Table of Contents 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
___________________________________________________ 
FORM 10-Q
 ___________________________________________________ 
 
(Mark One)
T
Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended: March 31, 2011
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 000-09992
___________________________________________________ 
KLA-Tencor Corporation
(Exact name of registrant as specified in its charter)
 ___________________________________________________ 
Delaware
 
04-2564110
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
One Technology Drive
Milpitas, California
95035
(Address of principal executive offices)
(Zip Code)
(408) 875-3000
(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 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, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer x
 
Accelerated filer £
  
Non-accelerated filer £
 
Smaller reporting company £
 
 
 
  
(Do not check if a smaller reporting company)
 
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes £    No  x
As of April 14, 2011, there were 167,903,024 shares of the registrant’s Common Stock, $0.001 par value, outstanding.

Table of Contents 

INDEX
 
 
 
 
 
 
Page
Number
 
 
 
PART I
FINANCIAL INFORMATION
 
 
 
 
Item 1
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2
 
 
 
Item 3
 
 
 
Item 4
 
 
 
PART II
OTHER INFORMATION
 
 
 
 
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
KLA-TENCOR CORPORATION
Condensed Consolidated Balance Sheets
(Unaudited)
 
(In thousands)
March 31,
2011
 
June 30,
2010
ASSETS
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
638,758
 
 
$
529,918
 
Marketable securities
1,200,816
 
 
1,004,126
 
Accounts receivable, net
566,069
 
 
440,125
 
Inventories, net
556,798
 
 
401,730
 
Deferred income taxes
306,563
 
 
328,522
 
Other current assets
161,887
 
 
131,044
 
Total current assets
3,430,891
 
 
2,835,465
 
Land, property and equipment, net
250,571
 
 
236,752
 
Goodwill
328,159
 
 
328,006
 
Purchased intangibles, net
93,855
 
 
117,336
 
Other non-current assets
345,867
 
 
389,497
 
Total assets
$
4,449,343
 
 
$
3,907,056
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
Current liabilities:
 
 
 
Accounts payable
$
142,126
 
 
$
107,938
 
Deferred system profit
230,069
 
 
204,764
 
Unearned revenue
45,908
 
 
37,026
 
Other current liabilities
438,634
 
 
422,059
 
Total current liabilities
856,737
 
 
771,787
 
Non-current liabilities:
 
 
 
Long-term debt
746,154
 
 
745,747
 
Income tax payable
68,178
 
 
53,492
 
Unearned revenue
35,064
 
 
20,354
 
Other non-current liabilities
70,193
 
 
69,065
 
Total liabilities
1,776,326
 
 
1,660,445
 
Commitments and contingencies (Note 12 and Note 13)
 
 
 
Stockholders’ equity:
 
 
 
Common stock and capital in excess of par value
1,006,949
 
 
921,460
 
Retained earnings
1,674,589
 
 
1,356,454
 
Accumulated other comprehensive income (loss)
(8,521
)
 
(31,303
)
Total stockholders’ equity
2,673,017
 
 
2,246,611
 
Total liabilities and stockholders’ equity
$
4,449,343
 
 
$
3,907,056
 
 
See accompanying notes to condensed consolidated financial statements (unaudited).

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KLA-TENCOR CORPORATION
Condensed Consolidated Statements of Operations
(Unaudited)
 
 
Three months ended
 
Nine months ended
 
March 31,
 
March 31,
(In thousands, except per share data)
2011
 
2010
 
2011
 
2010
Revenues:
 
 
 
 
 
 
 
Product
$
691,270
 
 
$
349,787
 
 
$
1,869,736
 
 
$
893,984
 
Service
142,789
 
 
128,512
 
 
412,992
 
 
367,357
 
Total revenues
834,059
 
 
478,299
 
 
2,282,728
 
 
1,261,341
 
Costs and operating expenses:
 
 
 
 
 
 
 
Costs of revenues
327,696
 
 
208,565
 
 
903,063
 
 
587,743
 
Engineering, research and development
95,617
 
 
84,741
 
 
285,234
 
 
246,251
 
Selling, general and administrative
98,967
 
 
93,714
 
 
278,170
 
 
274,023
 
Total costs and operating expenses
522,280
 
 
387,020
 
 
1,466,467
 
 
1,108,017
 
Income from operations
311,779
 
 
91,279
 
 
816,261
 
 
153,324
 
Interest income and other, net
3,150
 
 
3,084
 
 
193
 
 
28,846
 
Interest expense
13,409
 
 
14,092
 
 
40,431
 
 
41,091
 
Income before income taxes
301,520
 
 
80,271
 
 
776,023
 
 
141,079
 
Provision for income taxes
91,737
 
 
23,255
 
 
226,552
 
 
41,864
 
Net income
$
209,783
 
 
$
57,016
 
 
$
549,471
 
 
$
99,215
 
Net income per share:
 
 
 
 
 
 
 
Basic
$
1.25
 
 
$
0.33
 
 
$
3.29
 
 
$
0.58
 
Diluted
$
1.22
 
 
$
0.33
 
 
$
3.23
 
 
$
0.57
 
Cash dividend paid per share
$
0.25
 
 
$
0.15
 
 
$
0.75
 
 
$
0.45
 
Weighted average number of shares:
 
 
 
 
 
 
 
Basic
167,629
 
 
171,506
 
 
166,978
 
 
171,202
 
Diluted
171,313
 
 
173,357
 
 
169,974
 
 
173,432
 
 
See accompanying notes to condensed consolidated financial statements (unaudited).

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KLA-TENCOR CORPORATION
Condensed Consolidated Statements of Cash Flows
(Unaudited)
 
Nine months ended
March 31,
(In thousands)
2011
 
2010
Cash flows from operating activities:
 
 
 
Net income
$
549,471
 
 
$
99,215
 
Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
63,511
 
 
67,794
 
Asset impairment charges
7,385
 
 
10,592
 
Gain on sale of real estate assets
(1,372
)
 
(2,984
)
Non-cash stock-based compensation expense
62,491
 
 
62,523
 
Tax charge from equity awards
 
 
(5,133
)
Net gain on sale of marketable securities and other investments
(1,899
)
 
(3,689
)
Changes in assets and liabilities, net of assets acquired and liabilities assumed in business combinations:
 
 
 
Increase in accounts receivable, net
(114,301
)
 
(107,361
)
Increase in inventories
(150,016
)
 
(1,254
)
Decrease (increase) in other assets
(71,109
)
 
75,299
 
Increase in accounts payable
33,674
 
 
28,459
 
Increase in deferred system profit
25,306
 
 
71,136
 
Increase in other liabilities
130,223
 
 
69,925
 
Net cash provided by operating activities
533,364
 
 
364,522
 
Cash flows from investing activities:
 
 
 
Acquisition of business, net of cash received
 
 
(1,500
)
Capital expenditures, net
(36,544
)
 
(24,411
)
Proceeds from sale of assets
18,185
 
 
5,878
 
Purchase of available-for-sale securities
(757,265
)
 
(863,289
)
Proceeds from sale and maturity of available-for-sale securities
536,718
 
 
643,962
 
Purchase of trading securities
(48,822
)
 
(54,555
)
Proceeds from sale of trading securities
67,084
 
 
64,975
 
Net cash used in investing activities
(220,644
)
 
(228,940
)
Cash flows from financing activities:
 
 
 
Issuance of common stock
106,648
 
 
23,813
 
Tax withholding payments related to vested and released restricted stock units
(22,075
)
 
(12,913
)
Common stock repurchases
(176,870
)
 
(54,630
)
Payment of dividends to stockholders
(125,536
)
 
(77,023
)
Net cash used in financing activities
(217,833
)
 
(120,753
)
Effect of exchange rate changes on cash and cash equivalents
13,953
 
 
3,709
 
Net increase in cash and cash equivalents
108,840
 
 
18,538
 
Cash and cash equivalents at beginning of period
529,918
 
 
524,967
 
Cash and cash equivalents at end of period
$
638,758
 
 
$
543,505
 
Supplemental cash flow disclosures:
 
 
 
Income taxes paid (refund received), net
$
196,988
 
 
$
(42,971
)
Interest paid
$
26,743
 
 
$
26,432
 
 
See accompanying notes to condensed consolidated financial statements (unaudited).

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KLA-TENCOR CORPORATION
Notes to Condensed Consolidated Financial Statements
(Unaudited)
 
NOTE 1 – BASIS OF PRESENTATION
Basis of Presentation. The condensed consolidated financial statements have been prepared by KLA-Tencor Corporation (“KLA-Tencor” or the “Company”) pursuant to the rules and regulations of the U.S. Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to such rules and regulations. In the opinion of management, the unaudited interim financial statements reflect all adjustments (consisting only of normal, recurring adjustments) necessary for a fair statement of the financial position, results of operations and cash flows for the periods indicated. These financial statements and notes, however, should be read in conjunction with Item 8, “Financial Statements and Supplementary Data” included in the Company’s Annual Report on Form 10-K for the fiscal year ended June 30, 2010, filed with the SEC on August 6, 2010.
The condensed consolidated financial statements include the accounts of KLA-Tencor and its majority-owned subsidiaries. All significant intercompany balances and transactions have been eliminated.
References in this Quarterly Report on Form 10-Q to “authoritative guidance” are to the Accounting Standards Codification issued by the Financial Accounting Standards Board (“FASB”) in June 2009.
The results of operations for the three and nine months ended March 31, 2011 are not necessarily indicative of the results that may be expected for any other interim period or for the full fiscal year ending June 30, 2011.
Certain reclassifications have been made to the prior year’s Condensed Consolidated Balance Sheet and notes to conform to the current year presentation. The reclassifications had no effect on the Condensed Consolidated Statements of Operations or Cash Flows.
Management Estimates. The preparation of the condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the condensed consolidated financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from those estimates.
Recent Accounting Pronouncements. In December 2010, the FASB amended its guidance on goodwill and other intangible assets. The amendment modifies Step 1 of the goodwill impairment test for reporting units with zero or negative carrying amounts. For those reporting units, an entity is required to perform Step 2 of the goodwill impairment test if there are qualitative factors indicating that it is more likely than not that a goodwill impairment exists. The qualitative factors are consistent with the existing guidance which requires goodwill of a reporting unit to be tested for impairment between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. This amendment was effective for the Company’s interim period ended March 31, 2011. The amendment did not have an impact on the Company’s financial position, results of operations or cash flows.
In December 2010, the FASB amended its guidance on business combinations. Under the amended guidance, a public entity that presents comparative financial statements must disclose the revenue and earnings of the combined entity as though the business combination(s) that occurred during the current year had occurred as of the beginning of the prior annual reporting period. The amendment is effective prospectively for business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2010. Early adoption is permitted. The Company does not expect the implementation to have an impact on its financial position, results of operations or cash flows.
In April 2010, the FASB amended its guidance on share-based payment awards with an exercise price denominated in certain currencies. The amendment clarifies that an employee share-based payment award with an exercise price denominated in the currency of a market in which a substantial portion of the entity’s equity securities trades should not be considered to contain a condition that is not a market, performance, or service condition. Therefore, an entity would not classify such an award as a liability if it otherwise qualifies as equity. This amendment becomes effective for the Company’s interim period ending September 30, 2011. The Company does not expect the implementation to have an impact on its financial position, results of operations or cash flows.
In January 2010, the FASB issued authoritative guidance for fair value measurements. This guidance now requires a reporting entity to disclose separately the amounts of significant transfers in and out of Level 1 and Level 2 fair value

6

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measurements and also to describe the reasons for these transfers. This authoritative guidance also requires enhanced disclosure of activity in Level 3 fair value measurements. The guidance for Level 1 and Level 2 fair value measurements was effective for the Company’s interim reporting period ended March 31, 2010. The implementation did not have an impact on the Company’s financial position, results of operations or cash flows as it is disclosure-only in nature. The guidance for Level 3 fair value measurements disclosures becomes effective for the Company’s interim reporting period ending September 30, 2011 and the Company does not expect that this guidance will have an impact on its financial position, results of operations or cash flows as it is disclosure-only in nature.
Revenue Recognition for Certain Arrangements with Software Elements and/or Multiple Deliverables. The Company typically recognizes revenue for system sales upon acceptance by the customer that the system has been installed and is operating according to predetermined specifications. Under certain circumstances, however, the Company recognizes revenue upon shipment, prior to acceptance by the customer. The portion of revenue associated with installation is deferred based on relative sales price and recognized upon completion of the installation. Spare parts revenue is recognized when the product has been shipped and risk of loss has passed to the customer, and collectability is reasonably assured. Service and maintenance contract revenue is recognized ratably over the term of the maintenance contract. Revenue from services performed in the absence of a contract, such as consulting and training revenue, is recognized when the related services are performed, and collectability is reasonably assured. The Company's arrangements generally do not include any provisions for cancellation, termination or refunds that would significantly impact recognized revenue.
In October 2009, the FASB issued amended revenue recognition guidance for arrangements with multiple deliverables and certain software sold with tangible products. This guidance eliminates the residual method of revenue recognition and allows the use of management's best estimate of selling price for individual elements of an arrangement when vendor-specific objective evidence ("VSOE") or third-party evidence ("TPE") is unavailable.  The Company elected to early adopt this accounting guidance at the beginning of its second quarter of the fiscal year ended June 30, 2010 and applied the adoption retrospectively to the beginning of the fiscal year to apply the guidance to transactions originating or materially modified after June 30, 2009. The implementation resulted in additional qualitative disclosures but did not have a material impact on the Company's financial position, results of operations or cash flows as this guidance does not generally change the units of accounting for the Company's revenue transactions.
 
The Company enters into revenue arrangements that may consist of multiple deliverables of its products and services where certain elements of a sales contract are not delivered and accepted in one reporting period. In many instances, products are sold in stand-alone arrangements. Services are sold separately through renewals of annual maintenance contracts. As a result, for substantially all of the arrangements with multiple deliverables pertaining to products and services, the Company uses VSOE or TPE to allocate the selling price to each deliverable. The Company determines TPE based on historical prices charged for products and services when sold on a stand-alone basis.
When the Company is unable to establish relative selling price using VSOE or TPE, the Company uses estimated selling prices (“ESP”) in its allocation of arrangement consideration. The objective of ESP is to determine the price at which the Company would transact a sale if the product or service were sold on a stand-alone basis. ESP could potentially be used for new or customized products.
The Company regularly reviews relative selling prices and maintains internal controls over the establishment and updates of these estimates.
NOTE 2 – FAIR VALUE MEASUREMENTS
The Company’s financial assets are measured and recorded at fair value, except for equity investments in privately-held companies. These equity investments are generally accounted for under the cost method of accounting and are periodically assessed for other-than-temporary impairment when an event or circumstance indicates that an other-than-temporary decline in value may have occurred. The Company’s non-financial assets, such as goodwill, intangible assets, and property, plant and equipment, are recorded at cost and are assessed for impairment when an event or circumstance indicates that an other-than-temporary decline in value may have occurred.
Fair Value Hierarchy. The authoritative guidance for fair value measurements establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy are described below:

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Level 1
  
Valuations based on quoted prices in active markets for identical assets or liabilities that the entity has the ability to access.
 
 
 
Level 2
  
Valuations based on quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable data for substantially the full term of the assets or liabilities.
 
 
 
Level 3
  
Valuations based on inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.
A financial instrument’s level within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement.
All of the Company’s financial instruments were classified within Level 1 or Level 2 of the fair value hierarchy as of March 31, 2011, because they were valued using quoted market prices, broker or dealer quotations, or alternative pricing sources with reasonable levels of price transparency. The types of instruments valued based on quoted market prices in active markets include money market funds, U.S. agency securities, and U.S. Treasury securities. Such instruments are generally classified within Level 1 of the fair value hierarchy.
The types of instruments valued based on other observable inputs include U.S. agency securities, commercial paper, U.S. corporate bonds, municipal obligations and sovereign securities. The market inputs used to value these instruments generally consist of market yields, reported trades and broker/dealer quotes. Such instruments are generally classified within Level 2 of the fair value hierarchy.
The principal market in which the Company executes its foreign currency contracts is the institutional market in an over-the-counter environment with a relatively high level of price transparency. The market participants usually are large commercial banks. The Company’s foreign currency contracts’ valuation inputs are based on quoted prices and quoted pricing intervals from public data sources and do not involve management judgment. These contracts are typically classified within Level 2 of the fair value hierarchy.
The types of instruments valued based on unobservable inputs include the auction rate securities that were held by the Company as of and prior to June 30, 2010. Such instruments were generally classified within Level 3 of the fair value hierarchy. The Company estimated the fair value of these auction rate securities using a discounted cash flow model incorporating assumptions that market participants would use in their estimates of fair value. Some of these assumptions included estimates for interest rates, timing and amount of cash flows and expected holding periods of the auction rate securities.

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Financial assets and liabilities measured at fair value on a recurring basis as of March 31, 2011 were as follows:
 
(In thousands)
Total
 
Quoted Prices in
Active Markets
for Identical
Assets (Level  1)
 
Significant Other
Observable Inputs
(Level 2)
 
Significant
Unobservable Inputs
(Level 3)
U.S. Treasuries
$
92,968
 
 
$
65,422
 
 
$
27,546
 
 
$
 
U.S. Government agency securities
284,142
 
 
284,142
 
 
 
 
 
Municipal bonds
61,462
 
 
 
 
61,462
 
 
 
Corporate debt securities
722,646
 
 
 
 
722,646
 
 
 
Money market, bank deposits and other
428,537
 
 
428,537
 
 
 
 
 
Sovereign securities
43,522
 
 
10,290
 
 
33,232
 
 
 
Total marketable securities and cash equivalents
1,633,277
 
*
788,391
 
 
844,886
 
 
 
Executive Deferred Savings Plan:
 
 
 
 
 
 
 
Money market and other
610
 
 
610
 
 
 
 
 
Mutual funds
128,515
 
 
97,585
 
 
30,930
 
 
 
Executive Deferred Savings Plan total
129,125
 
 
98,195
 
 
30,930
 
 
 
Derivative assets
3,544
 
 
 
 
3,544
 
 
 
Total financial assets
$
1,765,946
 
 
$
886,586
 
 
$
879,360
 
 
$
 
Derivative liabilities
$
(1,012
)
 
$
 
 
$
(1,012
)
 
$
 
Total financial liabilities
$
(1,012
)
 
$
 
 
$
(1,012
)
 
$
 
* Total marketable securities and cash equivalents excludes cash of $206.3 million held in operating accounts as of March 31, 2011.
 
Financial assets and liabilities measured at fair value on a recurring basis as of June 30, 2010 were as follows:
 
(In thousands)
Total
 
Quoted Prices in
Active Markets
for Identical
Assets (Level 1)
 
Significant Other
Observable Inputs
(Level 2)
 
Significant
Unobservable Inputs
(Level 3)
U.S. Treasuries
$
42,293
 
 
$
35,194
 
 
$
7,099
 
 
$
 
U.S. Government agency securities
250,280
 
 
243,144
 
 
7,136
 
 
 
Municipal bonds
55,459
 
 
 
 
55,459
 
 
 
Corporate debt securities
603,156
 
 
 
 
603,156
 
 
 
Money market, bank deposits and other
373,081
 
 
373,070
 
 
11
 
 
 
Sovereign securities
39,355
 
 
10,500
 
 
28,855
 
 
 
Auction rate securities
16,825
 
 
 
 
 
 
16,825
 
Total marketable securities and cash equivalents
1,380,449
 
*
661,908
 
 
701,716
 
 
16,825
 
Executive Deferred Savings Plan:
 
 
 
 
 
 
 
Money market and other
4
 
 
4
 
 
 
 
 
Mutual funds
109,226
 
 
85,254
 
 
23,972
 
 
 
Executive Deferred Savings Plan total
109,230
 
 
85,258
 
 
23,972
 
 
 
Derivative assets
296
 
 
 
 
296
 
 
 
Total financial assets
$
1,489,975
 
 
$
747,166
 
 
$
725,984
 
 
$
16,825
 
Derivative liabilities
$
(5,824
)
 
$
 
 
$
(5,824
)
 
$
 
Total financial liabilities
$
(5,824
)
 
$
 
 
$
(5,824
)
 
$
 
* Total marketable securities and cash equivalents excludes cash of $153.6 million held in operating accounts as of June 30, 2010.
 

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Financial assets, excluding cash held in operating accounts, and liabilities measured at fair value on a recurring basis were presented on the Company’s Condensed Consolidated Balance Sheet as of March 31, 2011 as follows:
 
(In thousands)
Total
 
Quoted Prices in
Active Markets
for Identical
Assets (Level  1)
 
Significant Other
Observable Inputs
(Level 2)
 
Significant
Unobservable Inputs
(Level 3)
Cash equivalents
$
432,461
 
 
$
399,163
 
 
$
33,298
 
 
$
 
Marketable securities
1,200,816
 
 
389,228
 
 
811,588
 
 
 
Other current assets
3,544
 
 
 
 
3,544
 
 
 
Other non-current assets
129,125
 
 
98,195
 
 
30,930
 
 
 
Total financial assets
$
1,765,946
 
 
$
886,586
 
 
$
879,360
 
 
$
 
Other current liabilities
$
(1,012
)
 
$
 
 
$
(1,012
)
 
$
 
Total financial liabilities
$
(1,012
)
 
$
 
 
$
(1,012
)
 
$
 
Financial assets, excluding cash held in operating accounts, and liabilities measured at fair value on a recurring basis were presented on the Company’s Condensed Consolidated Balance Sheet as of June 30, 2010 as follows:
 
(In thousands)
Total
 
Quoted Prices in
Active Markets
for Identical
Assets (Level 1)
 
Significant Other
Observable Inputs
(Level 2)
 
Significant
Unobservable Inputs
(Level 3)
Cash equivalents
$
376,323
 
 
$
356,224
 
 
$
20,099
 
 
$
 
Marketable securities
1,004,126
 
 
305,684
 
 
681,617
 
 
16,825
 
Other current assets
296
 
 
 
 
296
 
 
 
Other non-current assets
109,230
 
 
85,258
 
 
23,972
 
 
 
Total financial assets
$
1,489,975
 
 
$
747,166
 
 
$
725,984
 
 
$
16,825
 
Other current liabilities
$
(5,824
)
 
$
 
 
$
(5,824
)
 
$
 
Total financial liabilities
$
(5,824
)
 
$
 
 
$
(5,824
)
 
$
 
Changes in the Company’s Level 3 securities for the three and nine months ended March 31, 2011 and 2010 were as follows:
 
(In thousands)
Three months ended
March 31,
 
Nine months ended
March 31,
2011
 
2010
 
2011
 
2010
Beginning aggregate estimated fair value of Level 3 securities
$
 
 
$
32,365
 
 
$
16,825
 
 
$
40,584
 
Unrealized gain included in income
 
 
7
 
 
 
 
63
 
Net settlements
 
 
(3,950
)
 
(16,825
)
 
(12,225
)
Ending aggregate estimated fair value of Level 3 securities
$
 
 
$
28,422
 
 
$
 
 
$
28,422
 

10

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NOTE 3 – BALANCE SHEET COMPONENTS
 
 
(In thousands)
March 31,
2011
 
June 30,
2010
Accounts receivable, net
 
 
 
Accounts receivable, gross
$
588,138
 
 
$
471,999
 
Allowance for doubtful accounts
(22,069
)
 
(31,874
)
 
$
566,069
 
 
$
440,125
 
Inventories, net
 
 
 
Customer service parts
$
142,322
 
 
$
131,951
 
Raw materials
216,543
 
 
123,301
 
Work-in-process
133,515
 
 
95,641
 
Finished goods
64,418
 
 
50,837
 
 
$
556,798
 
 
$
401,730
 
Other current assets
 
 
 
Prepaid expenses
$
43,288
 
 
$
39,121
 
Income tax related receivables
89,859
 
 
47,934
 
Other current assets
28,740
 
 
43,989
 
 
$
161,887
 
 
$
131,044
 
Land, property and equipment, net
 
 
 
Land
$
41,957
 
 
$
41,807
 
Buildings and leasehold improvements
232,094
 
 
224,403
 
Machinery and equipment
451,816
 
 
443,351
 
Office furniture and fixtures
19,701
 
 
23,345
 
Construction in progress
4,821
 
 
2,603
 
 
750,389
 
 
735,509
 
Less: accumulated depreciation and amortization
(499,818
)
 
(498,757
)
 
$
250,571
 
 
$
236,752
 
Other non-current assets
 
 
 
Executive Deferred Savings Plan
$
129,125
 
 
$
109,230
 
Deferred tax assets – long-term
188,519
 
 
244,927
 
Other
28,223
 
 
35,340
 
 
$
345,867
 
 
$
389,497
 
Other current liabilities
 
 
 
Warranty
$
37,226
 
 
$
21,109
 
Compensation and benefits
284,510
 
 
268,446
 
Income taxes payable
20,973
 
 
35,340
 
Interest payable
21,706
 
 
8,769
 
Accrued litigation costs
2,664
 
 
10,439
 
Other accrued expenses
71,555
 
 
77,956
 
 
$
438,634
 
 
$
422,059
 

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NOTE 4 – MARKETABLE SECURITIES
The amortized cost and estimated fair value of marketable securities as of March 31, 2011 and June 30, 2010 were as follows:
 
As of March 31, 2011 (In thousands)
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair
Value
U.S. Treasuries
$
92,955
 
 
$
67
 
 
$
(54
)
 
$
92,968
 
U.S. Government agency securities
284,200
 
 
501
 
 
(559
)
 
284,142
 
Municipal bonds
61,428
 
 
163
 
 
(129
)
 
61,462
 
Corporate debt securities
719,312
 
 
4,196
 
 
(862
)
 
722,646
 
Money market, bank deposits and other
428,537
 
 
 
 
 
 
428,537
 
Sovereign securities
43,304
 
 
223
 
 
(5
)
 
43,522
 
Subtotal
1,629,736
 
 
5,150
 
 
(1,609
)
 
1,633,277
 
Less: Cash equivalents
432,470
 
 
 
 
(9
)
 
432,461
 
Marketable securities
$
1,197,266
 
 
$
5,150
 
 
$
(1,600
)
 
$
1,200,816
 
 
 
 
 
 
 
 
 
As of June 30, 2010 (In thousands)
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair
Value
U.S. Treasuries
$
42,182
 
 
$
112
 
 
$
(1
)
 
$
42,293
 
U.S. Government agency securities
249,182
 
 
1,108
 
 
(10
)
 
250,280
 
Municipal bonds
55,171
 
 
368
 
 
(80
)
 
55,459
 
Corporate debt securities
599,118
 
 
5,314
 
 
(1,276
)
 
603,156
 
Money market, bank deposits and other
373,081
 
 
 
 
 
 
373,081
 
Sovereign securities
39,166
 
 
210
 
 
(21
)
 
39,355
 
Auction rate securities
16,825
 
 
 
 
 
 
16,825
 
Subtotal
1,374,725
 
 
7,112
 
 
(1,388
)
 
1,380,449
 
Less: Cash equivalents
376,316
 
 
7
 
 
 
 
376,323
 
Marketable securities
$
998,409
 
 
$
7,105
 
 
$
(1,388
)
 
$
1,004,126
 
KLA-Tencor’s investment portfolio consists of both corporate and government securities that have a maximum maturity of three years. The longer the duration of these securities, the more susceptible they are to changes in market interest rates and bond yields. As yields increase, those securities with a lower yield-at-cost show a mark-to-market unrealized loss. All unrealized losses are due to changes in interest rates and bond yields. The Company has the ability to realize the full value of all of these investments upon maturity. The following table summarizes the estimated fair value and gross unrealized losses of the Company’s investments that were in an unrealized loss position as of March 31, 2011:
 
(In thousands)
Estimated
Fair Value
 
Gross
Unrealized
Losses(1)
U.S. Treasuries
$
26,721
 
 
$
(54
)
U.S. Government agency securities
158,411
 
 
(550
)
Municipal bonds
34,387
 
 
(129
)
Corporate debt securities
233,289
 
 
(862
)
Sovereign securities
2,496
 
 
(5
)
Total
$
455,304
 
 
$
(1,600
)
__________________ 
(1)
Of the total gross unrealized losses, there were no amounts that have been in a continuous loss position for 12 months or more.
 

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The contractual maturities of securities classified as available-for-sale as of March 31, 2011, regardless of the consolidated balance sheet classification, were as follows:
 
(In thousands)
Amortized
Cost
 
Estimated
Fair Value
Due within one year
$
344,879
 
 
$
346,633
 
Due after one year through three years
852,387
 
 
854,183
 
 
$
1,197,266
 
 
$
1,200,816
 
Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Net realized gains for the three and nine months ended March 31, 2011 were $0.4 million and $1.9 million, respectively.
During the fiscal years ended June 30, 2008, 2009 and 2010, the Company’s investment portfolio included auction rate securities, which are investments with contractual maturities generally between 20 to 30 years. They are usually found in the form of municipal bonds, preferred stock, a pool of student loans, or collateralized debt obligations whose interest rates are reset. The reset typically occurs every seven to forty-nine days, through an auction process. At the end of each reset period, investors can sell or continue to hold the securities at par. The auction rate securities that were held by the Company were backed by student loans and were collateralized, insured and guaranteed by the United States Federal Department of Education. In addition, all auction rate securities that were held by the Company were rated by the major independent rating agencies as either AAA or Aaa. In February 2008, because sell orders exceeded buy orders, auctions failed for approximately $48.2 million in par value of municipal auction rate securities that were then held by the Company. These failures were not believed to be a credit issue, but rather caused by a lack of liquidity. The funds associated with these failed auctions might not have been accessible until the issuer called the security, a successful auction occurred, a buyer was found outside of the auction process, or the security matured. By letter dated August 8, 2008, the Company received notification from UBS AG (“UBS”), in connection with a settlement entered into between UBS and certain regulatory agencies, offering to repurchase all of the Company’s auction rate security holdings at par value. The Company formally accepted the settlement offer and entered into a repurchase agreement (“Agreement”) with UBS on November 11, 2008 (“Acceptance Date”). By accepting the Agreement, the Company (1) received the right (“Put Option”) to sell its auction rate securities at par value to UBS between June 30, 2010 and June 30, 2012 and (2) gave UBS the right to purchase the auction rate securities from the Company any time after the Acceptance Date as long as the Company receives the par value. The Put Option was exercised on June 30, 2010 to sell all $16.8 million of the Company’s remaining auction rate securities at par value and was subsequently settled in July 2010.
Executive Deferred Savings Plan
KLA-Tencor has a non-qualified deferred compensation plan whereby certain executives and non-employee directors may defer a portion of their compensation. Participants are credited with returns based on their allocation of their account balances among measurement funds. The Company controls the investment of these funds, and the participants remain general creditors of KLA-Tencor. Distributions from the plan commence the quarter following a participant’s retirement or termination of employment, except in cases where such distributions are required to be delayed in order to avoid a prohibited distribution under Internal Revenue Code Section 409A. As of March 31, 2011, the Company had a deferred compensation plan related asset and liability of $129.1 million and $130.2 million, respectively, included as a component of other non-current assets and other current liabilities on the Condensed Consolidated Balance Sheet. As of June 30, 2010, the Company had a deferred compensation plan related asset and liability of $109.2 million and $110.0 million, respectively, included as a component of other non-current assets and other current liabilities on the Condensed Consolidated Balance Sheet.
 
NOTE 5 – GOODWILL AND PURCHASED INTANGIBLE ASSETS
Goodwill
The following table presents goodwill balances and the movements during the nine months ended March 31, 2011:
 
(In thousands)
As of
March 31, 2011
 
As of
June 30, 2010
Gross goodwill balance
$
604,745
 
 
$
604,592
 
Accumulated impairment losses
(276,586
)
 
(276,586
)
Net goodwill balance
$
328,159
 
 
$
328,006
 

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Goodwill represents the excess of the purchase price over the fair value of the net tangible and identifiable intangible assets acquired in each business combination. The Company completed its annual evaluation of the goodwill by reporting unit during the three months ended December 31, 2010 and 2009 and concluded in each case that there was no impairment. As of December 31, 2010 and 2009, the Company’s assessment of goodwill impairment indicated that the fair value of each of the Company’s reporting units was substantially in excess of its estimated carrying value, and therefore goodwill in the reporting units was not impaired. There have been no significant events or circumstances affecting the valuation of goodwill subsequent to the impairment test performed in the second quarter of the fiscal year ending June 30, 2011. The next annual evaluation of the goodwill by reporting unit will be performed in the second quarter of the fiscal year ending June 30, 2012.
Adjustments to goodwill during the three and nine months ended March 31, 2011 and 2010 resulted primarily from foreign currency translation adjustments.
Purchased Intangible Assets
The components of purchased intangible assets as of March 31, 2011 and June 30, 2010 were as follows:
 
(Dollar amounts in thousands)
 
 
As of
March 31, 2011
 
As of
June 30, 2010
Category
Range of
Useful Lives
 
Gross
Carrying
Amount
 
Accumulated
Amortization
and
Impairment
 
Net
Amount
 
Gross
Carrying
Amount
 
Accumulated
Amortization
and
Impairment
 
Net
Amount
Existing technology
4-7 years
 
$
134,561
 
 
$
89,741
 
 
$
44,820
 
 
$
133,066
 
 
$
75,524
 
 
$
57,542
 
Patents
6-13 years
 
57,648
 
 
38,997
 
 
18,651
 
 
57,648
 
 
34,217
 
 
23,431
 
Trade name / Trademark
4-10 years
 
19,893
 
 
12,511
 
 
7,382
 
 
19,893
 
 
11,130
 
 
8,763
 
Customer relationships
6-7 years
 
54,823
 
 
32,076
 
 
22,747
 
 
54,823
 
 
27,606
 
 
27,217
 
Other
0-1 year
 
16,199
 
 
15,944
 
 
255
 
 
16,200
 
 
15,817
 
 
383
 
Total
 
 
$
283,124
 
 
$
189,269
 
 
$
93,855
 
 
$
281,630
 
 
$
164,294
 
 
$
117,336
 
For the three months ended March 31, 2011 and 2010, amortization expense for other intangible assets was $8.0 million and $8.6 million, respectively. For the nine months ended March 31, 2011 and 2010, amortization expense for other intangible assets was $24.9 million and $25.3 million, respectively. Based on the intangible assets recorded as of March 31, 2011, and assuming no subsequent additions to, or impairment of the underlying assets, the remaining estimated amortization expense is expected to be as follows:
 
Fiscal year ending June 30:
Amortization
(in thousands)
2011 (remaining 3 months)
$
7,953
 
2012
30,230
 
2013
20,957
 
2014
15,537
 
2015
12,771
 
Thereafter
6,407
 
Total
$
93,855
 
 
NOTE 6 – LONG-TERM DEBT
In April 2008, the Company issued $750 million aggregate principal amount of 6.90% senior, unsecured long-term debt due in 2018 with an effective interest rate of 7.00%. The discount on the debt amounted to $5.4 million and is being amortized over the life of the debt using the straight-line method as opposed to the interest method due to immateriality. Interest is payable semi-annually on November 1 and May 1. The debt indenture includes covenants that limit the Company’s ability to grant liens on its facilities and to enter into sale and leaseback transactions, subject to significant allowances under which certain sale and leaseback transactions are not restricted. The Company was in compliance with all of its covenants as of March 31, 2011.
In certain circumstances involving a change of control followed by a downgrade of the rating of the Company’s senior notes, the Company will be required to make an offer to repurchase the senior notes at a purchase price equal to 101% of the

14

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aggregate principal amount of the notes, plus accrued and unpaid interest. The Company’s ability to repurchase the senior notes in such event may be limited by law, by the indenture associated with the senior notes, by the Company’s then-available financial resources or by the terms of other agreements to which the Company may be party at such time. If the Company fails to repurchase the senior notes as required by the indenture, it would constitute an event of default under the indenture governing the senior notes which, in turn, may also constitute an event of default under other obligations.
Based on the trading prices of the debt on March 31, 2011 and June 30, 2010, the estimated fair value of the debt as of March 31, 2011 and June 30, 2010 was $836.9 million and $834.4 million, respectively.
 
NOTE 7 – STOCK-BASED COMPENSATION
Equity Incentive Program
Under the Company’s current equity incentive program, the Company issues equity awards from its 2004 Equity Incentive Plan (the “2004 Plan”), which provides for the grant of options to purchase shares of its common stock, stock appreciation rights, restricted stock units, performance shares, performance units and deferred stock units to its employees, consultants and members of its Board of Directors. The 2004 Plan permits the issuance of up to 32.0 million shares of common stock. Any 2004 Plan awards of restricted stock units, performance shares, performance units or deferred stock units with a per share or unit purchase price lower than 100% of fair market value on the grant date are counted against the total number of shares issuable under the 2004 Plan as 1.8 shares for every one share subject thereto. During the nine months ended March 31, 2011, 0.3 million restricted stock units were granted to senior management with performance-based and service-based vesting criteria.
 
The following table summarizes the combined activity under the equity incentive plans for the indicated period:
 
(In thousands)
Available
For Grant
Balances as of June 30, 2010 (1)
15,162
 
Restricted stock units granted (2)
(3,955
)
Restricted stock units canceled (2)
291
 
Options canceled/expired/forfeited
976
 
Plan shares expired (3)
(908
)
Balances as of March 31, 2011 (1)
11,566
 
__________________ 
(1)
Includes shares available for issuance under the 2004 Plan, as well as under the Company’s 1998 Outside Director Option Plan (the “Outside Director Plan”), which only permits the issuance of stock options to the Company’s non-employee members of the Board of Directors. As of March 31, 2011, 1.6 million shares were available for grant under the Outside Director Plan.
(2)
The number of restricted stock units provided in this row reflects the application of the 1.8x multiple described above.
(3)
Represents the portion of shares listed as “Options canceled/expired/forfeited” above that were issued under the Company’s equity incentive plans other than the 2004 Plan or the Outside Director Plan. Because the Company is only currently authorized to issue equity awards under the 2004 Plan and the Outside Director Plan, any equity awards that are canceled, expire or are forfeited under any other Company equity incentive plan do not result in additional shares being available to the Company for future grant.
Except for options granted to non-employee Board members as part of their regular compensation package for service through the end of the first quarter of fiscal year 2008, the Company has granted only restricted stock units under its equity incentive program since September 2006. For the preceding several years until June 30, 2006, stock options were granted at the market price of the Company’s common stock on the date of grant (except for the retroactively priced options which were granted primarily prior to the fiscal year ended June 30, 2002), generally with a vesting period of five years and an exercise period not to exceed seven years (ten years for options granted prior to July 1, 2005) from the date of issuance. Restricted stock units may be granted with varying criteria such as service-based and/or performance-based vesting.
The fair value of stock-based awards is measured at the grant date and is recognized as expense over the employee’s requisite service period. The fair value is determined using a Black-Scholes valuation model for stock options and for purchase rights under the Company’s Employee Stock Purchase Plan and using the closing price of the Company’s common stock on the grant date for restricted stock units.

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The following table shows pre-tax stock-based compensation expense for the indicated periods: 
(In thousands)
Three months ended
March 31,
 
Nine months ended
March 31,
2011
 
2010
 
2011
 
2010
Stock-based compensation expense by:
 
 
 
 
 
 
 
Costs of revenues
$
2,990
 
 
$
3,793
 
 
$
10,597
 
 
$
10,406
 
Engineering, research and development
5,568
 
 
6,843
 
 
19,000
 
 
20,113
 
Selling, general and administrative
10,289
 
 
10,833
 
 
32,894
 
 
32,004
 
Total stock-based compensation expense
$
18,847
 
 
$
21,469
 
 
$
62,491
 
 
$
62,523
 
The following table shows stock-based compensation capitalized as inventory as of March 31, 2011 and June 30, 2010: 
(In thousands)
March 31,
2011
 
June 30,
2010
Inventory
$
6,382
 
 
$
6,687
 
Stock Options
The following table summarizes the activity and weighted-average exercise price for stock options under all plans during the nine months ended March 31, 2011: 
Stock Options
Shares
(In thousands)
 
Weighted-Average
Exercise Price
Outstanding stock options as of June 30, 2010
11,358
 
 
$
43.72
 
Granted
 
 
$
 
Exercised
(2,431
)
 
$
37.21
 
Canceled/expired/forfeited
(976
)
 
$
45.95
 
Outstanding stock options as of March 31, 2011
7,951
 
 
$
45.44
 
Vested and exercisable as of March 31, 2011
7,939
 
 
$
45.38
 
The Company has not issued any stock options since November 1, 2007. The weighted-average remaining contractual terms for total options outstanding, under all plans and for total options vested and exercisable under all plans as of March 31, 2011 were each 2.2 years. The aggregate intrinsic values for total options outstanding under all plans and for total options vested and exercisable under all plans as of March 31, 2011 were each $30.8 million.
The authoritative guidance on stock-based compensation permits companies to select the option-pricing model used to estimate the fair value of their stock-based compensation awards. The Black-Scholes option-pricing model requires the input of highly subjective assumptions, including the option’s expected life and the price volatility of the underlying stock. The expected stock price volatility assumption was based on market-based implied volatility from traded options on the Company’s stock.
The following table shows total intrinsic value of options exercised, total cash received from employees as a result of employee stock option exercises, and tax benefits realized by the Company in connection with these stock option exercises for the indicated periods: 
(In thousands)
Three months ended
March 31,
 
Nine months ended
March 31,
2011
 
2010
 
2011
 
2010
Total intrinsic value of options exercised
$
15,244
 
 
$
60
 
 
$
18,533
 
 
$
1,165
 
Total cash received from employees as a result of employee stock option exercises
$
74,926
 
 
$
351
 
 
$
90,473
 
 
$
14,929
 
Tax benefits realized by the Company in connection with these exercises
$
5,290
 
 
$
23
 
 
$
6,742
 
 
$
429
 
 
As of March 31, 2011, the unrecognized stock-based compensation balance related to stock options was $0.2 million and will be recognized over an estimated weighted-average amortization period of 0.7 years.

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The Company settles employee stock option exercises with newly issued common shares except in certain tax jurisdictions where settling such exercises with treasury shares provides the Company or one of its subsidiaries with a tax benefit.
Restricted Stock Units
The following table shows the applicable number of restricted stock units and weighted-average grant date fair value after estimated forfeitures for restricted stock units granted, vested and released, withheld for taxes, and forfeited during the nine months ended March 31, 2011 and restricted stock units outstanding as of March 31, 2011 and June 30, 2010: 
Restricted Stock Units
Shares
(In thousands) (1)
 
Weighted-Average
Grant Date
Fair Value
Outstanding restricted stock units as of June 30, 2010
6,470
 
 
$
22.52
 
Granted
2,197
 
 
$
20.06
 
Vested and released
(1,320
)
 
$
24.02
 
Withheld for taxes
(636
)
 
$
24.48
 
Forfeited
(162
)
 
$
20.99
 
Outstanding restricted stock units as of March 31, 2011
6,549
 
 
$
21.24
 
__________________ 
(1)
Share numbers reflect actual shares subject to awarded restricted stock units. Under the terms of the 2004 Plan, each of the share numbers presented in this column is multiplied by 1.8 to calculate the impact on the share reserve under the 2004 Plan.
The restricted stock units granted by the Company since the beginning of the fiscal year ended June 30, 2007 generally vest in two equal installments on the second and fourth anniversaries of the date of grant. Prior to the fiscal year ended June 30, 2007, the restricted stock units granted by the Company generally vested in two equal installments over four or five years from the date of the grant. The value of the restricted stock units is based on the closing market price of the Company’s common stock on the date of award. The restricted stock units have been awarded under the Company’s 2004 Plan, and each unit will entitle the recipient to one share of common stock when the applicable vesting requirements for that unit are satisfied. However, for each share actually issued under the awarded restricted stock units, the share reserve under the 2004 Plan will be reduced by 1.8 shares, as provided under the terms of the 2004 Plan.
The following table shows the grant date fair value after estimated forfeitures, weighted-average grant date fair value per unit, and tax benefits realized by the Company in connection with vested and released restricted stock units for the three and nine months ended March 31, 2011 and 2010: 
(In thousands, except for weighted-average grant date fair value)
Three months ended
March 31,
 
Nine months ended
March 31,
2011
 
2010
 
2011
 
2010
Grant date fair value after estimated forfeitures
$
1,820
 
 
$
490
 
 
$
44,069
 
 
$
63,881
 
Weighted-average grant date fair value per unit
$
32.77
 
 
$
18.84
 
 
$
20.06
 
 
$
22.18
 
Tax benefits realized by the Company in connection with vested and released restricted stock units
$
1,075
 
 
$
776
 
 
$
23,414
 
 
$
13,931
 
As of March 31, 2011, the unrecognized stock-based compensation expense balance related to restricted stock units was $111.4 million and will be recognized over an estimated weighted-average amortization period of 2.4 years.
Employee Stock Purchase Plan
KLA-Tencor’s Employee Stock Purchase Plan (“ESPP”) provides that eligible employees may contribute up to 10% of their eligible earnings toward the semi-annual purchase of KLA-Tencor’s common stock. The ESPP is qualified under Section 423 of the Internal Revenue Code. The employee’s purchase price is derived from a formula based on the closing price of the common stock on the first day of the offering period versus the closing price on the date of purchase (or, if not a trading day, on the immediately preceding trading day).
During the three months ended March 31, 2009, the Company’s Board of Directors approved amendments to the ESPP as part of the Company’s efforts to reduce operating expenses in response to the then-current economic conditions. Those amendments to the ESPP (a) eliminated the look-back feature (i.e., the reference to the fair market value of the Company’s common stock at the commencement of the applicable six-month offering period) and (b) reduced the purchase price discount

17

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from 15% to 5%. These changes were effective July 1, 2009, such that the purchase price with respect to the six-month offering period that began on July 1, 2009 was 95% of the fair market value of the Company’s common stock on the purchase date, December 31, 2009.
During the quarter ended December 31, 2009, in response to improvements in the business conditions within the industries that the Company serves, the Company’s Board of Directors approved amendments to the ESPP that (a) reinstated the six-month look-back feature and (b) increased the purchase price discount from 5% to 15%. These changes became effective January 1, 2010, such that the purchase price with respect to each offering period beginning on or after such date will be 85% of the lesser of (i) the fair market value of the Company’s common stock at the commencement of the applicable six-month offering period or (ii) the fair market value of the Company’s common stock on the purchase date.
The Company estimates the fair value of purchase rights under the ESPP using a Black-Scholes valuation model. The fair value of each purchase right under the ESPP was estimated on the date of grant using the Black-Scholes option valuation model and the straight-line attribution approach with the following weighted-average assumptions: 
 
Three months ended
March 31,
 
Nine months ended
March 31,
 
2011
 
2010 (1)
 
2011
 
2010 (1)
Stock purchase plan:
 
 
 
 
 
 
 
Expected stock price volatility
35
%
 
35
%
 
38
%
 
35
%
Risk-free interest rate
0.19
%
 
0.21
%
 
0.20
%
 
0.21
%
Dividend yield
2.58
%
 
1.63
%
 
3.13
%
 
1.63
%
Expected life of options (in years)
0.50
 
 
0.50
 
 
0.50
 
 
0.50
 
__________________ 
(1)    The weighted-average assumptions are identical for the three and nine months ended March 31, 2010 because there were no valuations recorded during the three and six months ended December 31, 2009. No compensation cost was recognized as the purchase price under the ESPP during these periods was based solely on the market price of the shares at the purchase date and the discount on the purchase price was 5%.
 
 The following table shows total cash received from employees for the issuance of shares under the ESPP, the number of shares purchased by employees through the ESPP, the tax benefits realized by the Company in connection with the disqualifying dispositions of shares purchased under the ESPP, and the weighted-average fair value per share: 
(In thousands, except for weighted-average fair value)
Three months ended
March 31,
 
Nine months ended
March 31,
2011
 
2010
 
2011
 
2010
Total cash received from employees for the issuance of shares under the ESPP
$
 
 
$
 
 
$
16,175
 
 
$
8,885
 
Number of shares purchased by employees through the ESPP
 
 
 
 
701
 
 
259
 
Tax benefits realized by the Company in connection with the disqualifying dispositions of shares purchased under the ESPP
$
1,699
 
 
$
65
 
 
$
2,170
 
 
$
932
 
Weighted-average fair value per share based on Black-Scholes model
$
8.86
 
 
$
8.51
 
 
$
7.38
 
 
$
8.51
 
The ESPP shares are replenished annually on the first day of each fiscal year by virtue of an evergreen provision. The provision allows for share replenishment equal to the lesser of 2.0 million shares or the number of shares which KLA-Tencor estimates will be required to issue under the ESPP during the forthcoming fiscal year. During the fiscal year ended June 30, 2010, a total of 2.0 million additional shares were reserved under the ESPP, and an additional 2.0 million shares have been reserved under the ESPP with respect to the fiscal year ending June 30, 2011. As of March 31, 2011, a total of 3.9 million shares were reserved and available for issuance under the ESPP.

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NOTE 8 – STOCK REPURCHASE PROGRAM
Since July 1997, the Board of Directors has authorized the Company to systematically repurchase in the open market up to 72.8 million shares of its common stock under a repurchase program, including 10.0 million shares authorized in February 2011. This program was put into place to reduce the dilution from KLA-Tencor’s equity incentive plans and employee stock purchase plan, and to return excess cash to the Company’s stockholders. Subject to market conditions, applicable legal requirements and other factors, the repurchases will be made from time to time in the open market in compliance with applicable securities laws, including the Securities Exchange Act of 1934 and the rules promulgated thereunder such as Rule 10b-18. In October 2008, the Company suspended its stock repurchase program, and the Company subsequently restarted the program in February 2010. As of March 31, 2011, 10.4 million shares were available for repurchase under the Company’s repurchase program.
Share repurchases for the three and nine months ended March 31, 2011 and 2010 were as follows:
 
(In thousands)
Three months ended
March 31,
 
Nine months ended
March 31,
2011
 
2010
 
2011
 
2010
Number of shares of common stock repurchased
1,286
 
 
1,990
 
 
4,817
 
 
1,990
 
Total cost of repurchases
$
57,810
 
 
$
59,257
 
 
$
175,071
 
 
$
59,257
 
As of March 31, 2011, $2.8 million of the above total cost of repurchase amount remained unpaid and is recorded in other current liabilities. The $2.7 million which was accrued as of December 31, 2010 was paid during the three months ended March 31, 2011.
 
NOTE 9 – NET INCOME PER SHARE
Basic net income per share is calculated by dividing net income available to common stockholders by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is calculated by using the weighted-average number of common shares outstanding during the period, increased to include the number of additional shares of common stock that would have been outstanding if the shares of common stock underlying the Company’s outstanding dilutive stock options and restricted stock units had been issued. The dilutive effect of outstanding options and restricted stock units is reflected in diluted earnings per share by application of the treasury stock method. Under the treasury stock method, the amount the employee must pay for exercising stock options, the amount of compensation cost for future service that the Company has not yet recognized, and the amount of tax benefits that would be recorded in additional paid-in capital when the award becomes deductible are assumed to be used to repurchase shares. The following table sets forth the computation of basic and diluted net income per share:
 
(In thousands, except per share amounts)
Three months ended
March 31,
 
Nine months ended
March 31,
2011
 
2010
 
2011
 
2010
Numerator:
 
 
 
 
 
 
 
Net income
$
209,783
 
 
$
57,016
 
 
$
549,471
 
 
$
99,215
 
Denominator:
 
 
 
 
 
 
 
Weighted average shares outstanding, excluding unvested restricted stock units
167,629
 
 
171,506
 
 
166,978
 
 
171,202
 
Effect of dilutive options and restricted stock units
3,684
 
 
1,851
 
 
2,996
 
 
2,230
 
Denominator for diluted income per share
171,313
 
 
173,357
 
 
169,974
 
 
173,432
 
Basic earnings per share
$
1.25
 
 
$
0.33
 
 
$
3.29
 
 
$
0.58
 
Diluted earnings per share
$
1.22
 
 
$
0.33
 
 
$
3.23
 
 
$
0.57
 
Anti-dilutive securities excluded from the computation of diluted net income per share
4,660
 
 
11,510
 
 
8,355
 
 
11,311
 

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The total amount of dividends paid during the three months ended March 31, 2011 and 2010 was $41.9 million and $25.7 million, respectively. The total amount of dividends paid during the nine months ended March 31, 2011 and 2010 was $125.5 million and $77.0 million, respectively.
 
NOTE 10 – COMPREHENSIVE INCOME
The components of comprehensive income, net of tax, are as follows:
 
(In thousands)
Three months ended
March 31,
 
Nine months ended
March 31,
2011
 
2010
 
2011
 
2010
Net income
$
209,783
 
 
$
57,016
 
 
$
549,471
 
 
$
99,215
 
Other comprehensive income (loss):
 
 
 
 
 
 
 
Currency translation adjustments
4,711
 
 
(1,870
)
 
22,689
 
 
1,691
 
Gain on cash flow hedging instruments, net
1,010
 
 
4
 
 
1,210
 
 
724
 
Change in unrecognized losses and transition obligation related to pension and post-retirement plans
93
 
 
20
 
 
265
 
 
56
 
Unrealized gain (loss) on investments
(953
)
 
681
 
 
(1,382
)
 
606
 
Other comprehensive income (loss)
4,861
 
 
(1,165
)
 
22,782
 
 
3,077
 
Total comprehensive income
$
214,644
 
 
$
55,851
 
 
$
572,253
 
 
$
102,292
 
 
NOTE 11 – INCOME TAXES
The following table provides details of income taxes:
 
(Dollar amounts in thousands)
Three months ended
March 31,
 
Nine months ended
March 31,
2011
 
2010
 
2011
 
2010
Income before income taxes
$
301,520
 
 
$
80,271
 
 
$
776,023
 
 
$
141,079
 
Provision for taxes
91,737
 
 
23,255
 
 
226,552
 
 
41,864
 
Effective tax rate
30.4
%
 
29.0
%
 
29.2
%
 
29.7
%
The Company’s estimated annual effective tax rate for the year is approximately 29.0%
The difference between the actual effective tax rate of 30.4% during the quarter and the estimated annual effective tax rate of 29.0% is primarily due to the tax impact of the following items during the three months ended March 31, 2011:
 
Tax expense of $8.4 million was recognized due to shortfalls from employee stock activity. A shortfall arises when the tax deduction is less than book compensation. Shortfalls are recorded as decreases to capital in excess of par value to the extent that cumulative windfalls exceed cumulative shortfalls. A windfall arises when the tax deduction is more than book compensation. Windfalls are generally recorded as increases to capital in excess of par value. Shortfalls in excess of cumulative windfalls are recorded as provision for income taxes.
Tax expense of $1.9 million was recognized related to adjustments to the prior year provision for income taxes.
Tax benefit of $1.9 million was recognized related to a non-taxable increase in the assets held within the Company’s Executive Deferred Savings Plan.
Tax benefit of $1.6 million was recognized related to deductions for employee stock activity.
Tax expense was higher as a percentage of income during the three months ended March 31, 2011 compared to the three months ended March 31, 2010 primarily due to an increase in tax expense of $8.4 million resulting from shortfalls related to employee stock activity during the three months ended March 31, 2011.
Tax expense was relatively unchanged as a percentage of income during the nine months ended March 31, 2011 compared to the nine months ended March 31, 2010.
 
In the normal course of business, the Company is subject to examination by taxing authorities throughout the world. The Company is under United States federal income tax examination for the fiscal years ended June 30, 2007 through June 30,

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2009.  The Company is under an Israel income tax examination for the fiscal years ended June 30, 2007 through June 30, 2009, a Japan income tax examination for the fiscal years ended June 30, 2006 through June 30, 2010 and under income tax examination in various other foreign tax jurisdictions. The Company is subject to state income tax examinations for all years beginning from the fiscal year ended June 30, 2007. The Company is also subject to examinations in other major foreign jurisdictions, including Singapore, for all years beginning from the fiscal year ended June 30, 2006. It is possible that certain examinations may be concluded in the next twelve months. The Company believes it is possible that it may recognize up to $24.3 million of its existing unrecognized tax benefits within the next twelve months as a result of the lapse of statutes of limitations, and the resolution of examinations with various tax authorities.
 
NOTE 12 – LITIGATION AND OTHER LEGAL MATTERS
Indemnification Obligations. As a result of the Company's indemnification obligations in connection with the litigation and government inquiries related to the Company's historical stock option practices, the Company is currently paying defense costs to one former officer and employee facing an SEC civil action to which the Company is not a party, and the Company is also obligated to pay the attorneys' fees and expenses incurred by former employees in connection with discovery undertaken in that case. The Company is further incurring costs associated with retaining counsel to respond to discovery requests and otherwise representing the Company in that litigation. Although the maximum potential amount of future payments the Company could be required to make under these arrangements is theoretically unlimited, the Company believes the fair value of this liability, to the extent estimable, is appropriately considered within the reserve it has established for currently pending legal proceedings.
Other Legal Matters. The Company is named from time to time as a party to lawsuits in the normal course of its business. Actions filed against the Company include commercial, intellectual property, customer, and labor and employment related claims, including complaints of alleged wrongful termination and potential class action lawsuits regarding alleged violations of federal and state wage and hour and other laws. Litigation, in general, and intellectual property and securities litigation in particular, can be expensive and disruptive to normal business operations. Moreover, the results of legal proceedings are difficult to predict, and the costs incurred in litigation can be substantial, regardless of outcome. The Company believes the amounts provided in its financial statements are adequate in light of the probable and estimated liabilities. However, because such matters are subject to many uncertainties, the ultimate outcomes are not predictable and there can be no assurances that the actual amounts required to satisfy alleged liabilities from the matters described above will not exceed the amounts reflected in its financial statements or will not have a material adverse effect on its results of operations, financial condition or cash flows.
 
NOTE 13 – COMMITMENTS AND CONTINGENCIES
Factoring. KLA-Tencor has agreements with financial institutions to sell certain of its trade receivables and promissory notes from customers without recourse. The Company does not believe it is at risk for any material losses as a result of these agreements. In addition, from time to time the Company will discount without recourse letters of credit (“LCs”) received from customers in payment for goods.
The following table shows total receivables sold under factoring agreements, proceeds from sales of LCs and related discounting fees paid for the three and nine months ended March 31, 2011 and 2010:
 
 
Three months ended
 
Nine months ended
(In thousands)
March 31,
2011
 
March 31,
2010
 
March 31,
2011
 
March 31,
2010
Receivables sold under factoring agreements
$
50,417
 
 
$
16,968
 
 
$
207,028
 
 
$
86,987
 
Proceeds from sales of LCs
$
9,900
 
 
$
13,384
 
 
$
94,163
 
 
$
23,891
 
Discounting fees paid on sales of LCs (1)
$
9
 
 
$
26
 
 
$
164
 
 
$
149
 
(1) Discounting fees include bank fees and interest expense and were recorded in interest income and other, net.
Facilities. KLA-Tencor leases certain of its facilities under arrangements that are accounted for as operating leases. Rent expense was $2.1 million and $2.1 million for the three months ended March 31, 2011 and 2010, respectively. Rent expense was $6.3 million and $7.0 million for the nine months ended March 31, 2011 and 2010, respectively.

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The following is a schedule of expected operating lease payments (in thousands):
 
Fiscal year ended June 30,
Amount
2011 (remaining 3 months)
$
2,094
 
2012
6,985
 
2013
4,785
 
2014
3,048
 
2015
1,732
 
2016 and thereafter
4,274
 
Total minimum lease payments
$
22,918
 
Purchase Commitments. KLA-Tencor maintains certain open inventory purchase commitments with its suppliers to ensure a smooth and continuous supply for key components. KLA-Tencor’s liability under these purchase commitments is generally restricted to a forecasted time-horizon as mutually agreed upon between the parties. This forecasted time-horizon can vary among different suppliers. The Company’s open inventory purchase commitments were $418.7 million as of March 31, 2011 and are primarily due within the next 12 months. Actual expenditures will vary based upon the volume of the transactions and length of contractual service provided. In addition, the amounts paid under these arrangements may be less in the event that the arrangements are renegotiated or canceled. Certain agreements provide for potential cancellation penalties.
Guarantees. KLA-Tencor provides standard warranty coverage on its systems for 40 hours per week for twelve months, providing labor and parts necessary to repair the systems during the warranty period. The Company accounts for the estimated warranty cost as a charge to costs of revenues when revenue is recognized. The estimated warranty cost is based on historical product performance and field expenses. Utilizing actual service records, the Company calculates the average service hours and parts expense per system and applies the actual labor and overhead rates to determine the estimated warranty charge. The Company updates these estimated charges on a quarterly basis. The actual product performance and/or field expense profiles may differ, and in those cases the Company adjusts its warranty accruals accordingly.
The following table provides the changes in the product warranty accrual for the three and nine months ended March 31, 2011 and 2010:
 
(In thousands)
Three months ended
March 31,
 
Nine months ended
March 31,
2011
 
2010
 
2011
 
2010
Beginning balance
$
30,892
 
 
$
15,726
 
 
$
21,109
 
 
$
18,213
 
Accruals for warranties issued during the period
11,859
 
 
5,986
 
 
33,651
 
 
16,713
 
Changes in liability related to pre-existing warranties
1,229
 
 
(345
)
 
80
 
 
(2,924
)
Settlements made during the period
(6,754
)
 
(4,120
)
 
(17,614
)
 
(14,755
)
Ending balance
$
37,226
 
 
$
17,247
 
 
$
37,226
 
 
$
17,247
 
The Company maintains guarantee arrangements available through various financial institutions for up to $20.2 million, of which $18.0 million had been issued as of March 31, 2011, primarily to fund guarantees to customs authorities for VAT and other operating requirements of the Company’s subsidiaries in Europe and Asia.
 
NOTE 14 – DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
The authoritative guidance requires companies to recognize all derivative instruments and hedging activities, including foreign currency exchange contracts, as either assets or liabilities at fair value on the balance sheet. Changes in the fair value of derivatives that do not qualify for hedge treatment, as well as the ineffective portion of any hedges, are reflected in the Condensed Consolidated Statement of Operations. In accordance with the guidance, the Company designates foreign currency forward exchange contracts as cash flow hedges of certain forecasted foreign currency denominated sales and purchase transactions.
KLA-Tencor’s foreign subsidiaries operate and sell KLA-Tencor’s products in various global markets. As a result, KLA-Tencor is exposed to risks relating to changes in foreign currency exchange rates. KLA-Tencor utilizes foreign currency forward exchange contracts and option contracts to hedge against future movements in foreign exchange rates that affect

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certain existing and forecasted foreign currency denominated sales and purchase transactions, such as the Japanese yen, the euro and the Israeli shekel. KLA-Tencor does not use derivative financial instruments for speculative or trading purposes. The Company routinely hedges its exposures to certain foreign currencies with various financial institutions in an effort to minimize the impact of certain currency exchange rate fluctuations. These currency forward exchange contracts and options, designated as cash flow hedges, generally have maturities of less than 18 months. Cash flow hedges are evaluated for effectiveness monthly, based on changes in total fair value of the derivatives. If a financial counter-party to any of the Company’s hedging arrangements experiences financial difficulties or is otherwise unable to honor the terms of the foreign currency hedge, the Company may experience material losses.
For derivative instruments that are designated and qualify as cash flow hedges, the effective portion of the gain or loss on the derivative is reported as a component of accumulated other comprehensive income (loss) (“OCI”) and reclassified into earnings in the same period or periods during which the hedged transaction affects earnings. Changes in the fair value of currency forward exchange and option contracts due to changes in time value are excluded from the assessment of effectiveness. Gains and losses on the derivative representing either hedge ineffectiveness or hedge components excluded from the assessment of effectiveness are recognized in current earnings.
For derivative instruments that are not designated as accounting hedges, gains and losses are recognized in interest income and other, net. The majority of such derivatives are foreign currency forward contracts to hedge certain foreign currency denominated assets or liabilities. The gains and losses on these derivatives are largely offset by the changes in the fair value of the assets or liabilities being hedged.
Derivatives in Cash Flow Hedging Relationships: Foreign Exchange Contracts
The location and amounts of designated and non-designated derivative instruments’ gains and losses in the condensed consolidated financial statements for the three and nine months ended March 31, 2011 and 2010 are as follows:
 
 
 
Three months ended
March 31,
 
Nine months ended
March 31,
(In thousands)
Location in Financial Statements
2011
 
2010
 
2011
 
2010
Derivatives Designated as Hedging Instruments
 
 
 
 
 
 
 
 
Gain (loss) in accumulated OCI on derivative (effective portion)
Accumulated OCI
$
1,318
 
 
$
(460
)
 
$
78
 
 
$
(862
)
Loss reclassified from accumulated OCI into income (effective portion):
Revenues
$
(696
)
 
$
(215
)
 
$
(2,023
)
 
$
(1,797
)
 
Costs of revenues
$
(14
)
 
$
(251
)
 
$
156
 
 
$
(227
)
 
Total loss reclassified from accumulated OCI into income (effective portion)
$
(710
)
 
$
(466
)
 
$
(1,867
)
 
$
(2,024
)
Gain (loss) recognized in income on derivative (ineffectiveness portion and amount excluded from effectiveness testing)
Interest income and other, net
$
76
 
 
$
33
 
 
$
223
 
 
$
(286
)
Derivatives Not Designated as Hedging Instruments
 
 
 
 
 
 
 
 
Gain (loss) recognized in income
Interest income and other, net
$
2,164
 
 
$
(3,422
)
 
$
295
 
 
$
(5,534
)
 

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The U.S. dollar equivalent of all outstanding notional amounts of hedge contracts, with maximum maturity of 13 months, was as follows:
 
(In thousands)
As of
March 31, 2011
 
As of
June 30, 2010
Cash flow hedge contracts
 
 
 
Purchase
$
14,525
 
 
$
15,835
 
Sell
58,891
 
 
32,853
 
Other foreign currency hedge contracts
 
 
 
Purchase
142,740
 
 
82,535
 
Sell
147,379
 
 
104,414
 
The location and fair value amounts of the Company’s derivative instruments reported in its Condensed Consolidated Balance Sheets as of March 31, 2011 and June 30, 2010 were as follows:
 
 
Asset Derivatives
 
Liability Derivatives
 
Balance Sheet Location
 
March 31,
2011
 
June 30,
2010
 
Balance Sheet Location
 
March 31,
2011
 
June 30,
2010
(In thousands)
 
Fair Value
 
 
 
Fair Value
Derivatives designated as hedging instruments
 
 
 
 
 
 
 
 
 
 
 
Foreign exchange contract
Other current assets
 
$
960
 
 
$
125
 
 
Other current liabilities
 
$
87
 
 
$
2,033
 
Total derivatives designated as hedging instruments
 
 
$
960
 
 
$
125
 
 
 
 
$
87
 
 
$
2,033
 
Derivatives not designated as hedging instruments
 
 
 
 
 
 
 
 
 
 
 
Foreign exchange contract
Other current assets
 
$
2,584
 
 
$
171
 
 
Other current liabilities
 
$
925
 
 
$
3,791
 
Total derivatives not designated as hedging instruments
 
 
$
2,584
 
 
$
171
 
 
 
 
$
925
 
 
$
3,791
 
Total derivatives
 
 
$
3,544
 
 
$
296
 
 
 
 
$
1,012
 
 
$
5,824
 
The following table provides the balances and changes in accumulated other comprehensive income (loss) related to derivative instruments for the three and nine months ended March 31, 2011 and 2010:
 
(In thousands)
Three months ended
March 31,
 
Nine months ended
March 31,
2011
 
2010
 
2011
 
2010
Beginning balance
$
(2,077
)
 
$
(457
)
 
$
(1,994
)
 
$
(1,613
)
Amount reclassified to income
710
 
 
466
 
 
1,867
 
 
2,024
 
Net change
1,318
 
 
(460
)
 
78
 
 
(862
)
Ending balance
$
(49
)
 
$
(451
)
 
$
(49
)
 
$
(451
)
 
NOTE 15 – SALE OF REAL ESTATE
During the three months ended December 31, 2010, the Company completed the sale of its remaining real estate properties in San Jose, California. The Company had recorded asset impairment charges of $10.4 million, included in selling, general and administrative expenses, during the nine months ended March 31, 2010. The real estate properties are non-financial assets subject to Level 3 fair value measurement. The sale transaction, which closed on December 9, 2010, resulted in proceeds to the Company of $18.2 million and a gain on sale of $1.4 million as an offset to selling, general and administrative expenses.

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NOTE 16 – RELATED PARTY TRANSACTIONS
During the three and nine months ended March 31, 2011 and 2010, the Company purchased from, or sold to, several entities, where one or more executive officers of the Company or members of the Company’s Board of Directors, or their immediate family members, also serves as an executive officer or board member, including JDS Uniphase Corporation and Cisco Systems, Inc. For the three and nine months ended March 31, 2011 and 2010, the following table provides the transactions with these parties (for the portion of such period that they were considered related):
 
(In thousands)
Three months ended
March 31,
 
Nine months ended
March 31,
2011
 
2010
 
2011
 
2010
Total revenues
$
126
 
 
$
2,310
 
 
$
373
 
 
$
6,247
 
Total purchases
$
1,762
 
 
$
104
 
 
$
4,567
 
 
$
2,496
 
The Company had a receivable balance from these parties of $0.1 million and $2.0 million as of March 31, 2011 and June 30, 2010, respectively. Management believes that such transactions are at arm’s length and on similar terms as would have been obtained from unaffiliated third parties.
 
NOTE 17 – SEGMENT REPORTING AND GEOGRAPHIC INFORMATION
KLA-Tencor reports one reportable segment in accordance with the provisions of the authoritative guidance for segment reporting. Operating segments are defined as components of an enterprise about which separate financial information is evaluated regularly by the chief operating decision maker in deciding how to allocat