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Table of Contents

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 25, 2018
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 0-21154
logo042115a19.gif
CREE, INC.
(Exact name of registrant as specified in its charter)
North Carolina
 
56-1572719
(State or other jurisdiction of incorporation or
organization)
 
(I.R.S. Employer Identification No.)
 
 
 
4600 Silicon Drive
Durham, North Carolina
 
27703
(Address of principal executive offices)
 
(Zip Code)
(919) 407-5300
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes [ X ] No [    ]

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes [ X ] 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 definitions of “large accelerated filer”, “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer [X]
 
Accelerated filer [    ]
Non-accelerated filer [    ]  (Do not check if a smaller reporting company)
 
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 Securities Act. [   ]

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes [   ] No[ X]
The number of shares outstanding of the registrant’s common stock, par value $0.00125 per share, as of April 20, 2018, was 100,509,216.

Table of Contents

CREE, INC.
FORM 10-Q
For the Quarterly Period Ended March 25, 2018
INDEX
 
Description
Page No.
 
 
 
 
 
 
Item 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
Item 5.
 
 
 
Item 6.
 
 

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PART I - FINANCIAL INFORMATION
Item 1.    Financial Statements
CREE, INC.
UNAUDITED CONSOLIDATED BALANCE SHEETS
 
March 25,
2018
 
June 25,
2017
 
(In thousands, except par value)
ASSETS
 
 
 
Current assets:
 
 
 
Cash and cash equivalents

$101,226

 

$132,597

Short-term investments
300,239

 
478,341

Total cash, cash equivalents and short-term investments
401,465

 
610,938

Accounts receivable, net
143,337

 
148,392

Income tax receivable
7,674

 
8,040

Inventories
309,858

 
284,385

Prepaid expenses
22,597

 
23,305

Other current assets
17,666

 
23,390

Current assets held for sale
6,913

 
2,180

Total current assets
909,510

 
1,100,630

Property and equipment, net
641,400

 
581,263

Goodwill
617,651

 
618,828

Intangible assets, net
400,836

 
274,315

Other long-term investments
60,419

 
50,366

Deferred income taxes
10,527

 
11,763

Other assets
12,295

 
12,702

Total assets

$2,652,638

 

$2,649,867

LIABILITIES AND SHAREHOLDERS’ EQUITY

 

Current liabilities:

 

Accounts payable, trade

$156,558

 

$133,185

Accrued salaries and wages
50,821

 
41,860

Other current liabilities
35,921

 
36,978

Total current liabilities
243,300

 
212,023

Long-term liabilities:

 

Long-term debt
316,000

 
145,000

Deferred income taxes
—

 
49,860

Other long-term liabilities
26,467

 
20,179

Total long-term liabilities
342,467

 
215,039

Commitments and contingencies (Note 13)

 

Shareholders’ equity:

 

Preferred stock, par value $0.01; 3,000 shares authorized at March 25, 2018 and June 25, 2017; none issued and outstanding
—

 
—

Common stock, par value $0.00125; 200,000 shares authorized at March 25, 2018 and June 25, 2017; 100,487 issued and outstanding at March 25, 2018 and 97,674 shares issued and outstanding at June 25, 2017
124

 
121

Additional paid-in-capital
2,509,296

 
2,419,517

Accumulated other comprehensive income, net of taxes
1,946

 
5,909

Accumulated deficit
(449,454
)
 
(202,742
)
Total shareholders’ equity
2,061,912

 
2,222,805

Noncontrolling interest
4,959

 
—

Total liabilities and equity

$2,652,638

 

$2,649,867

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

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CREE, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF LOSS
 
 
Three Months Ended
 
Nine Months Ended
 
March 25,
2018
 
March 26,
2017
 
March 25,
2018
 
March 26,
2017
 
(In thousands, except per share amounts)
Revenue, net

$355,958

 

$341,505

 

$1,084,226

 

$1,114,064

Cost of revenue, net
256,902

 
255,429

 
792,235

 
777,490

Gross profit
99,056

 
86,076

 
291,991

 
336,574

Operating expenses:
 
 
 
 
 
 

Research and development
40,239

 
41,451

 
121,874

 
119,292

Sales, general and administrative
70,256

 
68,165

 
201,296

 
213,136

Amortization or impairment of acquisition-related intangibles
7,453

 
8,362

 
21,037

 
20,707

Loss on disposal or impairment of long-lived assets
1,716

 
500

 
8,803

 
1,541

Goodwill impairment charges
247,455

 
—

 
247,455

 
—

Wolfspeed transaction termination fee
—

 
(12,500
)
 
—

 
(12,500
)
Total operating expenses
367,119

 
105,978

 
600,465

 
342,176

Operating loss
(268,063
)
 
(19,902
)
 
(308,474
)
 
(5,602
)
Non-operating (expense) income, net
(9,651
)
 
9,865

 
16,011

 
4,946

Loss before income taxes
(277,714
)
 
(10,037
)
 
(292,463
)
 
(656
)
Income tax (benefit) expense
(37,181
)
 
88,976

 
(45,810
)
 
91,574

Net loss

($240,533
)
 

($99,013
)
 

($246,653
)
 

($92,230
)
Net income attributable to noncontrolling interest
44

 
—

 
59

 
—

Net loss attributable to controlling interest

($240,577
)
 

($99,013
)
 

($246,712
)
 

($92,230
)
Loss per share:
 
 
 
 
 
 

Basic

($2.40
)
 

($1.02
)
 

($2.49
)
 

($0.93
)
Diluted

($2.40
)
 

($1.02
)
 

($2.49
)
 

($0.93
)
Weighted average shares used in per share calculation:
 
 
 
 
 
 
 
Basic
100,140

 
97,346

 
99,046

 
98,791

Diluted
100,140

 
97,346

 
99,046

 
98,791

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

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CREE, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

 
Three Months Ended
 
Nine Months Ended
 
March 25,
2018
 
March 26,
2017
 
March 25,
2018
 
March 26,
2017
 
(In thousands)
Net loss

($240,577
)
 

($99,013
)
 

($246,712
)
 

($92,230
)
Other comprehensive gain (loss):
 
 
 
 
 
 
 
Currency translation (loss) gain
(788
)
 
550

 
(2,006
)
 
(765
)
Net unrealized gain (loss) on available-for-sale securities, net of tax benefit of $0 and $1,948, $0 and ($4,723) respectively
2,269

 
(608
)
 
5,969

 
(4,723
)
Other comprehensive gain (loss):
1,481

 
(58
)
 
3,963

 
(5,488
)
Comprehensive loss

($239,096
)
 

($99,071
)
 

($242,749
)
 

($97,718
)
The accompanying notes are an integral part of the consolidated financial statements.


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CREE, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
 
Nine Months Ended
 
March 25,
2018
 
March 26,
2017
 
(In thousands)
Cash flows from operating activities:
 
 
 
Net loss

($246,653
)
 

($92,230
)
Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
113,244

 
113,459

Stock-based compensation
33,319

 
38,417

Excess tax benefit from stock-based payment arrangements
—

 
(1
)
Goodwill impairment charges
247,455

 
—

Loss on disposal or impairment of long-lived assets
8,803

 
1,345

Amortization of premium/discount on investments
3,943

 
4,150

Gain on equity investment
(7,510
)
 
(144
)
Foreign exchange gain on equity investment
(2,543
)
 
(2,436
)
Deferred income taxes
(49,875
)
 
71,342

Changes in operating assets and liabilities:
 
 
 
Accounts receivable, net
5,728

 
16,080

Inventories
(4,640
)
 
12,064

Prepaid expenses and other assets
2,041

 
11,478

Accounts payable, trade
15,328

 
(10,891
)
Accrued salaries and wages and other liabilities
6,783

 
521

Net cash provided by operating activities
125,423

 
163,154

Cash flows from investing activities:
 
 
 
Purchases of property and equipment
(128,433
)
 
(56,895
)
Purchases of patent and licensing rights
(7,913
)
 
(8,876
)
Proceeds from sale of property and equipment
538

 
1,111

Purchases of short-term investments
(174,623
)
 
(169,414
)
Proceeds from maturities of short-term investments
166,771

 
112,307

Proceeds from sale of short-term investments
176,981

 
13,613

Purchase of acquired business, net of cash acquired
(427,120
)
 
—

Net cash used in investing activities
(393,799
)
 
(108,154
)
Cash flows from financing activities:
 
 
 
Proceeds from issuing shares to noncontrolling interest
4,900

 
—

Payment of acquisition-related contingent consideration
(1,850
)
 
(2,775
)
Proceeds from long-term debt borrowings
555,000

 
373,000

Payments on long-term debt borrowings
(384,000
)
 
(380,000
)
Net proceeds from issuance of common stock
62,240

 
10,160

Excess tax benefit from stock-based payment arrangements
—

 
1

Repurchases of common stock
—

 
(104,014
)
Net cash provided by (used in) financing activities
236,290

 
(103,628
)
Effects of foreign exchange changes on cash and cash equivalents
715

 
(432
)
Net decrease in cash and cash equivalents
(31,371
)
 
(49,060
)
Cash and cash equivalents:
 
 
 
Beginning of period
132,597

 
166,154

End of period

$101,226

 

$117,094

Supplemental disclosure of cash flow information:
 
 
 
Significant non-cash transactions:
 
 
 
Accrued property and equipment

$19,275

 

$7,243

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

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CREE, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

Note 1 – Basis of Presentation and New Accounting Standards
Overview
Cree, Inc. (the Company) is an innovator of wide bandgap semiconductor products for power and radio-frequency (RF) applications, lighting-class light emitting diode (LED) products, and lighting products. The Company's products are targeted for applications such as transportation, electronic signs and signals, power supplies, inverters, wireless systems, indoor and outdoor lighting, and video displays.
The Company's Wolfspeed segment's products consists of silicon carbide (SiC) and gallium nitride (GaN) materials, power devices and RF devices based on silicon (Si) and wide bandgap semiconductor materials. The Company's materials products and power devices are used in solar, electric vehicles, motor drives, power supplies and transportation applications. The Company's materials products and RF devices are used in military communications, radar, satellite and telecommunication applications.
The Company's LED Products segment’s products consist of LED chips and LED components. The Company's LED products enable its customers to develop and market LED-based products for lighting, video screens, automotive and other industrial applications.
The Company's Lighting Products segment’s products primarily consist of LED lighting systems and lamps. The Company designs, manufactures and sells lighting fixtures and lamps for the commercial, industrial and consumer markets.
The majority of the Company's products are manufactured at its production facilities located in North Carolina, Wisconsin, California and China. The Company also uses contract manufacturers for certain products and aspects of product fabrication, assembly and packaging. The Company operates research and development facilities in North Carolina, Arizona, Arkansas, California, Wisconsin, India, Italy and China (including Hong Kong).
Cree, Inc. is a North Carolina corporation established in 1987 and is headquartered in Durham, North Carolina.
The Company's three reportable segments are:
•
Wolfspeed
•
LED Products
•
Lighting Products
For financial results by reportable segment, please refer to Note 14, "Reportable Segments."
Basis of Presentation
The consolidated balance sheet at March 25, 2018, the consolidated statements of loss for the three and nine months ended March 25, 2018 and March 26, 2017, the consolidated statements of comprehensive loss for the three and nine months ended March 25, 2018 and March 26, 2017, and the consolidated statements of cash flows for the nine months ended March 25, 2018 and March 26, 2017 (collectively, the consolidated financial statements) have been prepared by the Company and have not been audited. In the opinion of management, all normal and recurring adjustments necessary to fairly state the consolidated financial position, results of operations, comprehensive loss and cash flows at March 25, 2018, and for all periods presented, have been made. All intercompany accounts and transactions have been eliminated. The consolidated balance sheet at June 25, 2017 has been derived from the audited financial statements as of that date.
These financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (U.S. GAAP) for interim information and with the instructions to Form 10-Q and Regulation S-X. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for annual financial statements. These financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the fiscal year ended June 25, 2017 (fiscal 2017). The results of operations for the three and nine months ended March 25, 2018 are not necessarily indicative of the operating results that may be attained for the entire fiscal year ending June 24, 2018 (fiscal 2018).

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The preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses, and the disclosure of contingent assets and liabilities. Actual amounts could differ materially from those estimates.
Certain fiscal 2017 amounts related to the Wolfspeed business in the accompanying consolidated financial statements have been reclassified to continuing operations to conform to the fiscal 2018 presentation. These reclassifications had no effect on previously reported consolidated net income or shareholders’ equity.
Recently Issued Accounting Pronouncements
Revenue from Contracts with Customers
In May 2014, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2014-09: Revenue from Contracts with Customers (Topic 606). The FASB has subsequently issued multiple ASUs which amend and clarify the guidance in Topic 606. The ASU establishes a principles-based approach for accounting for revenue arising from contracts with customers and supersedes existing revenue recognition guidance. The ASU provides that an entity should apply a five-step approach for recognizing revenue, including (1) identify the contract with a customer; (2) identify the performance obligations in the contract; (3) determine the transaction price; (4) allocate the transaction price to the performance obligations in the contract; and (5) recognize revenue when, or as, the entity satisfies a performance obligation. Also, the entity must provide various disclosures concerning the nature, amount and timing of revenue and cash flows arising from contracts with customers. The Company’s evaluation of ASU 2014-09 is ongoing and not complete; however, the Company anticipates the primary changes to revenue recognition to be related to certain patent license arrangements. The FASB has issued and may issue in the future, interpretive guidance, which may cause our evaluation to change. The effective date will be the first quarter of the Company's fiscal year ending June 30, 2019 and the Company currently expects to use the modified retrospective method.
Leases
In February 2016, the FASB issued ASU No. 2016-02: Leases (Topic 842). The ASU requires that a lessee recognize in its statement of financial position a liability to make lease payments (the lease liability) and a right-of-use asset representing its right to use the underlying asset for the lease term. The asset will be based on the liability, subject to adjustment, such as for initial direct costs. For leases with a term of 12 months or less, a lessee is permitted to make an accounting policy election by class of underlying asset not to recognize lease assets and lease liabilities. For income statement purposes, leases are still required to be classified as either operating or finance. Operating leases will result in straight-line expense while finance leases will result in a front-loaded expense pattern. The effective date will be the first quarter of the Company's fiscal year ending June 28, 2020, using a modified retrospective approach. The Company is currently analyzing the impact of this new pronouncement.
Stock Compensation
In March 2016, the FASB issued ASU No. 2016-09: Compensation-Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting.  The ASU simplifies the current stock compensation guidance for tax consequences. The ASU requires an entity to recognize all excess tax benefits and tax deficiencies as income tax expense or benefit in its income statement. The ASU also eliminates the requirement to defer recognition of an excess tax benefit until the benefit is realized through a reduction to taxes payable. For cash flows statement purposes, excess tax benefits should be classified as an operating activity and cash payments made to taxing authorities on the employee’s behalf for withheld shares should be classified as financing activity. The ASU grants an entity the right to withhold up to the employee’s maximum statutory tax rate in the applicable jurisdiction without triggering liability accounting. The effective date was the first quarter of the Company's fiscal year ending June 24, 2018.
The Company's adoption of this ASU did not have a material impact on its consolidated financial statements. All excess tax benefits and deficiencies in the current and future periods will be recognized as income tax expense in the Company’s income statement in the reporting period in which they occur. This could result in increased volatility in the Company’s effective tax rate. For the nine months ended March 25, 2018, the Company did not recognize a discrete event related to the excess tax benefits from stock-based compensation due to a full U.S. valuation allowance on the impact. The Company plans to continue its existing practice of estimating expected forfeitures in determining compensation cost.
Goodwill Impairment Testing
In January 2017, the FASB issued ASU No. 2017-04: Intangibles-Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment. The ASU simplifies the manner in which an entity is required to test for goodwill impairment by eliminating Step 2 from the goodwill impairment test. Additionally, the ASU removes the requirement for any reporting unit with a zero or

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negative carrying amount to perform a qualitative assessment and, if it fails such qualitative test, to continue to perform Step 1 of the goodwill impairment test. The Company early adopted this standard in the third quarter of fiscal year ending June 24, 2018.
Based on the updating of the Company's long range business strategy that was announced February 26, 2018, the Company determined there was a triggering event and performed an impairment test in connection with the preparation of its financial statements for the period ended March 25, 2018. The Company derived the Lighting Products reporting unit's fair value through a combination of the market approach (a guideline transaction method) and the income approach (a discounted cash flow analysis). The Company utilized a discount rate from the capital asset pricing model for the discounted cash flow analysis.
From this testing, the Company concluded that the carrying value of the Lighting Products reporting unit exceeded its fair value, resulting in a goodwill impairment of $247.5 million. As of March 25, 2018, there was $347.0 million, $180.3 million and $90.3 million of goodwill remaining related to the Wolfspeed, LED Products, and Lighting Products reporting units, respectively.
Note 2 – Joint Venture
Effective July 17, 2017, the Company entered into a Shareholders Agreement with San’an Optoelectronics Co., Ltd. (San’an) and Cree Venture LED Company Limited (Cree Venture LED) pursuant to which the Company and San’an funded their contributions to Cree Venture LED and agreed upon the management and operation of Cree Venture LED.  The Company contributed $5.1 million of cash for a 51% ownership interest and San’an contributed $4.9 million of cash for a 49% ownership interest.  Cree Venture LED has a five-member board of directors, three of which were designated by the Company and two of which were designated by San’an. As a result of the Company's majority voting interest, the Company consolidates the operations of Cree Venture LED and reports its revenue and gross profit within the Company's LED Products segment. The Company classifies the 49% ownership interest held by San'an as "Noncontrolling interest" on the consolidated balance sheet. During the nine months ended March 25, 2018, the noncontrolling interest increased by $59 thousand for its share of net income from Cree Venture LED. There were no other changes in the noncontrolling interest.
In connection with forming Cree Venture LED and entering into the Shareholders Agreement, Cree Venture LED and San’an also entered into a manufacturing agreement pursuant to which San'an will supply Cree Venture LED with mid-power LED products, and the Company and Cree Venture LED entered into a sales agency agreement pursuant to which the Company will be the independent sales representative of Cree Venture LED in the exclusive markets, among certain other ancillary agreements related to the transaction. Cree Venture LED will produce and deliver to market high performing, mid-power lighting class LEDs in an exclusive arrangement to serve the expanding markets of North and South America, Europe and Japan, and serve China and the rest of the world on a non-exclusive basis. Cree Venture LED recorded its first sales to customers during the first quarter of fiscal 2018.
Note 3 – Acquisition
Infineon Technologies AG Radio Frequency Power Business
On March 6, 2018, the Company acquired certain assets of the Infineon Technologies AG (Infineon) Radio Frequency Power Business (RF Power), pursuant to an asset purchase agreement with Infineon in exchange for a base purchase price of $429 million, subject to certain adjustments. As part of the agreement, the Company paid $427 million of cash on the purchase date and has agreed to purchase certain additional non-U.S. property and equipment related to the RF Power business from Infineon for approximately $2.2 million, with this additional purchase expected to close during the fourth quarter of fiscal 2018. The acquisition allows the Company to expand its product portfolio into the wireless market.
The acquisition of the RF Power business from Infineon was accounted for as a business combination. The purchase price for this acquisition is preliminary and subject to change. The areas of the purchase price that are not yet finalized are primarily related to intangible assets, property and equipment, other long-term liabilities, amortization and depreciation lives. The purchase price has been preliminarily allocated to the assets acquired and liabilities assumed based on their estimated fair values as follows (in thousands):

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Assets:
 
Inventories

$24,931

Property and equipment
10,504

Intangible assets
149,000

Goodwill
246,278

Total Assets
430,713

Liabilities assumed:

Accounts payable
(39
)
Accrued expenses and liabilities
(3,264
)
Other long-term liabilities
(290
)
Total liabilities assumed
(3,593
)
Net assets acquired
$
427,120

As noted above, the valuation of acquired intangible assets is preliminary as of March 25, 2018. Similarly, the amortization periods are preliminary until the valuation is finalized. The preliminary amortization periods for intangible assets acquired are as follows (in thousands, except for years):
 
Asset Amount
 
Estimated Life in Years
Lease agreement
1,000

 
10
Customer relationships
92,000

 
15
Developed technology
44,000

 
14
Non-compete agreements
12,000

 
4
Total identifiable intangible assets

$149,000

 
 
Goodwill largely consists of the manufacturing and other synergies of the combined companies, and the value of the assembled workforce. For tax purposes, in accordance with IRC Section 197, $246 million of goodwill will be amortized over 15 years.
The assets, liabilities, and operating results of the RF Power business have been included in the Company's consolidated financial statements from the date of acquisition. Additionally, the RF Power business's results from operations are reported as part of the Company's Wolfspeed segment. The results of the RF Power business reflected in the Company's Consolidated Statements of Loss for the three months ended March 25, 2018 from the date of acquisition (March 6, 2018) are as follows (in thousands):
 
Amount
Revenue

$4,191

Net loss
(2,325
)
The Company incurred total transaction costs related to the acquisition of approximately $3.1 million which were expensed in the third quarter of fiscal 2018 in accordance with U.S. GAAP.
Pro Forma Financial Information
The following supplemental pro forma information (in thousands, except per share data) presents the consolidated financial results as if the RF Power transaction had occurred at the beginning of the 2017 fiscal year:
 
Three Months Ended
 
Nine Months Ended
 
March 25, 2018
 
March 26, 2017
 
March 25, 2018
 
March 26, 2017
Revenue
$370,939
 
$365,771
 
$1,149,645
 
$1,202,199
Net loss
(237,189
)
 
(101,142
)
 
(247,614
)
 
(97,542
)
Earnings per share, basic
$
(2.37
)
 
$
(1.04
)
 
$
(2.50
)
 
$
(0.99
)
Earnings per share, diluted
$
(2.37
)
 
$
(1.04
)
 
$
(2.50
)
 
$
(0.99
)

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These amounts have been calculated after applying the Company's accounting policies and adjusting the results of the RF Power business to give effect to events and transactions that are directly attributable to the RF Power business transactions, including the elimination of sales by the Company to the RF Power business prior to acquisition, additional depreciation and amortization that would have been charged assuming the fair value adjustments primarily to property and equipment and intangible assets had been applied at the beginning of the 2017 fiscal year, together with the consequential tax effects. Excluded from the pro forma net income and the earnings per share amounts for the three and nine months ended March 25, 2018 are one-time acquisition costs and foreign currency gains attributable to the RF Power business of $3.1 million and $1.9 million, respectively. This supplemental pro forma information has been prepared for comparative purposes and does not purport to be indicative of what would have occurred had the acquisition been made at the beginning of the 2017 fiscal year, nor is it indicative of any future results.
Arkansas Power Electronics International, Inc.
On July 8, 2015, the Company closed on the acquisition of Arkansas Power Electronics International, Inc. (APEI), a global leader in power modules and power electronics applications, pursuant to a merger agreement with APEI and certain shareholders of APEI, whereby the Company acquired all of the outstanding share capital of APEI in exchange for a base purchase price of $13.8 million, subject to certain adjustments. In addition, if certain goals were achieved over the subsequent two years, additional cash payments totaling up to $4.6 million were to be made to the former APEI shareholders. Payments totaling $2.8 million were made to the former APEI shareholders in July 2016 based on achievement of the first year goals. The final payment of $1.9 million was made in July 2017 based on achievement of the second year goals. In connection with this acquisition, APEI became a wholly owned subsidiary of the Company, renamed Cree Fayetteville, Inc. (Cree Fayetteville). Cree Fayetteville is not considered a significant subsidiary of the Company and its results from operations are reported as part of the Company's Wolfspeed segment.
Note 4 – Financial Statement Details
Accounts Receivable, net
The following table summarizes the components of accounts receivable, net (in thousands):
 
March 25, 2018
 
June 25, 2017
Billed trade receivables

$204,675

 

$205,516

Unbilled contract receivables
1,078

 
912


205,753

 
206,428

Allowance for sales returns, discounts and other incentives
(53,635
)
 
(49,425
)
Allowance for bad debts
(8,781
)
 
(8,611
)
Accounts receivable, net

$143,337

 

$148,392

Inventories
The following table summarizes the components of inventories (in thousands):
 
March 25, 2018
 
June 25, 2017
Raw material

$90,455

 

$73,410

Work-in-progress
109,457

 
100,402

Finished goods
109,946

 
110,573

Inventories

$309,858

 

$284,385


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Table of Contents

Other Current Liabilities
The following table summarizes the components of other current liabilities (in thousands):
 
March 25, 2018
 
June 25, 2017
Accrued taxes

$8,368

 

$11,148

Accrued professional fees
5,991

 
5,545

Accrued warranty
12,391

 
13,631

Accrued other
9,171

 
6,654

Other current liabilities

$35,921

 

$36,978

Accumulated Other Comprehensive Income, net of taxes
The following table summarizes the components of accumulated other comprehensive income, net of taxes (in thousands):
 
March 25, 2018
 
June 25, 2017
Currency translation gain

$6,478

 

$4,471

Net unrealized (loss) gain on available-for-sale securities
(4,532
)
 
1,438

Accumulated other comprehensive income, net of taxes

$1,946

 

$5,909

Non-Operating (Expense) Income, net
The following table summarizes the components of non-operating (expense) income, net (in thousands):
 
Three Months Ended
 
Nine Months Ended
 
March 25, 2018
 
March 26, 2017
 
March 25, 2018
 
March 26, 2017
Foreign currency gain, net

$3,641

 

$2,434

 

$4,869

 

$1,939

(Loss) gain on sale of investments, net
(133
)
 
1

 
(85
)
 
13

(Loss) gain on equity investment, net
(13,968
)
 
6,443

 
7,510

 
160

Interest income, net
743

 
927

 
3,360

 
2,714

Other, net
66

 
60

 
357

 
120

Non-operating (expense) income, net

($9,651
)
 

$9,865

 

$16,011

 

$4,946


12
Table of Contents

The change in (loss) gain on equity investment, net is due to the increase in the Lextar Electronics Corporation (Lextar) stock price.
Reclassifications Out of Accumulated Other Comprehensive Income, net of taxes
The following table summarizes the amounts reclassified out of accumulated other comprehensive income, net of taxes (in thousands):
Accumulated Other Comprehensive Income Component
 
Amount Reclassified Out of Accumulated Other Comprehensive Income
 
Affected Line Item in the Consolidated Statements of Loss
 
 
Three Months Ended
 
Nine Months Ended
 
 
 
 
March 25, 2018
 
March 26, 2017
 
March 25, 2018
 
March 26, 2017
 
 
Net unrealized gain on available-for-sale securities, net of taxes
 

($133
)
 

$1

 

($85
)
 

$13

 
Non-operating (expense) income, net
 
 
(133
)
 
1

 
(85
)
 
13

 
Loss before income taxes
 
 
—

 
—

 
—

 
—

 
Income tax (benefit) expense
 
 

($133
)
 

$1

 

($85
)
 

$13

 

Note 5 – Investments
Investments consist of municipal bonds, corporate bonds, U.S. agency securities, commercial paper and certificates of deposit. All short-term investments are classified as available-for-sale. Other long-term investments consist of the Company's ownership interest in Lextar.
The following tables summarize short-term investments (in thousands):
 
 
March 25, 2018
 
 
Amortized Cost
 
Gross Unrealized Gains
 
Gross Unrealized Losses
 
Estimated Fair Value
Municipal bonds
 

$110,504

 

$6

 

($1,122
)
 

$109,388

Corporate bonds
 
68,238

 
36

 
(978
)
 
67,296

U.S. agency securities
 
3,921

 
—

 
(28
)
 
3,893

Non-U.S. certificates of deposit
 
117,566

 
—

 
—

 
117,566

Commercial paper
 
2,096

 
—

 
—

 
2,096

Total short-term investments
 

$302,325

 

$42

 

($2,128
)
 

$300,239

 
 
 
 
 
 
 
 
 
 
 
June 25, 2017
 
 
Amortized Cost
 
Gross Unrealized Gains
 
Gross Unrealized Losses
 
Estimated Fair Value
Municipal bonds
 

$177,890

 

$2,219

 

($68
)
 

$180,041

Corporate bonds
 
175,991

 
1,925

 
(195
)
 
177,721

U.S. agency securities
 
—

 
—

 
—

 
—

Non-U.S. certificates of deposit
 
120,379

 
—

 
—

 
120,379

Commercial paper
 
200

 
—

 
—

 
200

Total short-term investments
 

$474,460

 

$4,144

 

($263
)
 

$478,341


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Table of Contents

The following tables present the gross unrealized losses and estimated fair value of the Company's short-term investments, aggregated by investment type and the length of time that individual securities have been in a continuous unrealized loss position (in thousands, except numbers of securities):
 
 
March 25, 2018
 
 
Less than 12 Months
 
Greater than 12 Months
 
Total
 
 
Fair Value
 
Unrealized Loss
 
Fair Value
 
Unrealized Loss
 
Fair Value
 
Unrealized Loss
Municipal bonds
 

$98,251

 

($988
)
 

$3,666

 

($87
)
 

$101,917

 

($1,075
)
Corporate bonds
 
56,160

 
(967
)
 
1,493

 
(58
)
 
57,653

 
(1,025
)
U.S. agency securities
 
8,515

 
(28
)
 
—

 
—

 
8,515

 
(28
)
Total
 

$162,926

 

($1,983
)
 

$5,159

 

($145
)
 

$168,085

 

($2,128
)
Number of securities with an unrealized loss
 
 
 
134

 
 
 
6
 
 
 
140

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
June 25, 2017
 
 
Less than 12 Months
 
Greater than 12 Months
 
Total
 
 
Fair Value
 
Unrealized Loss
 
Fair Value
 
Unrealized Loss
 
Fair Value
 
Unrealized Loss
Municipal bonds
 

$26,816

 

($68
)
 

$—

 

$—

 

$26,816

 

($68
)
Corporate bonds
 
57,404

 
(195
)
 
—

 
—

 
57,404

 
(195
)
U.S. agency securities
 
—

 
—

 
—

 
—

 
—

 
—

Total
 

$84,220

 

($263
)
 

$—

 

$—

 

$84,220

 

($263
)
Number of securities with an unrealized loss
 
 
 
67

 
 
 
—

 
 
 
67

The Company utilizes specific identification in computing realized gains and losses on the sale of investments. Realized gains and losses from the sale of investments are included in Non-operating (expense) income, net in the consolidated statements of loss and unrealized gains and losses are included as a separate component of equity, net of tax, unless the loss is determined to be other-than-temporary.
The Company evaluates its investments for possible impairment or a decline in fair value below cost basis that is deemed to be other-than-temporary on a periodic basis. It considers such factors as the length of time and extent to which the fair value has been below the cost basis, the financial condition of the investee, and its ability and intent to hold the investment for a period of time that may be sufficient for an anticipated full recovery in market value. Accordingly, the Company considered declines in its investments to be temporary in nature, and did not consider its securities to be impaired as of March 25, 2018 and June 25, 2017.
The contractual maturities of short-term investments as of March 25, 2018 were as follows (in thousands):
 
 
Within One Year
 
After One, Within Five Years
 
After Five, Within Ten Years
 
After Ten
Years
 
Total
Municipal bonds

$—

 

$109,388

 

$—

 

$—

 

$109,388

Corporate bonds
4,161

 
55,705

 
7,430

 
—

 
67,296

U.S. agency securities
—

 
3,893

 
—

 
—

 
3,893

Non-U.S. certificates of deposit
112,842

 
4,724

 
—

 
—

 
117,566

Commercial paper
2,096

 
—

 
—

 
—

 
2,096

Total short-term investments

$119,099

 

$173,710

 

$7,430

 

$—

 

$300,239


14
Table of Contents

Note 6 – Fair Value of Financial Instruments
Under U.S. GAAP, fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (i.e., the exit price) in an orderly transaction between market participants at the measurement date. In determining fair value, the Company uses various valuation approaches, including quoted market prices and discounted cash flows. U.S. GAAP also establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are obtained from independent sources and can be validated by a third party, whereas unobservable inputs reflect assumptions regarding what a third party would use in pricing an asset or liability. The fair value hierarchy is categorized into three levels based on the reliability of inputs as follows:
•
Level 1 - Valuations based on quoted prices in active markets for identical instruments that the Company is able to access. Since valuations are based on quoted prices that are readily and regularly available in an active market, valuation of these products does not entail a significant degree of judgment.
•
Level 2 - Valuations based on quoted prices in active markets for instruments that are similar, or quoted prices in markets that are not active for identical or similar instruments, and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets.
•
Level 3 - Valuations based on inputs that are unobservable and significant to the overall fair value measurement.
The financial assets for which the Company performs recurring fair value remeasurements are cash equivalents, short-term investments and long-term investments. As of March 25, 2018, financial assets utilizing Level 1 inputs included money market funds and U.S. agency securities, and financial assets utilizing Level 2 inputs included municipal bonds, corporate bonds, U.S. agency securities, certificates of deposit, commercial paper and common stock of non-U.S. corporations. Level 2 assets are valued based on quoted prices in active markets for instruments that are similar or using a third-party pricing service's consensus price, which is a weighted average price based on multiple sources. These sources determine prices utilizing market income models which factor in, where applicable, transactions of similar assets in active markets, transactions of identical assets in infrequent markets, interest rates, bond or credit default swap spreads and volatility. The Company did not have any financial assets requiring the use of Level 3 inputs as of March 25, 2018. There were no transfers between Level 1 and Level 2 during the nine months ended March 25, 2018.

15
Table of Contents

The following table sets forth financial instruments carried at fair value within the U.S. GAAP hierarchy (in thousands):
 
March 25, 2018
 
June 25, 2017
 
 Level 1
 
Level 2
 
Level 3
 
Total
 
Level 1
 
Level 2
 
Level 3
 
Total
Assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Cash equivalents:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Municipal bonds

$—

 

$—

 

$—

 

$—

 

$—

 

$1,802

 

$—

 

$1,802

U.S. agency securities
1,000

 
6,368

 
—

 
7,368

 
—

 
—

 
—

 
—

Non-U.S. certificates of deposit
—

 
—

 
—

 
—

 
—

 
736

 
—

 
736

Commercial Paper
—

 
999

 
—

 
999

 
—

 
—

 
—

 
—

Money market funds
2,054

 
—

 
—

 
2,054

 
1,184

 
—

 
—

 
1,184

Total cash equivalents
3,054

 
7,367

 
—

 
10,421

 
1,184

 
2,538

 
—

 
3,722

Short-term investments:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Municipal bonds
—

 
109,388

 
—

 
109,388

 
—

 
180,041

 
—

 
180,041

Corporate bonds
—

 
67,296

 
—

 
67,296

 
—

 
177,721

 
—

 
177,721

U.S. agency securities
3,893

 
—

 
—

 
3,893

 
—

 
—

 
—

 
—

Commercial paper
—

 
2,096

 
—

 
2,096

 
—

 
200

 
—

 
200

Non-U.S. certificates of deposit
—

 
117,566

 
—

 
117,566

 
—

 
120,379

 
—

 
120,379

Total short-term investments
3,893

 
296,346

 
—

 
300,239

 
—

 
478,341

 
—

 
478,341

Other long-term investments:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Common stock of non-U.S. corporations
—

 
60,419

 
—

 
60,419

 
—

 
50,366

 
—

 
50,366

Total other long-term investments
—

 
60,419

 
—

 
60,419

 
—

 
50,366

 
—

 
50,366

Total assets

$6,947

 

$364,132

 

$—

 

$371,079

 

$1,184

 

$531,245

 

$—

 

$532,429

Note 7– Intangible Assets
Intangible Assets, net
The following table presents the components of intangible assets, net (in thousands):
 
March 25, 2018
 
June 25, 2017
 
Gross
 
Accumulated Amortization
 
Net
 
Gross
 
Accumulated Amortization
 
Net
Intangible assets with finite lives:
 
 
 
 
 
 
 
 
 
 
 
Customer relationships

$233,420

 

($89,679
)
 

$143,741

 

$141,420

 

($84,673
)
 

$56,747

Developed technology
226,728

 
(148,569
)
 
78,159

 
181,728

 
(132,747
)
 
48,981

Non-compete agreements
22,475

 
(10,617
)
 
11,858

 
10,475

 
(10,398
)
 
77

Trade names, finite-lived
520

 
(520
)
 
—

 
520

 
(520
)
 
—

Patent and licensing rights
158,054

 
(70,656
)
 
87,398

 
151,985

 
(63,155
)
 
88,830

Total intangible assets with finite lives
641,197

 
(320,041
)
 
321,156

 
486,128

 
(291,493
)
 
194,635

Trade names, indefinite-lived
79,680

 
—

 
79,680

 
79,680

 
—

 
79,680

Total intangible assets

$720,877

 

($320,041
)
 

$400,836

 

$565,808

 

($291,493
)
 

$274,315

For the three and nine months ended March 25, 2018, total amortization of finite-lived intangible assets was $10.6 million and $30.4 million, respectively. For the three and nine months ended March 26, 2017, total amortization of finite-lived intangible assets was $13.0 million and $29.9 million, respectively.

16
Table of Contents


Total future amortization expense of finite-lived intangible assets is estimated to be as follows (in thousands):
Fiscal Year Ending
 
June 24, 2018 (remainder of fiscal 2018)

$13,588

June 30, 2019
38,032

June 28, 2020
32,591

June 27, 2021
31,153

June 26, 2022
27,831

Thereafter
177,961

Total future amortization expense

$321,156

Goodwill by reportable segment as March 25, 2018 was as follows (in thousands):
 
Wolfspeed
 
LED Products
 
Lighting Products
 
Consolidated Total
Balance at June 25, 2017

$100,769

 

$180,278

 

$337,781

 

$618,828

Acquisition
246,278

 
—

 
—

 
246,278

Goodwill impairment charges
—

 
—

 
(247,455
)
 
(247,455
)
Balance at March 25, 2018

$347,047

 

$180,278

 

$90,326

 

$617,651

The goodwill impairment charges in the Lighting Products segment resulted from updating the Company's long range business strategy as described in Note 1.
Note 8 – Long-term Debt
As of March 25, 2018, the Company had a $500 million secured revolving line of credit under which the Company can borrow, repay and reborrow loans from time to time prior to its scheduled maturity date of January 9, 2022.
The Company classifies balances outstanding under its line of credit as long-term debt in the consolidated balance sheets. At March 25, 2018, the Company had $316 million outstanding under the line of credit and $184 million available for borrowing. For the three and nine months ended March 25, 2018, the average interest rate was 2.19% and 1.93% for each period, respectively. For the three and nine months ended March 25, 2018 the average commitment fee percentage was 0.10%. The Company was in compliance with all covenants in the line of credit at March 25, 2018.
Note 9 – Shareholders’ Equity
As of March 25, 2018, pursuant to an approval by the Board of Directors, the Company is authorized to repurchase shares of its common stock having an aggregate purchase price not exceeding $200 million for all purchases from June 26, 2017 through the expiration of the program on June 24, 2018. During the nine months ended March 25, 2018, the Company repurchased no shares of common stock under the stock repurchase program.
Note 10 – Loss Per Share
The following table presents the computation of basic loss per share (in thousands, except per share amounts):
 
Three Months Ended
 
Nine Months Ended
 
March 25,
2018
 
March 26,
2017
 
March 25,
2018
 
March 26,
2017
Net loss

($240,577
)
 

($99,013
)
 

($246,712
)
 

($92,230
)
Weighted average common shares
100,140

 
97,346

 
99,046

 
98,791

Basic loss per share

($2.40
)
 

($1.02
)
 

($2.49
)
 

($0.93
)

17
Table of Contents

The following computation reconciles the differences between the basic and diluted loss per share presentations (in thousands, except per share amounts): 
 
Three Months Ended
 
Nine Months Ended
 
March 25,
2018
 
March 26,
2017
 
March 25,
2018
 
March 26,
2017
Net loss

($240,577
)
 

($99,013
)
 

($246,712
)
 

($92,230
)
Weighted average common shares - basic
100,140

 
97,346

 
99,046

 
98,791

Dilutive effect of stock options, nonvested shares and Employee Stock Purchase Plan purchase rights
—

 
—

 
—

 
—

Weighted average common shares - diluted
100,140

 
97,346

 
99,046

 
98,791

Diluted loss per share

($2.40
)
 

($1.02
)
 

($2.49
)
 

($0.93
)
Potential common shares that would have the effect of increasing diluted earnings per share or decreasing diluted loss per share are considered to be anti-dilutive and as such, these shares are not included in calculating diluted earnings per share. For the three and nine months ended March 25, 2018, there were 3.8 million and 4.4 million, respectively, of potential common shares not included in the calculation of diluted loss per share because their effect was anti-dilutive. For the three and nine months ended March 26, 2017, there were 11.3 million and 11.5 million, respectively, of potential common shares not included in the calculation of diluted loss per share because their effect was anti-dilutive.
Note 11 – Stock-Based Compensation
Overview of Employee Stock-Based Compensation Plans
The Company currently has one equity-based compensation plan, the 2013 Long-Term Incentive Compensation Plan (2013 LTIP), from which stock-based compensation awards can be granted to employees and directors. The 2013 LTIP provides for awards in the form of incentive stock options, non-qualified stock options, stock appreciation rights, restricted stock, restricted stock units, performance shares, performance units and other awards. The Company has other equity-based compensation plans that have been terminated so that no future grants can be made under those plans, but under which stock options, restricted stock and restricted stock units are currently outstanding.
The Company’s stock-based awards can be either service-based or performance-based.  Performance-based conditions are generally tied to future financial and/or operating performance of the Company. The compensation expense with respect to performance-based grants is recognized if the Company believes it is probable that the performance condition will be achieved. The Company reassesses the probability of the achievement of the performance condition at each reporting period, and adjusts the compensation expense for subsequent changes in the estimate or actual outcome. As with non-performance based awards, compensation expense is recognized over the vesting period. The vesting period runs from the date of grant to the expected date that the performance objective is likely to be achieved.
The Company also has an Employee Stock Purchase Plan (ESPP) that provides employees with the opportunity to purchase common stock at a discount. The ESPP limits employee contributions to 15% of each employee’s compensation (as defined in the plan) and allows employees to purchase shares at a 15% discount to the fair market value of common stock on the purchase date two times per year. The ESPP provides for a twelve-month participation period, divided into two equal six-month purchase periods, and also provides for a look-back feature. At the end of each six-month period in April and October, participants purchase the Company’s common stock through the ESPP at a 15% discount to the fair market value of the common stock on the first day of the twelve-month participation period or the purchase date, whichever is lower. The plan also provides for an automatic reset feature to start participants on a new twelve-month participation period if the fair market value of common stock declines during the first six-month purchase period.

18
Table of Contents

Stock Option Awards
The following table summarizes stock option awards outstanding as of March 25, 2018 and changes during the nine months then ended (numbers of shares in thousands): 
 
Number of Shares
 
Weighted Average Exercise Price
Outstanding at June 25, 2017
10,604

 

$38.27

Granted
53

 

$24.66

Exercised
(1,988
)
 

$27.97

Forfeited or expired
(1,548
)
 

$49.13

Outstanding at March 25, 2018
7,121

 

$38.69

Restricted Stock Awards and Units
A summary of nonvested restricted stock awards (RSAs) and restricted stock unit awards (RSUs) outstanding as of March 25, 2018, and changes during the nine months then ended is as follows (numbers of awards and units in thousands): 
 
Number of
  RSAs/RSUs  
 
Weighted Average 
Grant-Date Fair Value
Nonvested at June 25, 2017
2,412

 

$26.74

Granted
2,305

 

$26.47

Vested
(677
)
 

$29.24

Forfeited
(532
)
 

$24.57

Nonvested at March 25, 2018
3,508

 

$26.41

Stock-Based Compensation Valuation and Expense
The Company accounts for its employee stock-based compensation plans using the fair value method. The fair value method requires the Company to estimate the grant-date fair value of its stock-based awards and amortize this fair value to compensation expense over the requisite service period or vesting term.
The Company uses the Black-Scholes option-pricing model to estimate the fair value of the Company’s stock option and ESPP awards. The determination of the fair value of stock-based payment awards on the date of grant using an option-pricing model is affected by the Company’s stock price as well as assumptions regarding a number of complex and subjective variables. These variables include the expected stock price volatility over the term of the awards, actual and projected employee stock option exercise behaviors, the risk-free interest rate and expected dividends. Due to the inherent limitations of option-valuation models, future events that are unpredictable and the estimation process utilized in determining the valuation of the stock-based awards, the ultimate value realized by award holders may vary significantly from the amounts expensed in the Company’s financial statements.
For RSAs and RSUs, the grant-date fair value is based upon the market price of the Company’s common stock on the date of the grant. This fair value is then amortized to compensation expense over the requisite service period or vesting term.
Stock-based compensation expense is recognized net of estimated forfeitures such that expense is recognized only for those stock-based awards that are expected to vest. A forfeiture rate is estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from initial estimates.

19
Table of Contents

Total stock-based compensation expense was as follows (in thousands):
 
Three Months Ended
 
Nine Months Ended
 
March 25,
2018
 
March 26,
2017
 
March 25,
2018
 
March 26,
2017
Income Statement Classification:
 
 
 
 
 
 
 
Cost of revenue, net

$1,729

 

$2,229

 

$5,402

 

$8,012

Research and development
2,374

 
2,542

 
6,830

 
8,468

Sales, general and administrative
7,056

 
6,790

 
21,087

 
21,937

Total stock-based compensation expense

$11,159

 

$11,561

 

$33,319

 

$38,417

Note 12 – Income Taxes
In general, the variation between the Company's effective income tax rate and the U.S. statutory rate of 28.3% is primarily due to: (i) changes in the Company’s valuation allowances against deferred tax assets in the U.S. and Luxembourg, (ii) projected income for the full year derived from international locations with lower tax rates than the U.S. and (iii) projected tax credits generated.
The Tax Cuts and Jobs Act of 2017 (Tax Legislation), enacted on December 22, 2017, contains significant changes to U.S. tax law, including lowering the U.S. corporate income tax rate to 21%, implementing a territorial tax system, and imposing a one-time tax on deemed repatriated earnings of foreign subsidiaries. The Company has included preliminary estimates for the impact of the Tax Legislation in our unaudited financial statements within this Quarterly Report. These preliminary estimates may be impacted by a number of additional considerations, including, but not limited to, the issuance of authoritative guidance and final regulations, the Company's ongoing analysis of the new law and the Company's actual earnings for the fiscal year ending June 24, 2018.
The Tax Legislation reduces the U.S. statutory tax rate from 35% to 21%, effective January 1, 2018. U.S. tax law requires that taxpayers with a fiscal year that begins before and ends after the effective date of a rate change calculate a blended tax rate based on the pro rata number of days in the fiscal year before and after the effective date. As a result, for the fiscal year ending June 24, 2018, the Company’s statutory income tax rate will be 28.3%. For the fiscal year ending June 30, 2019, the Company’s statutory income tax rate will be 21%. During the three months ended December 24, 2017, the Company recorded an $18.8 million discrete tax benefit representing the benefit of remeasuring its U.S. deferred tax liabilities at the lower 21% statutory tax rate.
The Tax Legislation also implements a territorial tax system. Under the territorial tax system, in general, the Company’s foreign earnings will no longer be subject to tax in the U.S. As part of transitioning to the territorial tax system, the Tax Legislation includes a mandatory deemed repatriation of all undistributed foreign earnings that are subject to a U.S. income tax. As of March 25, 2018, the Company estimates the deemed repatriation will result in $14.1 million of additional U.S. income tax, a decrease of $1.6 million from the estimate as of December 24, 2017. There is no impact to the Company's effective income tax rate as a result of the change in estimated deemed repatriation tax as the Company continues to expect to fully offset the additional tax through the utilization of tax credits. This preliminary estimate was impacted by the issuance of authoritative guidance and the Company's actual earnings for the three months ended March 25, 2018.
As of March 25, 2018, the Company has approximately $215.4 million of undistributed earnings for certain non-U.S. subsidiaries, a decrease from the prior quarter primarily due to distribution of foreign earnings. During the three months ended March 25, 2018, the Company reevaluated its assertion to reinvest a portion of its undistributed foreign earnings in foreign operations indefinitely considering the acquisition of the RF Power assets. For the three months ended March 25, 2018, the Company has determined that $184.6 million of the $215.4 million of undistributed foreign earnings are expected to be repatriated in the foreseeable future. For the three months ended March 25, 2018, the Company recorded a $1.3 million discrete tax expense representing the deferred tax liability for foreign income taxes expected to be withheld upon repatriation of the foreign earnings. As of March 25, 2018, the Company has not provided income taxes on the remaining undistributed foreign earnings of $30.9 million as the Company continues to maintain its intention to reinvest these earnings in foreign operations indefinitely. If, at a later date, these earnings were repatriated to the U.S., the Company would be required to pay approximately$1.5 million in taxes on these amounts.
The Company assesses all available positive and negative evidence to estimate if sufficient future taxable income will be generated to utilize the existing deferred tax assets by jurisdiction. The Company has concluded that it is necessary to recognize a full valuation allowance against its U.S. and Luxembourg deferred tax assets. The Company reassessed the need for a full valuation allowance against its U.S. deferred tax assets due to the Tax Legislation and the acquisition of the RF Power assets and concluded that a full valuation allowance is still necessary. As of June 25, 2017, the U.S. valuation allowance was $101.8 million. During

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the nine months ended March 25, 2018, the Company decreased the U.S. valuation allowance by $7.0 million due to the impact of the Tax Legislation offset by the creation of U.S. deferred tax assets upon the impairment of goodwill. As of June 25, 2017, the Luxembourg valuation allowance was $5.8 million. During the nine months ended March 25, 2018, the Company reduced this valuation allowance by $1.1 million due to year-to-date income in Luxembourg.
U.S. GAAP requires a two-step approach to recognizing and measuring uncertain tax positions. The first step is to evaluate the tax position for recognition by determining if the available evidence indicates that it is more likely than not that the position will be sustained on audit, including resolution of related appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount that is cumulatively more than 50% likely to be realized upon ultimate settlement.
As of June 25, 2017, the Company's liability for unrecognized tax benefits was $13.3 million. During the nine months ended March 25, 2018, the Company recorded a $4.7 million decrease to the liability for unrecognized tax benefits due to the U.S. statutory rate reduction. In addition, there was a $0.6 million increase in the unrecognized tax benefits due to uncertainty regarding state depreciation deductions, and a $0.3 million decrease due to expiration of statute of limitations. As a result, the total liability for unrecognized tax benefits as of March 25, 2018 was $8.9 million. If any portion of this $8.9 million is recognized, the Company will then include that portion in the computation of its effective tax rate. Although the ultimate timing of the resolution and/or closure of audits is highly uncertain, the Company believes it is reasonably possible that $0.8 million of gross unrecognized tax benefits will change in the next 12 months as a result of statute requirements.
The Company files U.S. federal, U.S. state and foreign tax returns. For U.S. federal purposes, the Company is generally no longer subject to tax examinations for fiscal years prior to 2015. For U.S. state tax returns, the Company is generally no longer subject to tax examinations for fiscal years prior to 2014. For foreign purposes, the Company is generally no longer subject to tax examinations for tax periods prior to 2007. Certain carryforward tax attributes generated in prior years remain subject to examination, adjustment and recapture.
Note 13 – Commitments and Contingencies
Warranties
The following table summarizes the changes in the Company's product warranty liabilities (in thousands):
Balance at June 25, 2017

$27,919

Warranties accrued in current period
19,753

Expenditures
(13,071
)
Balance at March 25, 2018

$34,601

Product warranties are estimated and recognized at the time the Company recognizes revenue. The warranty periods range from 90 days to 10 years. The Company accrues warranty liabilities at the time of sale, based on historical and projected incident rates and expected future warranty costs. The Company accrues estimated costs related to product recalls based on a formal campaign soliciting repair or return of that product when they are deemed probable and reasonably estimable. The warranty reserves, which are primarily related to Lighting Products, are evaluated quarterly based on various factors including historical warranty claims, assumptions about the frequency of warranty claims, and assumptions about the frequency of product failures derived from quality testing, field monitoring and the Company's reliability estimates. As of March 25, 2018, $22.2 million of the Company's product warranty liabilities were classified as long-term.
The Company has voluntarily recalled its linear LED T8 replacement lamps due to the hazard of overheating and melting. The Company expects the majority of the costs of the recall to be recoverable from insurance proceeds resulting in an immaterial impact to the Company’s financial results.
Litigation
The Company is currently a party to various legal proceedings.  While management presently believes that the ultimate outcome of such proceedings, individually and in the aggregate, will not materially harm the Company’s financial position, cash flows, or overall trends in results of operations, legal proceedings are subject to inherent uncertainties, and unfavorable rulings could occur.  An unfavorable ruling could include money damages or, in matters for which injunctive relief or other conduct remedies may be sought, an injunction prohibiting the Company from selling one or more products at all or in particular ways.  Were unfavorable final outcomes to occur, there exists the possibility of a material adverse impact on the Company’s business, results of operation, financial position and overall trends.  The outcomes in these matters are not reasonably estimable.

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Note 14 – Reportable Segments

The Company's operating and reportable segments are:
•
Wolfspeed
•
LED Products
•
Lighting Products
Reportable Segments Description
The Company's Wolfspeed segment includes power devices, RF devices, and SiC materials. The Company's LED Products segment includes LED chips and LED components. The Company's Lighting Products segment primarily consists of LED lighting systems and lamps.
Financial Results by Reportable Segment
The table below reflects the results of the Company's reportable segments as reviewed by the Chief Operating Decision Maker (CODM) for the three and nine months ended March 25, 2018. The Company's CODM is the Chief Executive Officer. The Company used the same accounting policies to derive the segment results reported below as those used in the Company's consolidated financial statements.
The Company's CODM does not review inter-segment transactions when evaluating segment performance and allocating resources to each segment, and inter-segment transactions are not included in the segment revenue presented in the table below. As such, total segment revenue in the table below is equal to the Company's consolidated revenue.
The Company's CODM reviews gross profit as the lowest and only level of segment profit. As such, all items below gross profit in the consolidated statements of loss must be included to reconcile the consolidated gross profit presented in the table below to the Company's consolidated loss before income taxes.
In order to determine gross profit for each reportable segment, the Company allocates direct costs and indirect costs to each segment's cost of revenue. The Company allocates indirect costs, such as employee benefits for manufacturing employees, shared facilities services, information technology, purchasing, and customer service, when the costs are identifiable and beneficial to the reportable segment. The Company allocates these indirect costs based on a reasonable measure of utilization that considers the specific facts and circumstances of the costs being allocated.
Unallocated costs in the table below consisted primarily of manufacturing employees’ stock-based compensation, expenses for profit sharing, quarterly or annual incentive plans, matching contributions under the Company’s 401(k) plan, and acquisition related costs. These costs were not allocated to the reportable segments’ gross profit because the Company’s CODM does not review them regularly when evaluating segment performance and allocating resources.
For the three and nine months ended March 26, 2017, the Wolfspeed segment was presented as discontinued operations. The depreciation and amortization adjustment in the table below represents the depreciation and amortization that would have been recognized had the Wolfspeed assets been continuously classified as held and used. These costs were allocated to the Wolfspeed segment's gross profit for the three and nine months ended March 26, 2017 because they represent an adjustment which provides comparability to the current period.

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Revenue, gross profit and gross margin for each of the Company's segments were as follows (in thousands, except percentages):
 
Three Months Ended
 
Nine Months Ended
 
March 25,
2018
 
March 26,
2017
 
March 25,
2018

March 26,
2017
Revenue:
 
 
 
 
 
 
 
Wolfspeed revenue

$81,902

 

$56,133

 

$218,628

 

$160,401

LED Products revenue
143,298

 
131,327

 
440,500

 
406,858

Lighting Products revenue
130,758

 
154,045

 
425,098

 
546,805

Total revenue

$355,958

 

$341,505

 

$1,084,226

 

$1,114,064

 
 
 
 
 
 
 
 
Gross Profit and Gross Margin:
 
 
 
 
 
 
 
Wolfspeed gross profit

$39,285

 

$26,396

 

$105,816

 

$74,737

Wolfspeed gross margin
48.0
%
 
47.0
%
 
48.4
%
 
46.6
%
LED Products gross profit
37,764

 
32,385

 
115,180

 
115,499

LED Products gross margin
26.4
%
 
24.7
%
 
26.1
%
 
28.4
%
Lighting Products gross profit
24,956

 
35,355

 
79,803

 
159,415

Lighting Products gross margin
19.1
%
 
23.0
%
 
18.8
%
 
29.2
%
Total segment gross profit
102,005

 
94,136

 
300,799

 
349,651

Unallocated costs
(2,949
)
 
(3,459
)
 
(8,808
)
 
(13,077
)
Depreciation and amortization adjustment
—

 
(4,601
)
 
—

 
—

Consolidated gross profit

$99,056

 

$86,076

 

$291,991

 

$336,574

Consolidated gross margin
27.8
%
 
25.2
%
 
26.9
%
 
30.2
%

Assets by Reportable Segment
Inventories are the only assets reviewed by the Company's CODM when evaluating segment performance and allocating resources to the segments. The CODM reviews all of the Company's assets other than inventories on a consolidated basis.
Unallocated inventories in the table below were not allocated to the reportable segments because the Company’s CODM does not review them when evaluating performance and allocating resources to each segment. Unallocated inventories consisted primarily of manufacturing employees’ stock-based compensation, profit sharing, quarterly or annual incentive compensation, matching contributions under the Company’s 401(k) plan, and acquisition related costs.
Inventories for each of the Company's segments were as follows (in thousands):
 
March 25,
2018
 
June 25,
2017
Wolfspeed

$56,261

 

$26,453

LED Products
102,078

 
108,297

Lighting Products
147,131

 
145,710

Total segment inventories
305,470

 
280,460

Unallocated inventories
4,388

 
3,925

Consolidated inventories

$309,858

 

$284,385

Note 15 – Subsequent Event

In April 2018, the Company approved a plan to restructure the Lighting Products business. The restructuring is expected to reduce excess capacity and overhead in order to improve the cost structure moving forward. The primary components of the restructuring include the planned sale or abandonment of certain manufacturing equipment, facility consolidation and the elimination of certain positions. The estimated cost of the restructuring is $7 million.


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Item 2.     Management’s Discussion and Analysis of Financial Condition and Results of Operations
Information set forth in this Quarterly Report on Form 10-Q contains various “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended (the Securities Act), and Section 21E of the Securities Exchange Act of 1934, as amended (the Exchange Act). All information contained in this report relative to future markets for our products and trends in and anticipated levels of revenue, gross margins and expenses, as well as other statements containing words such as “believe,” “project,” “may,” “will,” “anticipate,” “target,” “plan,” “estimate,” “expect” and “intend” and other similar expressions constitute forward-looking statements. These forward-looking statements are subject to business, economic and other risks and uncertainties, both known and unknown, and actual results may differ materially from those contained in the forward-looking statements. Any forward-looking statements we make are as of the date made, and except as required under the U.S. federal securities laws and the rules and regulations of the Securities and Exchange Commission (the SEC), we have no duty to update them if our views later change. These forward-looking statements should not be relied upon as representing our views as of any date subsequent to the date of this Quarterly Report. Examples of risks and uncertainties that could cause actual results to differ materially from historical performance and any forward-looking statements include, but are not limited to, those described in “Risk Factors” in Part II, Item 1A of this Quarterly Report.
Executive Summary
The following discussion is designed to provide a better understanding of our unaudited consolidated financial statements, including a brief discussion of our business and products, key factors that impacted our performance and a summary of our operating results. The following discussion should be read in conjunction with the unaudited condensed consolidated financial statements and the notes thereto included in Part I, Item 1 of this Quarterly Report on Form 10-Q, and the consolidated financial statements and notes thereto and Management’s Discussion and Analysis of Financial Condition and Results of Operations contained in our Annual Report on Form 10-K for the fiscal year ended June 25, 2017. Historical results and percentage relationships among any amounts in the financial statements are not necessarily indicative of trends in operating results for any future periods.
Overview

Cree, Inc. (Cree, we, our, or us) is an innovator of wide bandgap semiconductor products for power and radio-frequency (RF) applications, lighting-class light emitting diode (LED) products, and lighting products. Our products are targeted for applications such as transportation, electronic signs and signals, power supplies, inverters, wireless systems, indoor and outdoor lighting, and video displays.
Our Wolfspeed segment's products consists of silicon carbide (SiC) and gallium nitride (GaN) materials, power devices and RF devices based on silicon (Si) and wide bandgap semiconductor materials. Our materials products and power devices are used in solar, electric vehicles, motor drives, power supplies and transportation applications. Our materials products and RF devices are used in military communications, radar, satellite and telecommunication applications.
Our LED Products segment’s products consist of LED chips and LED components. Our LED products enable our customers to develop and market LED-based products for lighting, video screens, automotive and other industrial applications.
Our Lighting Products segment’s products primarily consist of LED lighting systems and lamps. We design, manufacture and sell lighting fixtures and lamps for the commercial, industrial and consumer markets.
The majority of our products are manufactured at our production facilities located in North Carolina, Wisconsin, California, and China. We also use contract manufacturers for certain products and aspects of product fabrication, assembly and packaging. We operate research and development facilities in North Carolina, Arizona, Arkansas, California, Wisconsin, India, Italy and China (including Hong Kong).
Cree, Inc. is a North Carolina corporation established in 1987, and our headquarters are in Durham, North Carolina. For further information about our consolidated revenue and earnings, please see our consolidated financial statements included in Item 1 of this Quarterly Report.
Reportable Segments
Our three reportable segments are:
•
Wolfspeed
•
LED Products
•
Lighting Products

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For further information about our reportable segments, please refer to Note 14, "Reportable Segments," in our consolidated financial statements included in Item 1 of this Quarterly Report.
Industry Dynamics and Trends
There are a number of industry factors that affect our business which include, among others:
•
Overall Demand for Products and Applications using SiC power devices, GaN and Si RF devices, and LEDs. Our potential for growth depends significantly on the adoption of SiC and GaN materials and device products in the power and RF markets, the continued use of Si devices in the RF telecommunications market, the continued adoption of LEDs, and our ability to win new designs for these applications. Demand also fluctuates based on various market cycles, continuously evolving industry supply chains, and evolving competitive dynamics in each of the respective markets. These uncertainties make demand difficult to forecast for us and our customers.
•
Intense and Constantly Evolving Competitive Environment. Competition in the industries we serve is intense. Many companies have made significant investments in product development and production equipment. Product pricing pressures exist as market participants often undertake pricing strategies to gain or protect market share, increase the utilization of their production capacity and open new applications in the power, RF, LED and lighting markets we serve. To remain competitive, market participants must continuously increase product performance, reduce costs and develop improved ways to serve their customers. To address these competitive pressures, we have invested in research and development activities to support new product development, lower product costs and deliver higher levels of performance to differentiate our products in the market. In addition, we invest in systems, people and new processes to improve our ability to deliver a better overall experience for our customers.
•
Technological Innovation and Advancement. Innovations and advancements in power, RF, LEDs and lighting technologies continue to expand the potential commercial application for our products. However, new technologies or standards could emerge or improvements could be made in existing technologies that could reduce or limit the demand for our products in certain markets.
•
Intellectual Property Issues. Market participants rely on patented and non-patented proprietary information relating to product development, manufacturing capabilities and other core competencies of their business. Protection of intellectual property is critical. Therefore, steps such as additional patent applications, confidentiality and non-disclosure agreements, as well as other security measures are generally taken. To enforce or protect intellectual property rights, litigation or threatened litigation is common.
•
Lighting Sales Channel Development. Commercial lighting is usually sold through lighting agents and distributors in the North American lighting market. The lighting agents typically have exclusive sales rights for a defined territory and are typically aligned with one large lighting company for a large percentage of their product sales. The size, quality and capability of the lighting agent has a significant effect on winning new projects and sales in a given geographic market. While these agents sell other lighting products, the large traditional lighting companies have taken steps to prevent their channel partners from selling competing product lines. We are constantly working to improve the capabilities of our existing channel partners and increase our share of their sales as well as develop new partners to improve our sales effectiveness in each geographic market.
Overview of the Nine Months Ended March 25, 2018
The following is a summary of our financial results for the nine months ended March 25, 2018:

•
Revenue decreased to $1.08 billion for the nine months ended March 25, 2018 from $1.11 billion for the nine months ended March 26, 2017.
•
Gross profit decreased to $292 million for the nine months ended March 25, 2018 from $337 million for the nine months ended March 26, 2017. Gross margin was 27% for the nine months ended March 25, 2018 and 30% for the nine months ended March 26, 2017.
•
Operating loss was $308 million for the nine months ended March 25, 2018, which includes impairment charges of $247 million attributable to our Lighting Products segment, compared to operating loss of $6 million for the nine months ended March 26, 2017. Net loss per diluted share was $2.49 for the nine months ended March 25, 2018 compared to net loss per diluted share of $0.93 for the nine months ended March 26, 2017.
•
Cash, cash equivalents and short-term investments were $401 million at March 25, 2018 and $611 million at June 25, 2017. Cash provided by operating activities was $125 million for the nine months ended March 25, 2018 compared to $163 million for the nine months ended March 26, 2017.

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•
Inventories increased to $310 million at March 25, 2018 compared to $284 million at June 25, 2017.
•
Purchases of property and equipment were $128 million for the nine months ended March 25, 2018 compared to $57 million for the nine months ended March 26, 2017.
Business Outlook
We are uniquely positioned as an innovator in all three business segments. The strength of our balance sheet and operating cash flow provides us the ability to invest in our businesses, as we did with the recent acquisition of the assets related to the RF Power business of Infineon Technologies AG (Infineon) to grow our Wolfspeed segment as discussed in Note 3, "Acquisition" to our unaudited financial statements in Part I, Item 1 of this Quarterly Report.
We are focused on the following priorities to support our goals of delivering higher revenue and profits over time:
•
Wolfspeed - invest in the business to expand the scale, further develop the technologies, and accelerate the growth opportunities of SiC materials, SiC power devices and modules, and GaN and Si RF devices.
•
LED Products - focus our efforts where our best-in-class technology and application-optimized solutions are differentiated and valued while using Cree Venture LED Company Limited (Cree Venture LED) to access the broader mid-power LED markets.
•
Lighting Products - grow revenue and margins by improving product quality, investing in our channel relationships, improving execution, and delivering innovative lighting solutions focused on higher specification and smart intelligent features.
•
Improve the customer experience and service levels in all of our businesses.

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Results of Operations
The following table sets forth certain consolidated statements of loss data for the periods indicated (in thousands, except per share amounts and percentages):
 
 
Three Months Ended
 
Nine Months Ended
 
March 25,
2018
 
March 26,
2017
 
March 25,
2018
 
March 26,
2017
 
Dollars
 
% of Revenue
 
Dollars
 
% of Revenue
 
Dollars
 
% of Revenue
 
Dollars
 
% of Revenue
Revenue, net

$355,958

 
100
 %
 

$341,505

 
100
 %
 

$1,084,226

 
100
 %
 

$1,114,064

 
100
 %
Cost of revenue, net
256,902

 
72
 %
 
255,429

 
75
 %
 
792,235

 
73
 %
 
777,490

 
70
 %
Gross profit
99,056

 
28
 %
 
86,076

 
25
 %
 
291,991

 
27
 %
 
336,574

 
30
 %
Research and development
40,239

 
11
 %
 
41,451

 
12
 %
 
121,874

 
11
 %
 
119,292

 
11
 %
Sales, general and administrative
70,256

 
20
 %
 
68,165

 
20
 %
 
201,296

 
19
 %
 
213,136

 
19
 %
Amortization or impairment of acquisition-related intangibles
7,453

 
2
 %
 
8,362

 
2
 %
 
21,037

 
2
 %
 
20,707

 
2
 %
Loss on disposal or impairment of long-lived assets
1,716

 
—
 %
 
500

 
—
 %
 
8,803

 
1
 %
 
1,541

 
—
 %
Goodwill impairment charges
247,455

 
70
 %
 
—

 
—
 %
 
247,455

 
23
 %
 
—

 
—
 %
Wolfspeed transaction termination fee
—

 
—
 %
 
(12,500
)
 
(4
)%
 
—

 
—
 %
 
(12,500
)
 
(1
)%
Operating loss
(268,063
)
 
(75
)%
 
(19,902
)
 
(6
)%
 
(308,474
)
 
(28
)%
 
(5,602
)
 
(1
)%
Non-operating (expense) income, net
(9,651
)
 
(3
)%
 
9,865

 
3
 %
 
16,011

 
1
 %
 
4,946

 
—
 %
Loss before income taxes
(277,714
)
 
(78
)%
 
(10,037
)
 
(3
)%
 
(292,463
)
 
(27
)%
 
(656
)
 
—
 %
Income tax (benefit) expense
(37,181
)
 
(10
)%
 
88,976

 
26
 %
 
(45,810
)
 
(4
)%
 
91,574