 Revenue from Contracts with Customers. The majority of our products have shipping terms that are free on board or free carrier alongside (“FCA”) shipping point, which means that we fulfill our delivery obligation and control has transferred to the customer when the goods are handed over to the freight carrier at our shipping dock. In those instances where inventory is maintained at a consigned location, revenue is recognized only when our customer pulls product for use and control has transferred to the customer. Any warranty cost and remaining obligations that are inconsequential or perfunctory are accrued when the corresponding revenue is recognized.

***

The above listing is not intended to be a comprehensive list of all of our accounting policies. In many cases, U.S. GAAP specifically dictates the accounting treatment of a particular transaction. There are also areas in which management's judgment in selecting any available alternative would not produce a materially different result. For a complete discussion of our accounting policies, recently adopted accounting pronouncements, and other required U.S. GAAP disclosures, we refer you to the accompanying notes to our consolidated financial statements in this Annual Report.


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Results of Operations

The following table sets forth our consolidated statements of operations data expressed as a percentage of revenue: 

 
For the Fiscal Years ended September 30,
 
2019
 
2018
 
2017
Revenue
100.0
 %
 
100.0
 %
 
100.0
 %
Cost of revenue
82.7

 
78.4

 
65.4

Gross profit
17.3

 
21.6

 
34.6

Operating expense:
 
 
 
 
 
Selling, general, and administrative
36.8

 
24.8

 
18.1

Research and development
22.3

 
18.0

 
10.2

Impairments

 

 
0.4

Gain from change in estimate on ARO

 
0.2

 

(Gain) loss on sale of assets
(0.3
)
 

 
(0.4
)
Total operating expense
58.8

 
43.0

 
28.3

Operating (loss) income
(41.5
)
 
(21.4
)
 
6.3

Other income:
 
 
 
 
 
Interest income, net
0.7

 
0.9

 
0.2

Foreign exchange (loss) gain
(0.5
)
 
(0.5
)
 
0.1

Other income

 
0.1

 
0.2

Total other income
0.2

 
0.5

 
0.5

(Loss) income before income tax (expense) benefit
(41.3
)
 
(20.9
)
 
6.8

Income tax (expense) benefit
(0.1
)
 
0.5

 
(0.1
)
Net (loss) income
(41.2
)%
 
(20.4
)%
 
6.7
 %

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Comparison of Financial Results for the Fiscal Years ended September 30, 2019 and 2018
(in thousands, except percentages)
For the Fiscal Years ended September 30,
 
2019
 
2018
 
$ Change
 
% Change
Revenue
$
87,265

 
$
85,617

 
$
1,648

 
1.9%
Cost of revenue
72,176

 
67,130

 
5,046

 
7.5%
Gross profit
15,089

 
18,487

 
(3,398
)
 
(18.4)%
Operating expense:
 
 
 
 
 
 
 
Selling, general, and administrative
32,094

 
21,232

 
10,862

 
51.2%
Research and development
19,443

 
15,387

 
4,056

 
26.4%
Gain from change in estimate on ARO
(14
)
 
145

 
(159
)
 
(109.7)%
Loss on sale of assets
(302
)
 
34

 
(336
)
 
(988.2)%
Total operating expense
51,221

 
36,798

 
14,423

 
39.2%
Operating loss
(36,132
)
 
(18,311
)
 
(17,821
)
 
(97.3)%
Other income (expense):
 
 
 
 
 
 
 
Interest income, net
629

 
733

 
(104
)
 
(14.2)%
Foreign exchange gain
(427
)
 
(434
)
 
7

 
1.6%
Total other income
202

 
409

 
(207
)
 
(50.6)%
Loss before income tax (expense) benefit
(35,930
)
 
(17,902
)
 
(18,028
)
 
(100.7)%
Income tax (expense) benefit
(54
)
 
449

 
(503
)
 
(112.0)%
Net loss
$
(35,984
)
 
$
(17,453
)
 
$
(18,531
)
 
(106.2)%

Revenue

For the fiscal year ended September 30, 2019, revenue increased 1.9% compared to the prior year primarily driven by an increase in sales volume within our Chip Devices and Navigation Systems product line revenue partially offset by lower sales volume of our CATV systems portion of our Broadband product category. Included in Navigation Systems product line revenue is $9.8 million of revenue from SDI for the period of June 7, 2019 through September 30, 2019. The increase in the Chip Devices and Navigation Systems product line revenue are primarily the result of increased sales to two significant customers in the year ended September 30, 2019 compared to the prior year. The decrease in CATV sales is primarily the result of a decline in market demand in the fiscal year ended September 30, 2019 and a significant customer purchasing a large inventory accumulation in the fiscal year ended September 30, 2018.


Gross Profit

Our cost of revenue consists of raw materials, compensation expense including non-cash stock-based compensation expense, depreciation expense and other manufacturing overhead costs, expenses associated with excess and obsolete inventories, and product warranty costs. Historically, our cost of revenue as a percentage of revenue, which we refer to as our gross margin, has fluctuated significantly due to product mix, manufacturing yields and sales volumes, and inventory and specific product warranty charges.

Consolidated gross margins were 17.3% and 21.6% for the fiscal years ended September 30, 2019 and 2018, respectively.

Stock-based compensation expense within cost of revenue totaled approximately $0.5 million during each of the fiscal years ended September 30, 2019 and 2018.

For the fiscal year ended September 30, 2019, gross profit decreased by 18.4% when compared to the prior year. The decrease in gross profit for the fiscal year ended September 30, 2019 was primarily due to an increase in product costs and inventory related charges related to excess and obsolete inventory. The decrease in gross margin for the fiscal year ended September 30, 2019 was primarily due to lower revenues and higher product costs.

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Selling, General and Administrative (“SG&A”)

SG&A consists primarily of compensation expense including non-cash stock-based compensation expense related to executive, finance, and human resources personnel, as well as sales and marketing expenses, professional fees, legal and patent-related costs, and other corporate-related expenses.

Stock-based compensation expense within SG&A totaled approximately $1.5 million and $2.6 million for the fiscal years ended September 30, 2019 and 2018, respectively.

SG&A expense for the fiscal year ended September 30, 2019 was higher than the amount reported in the prior year primarily due to an increase in expense for professional services of $5.7 million, primarily as a result of the litigation proceedings with Phoenix the recording of $3.8 million of attorneys fees and costs arising from the arbitrator's modified partial final award in the litigation proceedings with Phoenix, the inclusion of $1.8 million of expense at SDI for the period of June 7, 2019 through September 30, 2019 and costs related to the acquisition of SDI of $0.8 million partially offset by a decrease in compensation expenses and an allowance for bad debt expenses.

As a percentage of revenue, SG&A expenses were 36.8% and 24.8% for the fiscal years ended September 30, 2019 and 2018, respectively.


Research and Development (“R&D”)

R&D consists primarily of compensation expense including non-cash stock-based compensation expense, as well as engineering and prototype costs, depreciation expense, and other overhead expenses, as they relate to the design, development, and testing of our products. Our R&D costs are expensed as incurred. We believe that in order to remain competitive, we must invest significant financial resources in developing new product features and enhancements and in maintaining customer satisfaction worldwide.

Stock-based compensation expense within R&D totaled approximately $0.6 million during each of the fiscal years ended September 30, 2019 and 2018.

R&D expense for the fiscal year ended September 30, 2019 was higher than the amounts reported in the prior year primarily due to an increase in compensation costs and project spending, primarily in navigation systems and the inclusion of $1.5 million of R&D expense at SDI for the period of June 7, 2019 through September 30, 2019.
 
As a percentage of revenue, R&D expenses were 22.3% and 18.0% for the fiscal years ended September 30, 2019 and 2018, respectively.

(Gain) Loss from Change in Estimate on ARO

As a result of the revision in the estimated amount and timing of cash flows for ARO during the fiscal year ended September 30, 2019, the Company reduced the ARO liability by $14,000 and recorded a gain from change in estimate on ARO liability of $14,000. As a result of the revision in the estimated amount and timing of cash flows for ARO during the fiscal year ended September 30, 2018, the Company increased the ARO liability by $0.1 million and recorded a loss from change in estimate on ARO liability of $0.1 million.


Operating Loss

Operating loss represents revenue less the cost of revenue and direct operating expenses incurred. Operating loss is a measure that executive management uses to assess performance and make decisions. As a percentage of revenue, our operating loss was (41.4)% and (21.5)% for the fiscal years ended September 30, 2019 and 2018, respectively. The increase in operating loss as a percentage of revenue in the fiscal year ended September 30, 2019 compared to the prior year is primarily due to a decrease in gross profit and an increase in SG&A and R&D expense in the fiscal year ended September 30, 2019.



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Other Income

Interest Income, net
During the fiscal years ended September 30, 2019 and 2018, we recorded $1.0 million and $0.7 million, respectively, of interest income earned on cash and cash equivalents balances, which was partially offset by interest expense and letter of credit fees related to our Credit Facility (as defined below). Interest income for the fiscal year ended September 30, 2019 was higher than the amount reported in the prior year due to higher interest income earned on cash and cash equivalents balances.

Foreign Exchange
Gains or losses from foreign currency transactions denominated in currencies other than the U.S. dollar, both realized and unrealized, are recorded as foreign exchange gain (loss) on our consolidated statements of operations and comprehensive (loss) income. The gain (losses) recorded relate to the change in value of the Yuan Renminbi relative to the U.S. dollar.


Income Tax Benefit (Expense)

For the fiscal year ended September 30, 2019, the Company recorded income tax expense of approximately $0.1 million. For the nine months ended September 30, 2018, the Company recorded income tax benefit of approximately $0.4 million. Income tax expense for the nine months ended September 30, 2019 is primarily comprised of state minimum tax expense. Income tax benefit for the nine months ended September 30, 2018 is primarily comprised of the effect of the Tax Act which eliminated Alternative Minimum Taxes and resulted in a refund to the Company of amounts paid in prior fiscal years.


Comparison of Financial Results for the Fiscal Years Ended September 30, 2018 and 2017
(in thousands, except percentages)
For the Fiscal Years ended September 30,
 
2018
 
2017
 
$ Change
 
% Change
Revenue
$
85,617

 
$
122,895

 
$
(37,278
)
 
(30.3)%
Cost of revenue
67,130

 
80,361

 
(13,231
)
 
(16.5)%
Gross profit
18,487

 
42,534

 
(24,047
)
 
(56.5)%
Operating expense (income):
 
 
 
 
 
 
 
Selling, general, and administrative
21,232

 
22,246

 
(1,014
)
 
(4.6)%
Research and development
15,387

 
12,542

 
2,845

 
22.7%
Impairments

 
506

 
(506
)
 
(100.0)%
Loss (gain) from change in estimate on ARO
145

 
(45
)
 
190

 
422.2%
Loss (gain) on sale of assets
34

 
(456
)
 
490

 
107.5%
Total operating expense
36,798

 
34,793

 
2,005

 
5.8%
Operating (loss) income
(18,311
)
 
7,741

 
(26,052
)
 
(336.5)%
Other income (expense):
 
 
 
 
 
 
 
Interest income, net
733

 
245

 
488

 
199.2%
Foreign exchange (loss) gain
(434
)
 
82

 
(516
)
 
(629.3)%
Other income
110

 
316

 
(206
)
 
(65.2)%
Total other income
409

 
643

 
(234
)
 
(36.4)%
(Loss) income from continuing operations before income tax benefit (expense)
(17,902
)
 
8,384

 
(26,286
)
 
(313.5)%
Income tax benefit (expense)
449

 
(163
)
 
612

 
375.5%
(Loss) income from continuing operations
(17,453
)
 
8,221

 
(25,674
)
 
(312.3)%
Income from discontinued operations, net of tax

 
14

 
(14
)
 
(100.0)%
Net (loss) income
$
(17,453
)
 
$
8,235

 
$
(25,688
)
 
(311.9)%


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Revenue

For the fiscal year ended September 30, 2018, revenue decreased 30.3% compared to the prior year driven by lower sales volume of our CATV components and RFoG, products primarily to U.S. customers, partially offset by increases in revenue from our Chip Devices and Navigation Systems product lines. The decrease in CATV components was primarily the result of a significant customer experiencing a large inventory accumulation due to the consolidation of contract manufacturers' inventory in the U.S.


Gross Profit

Our cost of revenue consists of raw materials, compensation expense including non-cash stock-based compensation expense, depreciation expense and other manufacturing overhead costs, expenses associated with excess and obsolete inventories, and product warranty costs. Historically, our cost of revenue as a percentage of revenue, which we refer to as our gross margin, has fluctuated significantly due to product mix, manufacturing yields and sales volumes, and inventory and specific product warranty charges.

Consolidated gross margins were 21.6% and 34.6% for the fiscal years ended September 30, 2018 and 2017, respectively.

Stock-based compensation expense within cost of revenue totaled approximately $0.5 million during each of the fiscal years ended September 30, 2018 and 2017.

For the fiscal year ended September 30, 2018, gross profit decreased by 56.5% when compared to the prior year. The decrease in gross profit for the fiscal year ended September 30, 2018 was primarily due to lower sales and production volumes, resulting in lower operating leverage due to higher fixed manufacturing labor and expenses and higher wafer fabrication expenses. The decrease in gross margin for the fiscal year ended September 30, 2018 was primarily due to lower revenue. During the fiscal year ended September 30, 2018, we experienced higher inventory related charges related to excess and obsolete inventory.


Selling, General and Administrative (“SG&A”)

SG&A consists primarily of compensation expense including non-cash stock-based compensation expense related to executive, finance, and human resources personnel, as well as sales and marketing expenses, professional fees, legal and patent-related costs, and other corporate-related expenses.

Stock-based compensation expense within SG&A totaled approximately $2.6 million during each of the fiscal years ended September 30, 2018 and 2017.

SG&A expense for the fiscal year ended September 30, 2018 was slightly lower than the amount reported in the prior year primarily due to lower compensation costs and severance expenses partially offset by an increase in expense for professional services, an increase in the allowance for bad debts and the costs incurred in connection with the closing of our Pennsylvania facility.

As a percentage of revenue, SG&A expenses were 24.8% and 18.1% for fiscal years ended September 30, 2018 and 2017, respectively. The increase in SG&A expense as a percentage of revenue in the fiscal year ended September 30, 2018 compared to the prior year is due to the decrease in revenues in the fiscal year ended September 30, 2018.


Research and Development (“R&D”)

R&D consists primarily of compensation expense including non-cash stock-based compensation expense, as well as engineering and prototype costs, depreciation expense, and other overhead expenses, as they related to the design, development, and testing of our products. Our R&D costs are expensed as incurred. We believe that in order to remain competitive, we must invest significant financial resources in developing new product features and enhancements and in maintaining customer satisfaction worldwide.

Stock-based compensation expense within R&D totaled approximately $0.6 million and $0.5 million during the fiscal years ended September 30, 2018 and 2017, respectively.


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R&D expense for the fiscal year ended September 30, 2018 was higher than the amounts reported in the same period in 2017 primarily due to an increase in compensation costs and project spending, primarily in navigation systems.

As a percentage of revenue, R&D expenses were 18.0% and 10.2% for the fiscal years ended September 30, 2018 and 2017, respectively. The increase in R&D expense as a percentage of revenue in the fiscal year ended September 30, 2018 compared to the prior year is due to the decrease in revenues and higher R&D expense in the fiscal year ended September 30, 2018.


Impairments

In March 2017, in connection with our opening of a new manufacturing facility in China, we identified equipment with a net book value of approximately $0.6 million that would no longer be utilized after the planned move later in fiscal year 2017. After taking into consideration the costs of disposal and estimated net funds from the sale of the equipment of approximately $0.1 million, we recorded a charge to impairments of approximately $0.5 million in the fiscal year ended September 30, 2017. See Note 9 - Property, Plant and Equipment, net in the notes to the consolidated financial statements for additional information.


Loss (Gain) from Change in Estimate on ARO

As a result of the revision in the estimated amount and timing of cash flows for ARO during the fiscal year ended September 30, 2018, the Company increased the ARO liability by $0.1 million and recorded a loss from change in estimate on ARO liability of $0.1 million. As a result of the revision in the estimated amount and timing of cash flows for ARO during the fiscal year ended September 30, 2017, the Company reduced the ARO liability by $45,000 and recorded a gain from change in estimate on ARO liability of $45,000. See Note 13 - Commitments and Contingencies in the notes to the consolidated financial statements for additional information.


Operating (Loss) Income

Operating (loss) income represents revenue less the cost of revenue and direct operating expenses incurred. Operating (loss) income is a measure of profit and loss that executive management uses to assess performance and make decisions. As a percentage of revenue, our operating (loss) income was (21.5)% and 6.3% for the fiscal years ended September 30, 2018 and 2017, respectively. The decrease in operating income as a percentage of revenue in the fiscal year ended September 30, 2018 compared to the prior year is primarily due to the decline in gross profit in the fiscal year ended September 30, 2018.


Other Income (Expense)

Interest Income, net
During the fiscal years ended September 30, 2018 and 2017, we recorded $0.7 million and $0.4 million, respectively, of interest income earned on cash and cash equivalents balances, which was partially offset by interest expense and letter of credit fees related to our Credit Facility (as defined below). Interest income for the fiscal year ended September 30, 2018 was higher than the amount reported in the prior year due to higher interest income earned on cash and cash equivalents balances.

Foreign Exchange
Gains or losses from foreign currency transactions denominated in currencies other than the U.S. dollar, both realized and unrealized, are recorded as foreign exchange gain (loss) on our consolidated statements of operations and comprehensive (loss) income. The gain (losses) recorded relate to the change in value of the Yuan Renminbi relative to the U.S. dollar.


Income Tax Benefit (Expense)

For the fiscal year ended September 30, 2018, the Company recorded income tax benefit from continuing operations of approximately $0.4 million, and $0 of income tax benefit within income from discontinued operations. The income tax benefit is primarily comprised of the effect of recent changes in tax laws in December 2017 that eliminates the Alternative Minimum Tax (“AMT”) and will result in a refund to the Company of amounts paid in prior fiscal years and the fiscal year 2018 operating loss. See Note 12 - Income and other Taxes in the notes to the consolidated financial statements for additional disclosures. For the fiscal year ended September 30, 2017, the Company recorded income tax expense from continuing operations of approximately $0.2 million.

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Liquidity and Capital Resources

Other than the fiscal years ended September 30, 2018 and 2017, in recent years we have historically consumed cash from operations and, in most periods, we have incurred operating losses from continuing operations. We have managed our liquidity position through the sale of assets and cost reduction initiatives, as well as, from time to time in prior periods, borrowings from our Credit Facility (defined below) and capital markets transactions.

As of September 30, 2019, cash and cash equivalents totaled $21.6 million and net working capital totaled approximately $41.3 million. Net working capital, calculated as current assets minus current liabilities, is a financial metric we use which represents available operating liquidity. With respect to measures related to liquidity:

Credit Facility: On November 11, 2010, we entered into a Credit and Security Agreement (as amended to date, th“Credit Facility”) with Wells Fargo Bank, N.A. (“Wells Fargo”). The Credit Facility currently provides us with a revolving credit line of up to $15.0 million that can be used for working capital requirements, letters of credit, acquisitions, and other general corporate purposes subject to requirements, (a) that the Company have (i) liquidity of at least $7.5 million, and (ii) for certain specific uses, liquidity of at least $25.0 million after such use and (b) that the Company maintain excess availability of at least $1.0 million. The Credit Facility has a maturity date expiring in November 2021 and is secured by the Company's assets and is subject to a borrowing base formula based on the Company's eligible accounts receivable, inventory, and machinery and equipment accounts. See Note 11 - Credit Facilities in the notes to the consolidated financial statements for additional disclosures. As of December 6, 2019, there was an outstanding balance under this Credit Facility of $3.2 million, $0.5 million reserved for one outstanding stand-by letter of credit and $1.3 million available for borrowing.

The Company has a history of operating losses and negative cash flows from operations. We believe that our existing balances of cash and cash equivalents, cash flows from operations and amounts expected to be available under our Credit Facility will provide us with sufficient financial resources to meet our cash requirements for operations, working capital, and capital expenditures for at least the next twelve months from the issuance date of these financial statements. We have taken a number of actions to continue to support our operations and meet our obligations, including headcount reductions and other cost reductions. In addition, should we require more capital than what is generated by our operations, we could engage in additional sales or other monetization of certain fixed assets and real estate, additional cost reductions, or elect to raise capital in the U.S. through debt or equity issuances. These alternatives could result in higher effective tax rates, increased interest expense, and/or dilution of our earnings.

Cash Flow

Net Cash (Used In) Provided By Operating Activities

Operating Activities
(in thousands, except percentages)
For the Fiscal Years ended September 30,
 
Fiscal 2019 vs Fiscal 2018
 
Fiscal 2018 vs Fiscal 2017
 
2019
 
2018
 
2017
 
$ Change
 
% Change
 
$ Change
 
% Change
Net cash (used in) provided by operating activities (net of acquired assets and assumed liabilities)
$
(15,151
)
 
$
1,470

 
$
11,701

 
$
(16,621
)
 
(1,130.7)%
 
$
(10,231
)
 
(87.4)%

Fiscal 2019:
For the fiscal year ended September 30, 2019, our operating activities used cash of $15.2 million, primarily due to our net loss of $36.0 million, partially offset by a gain on disposal of equipment of $0.3 million, changes in our operating assets and liabilities (or working capital components, which includes non-current inventory) of $10.7 million, depreciation and amortization expense of $7.1 million, stock-based compensation expense of $2.6 million, warranty provision of $0.2 million and bad debt provision of $0.1 million. The change in our operating assets and liabilities was primarily the result of a decrease in accounts receivable of $4.0 million and an increase in accrued expenses and other liabilities of $5.0 million, partially offset by a decrease in inventory of $6.5 million and other assets of $0.2 million and a decrease in accounts payable of $4.5 million.


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Fiscal 2018:
For the fiscal year ended September 30, 2018, our operating activities provided cash of $1.5 million primarily due to changes in our operating assets and liabilities (or working capital components, which includes non-current inventory) of $8.2 million, depreciation and amortization expense of $5.6 million, stock-based compensation expense of $3.6 million, provision for doubtful accounts of $0.6 million, warranty provision of $0.4 million and loss on disposal of equipment of $34,000 partially offset by our net loss of $17.5 million. The change in our operating assets and liabilities was primarily the result of a decrease in accounts receivable of $2.4 million, inventory of $5.1 million, other assets of $0.6 million and an increase in accounts payable of $0.5 million partially offset by a decrease in accrued expenses and other liabilities of $0.4 million.

Fiscal 2017:
For the fiscal year ended September 30, 2017, our operating activities provided cash of $11.7 million primarily due to our net income of $8.2 million, depreciation, amortization and accretion expense of $3.8 million, stock-based compensation expense of $3.6 million, impairment charge of $0.5 million and warranty provision of $0.6 million, partially offset by a change in our operating assets and liabilities (or working capital components, which includes non-current inventory) of $4.5 million. The change in our operating assets and liabilities was primarily the result of an increase in accounts receivable of $3.9 million, inventory of $0.1 million and other assets of $4.5 million, and a decrease in accrued expenses and other liabilities of $0.2 million partially offset by an increase in accounts payable of approximately $2.1 million.
 

Working Capital Components:

Accounts Receivable: We generally expect the level of accounts receivable at any given quarter end to reflect the level of sales in that quarter. Our accounts receivable balances have fluctuated historically due to the timing of account collections, timing of product shipments, and/or change in customer credit terms.

Inventory: We generally expect the level of inventory at any given quarter end to reflect the change in our expectations of forecasted sales during the quarter. Our inventory balances have fluctuated historically due to the timing of customer orders and product shipments, changes in our internal forecasts related to customer demand, as well as adjustments related to excess and obsolete inventory and the purchase of non-current inventory.

Accounts Payable: The fluctuation of our accounts payable balances is primarily driven by changes in inventory purchases as well as changes related to the timing of actual payments to vendors.

Accrued Expenses: Our largest accrued expense typically relates to compensation. Historically, fluctuations of our accrued expense accounts have primarily related to changes in the timing of actual compensation payments, receipt or application of advanced payments, adjustments to our warranty accrual, and accruals related to professional fees.


Net Cash Used In Investing Activities

Investing Activities
(in thousands, except percentages)
For the Fiscal Years ended September 30,
 
Fiscal 2019 vs Fiscal 2018
 
Fiscal 2018 vs Fiscal 2017
 
2019
 
2018
 
2017
 
$ Change
 
% Change
 
$ Change
 
% Change
Net cash used in investing activities
$
(31,803
)
 
$
(6,501
)
 
$
(9,126
)
 
$
(25,302
)
 
(389.2)%
 
$
2,625

 
28.8%

Fiscal 2019:
For the fiscal year ended September 30, 2019, our investing activities used $31.8 million of cash, incuding $21.5 million for the acquisition of SDI, net of cash acquired, and capital-related expenditures of $10.8 million primarily related to investment in our wafer fabrication facility partially offset by proceeds from the disposal of equipment of $0.5 million.


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Fiscal 2018:
For the fiscal year ended September 30, 2018, our investing activities used $6.5 million of cash for capital related expenditures of $6.6 million, primarily related to investment in our wafer fabrication facility, partially offset by the receipt of proceeds from the disposal of equipment of $0.1 million.

Fiscal 2017:
For the fiscal year ended September 30, 2017, our investing activities used $9.1 million of cash primarily for capital related expenditures of $9.6 million, partially offset by the receipt of proceeds from the disposal of equipment of $0.5 million.


Net Cash Provided By (Used In) Financing Activities

    
Financing Activities
(in thousands, except percentages)
For the Fiscal Years ended September 30,
 
Fiscal 2018 vs Fiscal 2017
 
2019
 
2018
 
2017
 
$ Change
 
% Change
 
$ Change
 
% Change
Net cash provided by (used in) financing activities
$
5,799

 
$
(487
)
 
$
1,306

 
$
6,286

 
1,290.8%
 
$
(1,793
)
 
(137.3)%

Fiscal 2019:
For the fiscal year ended September 30, 2019, our financing activities provided cash of $5.8 million, primarily from $5.5 million of proceeds related to borrowings from our bank credit facility and stock plan transactions of $0.5 million, partially offset by tax withholding paid on behalf of employees for stock-based awards of $0.2 million.

Fiscal 2018:
For the fiscal year ended September 30, 2018, our financing activities used cash of $0.5 million, primarily for tax withholding paid on behalf of employees for stock-based awards of $1.3 million, partially offset by proceeds from stock plan transactions of $0.8 million.

Fiscal 2017:
For the fiscal year ended September 30, 2017, our financing activities provided cash of $1.3 million from proceeds from stock transactions.

Contractual Obligations and Commitments

Our contractual obligations and commitments for the remainder of fiscal 2019 and over the next five fiscal years are summarized in the table below (and are presented as of September 30, 2019):
(in thousands)
 
 
 
 
Total
 
Less than a year
 
1 to 3 years
 
4 to 5 years
 
Over 5 years
Purchase obligations
$
19,532

 
$
9,636

 
$
9,816

 
$
80

 
$

Asset retirement obligations
2,125

 

 

 
59

 
2,066

Operating lease obligations
5,509

 
988

 
1,663

 
1,508

 
1,350

Total contractual obligations and commitments
$
27,166

 
$
10,624

 
$
11,479

 
$
1,647

 
$
3,416


Interest payments are not included in the contractual obligations and commitments table above since they are insignificant to our consolidated results of operations.

The contractual obligations and commitments table above also excludes unrecognized tax benefits, because we are unable to reasonably estimate the period during which this obligation may be incurred, if at all. As of September 30, 2019, we had unrecognized tax benefits of $0.4 million.


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Purchase Obligations
Our purchase obligations represent an estimate of all open purchase orders and contractual obligations in the ordinary course of business for which we have not received the goods or services as of September 30, 2019. Although open purchase orders are considered enforceable and legally binding, the terms generally allow us the option to cancel, reschedule and adjust our requirements based on our business needs prior to the delivery of goods or performance of services.

The purchase obligations of $19.5 million set forth above include, as of September 30, 2019, $1.0 million that the Company has committed for the purchase and installation of capital equipment. In addition, we expect to incur, during the fiscal year ending September 30, 2020, an additional $1.0 million to complete the purchase and installation of capital equipment, which we expect to fund via cash on hand.

Asset Retirement Obligations
We have known conditional ARO conditions, such as certain asset decommissioning and restoration of rented facilities to be performed in the future. Our ARO includes assumptions related to renewal option periods where we expect to extend facility lease terms. Revisions in estimated liabilities can result from revisions of estimated inflation rates, escalating retirement costs, and changes in the estimated timing of settling the ARO. See Note 13 - Commitments and Contingencies in the notes to the consolidated financial statements for additional information related to our AROs.

Operating Leases
Operating leases include non-cancelable terms and exclude renewal option periods, property taxes, insurance and maintenance expenses on leased properties. See Note 13 - Commitments and Contingencies in the notes to the consolidated financial statements for additional information related to our operating lease obligations.

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements other than our operating leases described above that have or are reasonably likely to have a current or future material effect on our consolidated financial condition, results of operations, liquidity, capital expenditures or capital resources.

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ITEM 7A.    Quantitative and Qualitative Disclosures about Market Risks

We are exposed to financial market risks, including changes in currency exchange rates and interest rates. We do not use derivative financial instruments for speculative purposes.

Foreign Currency Exchange Risks

The United States dollar is the reporting currency for our consolidated financial statements. The functional currency for our China subsidiary is the Yuan Renminbi.

We recognize translation adjustments due to the effect of changes in the value of the Yuan Renminbi relative to the U.S. dollar associated with our operations in China. The assets and liabilities of our foreign operations are translated from their respective functional currencies into U.S. dollars at the rates in effect at the consolidated balance sheet dates, and the revenue and expense amounts are translated at the average rate during the applicable periods reflected on the consolidated statements of operations and comprehensive (loss) income. Foreign currency translation adjustments are recorded as accumulated other comprehensive (loss) income.

Gains and losses from foreign currency transactions denominated in currencies other than the U.S. dollar, both realized and unrealized, are recorded as foreign exchange gain (loss) on our consolidated statements of operations and comprehensive (loss) income.

During the normal course of business, we are exposed to market risks associated with fluctuations in foreign currency exchange rates due to the Yuan Renminbi. To reduce the impact of these risks on our earnings and to increase the predictability of cash flows, we use natural offsets in receipts and disbursements within the applicable currency as the primary means of reducing the risk.

Some of our foreign suppliers may adjust their prices (in U.S. dollars) from time to time to reflect currency exchange fluctuations, and such price changes could impact our future financial condition or results of operations. We do not currently hedge our foreign currency exposure.


Interest Rate Risks

We monitor our interest rate risk on cash balances primarily through cash flow forecasting. Cash that is surplus to immediate requirements is invested in short-term deposits with banks accessible with short notice and invested in money market accounts. We believe our current interest rate risk is immaterial.

On November 11, 2010, we entered into a Credit and Security Agreement (as amended, the “Credit Facility”) with Wells Fargo Bank, N.A. The Credit Facility is secured by the Company's assets and is subject to a borrowing base formula based on the Company's eligible accounts receivable, inventory, and machinery and equipment accounts.

On July 27, 2017, we entered into a Ninth Amendment of the Credit Facility which adjusted the interest rate to LIBOR plus 1.75%. On November 7, 2018, we entered into a Tenth Amendment of the Credit Facility which extended the maturity date of the facility to November 2021. The Credit Facility currently provides us with a revolving credit line of up to $15.0 million, subject to a borrowing base formula, that can be used for working capital requirements, letters of credit, acquisitions, and other general corporate purpose subject to a requirement, for certain specific uses, that the Company have liquidity of at least $25.0 million after such use.

Based on the LIBOR rate loans outstanding under our credit facility during the fiscal year ended September 30, 2019, a hypothetical 50 basis points increase in interest rates would have resulted in an insignificant amount of additional interest expense.

Inflation Risks

Inflationary factors, such as increases in material costs and operating expenses, may adversely affect our results of operations and cash flows. Although we do not believe that inflation has had a material impact on our financial position or results of operations to date, an increase in the rate of inflation in the future may have an adverse effect on the levels of gross profit and operating expenses as a percentage of revenue if the sales prices for our products do not proportionately increase with these increases in expenses.

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Credit Market Conditions

The U.S. and global capital markets periodically experience turbulent conditions, particularly in the credit markets, which can result in tightening of lending standards, reduced availability of credit, and reductions in certain asset values. This could impact our ability to obtain additional funding through financing or asset sales.


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ITEM 8.    Financial Statements and Supplementary Data

EMCORE CORPORATION
Consolidated Statements of Operations and Comprehensive (Loss) Income
For the Fiscal Years ended September 30, 2019, 2018 and 2017
(in thousands, except per share data)

 
 For the Fiscal Year ended September 30,
 
 
2019
 
2018
 
2017
Revenue
 
$
87,265

 
$
85,617

 
$
122,895

Cost of revenue
 
72,176

 
67,130

 
80,361

Gross profit
 
15,089

 
18,487

 
42,534

Operating expense:
 
 
 
 
 
 
Selling, general, and administrative
 
32,094

 
21,232

 
22,246

Research and development
 
19,443

 
15,387

 
12,542

Impairments
 

 

 
506

(Gain) loss from change in estimate on ARO obligation
 
(14
)
 
145

 
(45
)
(Gain) loss on sale of assets
 
(302
)
 
34

 
(456
)
Total operating expense
 
51,221

 
36,798

 
34,793

Operating loss
 
(36,132
)
 
(18,311
)
 
7,741

Other income:
 
 
 
 
 
 
Interest income, net
 
629

 
733

 
245

Foreign exchange (loss) gain
 
(427
)
 
(434
)
 
82

Other income
 

 
110

 
316

Total other (loss) income
 
202

 
409

 
643

Loss before income tax (expense) benefit
 
(35,930
)
 
(17,902
)
 
8,384

Income tax (expense) benefit
 
(54
)
 
449

 
(163
)
(Loss) income from continuing operations
 
(35,984
)
 
(17,453
)
 
8,221

Income from discontinued operations, net of tax
 

 

 
14

Net loss
 
$
(35,984
)
 
$
(17,453
)
 
$
8,235

Foreign exchange translation adjustment
 
65

 
324

 
(18
)
Comprehensive (loss) income
 
$
(35,919
)
 
$
(17,129
)
 
$
8,217

Per share data:
 
 
 
 
 
 
Net (loss) income per basic share:
 
 
 
 
 
 
Continuing operations
 
$
(1.29
)
 
$
(0.64
)
 
$
0.31

Discontinued operations
 

 

 
0.00

Net loss per basic share
 
$
(1.29
)
 
$
(0.64
)
 
$
0.31

Net (loss) income per diluted share:
 
 
 
 
 
 
Continuing operations
 
$
(1.29
)
 
$
(0.64
)
 
$
0.30

Discontinued operations
 

 

 
0.00

Net (loss) income per diluted share
 
$
(1.29
)
 
$
(0.64
)
 
$
0.30

Weighted-average number of basic and diluted shares outstanding
 
27,983

 
27,266

 
26,659

Weighted-average number of diluted shares outstanding
 
27,983

 
27,266

 
27,544


The accompanying notes are an integral part of these consolidated financial statements.

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EMCORE CORPORATION
Consolidated Balance Sheets
As of September 30, 2019 and 2018
(in thousands)
 
As of September 30,
 
2019
 
2018
ASSETS
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
21,574

 
$
63,117

Restricted cash
403

 
78

Accounts receivable, net of allowance of $148 and $548, respectively
18,497

 
19,275

Contract assets
1,055

 

Inventory
24,051

 
20,850

Prepaid expenses and other current assets
6,389

 
6,098

Total current assets
71,969

 
109,418

Property, plant, and equipment, net
37,223

 
18,216

Goodwill
69

 

Intangible assets, net
239

 

Non-current inventory

 
1,433

Other non-current assets
62

 
199

Total assets
$
109,562

 
$
129,266

LIABILITIES and SHAREHOLDERS’ EQUITY
 
 
 
Current liabilities:
 
 
 
Borrowings from credit facility
$
5,497

 
$

Accounts payable
10,701

 
12,997

Accrued expenses and other current liabilities
14,521

 
7,573

Total current liabilities
30,719

 
20,570

Asset retirement obligations
1,890

 
1,809

Other long-term liabilities
207

 
82

Total liabilities
32,816

 
22,461

Commitments and contingencies (Note 13)


 


Shareholders’ equity:
 
 
 
Common stock, no par value, 50,000 shares authorized; 35,803 shares issued and 28,893 shares outstanding as of September 30, 2019; 34,487 shares issued and 27,577 shares outstanding as of September 30, 2018
739,926

 
734,066

Treasury stock at cost; 6,910 shares
(47,721
)
 
(47,721
)
Accumulated other comprehensive income
950

 
885

Accumulated deficit
(616,409
)
 
(580,425
)
Total shareholders’ equity
76,746

 
106,805

Total liabilities and shareholders’ equity
$
109,562

 
$
129,266


The accompanying notes are an integral part of these consolidated financial statements.

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EMCORE CORPORATION
Consolidated Statements of Shareholders' Equity
For the Fiscal Years ended September 30, 2019, 2018 and 2017
(in thousands)

 
 
For the Fiscal Year ended September 30,
 
 
2019
 
2018
 
2017
Shares of Common Stock
 
 
 
 
 
 
Balance, beginning of period
 
27,577

 
27,028

 
26,244

Stock-based compensation
 
307

 
372

 
432

Stock option exercises
 
1

 
6

 
158

Issuance of common stock for acquisition
 
811

 

 

Issuance of common stock - Board of Directors
 

 

 
61

Issuance of common stock - ESPP
 
197

 
171

 
133

Balance, end of period
 
28,893

 
27,577

 
27,028

Value of Common Stock
 
 
 
 
 
 
Balance, beginning of period
 
$
734,066

 
$
730,906

 
725,666

Stock-based compensation
 
2,607

 
3,648

 
3,602

Stock option exercises
 
1

 
28

 
534

Tax withholding paid on behalf of employees for stock-based awards
 
(203
)
 
(1,257
)
 

Issuance of common stock for acquisition
 
2,951

 

 

Issuance of common stock - Board of Directors
 

 

 
331

Issuance of common stock - ESPP
 
504

 
741

 
773

Balance, end of period
 
739,926

 
734,066

 
730,906

Treasury stock, beginning and ending of period
 
(47,721
)
 
(47,721
)
 
(47,721
)
Accumulated Other Comprehensive Income
 
 
 
 
 
 
Balance, beginning of period
 
885

 
561

 
579

Translation adjustment
 
65

 
324

 
(18
)
Balance, end of period
 
950

 
885

 
561

Accumulated Deficit
 
 
 
 
 

Balance, beginning of period
 
(580,425
)
 
(562,972
)
 
(571,207
)
Net loss
 
(35,984
)
 
(17,453
)
 
8,235

Balance, end of period
 
(616,409
)
 
(580,425
)
 
(562,972
)
Total Shareholders' Equity
 
$
76,746

 
$
106,805

 
$
120,774


The accompanying notes are an integral part of these consolidated financial statements..


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EMCORE CORPORATION
Consolidated Statements of Cash Flows
For the Fiscal Years ended September 30, 2019, 2018 and 2017
(in thousands)




 
For the Fiscal Year ended September 30,
 
2019
 
2018
 
2017
Cash flows from operating activities:
 
 
 
 
 
Net loss
$
(35,984
)
 
$
(17,453
)
 
$
8,235

Adjustments to reconcile net loss to net cash provided by operating activities:
 
 
 
 
 
Depreciation and amortization expense
7,142

 
5,617

 
3,757

Stock-based compensation expense
2,607

 
3,648

 
3,602

Provision adjustments related to doubtful accounts
62

 
599

 
23

Provision adjustments related to product warranty
186

 
431

 
573

Impairments of equipment

 

 
506

Net (gain) loss on disposal of equipment
(302
)
 
34

 
(456
)
Other
464