# COHERENT CORP. (COHR) FY 2022 MD&A

Verbatim Item 7 Management's Discussion and Analysis from COHERENT CORP.'s 10-K for fiscal year 2022.

SEC filing source: https://www.sec.gov/Archives/edgar/data/820318/000082031822000019/iivi-20220630.htm
Accession: 0000820318-22-000019
Filing date: 2022-08-29
Report date: 2022-06-30
Extracted structurally from real Item 7 body heading to real Item 7A/8 boundary.
Confidence: high

Company profile: /company/COHR/
All MD&A years: /company/COHR/mda/
Next year: /company/COHR/mda/fy2023/ (FY 2023)

Item 7.        MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Management’s Discussion and Analysis of Financial Condition and Results of Operations (MD&A) is designed to provide a reader of II-VI’s financial statements with a narrative from the perspective of management. The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our Consolidated Financial Statements and related notes included under Item 8 of this annual report. II-VI’s MD&A is presented in nine sections:

•Forward-Looking Statements

•Overview

•Acquisition and Background of Coherent, Inc.

•Critical Accounting Policies and Estimates

•COVID-19 Update

•Fiscal Year 2022 Compared to Fiscal Year 2021

•Fiscal Year 2021 Compared to Fiscal Year 2020

•Liquidity and Capital Resources

•Off Balance Sheet Arrangements

Forward-looking statements in Item 7 may involve risks and uncertainties that could cause results to differ materially from those projected (refer to Item 1A for discussion of these risks and uncertainties).

Forward-Looking Statements

Certain statements contained in this Management’s Discussion and Analysis of Financial Condition and Results of Operations ("Management Discussion and Analysis") are forward-looking statements as defined by Section 21E of the Securities Exchange Act of 1934, as amended, including statements regarding projected growth rates, markets, product development, financial position, capital expenditures and foreign currency exposure. Forward-looking statements are also identified by words such as “expects,” “anticipates,” “believes,” “intends,” “plans,” “projects” or similar expressions.

Although our management considers these expectations and assumptions to have a reasonable basis, there can be no assurance that management’s expectations, beliefs or projections as expressed in the forward-looking statements will actually occur or prove to be correct. In addition to general industry and global economic conditions, factors that could cause actual results to differ materially from those discussed in the forward-looking statements in this Annual Report on Form 10-K include, but are not limited to: (i) the failure of any one or more of the assumptions stated above to prove to be correct; and (ii) the risks relating to forward-looking statements and other “Risk Factors” discussed herein at Item 1A. The Company disclaims any obligation to update information contained in these forward-looking statements whether as a result of new information, future events or developments, or otherwise.

In addition, we operate in a highly competitive and rapidly changing environment; new risk factors can arise, and it is not possible for management to anticipate all such risk factors, or to assess the impact of all such risk factors on our business or the extent to which any individual risk factor, or combination of risk factors, may cause results to differ materially from those contained in any forward-looking statement. The forward-looking statements included in this Annual Report on Form 10-K are based only on information currently available to us and speak only as of the date of this Report. We do not assume any obligation, and do not intend to, update any forward-looking statements, whether as a result of new information, future developments or otherwise, except as may be required by the securities laws. Investors should, however, consult any further disclosures of a forward-looking nature that the Company may make in its subsequent Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, or other disclosures filed with or furnished to the SEC.

Investors should also be aware that, while the Company does communicate with securities analysts from time to time, such communications are conducted in accordance with applicable securities laws. Investors should not assume that the Company agrees with any statement or report issued by any analyst irrespective of the content of the statement or report.

47

Overview

II-VI Incorporated (“II-VI,” the “Company,” “we,” “us” or “our”), a global leader in materials, networking and lasers, is a vertically integrated manufacturing company that develops, manufactures and markets engineered materials, optoelectronic components and devices, and lasers for use in industrial materials processing, optical communications, aerospace and defense, consumer electronics, semiconductor capital equipment, medical diagnostics and life sciences, automotive applications, machine tools, consumer goods and medical device manufacturing. Headquartered in Saxonburg, Pennsylvania, II-VI has research and development, manufacturing, sales, service, and distribution facilities worldwide. II-VI produces a wide variety of lasers, along with application-specific photonic and electronic materials and components, and deploys them in various forms, including integrated with advanced software to enable its customers.

The Company generates revenues, earnings and cash flows from developing, manufacturing and marketing a broad portfolio of products for our end markets. We also generate revenue, earnings and cash flows from government-funded research and development contracts relating to the development and manufacture of new technologies, materials and products.

Our customer base includes original equipment manufacturers, laser end users, system integrators of high-power lasers, manufacturers of equipment and devices for industrial, optical communications, consumer electronics, security and monitoring applications, U.S. government prime contractors, and various U.S. government agencies.

As we grow, we are focused on scaling our Company and deriving the continued benefits of vertical integration as we strive to be a best in class competitor in all of our highly competitive markets. The Company may elect to change the way in which the Company operates or is organized in the future to enable the most efficient implementation of our strategy.

Acquisition and Background of Coherent, Inc.

Coherent, Inc. ("Coherent"), one of the world's leading providers of laser solutions and optics for microelectronics, life sciences, industrial manufacturing, scientific and aerospace and defense markets, was acquired by II-VI Incorporated on July 1, 2022. In fiscal year 2023, it will be included in the combined company, to be rebranded Coherent Corp., as the Lasers Segment.

Coherent delivers systems to the world's leading brands, innovators, and researchers, all backed with a global service and support network. Since inception in 1966, Coherent has grown through internal expansion and through strategic acquisitions of complementary businesses, technologies, intellectual property, manufacturing processes, and product offerings. Coherent serves important end markets like microelectronics, precision manufacturing, and instrumentation, as well as applications in aerospace and defense.

The word "laser" is an acronym for "light amplification by stimulated emission of radiation." A laser emits an intense coherent beam of light with some unique and highly useful properties. Most importantly, a laser is orders of magnitude brighter than any lamp. As a result of its coherence, the beam can be focused to a very small and intense spot, useful for applications requiring very high power densities including welding and other materials processing procedures. The laser's high spatial resolution is also useful for microscopic imaging and inspection applications. Laser light can be monochromatic—all of the beam energy is confined to a narrow wavelength band. Lasers can produce the lasing action in the form of a gas, liquid, semiconductor, solid state crystal or fiber. Lasers can also be classified by their output wavelength: ultraviolet, visible, infrared or wavelength tunable. Coherent manufactures all of these laser types, in various options such as continuous wave, pulse duration, output power, beam dimensions, etc. Each application has its own specific requirements in terms of laser performance.

Coherent’s key laser applications include: semiconductor wafer inspection; manufacturing of advanced printed circuit boards; flat panel display manufacturing; solar cell production; medical and bio-instrumentation; materials processing; metal cutting and welding; industrial process and quality control; marking; imaging and printing; graphic arts and display; and research and development. For example, UV lasers are enabling the continuous move towards miniaturization, which drives innovation and growth in many markets. In addition, the advent of industrial grade ultrafast lasers continues to open up new applications for laser processing.

Coherent’s products are manufactured at sites in California, Oregon, Michigan, New Jersey, and Connecticut in the United States; Germany, Scotland, Finland, Sweden, Switzerland, and Spain in Europe; and South Korea, China, Singapore, and Malaysia in Asia. In addition, Coherent also uses contract manufacturers in southeast Asia, Eastern Europe and the United States for the production of certain assemblies and turnkey solutions.

48

Critical Accounting Policies and Estimates

The preparation of financial statements and related disclosures in conformity with accounting principles generally accepted in the United States requires the Company’s management to make judgments, assumptions and estimates that affect the amounts reported in its Consolidated Financial Statements and accompanying notes. Note 1. Nature of Business and Summary of Significant Accounting Policies, of the Notes to our Consolidated Financial Statements contained in Item 8 of this Annual Report on Form 10-K describes the significant accounting policies and accounting methods used in the preparation of the Company’s Consolidated Financial Statements. Management bases its estimates on historical experience and on various other assumptions that it believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities. Actual results may differ from these estimates.

Management has discussed the development and selection of the critical accounting policies and estimates described below with the Audit Committee of the Board of Directors and the Audit Committee has reviewed the related disclosure. In addition, there are other items within our Consolidated Financial Statements that require estimation but are not deemed critical. Changes in estimates used in these and other items could impact the Consolidated Financial Statements.

Accounting for Commercial Agreements

From time-to-time, the Company enters into commercial agreements with our customers that include advance payments from our customers, the cash flow from which the Company uses to fund our capital expansion. The Company determines at the inception or modification of the contract if the arrangement is, or contains, a lease, which exists when the contract conveys the right to control the use of identified property or equipment for a period of time in exchange for consideration. In determining if a contract contains a lease, the Company uses judgment to evaluate whether the contract, either explicitly or implicitly, is for the use of an identified asset and whether the customer has the right to direct the use of, and obtain substantially all of the economic benefit from, the identified asset. Determination of the accounting treatment of the contract requires judgment and impacts the amounts recorded in our Consolidated Financial Statements.

The Company entered into a commercial agreement with one of our customers to produce certain engineered materials products within the Compound Semiconductors segment. We received payments of $23 million and $8 million during the years ended June 30, 2022 and 2021, respectively, which the Company used to partially fund the purchase of plant and equipment, which is recorded as a contract liability. See Note 4. Revenue from Contracts with Customers of the Notes to our Consolidated Financial Statements contained in Item 8 of this Annual Report on Form 10-K. We determined the contractual rights and obligations in the commercial agreement provide us with the substantive right to substitute alternative assets throughout the period of use and therefore the commercial agreement does not contain a lease under ASC 842.

Goodwill

The Company tests goodwill for impairment annually, and when events or changes in circumstances indicate that goodwill might be impaired. The determination of whether goodwill is impaired requires us to make judgments based on long-term projections of future performance. Estimates of fair value are based on our projection of revenues, operating costs and cash flows of each reporting unit, considering historical and anticipated results and general economic and market conditions and their projections. For fiscal year 2022, the fair values of the reporting units were determined using a discounted cash flow analysis with projected financial information based on our most recently completed long-term strategic planning processes and also considers the current financial performance compared to our prior projections of the reporting units, as well as a market analysis. As of June 30, 2022, no reporting units are at risk for impairment. Due to the cyclical nature of our business, and the other factors described in the section on Risk Factors set forth in Item 1A of this Annual Report on Form 10-K, the profitability of our individual reporting units may periodically be affected by downturns in customer demand, operational challenges and other factors. If material adverse conditions occur that impact one or both of our reporting units, our determination of future fair value might not support the carrying amount of one or both of our reporting units, and the related goodwill would need to be impaired.

49

Income Taxes

The Company prepares and files tax returns based on its interpretation of tax laws and regulations and records estimates based on these judgments and interpretations. In the normal course of business, the Company’s tax returns are subject to examination by various taxing authorities, which may result in future tax, interest and penalty assessments by these authorities. The Company recognizes the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such a position are measured based on the largest benefit that has a greater than 50% likelihood of being realized upon ultimate resolution. The amount of unrecognized tax benefits is adjusted for changes in facts and circumstances. For example, adjustments could result from significant amendments to existing tax law and the issuance of regulations or interpretations by the taxing authorities, new information obtained during a tax examination, or resolution of an examination. The Company believes that its estimates for uncertain tax positions are appropriate and sufficient to pay assessments that may result from examinations of its tax returns. The Company recognizes both accrued interest and penalties related to unrecognized tax benefits in income tax expense.

Management evaluates the realizability of deferred tax assets for each jurisdiction in which it operates. If the Company experiences cumulative pretax income in a particular jurisdiction in a three-year period including the current and prior two years, management normally concludes that the income tax assets will more likely than not be realizable and no valuation allowance is recognized, unless known or planned operating developments, or changes in tax laws, would lead management to conclude otherwise. However, if the Company experiences cumulative pretax losses in a particular jurisdiction in a three-year period, management then considers a series of factors in the determination of whether the deferred tax assets can be realized. The Company has recorded valuation allowances against certain of its deferred tax assets, primarily those that have been generated from net operating losses in certain foreign taxing jurisdictions and acquired U.S. carryforwards. In evaluating whether the Company would more likely than not recover these deferred tax assets, it has not assumed any future taxable income or tax planning strategies in the jurisdictions associated with these carryforwards where history does not support such an assumption. Implementation of tax planning strategies to recover these deferred tax assets or future income generation in these jurisdictions could lead to the reversal of these valuation allowances and a reduction of income tax expense.

COVID-19 Update

In response to the global spread of COVID-19, governments at various levels have implemented, and may continue to implement, unprecedented response measures. Overall, the COVID-19 pandemic and related factors have significantly curtailed global economic activity and caused significant volatility and disruption in global financial markets. Certain of the measures taken in response to the COVID-19 pandemic have adversely affected, and could in the future continue to materially adversely impact, our business, results of operations, financial condition and stock price. In particular, the COVID-19 pandemic continues to have a significant impact on global trade, which has resulted in supply chain and production disruptions impacting our business.

In particular, our supply chain has been affected by various measures implemented in response to the pandemic. In certain cases, our suppliers have not had the materials, capacity or capability to supply us with the components necessary for continuing our manufacturing operations or development efforts at our normal levels or on predictable timing. We also have experienced restrictions and delays on logistics, such as those relating to air cargo carriers, as well as increased logistics costs due to limited capacity and high demands for freight forwarders. As a result of these factors, we have increased our inventory of certain items to mitigate these logistical uncertainties. Similarly, our customers have also experienced, and could continue to experience, disruptions in their operations, which may result in reduced, delayed, or canceled orders, and have increased collection risks, which may adversely affect our results of operations.

The full extent of the impact of the COVID-19 pandemic and the related responses on our operational and financial performance remains uncertain and will depend on many factors outside our control, including, without limitation, the duration and severity of the pandemic, the imposition of protective public safety measures, and the impact of the pandemic and related factors on the global economy as a whole and, in particular, demand for our products. Due to these uncertainties, we cannot reasonably estimate the related impact on us at this time.

For additional information regarding the risks that we face as a result of the COVID-19 pandemic, please see Item 1A. Risk Factors in Part I of this Annual Report on Form 10-K. Further, to the extent that the COVID-19 pandemic adversely affects our business and financial results, it also may have the effect of heightening many of the other risks described in the risk factors in Item 1A of this Annual Report on Form 10-K.

50

Fiscal Year 2022 Compared to Fiscal Year 2021

As of June 30, 2022, the Company was aligned along the following two reporting segments for the purpose of making operational decisions and assessing financial performance: (i) Compound Semiconductors and (ii) Photonic Solutions. The Company is reporting financial information (revenue and operating income) for these reporting segments in this Annual Report on Form 10-K.

We previously classified intangible asset amortization expense within Selling, general and administrative (“SG&A”) expenses in our Consolidated Statements of Earnings (Loss). Amortization expense on the developed technology intangible assets is now classified within Cost of goods sold, with amortization expense on customer lists and trade names remaining within SG&A expenses in our Consolidated Statements of Earnings. Prior period amounts have been conformed to the current period presentation, which resulted in an increase to Cost of goods sold and a decrease to SG&A expenses of $39 million for the year ended June 30, 2021.

The following table sets forth select items from our Consolidated Statements of Earnings (Loss) for the years ended June 30, 2022 and 2021 ($ in millions except per share information):

[[GREPCENT_TABLE]]
[["","","Year Ended June 30, 2022","","Year Ended June 30, 2021"],["","","","","% of Revenues","","","","% of Revenues"],["Total revenues","","$","3,317","","","100","%","","$","3,106","","","100","%"],["Cost of goods sold","","2,051","","","62","","","1,928","","","62"],["Gross margin","","1,265","","","38","","","1,177","","","38"],["Operating expenses:"],["Internal research and development","","377","","","11","","","330","","","11"],["Selling, general and administrative","","474","","","14","","","445","","","14"],["Interest and other, net","","132","","","4","","","50","","","2"],["Earnings before income taxes","","282","","","8","","","353","","","11"],["Income taxes","","47","","","1","","","55","","","2"],["Net earnings","","$","235","","","7","%","","$","298","","","10","%"],["Diluted earnings per share","","$","1.45","","","","","$","2.37"]]
[[/GREPCENT_TABLE]]

Consolidated

Revenues. Revenues for the year ended June 30, 2022 increased 7% to $3,317 million, compared to $3,106 million for the prior fiscal year. The biggest driver of increased revenue was strength in the communications market, which grew by 7% year-over-year, contributing an incremental $151 million in sales. The strength in the communications market was due to strong demand in datacom and transceivers, specifically for transceivers with data rates greater than 100G. In addition, semiconductor capital equipment sales grew 29% and industrial sales grew 26% compared to the same period last year, with an additional $34 million and $85 million in incremental revenue, respectively. This growth was partially offset by decreased revenue in the consumer market, which fell 20%, or $56 million, year-over-year due to lower sales in 3D sensing.

Gross margin. Gross margin for the year ended June 30, 2022 was $1,265 million, or 38%, of total revenues, compared to $1,177 million, or 38% of total revenues, for the same period last fiscal year. Gross margin as a percentage of revenues increased 20 basis points compared to the prior fiscal year.

Internal research and development. Internal research and development (“IR&D”) expenses for the fiscal year ended June 30, 2022 were $377 million, or 11% of revenues, compared to $330 million, or 11%. of revenues, last fiscal year. The IR&D expenses are primarily related to the Company's continued investment in new products and manufacturing processes across all its businesses including significant investments in indium phosphide semiconductor lasers, silicon carbide materials and devices for both power electronics and wireless devices, semiconductor technology, gallium arsenide semiconductor lasers, and silicon carbide semiconductor technology.

Selling, general and administrative. SG&A expenses for the year ended June 30, 2022 were $474 million, or 14% of revenues, compared to $445 million, or 14% of revenues, last fiscal year. The Company incurred transaction and integration costs relating to the acquisition of Coherent, which increased $9 million year-over-year.

51

Interest and other, net. Interest and other, net for the year ended June 30, 2022 included expense of $132 million compared to expense of $50 million last fiscal year, or an increase of $83 million year over year. Interest and other, net includes $121 million for interest expense on borrowings, and $16 million of foreign currency losses. Interest expense of $121 million incurred in FY22 was related to funding both raised in advance of the closing of the Coherent acquisition, as well as fees for financing to be funded contingent upon the close of the transaction, the combined expense totaling $79 million.

Foreign currency losses were $16 million for the year ended June 30, 2022, as compared to $6 million of losses for the year ended June 30, 2021. The increased foreign currency impact was the result of volatility in the foreign exchange market, particularly in regard to the Euro. The Company purchased $345 million Euros to pay off the Euro based debt of Coherent at transaction closing, which resulted in a $24 million realized loss during the year ended June 30, 2022.

Income taxes. The Company’s year-to-date effective income tax rate at June 30, 2022 was 17%, compared to an effective tax rate of 16% last fiscal year. The current fiscal year’s effective tax rate was lower than statutory rates because of favorable research and development incentives in certain jurisdictions and tax rate differentials between U.S. and foreign jurisdictions.

Segment Reporting

Revenues and operating income for the Company’s reportable segments are discussed below. Operating income differs from income from operations in that operating income excludes certain expenses, including interest, the impact of foreign exchange, and other miscellaneous expenses as reported. Management believes operating income to be a useful measure for investors, as it reflects the results of segment performance over which management has direct control, which is used by management in its evaluation of segment performance. See Note 14. Segment and Geographic Reporting to the Company’s Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K for further information on the Company’s reportable segments and for the reconciliation of operating income to net earnings, which is incorporated herein by reference.

Photonic Solutions ($ in millions)

[[GREPCENT_TABLE]]
[["","","Year Ended June 30,","","% Increase"],["","","2022","","2021"],["Revenues","","$","2,226","","","$","2,038","","","9","%"],["Operating income","","$","230","","","$","208","","","11","%"]]
[[/GREPCENT_TABLE]]

Revenues for the year ended June 30, 2022 for Photonic Solutions increased 9% to $2,226 million, compared to $2,038 million for last fiscal year. Our transceiver business grew across all product lines including the 200G and 400G modules, an increase of $152 million year-over-year.

Operating income for the year ended June 30, 2022 for Photonic Solutions increased 11% to $230 million, compared to an operating income of $208 million last fiscal year. The drivers of the increased operating income were higher sales volume, and improved operating performance.

Compound Semiconductors ($ in millions)

[[GREPCENT_TABLE]]
[["","","Year Ended June 30,","","% Increase"],["","","2022","","2021"],["Revenues","","$","1,090","","","$","1,068","","","2","%"],["Operating income","","$","220","","","$","221","","","\u2014","%"]]
[[/GREPCENT_TABLE]]

Revenues for the fiscal year ended June 30, 2022 for Compound Semiconductors increased 2% to $1,090 million, compared to revenues of $1,068 million last fiscal year. The increase in revenues during the current fiscal year was primarily driven by strong sales in the industrial and semiconductor capital equipment businesses, an increase of $64 million and $30 million in comparison to prior year, respectively. This growth was partially offset by a $56 million decrease in the consumer market.

Operating income for the fiscal year ended June 30, 2022 for Compound Semiconductors remained flat, with operating income of $220 million in the current year, compared to operating income of $221 million last fiscal year. The decrease in operating income during the current fiscal year as a percent of revenue was driven by a $53 million increase in R&D spend in fiscal year 2022 as compared to fiscal year 2021, primarily for SiC materials and devices and InP technology platforms. Additionally, supply chain costs increased year-over-year further driving the decrease in operating income as a percent of revenue.

52

Fiscal Year 2021 Compared to Fiscal Year 2020

As of June 30, 2021, the Company was aligned along the following two reporting segments for the purpose of making operational decisions and assessing financial performance: (i) Compound Semiconductors and (ii) Photonic Solutions. The Company is reporting financial information (revenue and operating income) for these reporting segments in this Annual Report on Form 10-K.

We previously classified intangible asset amortization expense within SG&A expenses in our Consolidated Statements of Earnings (Loss). Amortization expense on the developed technology intangible assets is now classified within Cost of goods sold, with amortization expense on customer lists and trade names remaining within SG&A expenses in our Consolidated Statements of Earnings (Loss). Prior period amounts have been conformed to the current period presentation, which resulted in an increase to Cost of goods sold and a decrease to SG&A expenses of $39 million and $28 million for the years ended June 30, 2021 and June 30, 2020, respectively.

The following table sets forth select items from our Consolidated Statements of Earnings (Loss) for the years ended June 30, 2021 and 2020 ($ in millions except per share information):

[[GREPCENT_TABLE]]
[["","","Year Ended","","Year Ended"],["","","June 30, 2021","","June 30, 2020"],["","","","","% of Revenues","","","","% of Revenues"],["Total revenues","","$","3,106","","","100","%","","$","2,380","","","100","%"],["Cost of goods sold","","1,928","","","62","","","1,589","","","67"],["Gross margin","","1,177","","","38","","","791","","","33"],["Operating expenses:"],["Internal research and development","","330","","","11","","","339","","","14"],["Selling, general and administrative","","445","","","14","","","413","","","17"],["Interest and other, net","","50","","","2","","","103","","","4"],["Earnings (loss) before income tax","","353","","","11","","","(64)","","","(3)"],["Income taxes","","55","","","2","","","3","","","\u2014"],["Net earnings (loss)","","$","298","","","10","%","","$","(67)","","","(3)","%"],["Diluted earnings (loss) per share","","$","2.37","","","","","$","(0.79)"]]
[[/GREPCENT_TABLE]]

Consolidated

Revenues. Revenues for the year ended June 30, 2021 increased 30% to $3,106 million, compared to $2,380 million for fiscal year 2020. Revenue for 2021 was a record with growth across all end markets compared to the same period in fiscal year 2020. Communications, our largest vertical, grew 30% compared to the same period in the prior year. This increase was due to a full year of Finisar Corporation ("Finisar") revenue, strong demand across transceivers, including 200/400G products, as well as other optical communications products. The strong demand for our 3D sensing products drove 118% growth in revenue for consumer electronics. Life sciences grew 65%, driven by demand for our filters, optics and thermo-electric coolers for COVID-19 related PCR testing and sequencing instrumentation. Our industrial business grew 11% compared to the same period in the prior year, due to strong growth in both "CO 2" and one micron laser components.

Gross margin. Gross margin for the year ended June 30, 2021 was $1,177 million, or 38%, of total revenues, compared to $791 million, or 33% of total revenues, for the same period fiscal year 2020. Gross margin as a percentage of revenues increased 470 basis points compared to the prior fiscal year. Gross margin was negatively impacted in the in fiscal year 2020 by the effects of purchase accounting on inventory, an increased value of $87.7 million related to the fair value adjustment of the acquired Finisar inventory.

Internal research and development. Company-funded IR&D expenses for the fiscal year ended June 30, 2021 were $330 million, or 11% of revenues, compared to $339 million, or 14% of revenues, fiscal year 2020. The IR&D expenses were primarily related to the Company continuing to invest in new products and processes across all its businesses including investments in high speed datacom and telecom transceivers, high speed integrated circuits (ICs), 5G technology, 3D sensing,

53

indium phosphide semiconductor lasers, gallium arsenide semiconductor lasers, silicon carbide semiconductor technology, and other emerging market trends. 

Selling, general and administrative. SG&A expenses for the year ended June 30, 2021 were $445 million, or 14% of revenues, compared to $413 million, or 17% of revenues, fiscal year 2020. The Company incurred transaction and integration costs relating to the acquisitions of Finisar, Ascatron AB ("Ascatron") and INNOViON Corporation ("Innovion"), the acquisition of Coherent, increased stock compensation due to the increased II-VI stock price, as well as the SG&A from the operations of Ascatron and Innovion.

Interest and other, net. Interest and other, net for the year ended June 30, 2021 was expense of $50 million compared to expense of $103 million fiscal year 2020, or a decrease of $53 million year over year. Interest and other, net primarily includes $60 million for interest expense on borrowings, and $6 million of foreign currency losses. The decrease compared to the prior fiscal year was driven by lower levels of debt outstanding, due to the Term Loan B being repaid with funds from the July 2020 equity raise, as well as gains of $7 million and $11 million recognized in relation to the Innovion acquisition and the Preferred Series B forward sale agreement, respectively. These gains were offset by $25 million of debt issuance costs recognized in conjunction with the repayment of the Company's Term Loan B Facility in fiscal 2021.

There were foreign currency losses of $6 million for the year ended June 30, 2021 due to the volatility in the foreign exchange market, compared to $8 million of losses for the year ended June 30, 2020.

Income taxes. The Company’s year-to-date effective income tax rate at June 30, 2021 was 16%, compared to an effective tax rate of (5)% in the prior fiscal year. The effective tax rate in fiscal year 2021 was lower than statutory rates because of favorable research and development incentives in certain jurisdictions and stock option exercise benefits from the strong II-VI stock price.

Photonic Solutions ($ in millions)

[[GREPCENT_TABLE]]
[["","","Year Ended June 30,","","% Increase"],["","","2021","","2020"],["Revenues","","$","2,038","","","$","1,537","","","33","%"],["Operating income","","$","208","","","$","50","","","316","%"]]
[[/GREPCENT_TABLE]]

The above operating results for the year ended June 30, 2021 include the Company’s acquisition of Finisar in September 2019.

Revenues for the year ended June 30, 2021 for Photonic Solutions increased 33% to $2,038 million, compared to $1,537 million for fiscal year 2020. The largest driver of the increase was the inclusion of four full fiscal quarters of revenue from Finisar compared to six days and three quarters of revenue in the prior year. Our transceiver business grew across all product lines including the 200G and 400G modules.

Operating income for the year ended June 30, 2021 for Photonic Solutions increased 316% to $208 million, compared to an operating income of $50 million for fiscal year 2020. The drivers of the increased operating income were higher sales volume, and improved operating performance and the absence of costs related to purchase accounting that were present in fiscal year 2020.

Compound Semiconductors ($ in millions)

[[GREPCENT_TABLE]]
[["","","Year Ended June 30,","","% Increase"],["","","2021","","2020"],["Revenues","","$","1,068","","","$","821","","","30","%"],["Operating income","","$","221","","","$","62","","","255","%"]]
[[/GREPCENT_TABLE]]

The above operating results for the year ended June 30, 2021 include the Company's acquisition of Finisar in September 2019.

Revenues for the fiscal year ended June 30, 2021 for Compound Semiconductors increased 30% to $1,068 million, compared to revenues of $821 million for fiscal year 2020. The increase in revenues during the current fiscal year was primarily driven by over a 100% increase in VCSEL product shipments addressing the 3D sensing consumer market, and increased revenues to customers in all of our other markets with significant growth in our Life Sciences business.

54

Operating income for the fiscal year ended June 30, 2021 for Compound Semiconductors increased 255% to $221 million, compared to operating income of $62 million for fiscal year 2020. The increase in operating income during fiscal year 2021 was primarily driven by product mix and improved absorption of operating costs due to higher volumes and shipping 3D sensing products. In addition, the expenses associated with the fair value inventory write-up and other related acquisition expenses for Finisar did not repeat in fiscal year 2021.

Liquidity and Capital Resources

Historically, our primary sources of cash have been provided from operations, long-term borrowings, sale of our equity securities and advance funding from customers. Our historic uses of cash have been for capital expenditures, investments in research and development, business acquisitions, payments of principal and interest on outstanding debt obligations, payments of debt issuance costs to obtain financing, payments in satisfaction of employees’ minimum tax obligations and purchases of treasury stock. Supplemental information pertaining to our sources and uses of cash for the periods indicated is presented as follows:

Sources (uses) of Cash (millions):

[[GREPCENT_TABLE]]
[["Year Ended June 30,","","2022","","2021","","2020"],["Net cash provided by operating activities","","$","413","","","$","574","","","$","297"],["Net proceeds from debt and equity issuances","","990","","","1,611","","","2,121"],["Effect of exchange rate changes on cash and cash equivalents and other items","","34","","","22","","","(12)"],["Proceeds from exercises of stock options and purchases of stock under employee stock purchase plan","","18","","","32","","","14"],["Proceeds from prior credit facility and other borrowings","","\u2014","","","\u2014","","","10"],["Common stock repurchases","","\u2014","","","\u2014","","","(2)"],["Payments under prior term loan and credit facility","","\u2014","","","\u2014","","","(177)"],["Purchases of businesses, net of cash acquired","","\u2014","","","(34)","","","(1,037)"],["Other investing and financing","","(8)","","","5","","","\u2014"],["Debt issuance costs","","(10)","","","\u2014","","","(64)"],["Payment of Finisar Notes","","(15)","","","\u2014","","","(560)"],["Payments in satisfaction of employees' minimum tax obligations","","(21)","","","(20)","","","(29)"],["Payment of dividends","","(35)","","","(20)","","","\u2014"],["Payments under long-term borrowings and credit facility","","(62)","","","(926)","","","(138)"],["Additions to property, plant & equipment","","(314)","","","(146)","","","(137)"]]
[[/GREPCENT_TABLE]]

Net cash provided by operating activities:

Net cash provided by operating activities was $413 million during the current fiscal year ended June 30, 2022 compared to $574 million of cash provided by operating activities during the same period last fiscal year. The decrease in cash flows provided by operating activities during the year ended June 30, 2022 compared to the same period last fiscal year was driven by decreased net earnings of $63 million in the year ended June 30, 2022 due to increased interest expense. In addition, higher levels of working capital were needed in order to ensure business continuity in the face of supply chain challenges and projected growth.

Net cash provided by operating activities was $574 million and $297 million for the fiscal years ended June 30, 2021 and 2020, respectively. The increase in cash flows provided by operating activities during the fiscal year ended June 30, 2021 compared to the fiscal year ended June 30, 2020 was primarily driven by additional net earnings of $277 million.

Net cash used in investing activities:

Net cash used in investing activities was $320 million for the fiscal year ended June 30, 2022, compared to net cash used of $173 million for the same period last fiscal year. Net cash used in investing activities during the current period included $314 million of capital expenditures to continue to increase capacity to meet the growing demand for the Company’s product portfolio.

Net cash used in investing activities was $173 million and $1,179 million for the fiscal years ended June 30, 2021 and 2020, respectively. Net cash used in investing activities during the fiscal year ended June 30, 2021 primarily included $34 million for

55

net cash paid for the acquisition of Ascatron and Innovion and $146 million of cash expenditures to continue to increase capacity to meet the growing demand for the Company's product portfolio. Net cash used in investing activities during the fiscal year ended June 30, 2020 primarily included $1,037 million for net cash paid for the acquisition of Finisar.

Net cash provided by financing activities:

Net cash provided by financing activities was $863 million for the fiscal year ended June 30, 2022, compared to net cash provided by financing activities of $676 million for the same period last fiscal year. Net cash provided by financing activities was driven by $980 million of net proceeds from the Company's issuance of 5.000% Senior Notes due 2029, issued in December 2021, partially offset by cash used to repay borrowings and Series A dividends, of $62 million and $35 million, respectively.

Net cash provided by financing activities was $676 million for the year ended June 30, 2021 compared to net cash provided by financing activities of $1,174 million for the year ended June 30, 2020. Net cash provided by financing activities during the fiscal year ended June 30, 2021 was primarily impacted by $1,611 million of net proceeds from the Company's underwritten public offering in July 2020 as well as the issuance of the Series B Preferred Stock in March 2021, offset by cash used to repay borrowings of $926 million.

Senior Credit Facilities as of June 30, 2022

The Company had Senior Credit Facilities with Bank of America, N.A., as Administrative Agent, Swing Line Lender and an L/C Issuer, and the other lenders party thereto.

The credit agreement governing the Senior Credit Facilities (the "Credit Agreement") provides for senior secured financing of $2.4 billion in the aggregate, consisting of

(i)Aggregate principal amount of $1,255 million for a five-year senior secured first-lien term A loan facility (the “Term A Facility”),

(ii)Aggregate principal amount of $720 million for a seven-year senior secured term B loan facility (the “Term B Facility” and together with the Term A Facility, the “Term Loan Facilities”), which was repaid in full during the quarter ended September 30, 2020, and

(iii)Aggregate principal amount of $450 million for a five-year senior secured first-lien revolving credit facility (the “Revolving Credit Facility” and together with the Term Loan Facilities, the “Senior Credit Facilities”).

On July 1, 2022, the Credit Agreement was terminated, and amounts borrowed under the Term A Facility were repaid in full using proceeds from the New Term Facilities (defined below).

Funding of Coherent Acquisition on July 1, 2022

The Company funded amounts payable in connection with the Merger with the proceeds of the loans borrowed under the New Term Facilities (as defined below) on the closing date of the Merger, together with other financing sources (including the net proceeds from the issuance and sale of the Company’s previously issued 5.000% Senior Notes due 2029) and cash on hand. In particular, cash from these sources was used to fund (i) the cash consideration payable in connection with the Coherent Merger, (ii) the repayment in full of the Senior Credit Facilities (as defined above), and Coherent’s credit agreement, dated as of November 7, 2016, as amended, and (iii) certain fees and expenses in connection with the Coherent Merger. The net cash outflow on July 1, 2022 to complete the funding of the Merger was $2.1 billion.

56

New Senior Credit Facilities

As of December 10, 2021, a new term loan A credit facility (the "New Term A Facility") in an aggregate principal amount of $850 million a new term loan B credit facility (the "New Term B Facility") and, together with the New Term A Facility, the “New Term Facilities”) in an aggregate principal amount of $2,800 million, and a new revolving credit facility (the “New Revolving Credit Facility”) in an aggregate principal amount of $350 million, were fully priced and allocated. The New Term Facilities were funded concurrently with the closing of the Merger. The New Revolving Credit Facility also became available concurrently with the closing of the Merger. The New Term A Facility and the New Revolving Credit Facility will each bear interest at LIBOR subject to a 0.00% floor plus a range of 1.75% to 2.50%, based on the Company’s total net leverage ratio. The New Term A Facility and the New Revolving Credit Facility borrowings are initially expected to bear interest at LIBOR plus 2.00%. The New Term B Facility will bear interest at LIBOR (subject to a 0.50% floor) plus 2.75%. In relation to the New Term B Facility, the Company incurred expense of $34 million in the year ended June 30, 2022, which is included in interest expense in the Consolidated Statements of Earnings (Loss). The definitive documentation for the New Term Facilities and the New Revolving Credit Facility include customary LIBOR replacement provisions.

As of August 1, 2022, the Company had no amount outstanding under the New Revolving Credit Facility.

5.000% Senior Notes due 2029

On December 10, 2021, the Company issued $990 million aggregate principal amount of 5.000% Senior Notes due 2029 (the "Senior Notes") pursuant to the indenture, dated as of December 10, 2021 (the "Indenture"), between the Company and U.S. Bank National Association, as trustee (the "Trustee"). The Senior Notes are guaranteed by each of the Company’s domestic subsidiaries that guarantee its obligations under the Senior Credit Facilities. Interest on the Senior Notes will be payable on December 15 and June 15 of each year, commencing on June 15, 2022, at a rate of 5.000% per annum. The Senior Notes will mature on December 15, 2029.

The Company used the proceeds from the offering of the Senior Notes, together with other financing sources (including the New Term Facilities and cash on hand), to fund the cash consideration, the repayment of certain indebtedness and certain fees and expenses in connection with the Merger.

On or after December 15, 2024, the Company may redeem the Senior Notes, in whole at any time or in part from time to time, at the redemption prices set forth in the Indenture, plus accrued and unpaid interest, if any, to, but excluding, the applicable redemption date. In addition, at any time prior to December 15, 2024, the Company may redeem the Senior Notes, at its option, in whole at any time or in part from time to time, at a redemption price equal to 100% of the principal amount of the Senior Notes redeemed, plus a “make-whole” premium set forth in the Indenture, plus accrued and unpaid interest, if any, to, but excluding, the applicable redemption date. Notwithstanding the foregoing, at any time and from time to time prior to December 15, 2024, the Company may redeem up to 40% of the aggregate principal amount of the Senior Notes using the proceeds of certain equity offerings as set forth in the Indenture, at a redemption price equal to 105.000% of the principal amount thereof, plus accrued and unpaid interest, if any, to, but excluding, the applicable redemption date.

The Indenture contains customary covenants and events of default, including default relating to among other things, payment default, failure to comply with covenants or agreements contained in the Indenture or the Senior Notes and certain provisions related to bankruptcy events. As of June 30, 2022, the Company was in compliance with all covenants under the Indenture.

0.25% Convertible Senior Notes

In August 2017, the Company issued and sold $345 million aggregate principal amount of the II-VI Convertible Notes in a private placement to qualified institutional buyers within the meaning of Rule 144A under the Securities Act of 1933, as amended.

The initial conversion rate is 21.25 shares of II-VI Common Stock per $1,000 principal amount of II-VI Convertible Notes, which is equivalent to an initial conversion price of $47.06 per share of II-VI Common Stock. The if-converted value of the II-VI Convertible Notes amounted to $370 million as of June 30, 2022 and $532 million as of June 30, 2021 (based on the Company’s closing stock price on the last trading day of the fiscal periods then ended).

On or after June 1, 2022 until the close of business on the business day immediately preceding September 1, 2022 (the "Maturity Date"), holders may convert their II-VI Convertible Notes at any time. For conversions occurring on or after June 1, 2022, the Company has delivered or will deliver shares of II-VI Common Stock to settle conversions.

57

Holders of the II-VI Convertible Notes will not receive any cash payment representing accrued and unpaid interest upon conversion of a II-VI Convertible Note, other than as provided in the governing indenture. Accrued but unpaid interest will be deemed to be paid in full upon conversion rather than cancelled, extinguished or forfeited, other than as provided in the governing indenture. Notes were convertible during three quarters in the year ended June 30, 2022. Because the last reported sale price of II-VI Common Stock for at least 20 trading days during the period of 30 consecutive trading days ending on the last trading day of the year ended June 30, 2022 was equal to or greater than 130% of the applicable conversion price on each applicable trading day, the II-VI Convertible Notes were convertible at the option of the holders thereof during the fiscal period ranging from April 1, 2022 to May 31, 2022. As of June 1, 2022, the II-VI Convertible Notes become convertible regardless of compliance with any other conversion trigger until the close of business on the business day immediately preceding the Maturity Date.

Aggregate Availability

The Company had aggregate availability of $450 million under its Revolving Credit Facility as of June 30, 2022.

Weighted Average Interest Rate

The weighted average interest rate of total borrowings was 2% and 1% for the years ended June 30, 2022 and 2021, respectively

Our cash position, borrowing capacity and debt obligations are as follows (in millions):

[[GREPCENT_TABLE]]
[["","","June 30, 2022","","June 30, 2021"],["Cash, cash equivalents, and restricted cash","","$","2,582","","","$","1,592"],["Available borrowing capacity","","450","","","449"],["Total debt obligations","","2,300","","","1,375"]]
[[/GREPCENT_TABLE]]

On July 1, 2022 the Company utilized $2.1 billion of cash, cash equivalents, and restricted cash as part of the funding required to complete the Coherent acquisition. The Company believes existing cash, cash flow from operations, and available borrowing capacity from its New Senior Credit Facilities will be sufficient to fund its needs for working capital, capital expenditures, repayment of scheduled long-term borrowings and lease obligations, investments in internal research and development, and internal and external growth objectives at least through fiscal year 2023. Additionally, the Company expects to settle any future conversions of its II-VI Convertible Notes in shares of common stock. However, the Company may be required to repay in cash any outstanding II-VI Convertible Notes that are not converted prior to the Maturity Date for the II-VI Convertible Notes.

The Company’s cash and cash equivalent balances are generated and held in numerous locations throughout the world, including amounts held outside the United States. As of June 30, 2022, the Company held approximately $332 million of cash and cash equivalents outside of the United States. Cash balances held outside the United States could be repatriated to the United States.

Share Repurchase Program

In August 2014, the Company’s Board of Directors authorized the Company to purchase up to $50 million of its common stock through a share repurchase program (the “Program”) that calls for shares to be purchased in the open market or in private transactions from time to time. The Program has no expiration and may be suspended or discontinued at any time. Shares purchased by the Company are retained as treasury stock and available for general corporate purposes. The Company did not repurchase shares pursuant to this Program during the fiscal years ended June 30, 2022 or June 30, 2021. As of June 30, 2022, the Company has cumulatively purchased 1,416,587 shares of its common stock pursuant to the Program for approximately $22 million. The dollar value of shares as of June 30, 2022 that may yet be purchased under the Program is approximately $28 million.

58

Off-Balance Sheet Arrangements

We have no off-balance sheet arrangements as defined by Regulation S-K of the Securities Act of 1933.

Contractual Obligations

As of June 30, 2022, in the ordinary course of business, we had total estimated purchase commitments from vendors of approximately $704 million. In addition, as of June 30, 2022, we had obligations under our operating leases of approximately $171 million, $34 million of which will be paid in the fiscal year 2023.

59